ORGANIZATIONAL GOVERNANCE ADAPTATION: WHO IS IN, …

Q Academy of Management Review2019, Vol. 44, No. 1, 6–27.https://doi.org/10.5465/amr.2014.0459

ORGANIZATIONAL GOVERNANCE ADAPTATION: WHO IS IN,WHO IS OUT, AND WHO GETS WHAT

PETER G. KLEINBaylor University and Norwegian School of Economics

JOSEPH T. MAHONEYUniversity of Illinois at Urbana-Champaign

ANITA M. MCGAHANUniversity of Toronto

CHRISTOS N. PITELISAbu Dhabi University and Brunel University London

Governance gives life to an organization by establishing the rules that shape organi-zational action. Structures of governance rest on stakeholder engagement, particularlyon how stakeholders assess the prospects for earning a return by committing theirspecialized resources to the organization. Once formalized, governance structures andprocesses can resist change. Yet, under special circumstances, some stakeholders thatare a party to an organization may seek to adapt governance in response to changes inthe external environment that surrounds the organization. Adaptation often requiresrenegotiation: who has claims on the organization and who gets what? In this article weanalyze the relationship between the institutional change that drives adaptation andthe outcome of renegotiation. We draw on institutional economics and organizationtheory to identify four pathways of governance adaptation: continuity, architecturalchange, enfranchisement change, and redistribution. We call for further theoretical andempirical research on governance adaptation and its implications for organizationalvalue creation and capture.

Forming an organization requires establishingrules about who will be in charge, how leadershipturnoverwill occur, whowill be involved in criticaldecisions, how gains will be distributed, and whowill bear the risk of failure. These rules, whichmake up the organization’s governance structure,give life and continuity to the organization as anentity separate from its members and from otherpersons and entities. To foster cooperation, gov-ernance structures include safeguards to protectthe interests and investments of key stakeholders

(Blair & Stout, 1999; Klein, Mahoney, McGahan, &Pitelis, 2013). For example, the rules on how aCEOis selected, what the length of the CEO’s term is,how key decisions are made, and how compensa-tion is determined are difficult to change, even bythe top management team, without consultation,due process, and negotiation (Cyert &March, 1963;Pfeffer & Salancik, 1978).When do changes in the external environment

(EE) compel adaptation in an organization’s gov-ernance structure? To make this question tracta-ble,we focus in thisarticle on changesoriginatingin the institutional environment (IE). While the EEgenerally includes technology, demand, and in-stitutional shocks that affect the firm’s behaviorand performance, the IE refers to the specific for-mal and informal legal, political, and socialstructures and processes in the EE that frameorganizational governance structures (Mahoney,2005; North, 1990; Williamson, 2000). We are par-ticularly interested in how firms respond to un-anticipated change in the IE.

We thank former associate editor Don Lange and three ex-ceptionally helpful reviewers for their questions, criticisms,and suggestions and Lyda Bigelow, Gary Libecap, and AnneParmigiani for feedback. We are also grateful to conferenceand workshop participants at the Allied Social Sciences As-sociation, Atlanta Competitive Advantage Conference, Acad-emy of Management annual meeting, Strategic ManagementSociety, International Society for New Institutional Economics,London Business School, New York University’s GovLab,Oklahoma State University, and the University of Toronto foruseful comments. Author names are listed in alphabeticalorder.

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https://doi.org/10.5465/amr.2014.0459

For example, De Beers, the South African min-ing company, operated historically under gover-nance rules designed under and aligned withapartheid. The IE changed in the early 1990s withthe end of apartheid and the election into powerof Nelson Mandela’s African National Congress(Rantete, 1998). Subsequently, new regulationswere implemented mandating that corporationsenfranchise blacks in ownership, leadership, andoperational decisions. De Beers responded firstby adapting its strategyandoperations to thenewIE, appointing a black managing director in late2005, and offering equity to black investors (Reed,2005). This led to newly enfranchised stake-holders with different control and ownershiprights—a change in the firm’s governance struc-ture. Adaptation was successful, in part, becausethe new and old enfranchised stakeholdersappeared to share the overriding objective of re-building the South African economy and society.In the face of radical legal and social change,De Beers adapted to ensure the organization’ssurvival as South Africa was transformed.

In other cases firms take different paths in re-sponse to changes in the IE. As explained byChandler (1962), many firms during the 1920s ei-ther failed or were slow to respond to advances intelecommunications and railroads that enabledgreater levels of diversification and decentral-ization. The pioneering firms that adopted thenew multidivisional or “M-form” structure—mostnotably, General Motors (GM), DuPont, StandardOil, and Sears—had access to strategies that ledthem to become the largest and most successfulcompanies of their era.

Modern examples of change in the IE includethe adoption of international climate-changeagreements, the implementation of patent laws,and new international and domestic public policyregimes. In some cases government and privateactors attempt to influence organizations directly(e.g., to includeblack citizens in the governance oforganizations in postapartheid South Africa). Inother cases the effects are indirect (e.g., whencancellation of a pending international tradeagreement allows a firm to make decisions with-out considering foreign actors). When these IEchanges are substantial, they compel change notonly in firm’s strategies and processes but also inthe governance structure that surrounds thosestrategies and processes.

Quoting Chester Barnard (1938), Williamsondescribed adaptation as “the central problem of

organization” (1996: 299). Markets adapt continu-ously, with adjustments coordinated by the pricesystem within a given institutional framework(Hayek, 1945). In an organization, however, adap-tation is more difficult since it requires a degreeof central coordination and control (Barnard, 1938;Williamson, 1996).1 The problem becomes morecomplex when required adaptation challengesthe authority of the organization’s core stake-holder groups. This situation of adaptation ingovernance raises specific challenges about howenfranchised stakeholders protect and pursuetheir interests and what pathways to changebecome available, given the interplay betweendifferent stakeholder groups.Scholarship inmanagement, corporate finance,

and contract economics has substantiallyaddressed the nature and effects of governance(Foss & Mankhe, 2002; Hendry & Kiel, 2004;Williamson, 1996), but researchers have not dealtas fully with issues of governance change. A keyfact about governance is that governance ar-rangements typically include procedures abouthow the firm’s assets will be liquated in cases offinancial distress and how the residual valuewillbe distributed to shareholders. However, com-prehensive organizational failure is a dramaticand costly event that stakeholders seek to avoidexcept in exceptional circumstances. A more ef-fective, efficient, and valuable alternative is tochange the governance structure of an organiza-tion in response to a change in the IE. Underexternal pressure, key stakeholders may renego-tiate the firm’s governance arrangements to sup-port theorganization’ssurvival, even if this leavesthem worse off than before. For instance, a firm’sfounders may agree to the subordination of theiroriginal ownership shares in exchange for in-vestment capital that keeps the firm going (Rajan,2012). Unions may agree to renegotiate bindingwage agreements or benefit packages. In eachinstance a stakeholder group accepts a worsedeal as superior to no deal, and liquidation isaverted. The threat to the firm’s survival leadsto renegotiation, rather than to the distributionof residual value to shareholders.The value of adopting the firm’s governance

structure is particularly high when the externalstress comes from unanticipated changes to the

1Williamson (1991a) referred to these as “autonomous” and“cooperative” adaptation, respectively (see also Williamson,1991b).

2019 7Klein, Mahoney, McGahan, and Pitelis

IE. While the role of the EE has been recognizedas fundamental to strategic management sincePorter (1980), interest in change in the IE has re-cently intensified (Henisz, 2000; North, 1990). Thisinterest ismotivated, in part, by a recognition thatfailure to adapt to IE changes may threaten theongoing existence of the organization. We do notseek to explain all aspects of governance but,rather, focus specifically on the process of adap-tation itself. Similarly, we are not investigatingall elements of organizational change but thosespecific changes instead that an organization’sgoverning stakeholders negotiate, accept, andact on in the face of threats to the entire organi-zation’s existence.

As we explain below, several important recentexamples of organizational restructuring and evo-lution are best understood as governance adapta-tion in response to changes in the IE. We discussarchitectural change at De Beers, Dollar General,and Enron; enfranchisement change in the phar-maceutical industry; redistribution by companiesfaced with environmental disaster; and continuityat JPMorgan Chase after the 2007-2008 financialcrisis. These examples illustrate that firms do notrespond to IE changes in the same way.

To understand the pathways of governanceadaptation, we integrate insights from organiza-tion theory (Scott, 2008) with those from in-stitutional economics (Williamson, 1993). LikeScott, we view organizations as “coalitions ofshifting interest groups that develop goals bynegotiation; the structure of the coalition, its ac-tivities, and its outcomes are strongly influencedby environmental factors” (1987: 23; see also Scott,2008). Our analysis deals with cases in whichsome agents can resist legitimate demands foradaptation following environmental change butwhere the ability to resist is limited. For instance,a CEO may not be able to control the process byfiat because the CEO’s decision is outside the“zone of acceptance” (Barnard, 1938; Simon, 1947).The situations that we seek to analyze may putthe CEO’s role in jeopardy. Adaptation involvesa complex negotiation or renegotiation amongdifferent enfranchised actors and groups aboutthe governance authority and rewards.

In this conceptualization, organizations are opensystems in which the relevant actors, such as theCEO, board members, employees, shareholders,and managers, compare the benefits and costsof the organization’s existing governance structureto available alternatives. Adaptive responses to

environmental change involve renegotiationamongthe key enfranchised actors, who try to maintain orimprove on their prior interests and positions. How-ever, achieving this outcome is almost never possi-ble for all enfranchised actors. Negotiations mayalso proceed by threatening stakeholders who seekto avoid adaptation with future expulsion or re-duction in status. Changing the governance struc-ture of organizations requires the collective actionof essential stakeholders to find a negotiatedarrangement that each sees as superior tononengagement.Our framework begins with the institu-

tional economics literature on collective action(Libecap, 1989; Olson, 1965; Ostrom, 1990). Thisliterature considers how organizations emerge tocoordinate the contributions of essential stake-holders (Alchian & Demsetz, 1972; Grossman &Hart, 1986). Thecanonical problemin this traditionis how the essential parties to value creationachieve agreement on the terms by which theywill be governed organizationally. From orga-nization contingency theory (Galbraith, 1973;Lawrence & Lorsch, 1967; Scott, 1987), we hold thatresilient organizations are those that better adaptto their environment. Our focus is on how orga-nizational actors impede or facilitate adaptationfollowing institutional change. In doing so weaddress these fundamental questions: Who is in,who is out, and who gets what under an adaptedgovernance structure?Our main contribution is the identification of

four broad pathways of governance adaptation:continuity, architectural change, enfranchisementchange, and redistribution. Before discussingthese four pathways, we first define terms andestablish the key ideas on which our argumentrests. We then turn to conceptual background. Fi-nally, we develop a series of theoretical claimslinking these constructs.

THEORY DEVELOPMENT

The stakeholders in an organization’s gover-nance structure are those actors who control re-sources and capabilities that are essential to theorganization’s function and performance. As weexplain below, governance adaptation may takeplace when a change in the IE threatens the coreorganizational rules on who within the organiza-tion makes decisions and who gets what. In otherwords, a shock to the IE compels governanceadaptation when it changes the relevance of

8 JanuaryAcademy of Management Review

stakeholder resources and capabilities. Ofcourse, many changes to personnel and practicesdo not constitute governance adaptation. An or-ganization’s employees, for example, may chooseto exit if an authoritarianCEOdeclares terms thatsubstantially exceed employees’ zone of accep-tance (Simon, 1947), but this is not governanceadaptation unless the departures prevent the or-ganization from functioning. Adapting organiza-tional governance structures is difficult becausesome stakeholders may not want change evenwhen a major institutional or social event—forexample, the overthrow of apartheid in SouthAfrica, the threat of climate change, or the rise ofsocial media—requires change and motivatesother internal actors to pursue such change.

Key Terms and Concepts

Governance structures. Governance structuresare the formal and informal rules and proceduresthat control resource accumulation, development,and allocation; the distribution of the organiza-tion’s production; and the resolution of the con-flicts of interest associated with group behavior(Blair & Stout, 1999; Chandler, 1962; Williamson,1985). General rules arise from commercial codesand corporate statutes, but owners and creditorscan often specify unique rules via the companycharter, articles of incorporation, and similardocuments (Hansmann, 2006). Less formal rulesarise from custom or emerge as part of the orga-nization’s culture to shape processes and rou-tines. Collectively, governance rules establishthe organization as an entity distinct from the in-dividuals whose activities make up the firm.2

We seek to distinguish between an organiza-tion’s governance structure and its activities. Anorganization is defined by its governance struc-ture, which we identify as the fundamental rulesabout who is in, who is out, and who gets what.Organizations arise to pursue opportunities thatindividuals cannot accomplish independently(Barnard, 1938; Simon, 1947). For an organizationto be successful, the benefits of joint productionmustexceed thecostsarising fromhazardssuchasfree-riding (actors who do not pull their weight inthe expectation that others will do so) and oppor-tunism (Alchian & Demsetz, 1972; Williamson,1985). Governance structures attempt to mitigate

thesehazards bydesignating certain stakeholdersas legitimate holders of decision rights, which wecall “enfranchisement,” and by specifying how thevalue created by joint production will be distrib-uted.3 This specification, which we discuss in de-tail below, is important because expectationsabout claimancy induce stakeholders with criticalresources and capabilities to become enfran-chised. Stakeholder enfranchisement and claim-ancyareat the foundationof governancestructure.Once governance structure is established, the

regular governance activities of the organization areenabled. Governance activities include events suchasmeetings of the boards of directors and operationssuch as the implementation of decision-making pro-tocols and compensation programs. Organizationalgovernance is distinct from organizational strategy,culture, routines, capabilities, and innovation, whichtake place within the framework established by theorganization’s governance structure. Governance isoften described as the “rules of the game,” withinwhich thegameisplayed.Putdifferently,governanceoperates at a higher level of analysis than strategy,organization, and the like (Williamson, 2000).Enfranchised stakeholders. Enfranchised stake-

holders are organizational actors with the de factoability to influence decision making and, hence,organizational governance. These stakeholdersachieve their status as enfranchised becausethey contribute resources and capabilities thatare central to the organization’s value creation.In an earlier article, following Blair and Stout(1999), we (Klein, Mahoney, McGahan, & Pitelis,2010) identified enfranchised stakeholders asthose that coinvest specialized assets, capabil-ities, and resources through the organization tocreate value through joint production (see alsoHoskisson, Gambeta, Green, & Li, 2018). In cor-porations such stakeholders normally includethe main suppliers, employees, managers, andthe CEO. Customers and the community can also

2In corporate law this separation is called “asset partition-ing” (Hansmann & Kraakman, 2000).

3“Governance is themeansbywhich to infuseorder, thereby

mitigating conflict and realizing mutual gain” (Williamson,2005: 3; see also Commons, 1931). In this article changes in theIE lead to new conflicts among stakeholders, and governanceadaptation via enfranchisement and/or claimancy rights in-fuses a new order to realize mutual gain among stakeholders,thereby creating economic value. Below we argue that theenfranchisement of stakeholder groups rests on the confer-ring of decision rights, which may be both specified andresidual. Some stakeholder groups may be only weaklyenfranchised—that is, by holding only minor, specified de-cision rights.


affect decision making through their choices and ac-tions.Enfranchisementdescribeswhoisinandwhoisout of the organization’s internal decision-makingprocess and, hence, is a foundational element ofgovernance structure.

The means of stakeholder enfranchisement mayvary. In someinstances itmayevenbe legislatedbythe IE. For example, under Anglo-American corpo-rate law, equity owners of companies are guaran-teed enfranchisement via the right to vote for boardmembers and to ratify some executive decisions.Under German law, organized labor is guaranteedboard representation and is therefore an enfran-chised stakeholder group in every public company.In Norway a certain percentage of board seats isreserved for women. In all three countries thestakeholder groups of equity owners, labor, andwomen may also be enfranchised in the gover-nance of specific organizations by other means,such as organizational commitments, norms, andinformal practices. Aswenoted inKlein et al. (2010),de facto stakeholder enfranchisement can differfrom the de jure arrangements specified by corpo-rate law. The effective rights and responsibilities ofenfranchised groups can be determined by custom,by legal practice, and by regulation, as well as bythe provisions of corporate law.

Under uncertainty, enfranchisement is particu-larly important because enfranchised actors haveresidual rights of control—the rights to make de-cisions about how to use the firm’s resources inconditions not specified by prior agreement (Hart,1995; Klein et al., 2012). The transaction cost eco-nomics literature and property rights economicsliteratureemphasize these residual rightsof controlbut focus on formal, de jure control rights. Overtime, stakeholder groups that are not formally en-franchised may become enfranchised de facto fol-lowing a change in the IE.

The governance of an organization also includesrules on the distribution of jointly created value.Wedefine these rules as the organization’s claimancyrights. These identify who gets what through com-pensation, various payments, and residual rights.All claims on a corporation—not only residualrights—are the subject of governance rules. Exam-ples of claims include employee salaries, customerdiscounts on prices, dividend payments, and part-nership claims.

Claimancy rights. Claimancy rights establishwhich individuals and groups can capture thevalue createdby the organization. Value is createdby coinvestment by all stakeholders in shared

goods and services. These rights can be fixed(specified) or contingent on firm performance (re-sidual). The right to receivedividendsand the rightto appropriate capital gains, for example, are es-sential claimancy rights accruing to equityholders. Debt holders have other claimancy rights,including the right to interest payments and theright of asset appropriation under bankruptcy.Employees and suppliers have claimancy rightsover wages, salaries, and factor payments. Otherstakeholders may also have claimancy rights,given the legal, political, and social conditions inwhich the firm operates. Some stakeholders, suchas an organization’s volunteers and geographicneighbors, may be enfranchised in elements ofgovernance but have no claimancy rights. Claim-ancy rights matter for governance because theycreate an incentive for stakeholders to becomeenfranchised in an organization. It is throughclaimancy that stakeholders receive a return onthe investment of specialized assets, capabilities,and resources in the organization.Together, enfranchisement and claimancy

rights are foundational to an organization’s gov-ernance structure. Some enfranchised stakehold-ers contribute more to the organization and, thus,may have more decision-making authority thanothers, as well as greater claimancy rights. Asnoted above, those stakeholders with residualrights of control—the rights tomake decisions insituations not covered by prior agreement—playa particularly strong role. The size of claimsdepends, in part, on which claims are fixed,which claims are contingent on earnings, andhow claims are ordered in the event of financialdistress. In other words, governance structuredepends on which individuals have rights andclaims—and which rights and claims theyhave.4

Governance structure adaptation may failif a critical enfranchised stakeholder group

4It is conventional in the governance literature and financeliterature to distinguish residual control rights from residualincome rights. This distinction is particularly important forgovernance adaptation,which relates to structural rather thanoperational issues. Claimancy rights can be restructured andreallocated by those who have decision rights—that is, by theorganization’s enfranchised stakeholders. Claimancy, thus, isusually subordinate to enfranchisement, in the sense that en-franchised stakeholders can change claimancy rules. Whileenfranchisement can also occur through demands for claim-ancy, these demands may not materialize, allowing us to dis-tinguish the categories for analytical purposes.


threatens to withdraw its cooperation (Hirschman,1970). For example, labor unions may initiate astrike if management fails to meet their demandsfor better working conditions (Hill & Jones, 1992).Governance structure adaptation can attenuatethe likelihood of a strike by providing safe-guards such as having more insider boardmembers elected by employees of the firm whoare making firm-specific investments (Osterloh& Frey, 2006).

Failure occurs when the joint value created bythe organization is too small to compensate eachstakeholder sufficiently to ensure continued par-ticipation by the stakeholders (Brandenburger &Nalebuff, 1997). Averting such a threat occurswhen, all else being equal, each enfranchisedstakeholder has claimancy rights that maynot represent the entirety of the stakeholder’sadded value but that exceed the stakeholder’sopportunity costs (Brandenburger & Stuart,1996).5

In our analysis, governance encompasses a setof claimancy rights established before the orga-nization is set up over value that is realized af-terward. The gap between ex ante claimancyrights and the ex post rules by which claims aredistributed reflects, in part, how the organiza-tion’s governance structure allocates risk amongorganizational actors. Once governance struc-tures have been established, some stakeholdersmay seek renegotiation either to create an in-centive for future joint investment or to adjust forresolution of risk. The legitimacy of such claimsmay rest, for example, on differences betweenstakeholders in sophistication, experience, infor-mation, awareness of consequences, capacity forrisk, and/or opportunity for coinvestment.6

Just as enfranchisement and claimancy arecentral to governance, changes in enfranchise-ment and claimancy are central to governanceadaptation. Claimancy rights may require re-negotiation when a change in the IE leads tothe perception by some newly enfranchised

stakeholders that the existing pattern of rights isinequitable.7 Once the firm is in operation andvalue is realized through the sale of a product orservice (Lepak, Smith, & Taylor, 2007), actualpayouts may be different than expected.8 Often,the perception of inequity follows a change in theIE that enfranchises new actors. If the perceivedinequity is large enough, the existing structureof claimancy rights—along with other aspects ofthe organization’s governance structure—mayrequire an overhaul.In this article we focus on the adaptation of

previously established governance structuresthat aremotivated by changes in the environmentsurrounding the organization.9 Such change canlead some stakeholders to question if the currentstructure is aligned with their extant or antici-pated contribution to firm value and their share ofthis value. Shifts in the IE can be fully exogenousto the organization and compel its adaptation(although, of course, firms can and do try to in-fluence the IE through lobbying, litigation, publicrelations, and other forms of nonmarket strategy[Henisz & Zelner, 2012]). Exogenous shifts in the IEmay arise from many sources, including law,government, and culture. One example is achange in customs or ideology, such as when theBritish vote for (Br)exit from the European Union(EU) led many British-based EU banks to be un-certain about their right to operate in the UnitedKingdomwithout a formal subsidiary (as opposedto the branchesmany use). Another is a change inintellectual property regimes, such as when theWorld Trade Organization compelled the imple-mentation of patent laws in emerging-marketcountries where knowledge capital had not pre-viously been privately held. Another is a changein government policies, such as when deregula-tion designed for a purpose that does not relate

5An analysis of individuals entering and exiting organiza-tions can be found in the extant organization theory literatureunder the concept of an “inducements-contribution balance”(Barnard, 1938; Simon, 1947, 1952).

6We distinguish challenges to claimancy rights of the or-ganization’sgovernancestructure fromnegotiations that occurwithin the structure of a firm’s claimancy rights. We focus ongovernance over claimancy rights, rather than the specificallocation that occurs—changes in the rules of the game, notthe play of the game.

7By invoking equity, we are referring not to a specific nor-mative theory of outcomes but, rather, to the (subjective) per-ceptions among organizational actors concerning theenforcement of prior agreements. In other words, claimancyrights are established when the organization is createdbased on expectations about value cocreation and the dis-tribution of that value among stakeholders.

8This difference happens, for example, if below-averagelabor productivity or unanticipated outsourcing opportunitieslead employees to receive a lower share of cocreated valuethan expected under employment contracts (Rousseau, 1989).

9In other cases governance structures may adapt becausethe initial governance structure was perceived to be ineff-icient, ineffective, or unfair and parties only discovered thisover time.


to a particular organization’s agenda influencesthe organization nonetheless.10

Such shifts in the EE compel not only changes instrategy but also, in many cases, changes ingovernance structure. For example, Oxley (1999)examined how the IE affects governance struc-tures of interfirm alliances and the governancechoice between equity alliances and contractualalliances under differing regimes of intellectualproperty protection and other national insti-tutional features. Empirically, firms adopt morehierarchical governancemodeswhen intellectualproperty rights protections areweaker. Therefore,a more complete understanding of governancestructure choice requires analysis of the interplayof the IE and the mechanisms of governance.

The Problem of Collective Action

To be successful in creating value, organiza-tions must resolve collective action problemsamong critical stakeholders, such as aggregatingdiverse interests and goals, providing incentivesfor participation, and coordinating activities. In-deed, the problem of collective action is at theheart of organizational governance, because thepurpose of an organization is to jointly deploythe specialized assets, capabilities, and resourcesof enfranchised stakeholders, each of whom can-not realize value independently. The problem thatis resolved by establishing the organization is co-ordination among enfranchised stakeholders tocreate joint value.

The institutional economics literature on prop-erty rights provides key insights on how resolu-tion may occur in any collective action problem,including the problem of governance adaptation.Organizations such as firms are communitiesof stakeholders. We submit that the problem oforganizational governance is analogous to theproblems identified in the literature on in-stitutions and property rights, which is how toachieve agreement among stakeholders on a setof rules that will lead to the joint creation of value.

As we aim to show in this article, managementscholarship can benefit by importing insights re-garding collective action developed in the fieldof political science.Ostrom (1990) showed that local communities

such as organizations face problems governing“common-pool” resources. Common-pool re-sources are a subset of “public goods.” They aregoods that are rivalrous in consumption (oneperson’s use prevents others’ use) but non-excludable (unauthorized users can consumethem). Examples from the public domain includefisheries, forests, and irrigation systems. Theproblems that arise in governing common-pool re-sources includedisputes about pollution; questionsover theuseof land,water, andother resources; andconcerns about how governmental resources willbe deployed. Unlike other resources, these cannotbe managed simply by assigning ownership titles,because common-pool resources belong “to all” ina community; they cannot easily be partitioned intoappropriable pieces. Similarly, the enfranchisedstakeholders in the organization—an importantform of community—contribute specialized re-sources that create goods that are “public” withinthe organization, in the sense that they are acces-sible to the organization’s participants.According to Ostrom (1990), small communities

often resolve problems about the use of common-pool resources neither through top-down govern-ment control nor through markets and the pricemechanism. Rather, close-knit groups rely oncomplex, layered, and nuanced mechanisms ofcoordination, collaboration, and communicationto identify a path forward. These processes arealso characteristic of firms, which rely on internalgovernance structures to determine how organi-zational actors will obtain access to valuable in-ternal goods that arise from collective action.Ostrom (2010) calls these layers of interaction

“polycentric” governance. Polycentric systems in-volve multiple actors and centers of decision mak-ing that function with interdependence (Kivleniece& Quelin, 2012). The approach is costly because itrequires intensive coordination (Williamson, 1985).However, Ostrom (1990: 180) has shown that thebenefits of polycentric systems outweigh the costswhen organizational governance satisfies the fol-lowing design rules:

• Clear boundaries and memberships: The rel-evant actors and the resources under con-sideration are clearly specified. It is wellknown who gets to decide about what.

10Changes to the IE are not necessarily exogenous to allfirms. Efforts to influence legal, regulatory, political, andsocialconditions may be as important to firms as efforts to influencetheir competitiveand technological environments (Moore,Bell,Filatotchev, & Rasheed, 2012; Oh & Oetzel, 2011). For example,firms seek to influence legal, regulatory, and political in-stitutions through lobbying, rent seeking, and other activities(Bonardi, Hillman, & Keim, 2005; Garud, Hardy, & Maguire,2007, Klein et al., 2010).


• Congruence between appropriation and pro-vision rules and local conditions: Rules forvalue appropriation (what we call stake-holder enfranchisement) and provision (whatwe call claimancy rights) must be alignedwith each other and with local economicconditions.

• Peermonitoring:Rulesmust be self-enforcingthrough transparency and close monitoringof enfranchised stakeholders by each other.

• Graduated sanctions: Actors who violate or-ganizational standards should face sanc-tions that are appropriate for the violationand not unnecessarily severe, except in thecase of repeat violations.

• Conflict resolution mechanisms: Members ofthe community shouldhaveaccess to reliablecourts, arbitration boards, or internal disputeresolution systems that are perceived astransparent and equitable.

Firm-level examples of common-pool resourcesinclude organizational knowledge, brand, cor-porate culture, reputation, and capabilities. Or-ganizations face multiple challenges in thegovernance of these resources, the first of whichis the foundational problem of attracting stake-holders into enfranchisement. Subsequently, or-ganizationsmust develop governance structuresthat determine how jointly produced resourceswill be deployed, and they must adapt these tochanges in the IE that affect the calculus ofstakeholder enfranchisement. Ostrom’s (1990)design rules constitute principles of effectiveadaptation. Belowweanalyze the implications ofthese design rules for the problem of adaptationin organizational governance.11 Before taking onthis task, however, we evoke a second set of in-sights originating in Libecap (1989) on change inthe allocation of rights.

Libecap’s (1989) analysis of how property rightschange in the public domain generates insightsthat relate to adaptation in private organizationalgovernance. Writing about political governancein local communities, Libecap examined eco-nomic hazards that stymie adaptation and de-scribed the characteristics of bargaining overaccess to critical resources. Central elements inLibecap’s analysis of community politics are lob-bying, distributional conflicts, and asymmetricinformation, all of which may block changes that

would promote overall welfare. Of course, thesepolitics are also characteristic of organizations,especially after operation begins. Libecap wasparticularly interested in resistance to changewhen certain private and government actors per-ceived that they would not gain personally fromadaptation, even when the proposed changewould benefit the community. We incorporate in-sights from his analysis to understand why someorganizational actors resist change, even whenadaptation is compelled by changes in the IE. Or-ganizational stakeholder groups are analogous tothe private actors, and organizational executivesto governmental actors, in Libecap’s analysis.Libecap’s (1989) qualitative studies of change in

political governance structures identified factorsthat distinguish success from failure. Thepurposewas not to investigate normal change in leader-ship but, rather, in the rules of governance per se.Two cases stand out. The first was a successfulnegotiation among miners over the rules govern-ing who could explore where and how jointlyidentified veins of valuable gold and silver wouldbe allocated. The secondwas a failed negotiationamong landowners over the rules governing howthe oil flowing under the landwould be extracted.Through comprehensive analysis, Libecap (1989)identified factors that explain whether a group ofenfranchised actors can agree on adaptation ingovernance rules:

• Size of economic gains: The greater the size ofthe aggregate expected (value creation) gainsfrom the institutional change, the more likelya political agreement can be reached thatmakes enough influential parties better off sothat governance adaptation can proceed.

• Number of coalitions: The greater the numberof competing groups with a stake in the newdefinition of property rights, the more likelydistributional conflicts will delay or blockchange and, thus, the less likely governanceadaptation can proceed.

• Coalition heterogeneity: The greater the het-erogeneity of the bargaining parties (in termsof production costs, resources, wealth, andpolitical experience), the more difficult it isto form a winning political coalition. Thismakes adjustments in property rights moredifficult and, thus, less likely governanceadaptation can proceed.

• Persistence in information asymmetries: Thegreater the severity of the information asym-metry problems concerning, say, economicvaluation, the greater the disputes in bar-gaining and, thus, the less likely governanceadaptation can proceed.

11Indeed, some of Ostrom’s (1990) design rules at the IE level(e.g., monitoring and conflict resolution mechanisms) overlapwith Williamson’s (1996) mechanisms of governance at theorganizational level.


• Concentration of wealth: The greater theconcentration of wealth under the proposedproperty rights allocation, the greater thelikelihood of political opposition and, thus,the less likely that governance adaptationcan proceed.

While these ideas about governance adapta-tion were developed in the context of propertyrights disputes among communities, we main-tain that they apply to organizational gov-ernance structures and processes as well.Ostrom’s (1990) design principles describe theconditions under which organizations success-fully construct governance and can achievegovernance adaptation.12 Libecap’s (1989) crite-ria describe how stakeholder characteristics in-fluence governance adaptation. Both the Ostromand Libecap frameworks emphasize who is in,who is out, and who gets what. The key issuessurrounding successful governance adaptationin response to IE change are the interests of en-franchised stakeholders (who can affect decisionmaking and, hence, who is in andwho is out) andclaimancy rights (who gets what parts of thejointly created value).13 Figure 1 summarizesthese relationships.

As shown in Figure 1, each of Ostrom’s designprinciples and Libecap’s adaptation criteria re-lates to stakeholder enfranchisement and/orclaimancy rights.14 Ostrom’s work (1990) showsthat the central challenge of governance is in

specifying which stakeholders are engaged invarious processes and in achieving agreementex ante on claimancy rules that are exercisedex post. The exclusion of some potential stake-holders is essential to the agreement among theremaining enfranchised stakeholders on theclaimancy rules. Libecap’s work (1989) empha-sizes the challenge of sustaining coherent gover-nance arrangements ex post, after the results ofthe organization’s operations resolve—at least inpart—the generation of value by the organization,the risks borne by various stakeholders, and theresults that occur after the claimancy rules areexercised. As Libecap explained, some stake-holders may seek to participate in governancewhile others prefer to exit. Libecap’s frameworkalso shows that the initial bargaining position ofeach enfranchised stakeholder typically focuseson improvement from established arrangements.Olson’s (1965) analysis demonstrates that stake-holder group size is particularly important to theeffective governance of collective goods by at-tenuating free-riding.Both Libecap (1989) and Ostrom (1990) empha-

sized that during the bargaining process stake-holders may recognize that an organization’sprofile may be fundamentally affected if otherstakeholders exit and enter the governance pro-cess. Stakeholders who perceive the organizationasattractivewill try to anticipate howmuch valuethe organization will create and how that valuewill be distributed. Negotiations may reflect thecomplex positions of various coalitions of stake-holders, each seeking to negotiate prospectiveclaimancy rights and each seeking to threatencompeting coalitions with bad outcomes. Thus,the complexity of governance adaptation re-flects the broad range of possible outcomes ofnegotiations over stakeholder enfranchisementand claimancy rights. This stands in stark con-trast to the simple conceptualization importedinto management from financial economics, inwhich the salient threat under such circum-stances is firm liquidation, with residual cashflows accruing only to shareholders. WhatLibecap (1989) described is the process by whichenfranchised stakeholders renegotiate ratherthan suffer the extreme consequence of shuttingdown the firm.Ostrom (1990) and Libecap (1989) offered exten-

sive insights about the specific resolution ofgovernance adaptation. In this article we do notseek to describe comprehensively how specific

12While some economists focus on Ostrom’s (1990) designrules as “equilibrium” outcomes, we emphasize how theserules increase the likelihood of successful governance adap-tation (e.g., through graduated sanctions and conflict reso-lution mechanisms, such as arbitration and mediationprocedures).

13Libecap (1989) and Ostrom (1990) provided an array of de-scriptive and prescriptive details, which is organized withinour proposed 2 3 2 and is intended as a complementaryframework to these seminal works. Whetten stated that “sen-sitivity to the competing virtues of parsimony and compre-hensiveness is the hallmark of a good theorist” (1989: 490), andin this article we seek to achieve this balance.

14Ostrom described the following design principles asshaping effective governance: “clear boundary and member-ships; congruent rules; collective choice arenas; monitoring;graduated sanctions; conflict resolution mechanisms; recog-nized rights to organize; nested units” (1990: 190). We submitthat these elements of design emerge only after establishmentof the organization’s enfranchised stakeholders and the dis-tribution of value through claimancy rights. Once these fun-damental rules of governance arise, then organizational andstrategic choicesare enabled.Whenanorganization functionswell, these choices reflect Ostrom’s principles of effectiveorganizational design.


adaptations proceed. Rather, we aim to partitionthe types of adaptation into categories that reflectthe foundational elements of Ostrom’s and Libe-cap’s insights: stakeholder enfranchisement andclaimancy rights. Focusing on these foundationalelements of governance produces an integratedand bounded framework that categorizes gover-nance adaptation based on enfranchisement andclaimancy rights. These categories illustrateboundary conditions on the types of governanceoutcomes that may arise, which we call “gover-nance pathways.”

A FRAMEWORK FOR GOVERNANCESTRUCTURE ADAPTATION

How is governance adaptation initiated? Anyenfranchisedstakeholderperceivedas legitimatecan initiate the process. We submit that actors’legitimacy tends to reflect the extent and impor-tance of their specific investments of resources,capabilities, time, responsibility, and/or commit-ment in the organization (Blair & Stout, 1999). Onecommon impetus for initiating change is un-certainty over the potential impact of shifts in theEE on the rights and responsibilities of the mostenfranchised actors—a key challenge in the or-ganization literature and government literature(Mueller, 1989). For example, increases in globalcompetition, along with higher health care andpension costs for retirees, ledGM in the late 2000sto push for substantial reductions in labor costs.The result was a two-day walkout by the United

AutomobileWorkers (UAW)Union in 2007, the firststrike against GM in nearly forty years. Eventu-ally, the UAW membership ratified a landmark456-page labor agreement with GM, which gavecontrol over retiree health costs to a UAW-controlled trust fund (Lucas & Furdek, 2009).The problem that the UAW and GM initially

sought to resolve related to governance over thedistribution of value arising from organizationalresources created after the company’s initialsuccess and, thus, not easily traceable to a par-ticular shareholder group. GM was one of theworld’s largest and most successful companies,with accrued brand capital, manufacturing ex-pertise, anddesign capabilities that hademergedover time from the course of the company’s oper-ations. However, IE changes in trade policy, alongwith changes in technology, consumer prefer-ences, and health care costs, left the companyvulnerable to foreign competition and led toa struggle among enfranchised stakeholdersabout how the firm’s value could be protected.This is a general challenge. Because at least

some of the common resources that may emergethrough organizational action may be impossibleto anticipate ex ante, governance activities needcontinuous adaptation, even if the foundations ofgovernance do not change. At GM, changes in theEE, coupled with stresses arising from governanceactivities, led to questions about foundational en-franchisement and claimancy rights. Under thesecircumstances, the previously enfranchised stake-holders initially sought renegotiation because of

FIGURE 1Two Key Drivers of Organizational Governance Adaptation

Ostrom’s design principles Libecap’s adaptation criteria

Clear boundaries andmemberships Peer monitoring (whocan impose sanctions) Graduated sanctions(nature of sanctions)

Number of coalitionsCoalition heterogeneity

Congruence betweenappropriation andprovision rules andlocal conditions Conflict resolutionmechanisms

Size of economic gainsPersistence ininformationasymmetries Concentration ofwealth

Claimancy rights

(who is in and who is out)Stakeholder enfranchisement

(who gets what parts of thejointly created value)


a shared perception that the gains from agreementoutweighed the gains from disagreement, in linewith Libecap (1989). To be sustainable, the adaptedgovernance structures must enable the creation ofsufficient value through joint production to com-pensate each stakeholder group under the revisedtermsofgovernance.Ultimately,GMcouldnotmeetthis threshold under the renegotiated agreements,and thecompanyentered intobankruptcyon June1,2009.

Once adaptation in governance begins, a widerange of stakeholder groups may become en-gaged. This occurs because organizations, likeinstitutional systems, involve the production anduse of collective resources, including bothcommon-pool resources and club goods.15 Be-sides the usual problems of value creation andvalue capture using the firm’s other resources,special care must be taken to ensure that sharedresources are protected from value dissipation ordepletion during the renegotiation. As Libecap(1989) submitted, differences in the informationpossessed by stakeholders and distributionalconflicts result in divergence among bargainingparties, which lowers the likelihood that theexisting arrangement will adapt.

As noted above, governance adaptation some-times occurs when the development of new re-sources and capabilities in an organizationrenders the original governance structure in-effective under the prevailing IE. For example, thePartners In Health clinic in Haiti developeda model of unprecedented productivity for treat-ing ruralHIVpatientsbasedon theengagement ofcommunity health workers. This new model,which was celebrated around the world, consti-tuted a significant breakthrough in the delivery ofhealth care to impoverished patients in ruralsettings. As demands for disseminating thismodel escalated, Partners In Health sought toinvest in its governance structures to supportgrowth (Kidder, 2004).

Governance adaptation is also affected byclaimancy rights embedded in the organization’sgovernance structure. Changes in the IE may

embolden claims of inequity in the allocation ofthe value created by an organization. In general,the less clearly specified an organization’sclaimancy rules and the more these rules areperceived to be inequitable, the less likely theexisting governance structure will resolve dis-agreements. Similarly, when the resolution ofprior uncertainty in the IE leads to a skewed re-alized distribution of wealth, then stakeholdersmay seek to renegotiate the rules by which re-sidual claims are distributed. Libecap’s (1989)theory of adaptation explains the significance ofboth stakeholder enfranchisementandclaimancyrights to adaptation.On the one hand, shifts in theIE raise the stakes for governance structure ad-aptation by inviting enfranchisement and legiti-mizing renegotiation of claimancy rights. On theother hand, institutional change may lead to log-jamming by vested interests and/or excessiveclaims on the organization and, consequently,may raise the specter of organizational failure.Change inanorganization’s claimancy rights is

different from changes in the distribution thatoccur as the result of exercise of the rules. Forexample, at Bank One Corporation, in the yearafter Jamie Dimon’s appointment as CEO in 2000,the company’s senior executives did not receiveperformance bonuses (Khurana, 2002). This dra-matic action was viewed internally as a signifi-cant step toward establishing a sense of urgencyfor the turnaround that Dimon sought to lead, andyet it did not constitute a change in claimancyrights. By contrast, some actions that are viewedwithin companies as not dramatic at all mayconstitute changes in claimancy rights. Consider,for example, when a company retires a class ofstock or when a school board changes its pro-cedures to allow a panel of teachers to participatein decisions regarding the budget designation ofa pool of funds for teacher salaries. Such actionsinvolve changes in claimancy rights that havesignificant long-term implications for governancestructures but relatively little impact in the shortrun on the actual claims that stakeholders make.Generally, there are two sets of circumstances

in which IE change does not usually lead togovernance adaptation. The first is when theanticipated benefits of change for the newlyenfranchised groups pushing for change areperceived to be too small to justify the effort. Thesecond is when the required change is per-ceived to be so great that the organization failsentirely.

15As notedabove, common-pool resources are defined in thepublic goods literature as goods that are rivalrous in con-sumption but not excludable, leading to problems of over-consumption. Goods that are excludable but nonrivalrous arecalled “club goods”; here the canonical problem is under-provision. Examples of firm-level club goods include patents,standards, computer code, and other knowledge resources.


On the first point, governance change is costly.There are explicit costs for negotiating anddrafting new legal documents, adding or trans-ferring personnel, and providing audits and re-lated financial reports, as well implicit costsassociated with any firm-level change such asovercoming inertia, placing stress on employees,and so on (By, 2005; Fiss&Zajac, 2006).When thesecosts are high, the perceived benefits from gov-ernance adaptation must be high enough to mo-tivate key stakeholders to bargain. For example,Chrysler Corporation’s former CEO, Lee Iacocca,extracted substantial wage and benefit conces-sions from the UAW to stave off a bankruptcythreat arising from the intense competition thataccompanied globalized trade in autos, espe-cially during the 1970s and 1980s. The UAWagreed to the concessions precisely because thethreat to the organization’s survival was signifi-cant. The negotiations led by Iacocca also in-corporated new governance arrangements thatenfranchised the UAW leader, Douglas Fraser, ontheChrysler board of directors. Thus, in exchangefor the concessions, theUAWand theworkers thatit represented had a voice in the strategy of thefirm (Reich, 1984).

There is no guarantee of success in negotia-tions such as those at Chrysler. For example, in2012 confectioner Hostess succumbed to bank-ruptcy and liquidation after failed negotiations toextract wage and benefit concessions from theBakers Union (Kelley, 2012), despite the threat tothe company arising from a cultural shift awayfrom consuming sugary treats.

In many cases, however, governance adaptationproceeds successfully. Below we outline four path-ways for governance adaptation and describe thecircumstances under which each is likely to occur.

PATHWAYS OF GOVERNANCE ADAPTATION

When changes in the EE are substantial andunexpected, the organization’s initial governancestructure may no longer balance competing in-terests of enfranchised stakeholders. How doorganizations adapt to maintain a viable gover-nance structure? The conditions described in theprevious section help us to distinguish possiblescenarios.

We describe four pathways of governance ad-aptation by interacting two sets of conditions de-veloped above. Figure 2 illustrates these fourcases. The horizontal axis represents the

boundary cases on divergence in enfranchisedstakeholder interests, while the vertical axisrepresents the boundary cases on claimancyrights. We call the four pathways of governanceadaptation continuity, architectural change, en-franchisement change, and redistribution. Eachpathway describes a potential path for gover-nance adaptation; whether an organization willadapt depends on strategy execution, organiza-tional leadership, and the unique features of eachsituation. On each path some firms may succeedand others may fail. Below we provide some ex-amples of successful and unsuccessful adapta-tion along each pathway.

Continuity

When divergence in stakeholder interests islow and claimancy rights are perceived to be eq-uitable, governance structures adapt with conti-nuity (see Figure 2). In this situation a change inthe IE requires changes that are perceived assatisfactory (or equitable) by all parties. This, andthe fact that the divergence between stakeholderinterests is low (i.e., they have largely commoninterests), implies that governance adaptationcan take place without a change in enfranchisedstakeholders or claimancy rights.Continuity may arise even in the face of dra-

matic shifts in the IE. Consider, for example, theimpact of the 9/11 attacks on the governance pro-tocols of New York’s money-center banks in en-suring secure and authoritative control overoperations. To guard against potential disarray,several banks strengthened and clarified rules ofinstitutional authority and chains of commandunder various scenarios of disruption. Thechange in the IE—namely, the 9/11 events—raisedthe prospect of previously unimaginable threats.By implementing new, contingent rules of gover-nance, the banks adapted with continuity to pro-tect enfranchised stakeholders and to preserveclaimancy rules.Continuity is particularly likely when an orga-

nization’s established governance structures—including claimancy rules—are well suited toemergent resources that areaffectedby change inthe IE. For example, consider the evolution ofFacebook. Thegovernance structures establishedupon the company’s initial public offeringevolved to address problems and issues thatarose during the Arab Spring—amajor change inthe IE. The evolution occurred with continuity,


however: Facebook’s enfranchised stakeholdersclarified the implications of established gover-nance rules without shifting claimancy rights.

In general, continuity tends to arise under thefollowing conditions:

• the initial governance structures accuratelyanticipate the emergence of common-poolresources;

• the organization creates enough value togenerate risk-adjusted returns on investmentsatisfactory to each enfranchised stake-holder with claimancy rights;

• the resolution of uncertainties regardingvalue creation does not create disproportion-ate burdens on particular stakeholders; and

• there are no major shocks or challenges tothe legitimacy of the value created by theenterprise.

Architectural Change

An extreme alternative pathway arises whenan organization’s governance structures change

architecturally in the face of shifts in the IE. Con-sider, for example, the T�ohoku earthquake andtsunami of 2011, which caused a disaster at theFukushima Daiichi Nuclear Power Plant ownedby the Tokyo Electric Power Company (TEPCO).The prospect of liability claims, fueled by expec-tations that the courts would find the companynegligent, led TEPCO to seek an infusion of cashfrom the Japanese government in exchange forpartial nationalization and the inclusion of gov-ernment officials on the top management teamand board (Obe, 2012). The transition involveda tragically motivated recognition of the inter-ests of all Japanese people in the company’soperations—as well as a shift in claimancy rulesto reflect the devastating impact of the disaster onthe citizens of Fukushima Prefecture. The disasterled to a shift in public opinion about who bearsresponsibility for nuclear safety, which consti-tuted a change in the IE that led to an importantchange in governance.

FIGURE 2Pathways of Governance Adaptation

Divergence in stakeholder interests

Low High

Claimancy rights

Equitable

Continuity

Organizational actorsrenegotiate throughside payments andadjusting claims; nochange in rules ofenfranchisement or claims

Examples: UAW workswith GM’s managementto ensure continuity ofGM; the evolution ofFacebook

Enfranchisement change

Organizational actorsrenegotiate stakeholderenfranchisement but notthe terms of residualclaims

Examples: adding newregulators; spin-offs andcarve-outs

Inequitable

Redistribution

Organizational actorsrenegotiate rules fordistributing value; nochange in enfranchisement ofstakeholder groups

Example: changes incompensation rules atNucor

Architectural change

Organizational actorsrenegotiate stakeholderenfranchisement andclaimancy rights;governance rules are reset;prior claims are invalidated

Examples: De Beers,Dollar General(successful); Enron(unsuccessful)


Here we suggest that when divergence ofstakeholder interests is high and when thestanding specification of claimancy rights isperceived as inequitable, a comprehensive andsystemic adaptation will occur. We refer to thisadaptation as architectural change (see Figure 2).Architectural changes occur when the estab-lished governance structure is so significantlyinadequate to respond to changes in the IE thatthe organization must be reconstituted differ-ently. When architectural change succeeds, theorganization’s assets, capabilities, activities, androutines become governed under new rulesdesigned to conform to the new IE. In other casesthe need for architectural change may result inthe failure of the organization entirely.

This form of change is difficult to accomplishbecause it requires redesigning many elementsof a system simultaneously (Scott, 1987; Simon,1962). The inability to adapt may lead to entirelyabandoning some elements of governance asthey fail in the face of unsuccessful negotiationsbetween groups of stakeholders with divergentinterests, and as the result of unsuccessful reso-lution of rivalry over claimancy rights. Whatemerges is a governance structure that may en-franchise only a subgroup of the initial stake-holders. Such a situation arises under thefollowing kinds of conditions:

• the initial structures of governance are con-structed under considerable uncertaintyabout forthcoming shifts in the IE, which maylead to claims by initially disenfranchisedstakeholder groups;

• the value created by the organization is onlymarginally sufficient to compensate enfran-chised stakeholders with claimancy rightsabovewhat theywould receive if theywere topursue outside options;

• the common-pool resources that arise havevalue to only a small group of stakeholders;

• disenfranchised stakeholders make strong,legitimate claims on the activities of the or-ganization; and

• the resolution of uncertainties regardingvalue creation does not create dispropor-tionate burdens on particular stakeholders.

The De Beers case discussed above representsa case of successful architectural adaptation. Theexisting rules of stakeholder enfranchisement—which largelyexcludedmost of the local populationfrom equity ownership, senior management posi-tions, and exercises of decision authority—wererenegotiated. The old rules of distribution—which

were perceived to be highly inequitable—wererestructured to give a greater share of firm value tononwhite stakeholders. The IE change in this casewas the end of the apartheid system. The post-apartheid Black Economic Empowerment act re-quiredmining companies such as De Beers to have15 percent black ownership by 2005. The result wasa radically restructured De Beers, in which estab-lished resources and capabilities were deployedunder a new governance structure.In some cases successful architectural change

is initiated from within the organization, such aswhen a company seeks to be restructured or ac-quired for access to the governance structure of thenew parent or combined firm. Consider, for exam-ple, a leveraged buyout by management of a com-pany, such as occurred at Dollar General in 2007(Roe, 2013). Former investors willingly became dis-enfranchised through the sale of their shares tomanagement. This transfer of ownership alsochanges the rules of claimancy by providing thosemanagers who buy with residual rights and withenhanced authority to change compensation sys-tems. At Dollar General such an architecturalchange in governance occurred because of negoti-ations between enfranchised stakeholders, ratherthan fiat from an external authority.In other cases, however, architectural change is

so daunting that the result is organizational col-lapse, despite attempts by external authorities tomitigate conflicts. Consider, for example, the ef-fect of partial deregulation in the trading of U.S.energycontractsand the infamous failureofEnron.Because Enron’s governance structures were notadapted to reflect the interests of previously dis-enfranchised groups of stakeholders—in particu-lar, the citizens of California—the company’straders engaged in practices that led to energyshortages and blackouts there (McLean & Elkind,2003). Negotiations over rules of claimancy on thecompany failed, in part, because profits fromtrading had been disbursed in bonus compensa-tion packages to senior employees and traders,thus leaving the company with insufficient fundsto compensate stakeholders with claims that wereeventually adjudicated in the IE as legitimate.Libecap (1989) considered two key cases of suc-

cessful and unsuccessful architectural change.The first was the carefully studied case ofmineralrights in the American West. The landownersbelieved they owned property under which thesevaluable minerals were buried, but none of themknew precisely where the minerals lay. To avoid


duplicative exploratory and extractive digging,and to avoid flooding the market with minerals,landowners cooperated to manage exploration,extraction, and sale. In other words, they renego-tiated their stakeholder rights from an individualto shared model, while agreeing to distributeclaims evenly across landholders. Continuous im-provements in rules governing the undergroundboundaries of mineral veins were established toprotect property holdings (Libecap 1978). The con-tinuity in governance rules arose because each ofthe landowners realized that the loss of someindividual rights through cooperation wouldyield a greater return than from uncoordinatedcompetition.

Architectural change in this case was successfulfor the reasons described by Libecap’s (1989) fivefactors. First, the expected aggregate gains fromestablishing secure private property rights werelarge (Bromley, 1989). Second, the number of con-tracting parties among landowners was typicallysmall—in the range of twenty to thirty individuals(Libecap, 1989). Third, the groups were relativelyhomogeneous with respect to experiences and ex-pectations regarding legal institutions (Hallagan,1978). Fourth, asymmetric information problemswere low—that is, information was similarly dis-tributed among the contracting parties (Olson, 1982).Fifth, most of the contracting parties expected ashare in the large, aggregate economic gains fromestablishing these property rights (Umbeck, 1977).Therefore, despite the potential private gains thateach landowner might obtain by defecting from thegroup, the gains to the group that accrued from thecoordination of mining effort were so great thateach miner cooperated.

Libecap’s (1989) second IE-level example con-cerned an architectural change that was too diffi-cult and where existing arrangements fell apart.This problem arose among landowners seeking toextract oil from a newly discovered common oilfield. In this example, landowners who had settledinparticularareas received theunanticipatednewsof valuable, extractable oil under their land. Landover subsurface oil reservoirs in the United Statesoften hasmultiple owners. The oil ismigratory andcanmovewithinareservoir, soa landownerdrillingon their own land can extract oil that was undera neighbor’s land (McDonald, 1971). In Texas, land-owners may drill a well on their land and drainoil and gas from neighbors without liability(Lueck, 1995), since property rights to oil andgas are assigned upon extraction. However, by

collaborating, neighbors with land over thecommon oil field can achieve greater returnsthan by competing. This arrangement, called“unitization,” occurs when a single drill is con-structed to extract oil at a rate that is negotiatedamong the neighbors; the profits are then split inproportion to each landholder’s share. Throughsuch collaboration the neighbors not only avoidthe duplicative and technical costs of multipledrills (Smith, 1987) but also do not compete todrive down the local price of extracted oil, thusraising joint profits (Kim & Mahoney, 2002).The economic gains from oil field unitization

have been understood since the first oil discoveryin the United States—in Pennsylvania in 1859. Yetwe observe a surprisingly low rate of oil fieldunitization, particularly in Texas (Bain, 1947;Weaver, 1986). To understand why, consider thecontractual impediments to achieving oil fieldunitization. First, gains from unitization areespecially low when many parties have largeholdings (e.g., sometimes with hundreds ofowners; Libecap & Smith, 2001). Second, con-tracting parties tend to be heterogeneous(e.g., some parties primarily own oil and othersgas). Third, uncertainty and asymmetric in-formation lead to diverse valuations of each con-tracting party’s shares. Because each contractingparty undertakes calculations by doing testsbased on its own land, with a limited number ofobservations as well as bores, it is not surprisingthat calculations vary across different parties(Libecap & Wiggins, 1984).The success or failure of architectural change

depends largely on the strength of interest groups(Eggertsson, 1990; Olson, 1982), and the problemsidentified in the “rent-seeking” literature(Krueger, 1974; Murphy, Shleifer, & Vishny, 1993)provide key insights for explaining why an in-efficient outcome persists.16 Demsetz’s (1967)

16Although beyond the scope of this article, there are im-portant sociological factors influencing interest group forma-tion, such as the development and elaboration of collectiveaction frames as meaning construction, problem identifica-tion, frame diffusion, and collective identity, as well as con-textual constraints and facilitation (e.g., political opportunitystructureand cultural constraints andopportunities; Benford&Snow, 2000). Building on this research, Henisz and Zelner (2005)emphasized the impact of cognitive limitations by variousstakeholders and varying normative pressures, institutionalconstraints, and social influences on effective change as anongoingprocess at both the level of governance structures andinstitutional arrangements at the IE level.


optimistic view of the evolution of property rightstoward efficiency implicitly posits that govern-ments will typically act to minimize transactioncosts. In the case of oil field unitization in theUnited States, this premise did not hold, andsome government decision makers had economicincentives to maintain the status quo (Libecap,1989). Further, political processes in contractingfor property rights also are prone to free-ridingproblems in group decision-making processes(Olson, 1965; Ostrom, 1990).

Enfranchisement Change

Between the two extremes of continuity andarchitectural change are two pathways of gover-nance adaptation that have been underexploredin prior literature: stakeholder enfranchisementchange and redistribution. Enfranchisementchange occurs when divergence in stakeholderinterests is high, yet, post change, claimancyrights are seen as equitable (see Figure 2). In thiscase the key to adaptation is to let new stake-holders in and/or remove other stakeholders. En-franchisement change reflects an adaptation inthe groups of stakeholders with rights in an or-ganization’s governance structure, including de-cision rules, managerial rights, and reportingprocedures. Rules of claimancy are not adjusted,but groups of stakeholders are either excluded orincluded in the organization’s governance. Suchenfranchisement change may also involve imple-mentation of eligibility for claimancy but notchange the rules by which claimancy occurs. Insome cases enfranchisement may occur withoutproviding any claimancy rights, such as whena company creates a program for volunteers orwhen it seeks theadviceof communitymembers ingovernance decisions. When organizations createnoncompensatory partnership arrangements andmemos of understanding that influence gover-nance, they are on a pathway of enfranchisementchange.

Enfranchisement change is common. When-ever a publicly traded company creates a part-nership agreement or a merger that gives thetarget entity a voice in governance, then enfran-chisement change occurs. It is important to notethat thispathwayexcludescaseswhereclaimancyrights also change. For example, enfranchisementchange occurs when a small, venture-backedentrepreneurial organization establishes a newpartnership agreement that does not change or

dilute the claimancy rights of the managementteam or the venture backers. By contrast, architec-tural change occurs when the same organization’spartnership agreement influences the distributionagreements.Enfranchisement change may be subtle. The

threshold criterion for its occurrence is change inthe ownership and control rights that shape theorganization’s core activities. Science-basedpharmaceutical companies have created advi-sory boards that reflect the health requirements,medical infrastructure, and legal positions of ju-risdictions that may seek access to medicines.Open-source software development companiescreate panels to represent the interests of poten-tial customers and to advise participants ontechnical and legal issues regarding the com-mercialization of applicationsbuilt on thegeneralpurpose technology. Each of these examplesrepresents change designed to enfranchisestakeholder groups without a wholesale re-constitution of the organization’s claimancyrights.In some instances organizations adapt gover-

nance structures by excluding previously en-franchised stakeholder groups. Spin-outs mayoccur as stakeholder groups pursue outside gov-ernance options, such aswhen JohnWarnock andChuckGeschke left the XeroxCorporation to formAdobe after Xerox declined to invest in the tec-hnology that subsequently became PostScript(Chesbrough & Rosenbloom, 2002). In some casesstakeholder groups are forced out of companies;hostile takeover bids and leveraged buyouts fre-quently lead to the departure of large groups ofmanagers under restructuring actions designedto make companies more efficient (Krug &Hegarty, 1997). Less contentiousness adaptationmay also occur as groups of stakeholders areenfranchised in management decisions. Theseexamples represent sometimes dramatically dif-ferent decision-making and managerial systems,but the initial organizational governance struc-ture retains its identity.Conditions that tend to favor stakeholder en-

franchisement change include the following:

• the operations of the organization under theinitial governance structure reveal the legit-imate claims of previously disenfranchisedstakeholders;

• a group of enfranchised stakeholders seeksexit from the responsibilities of governancebecause of revealed outside alternatives that


are more economically attractive than con-tinued engagement;

• internal disagreements between stakeholdergroups about resource allocation decisionsraise the costs of collaboration, leading somegroups to seek exit; and

• the emergence of organizational resourcesimposes costs on stakeholders, leading torequirements for adjustment.

Redistribution

The fourth pathway involves changing theterms by which groups of stakeholders claimvalue from the organization. Such changes arecalled “redistributive” because they are zero sum:when one stakeholder group, such as employees,wins the right to a greater claim on an organiza-tion’s value than it previously had, then, de facto,some other stakeholder group loses the claim.Redistribution occurs when divergence in stake-holder interests is low yet the rules by which re-sidual claims are distributed are perceived to beinequitable (see Figure 2).

Redistribution may occur when those alreadyenfranchised within an organization’s gover-nance model seek to avert a disruption by volun-tarily giving up some of their rights. The idea thatthose in power would voluntarily waive some oftheir property rights to preserve or even increasetheir wealth is well established (Blair & Stout,1999; Schelling, 1960). For example, Alexy andReitzig (2013) showed empirically that environ-mental shocks can be triggers for an innovativefirm towaive its exclusion rights for thepurposeofcoordinatingamongseveral participants,which canenable them to jointly design industry-regulatinginstitutions to facilitate economic value capture.Thus, gaining (de facto) control over a resourcemaycome about by giving (formal) control away.

Examples of changes in claimancy rights arealso relatively common. Consider the minimillsteel business of Nucor, which gives substantialautonomy to its operating divisions (Ghemawat,1995). Originally, the compensation of Nucor’sexecutives was tied to the performance of the in-dividual divisions. This arrangementworkedwellwhen the prevailing technology for operatingeach division was the blast furnace, since thegeographic footprints of the divisions were dif-ferent. However, the emergence of minimilltechnology—a shift in the technological part ofthe EE—put Nucor on a redistribution pathway.Because minimills allowed each Nucor division

to compete fiercely in geographic territories thathad been dominated previously by other Nucordivisions, the company was thrown into a gover-nance crisis. To resolve the problem, the companyadapted its claimancy rules so that executive paywould reflect overall corporate performance,rather than divisional performance. This changein claimancy rights created a powerful incentivefor cooperation among the divisional executives.Nucor’s governance structure was adapted to al-low greater claimancy rights within the di-visions on economic value created at the levelof the corporation. Thus, divisional managers’compensationwas based on corporate return onequity, which aligned the incentives of busi-ness division-level strategy and corporate-levelstrategy (Ghemawat, 1995).Conditions under which redistribution tends to

arise include the following:

• the resolution of initial uncertainties aboutthe creation of value reveals that a stake-holder group’s costs or benefits are dispro-portionately out of alignment with thoseanticipated;

• the outside opportunities of one or morestakeholder groups change in relationship tothose of other stakeholder groups; and

• the resourcesheldby theorganization, and/orthe opportunities it faces, require dispropor-tionate investment by one or more enfran-chised stakeholder groups.

DISCUSSION AND CONCLUSIONS

Governance structuresmust adapt to the IE if anorganization is to survive. This is especially truewhen the changes arise in the firm’s IE. In thisarticle we have provided a general framework forgovernance adaptation describing how parties inan organization attempt to resolve conflicts overthe value cocreated from shared resources. Ourframework builds on the institutional economicsliterature on collective goods because negotiatingorganizational governance structures is a prob-lem of aligning stakeholder interests for jointproduction—the same problem studied by Ostromand Libecap. Ostrom (1990) described conditionsunder which parties can resolve conflicts overshared resources when parties have differinggoals, interests, bargaining strength, and beliefsabout what they deserve. Libecap (1989) showedhow characteristics of the bargaining parties andthe economic value of the underlying resourcesaffect the ability to arrive at different solutions.


Conflicts over shared resources boil down todisagreements about who is in and who is out,which we call enfranchisement, and who getswhat, which we call claimancy. As we discussedabove, enfranchisement and claimancy are sim-ilar to the organizational economics and corpo-rate finance concepts of decision rights and cashflow rights, respectively, but they go beyond effi-ciency to include considerations of distributionand fairness. We described four pathways ofgovernance adaptation determined by the di-vergence of interest among enfranchised stake-holders and the degree to which claims on firmvalue are perceived to be equitable.

The first contributionemerging fromouranalysis isthe two parallel arguments regarding drivers of gov-ernance adaptation at the level of the organization.Our first argument emphasizes divergence in stake-holder interests, while the second focuses onclaimancy rights. By distinguishing betweenthe foundations of governance—namely, stake-holder enfranchisement and claimancy—and gov-ernanceactivities,weseek toclarifyandsimplify thecanonical problem of governance adaptation. Eachstakeholder group considers the impact of a changein the EE on the organization’s standing governancestructure. A critical point in the development of ourtheory is that the transition by organizations in con-fronting increasingly challenging collective actionproblemscreates conditions that tend to enfranchisenew stakeholders and to impact claimancy rights.

We next specified four pathways of governanceadaptation—continuity, architectural change, en-franchisement change, and redistribution—thatreflect boundary conditions established by ourarguments. These pathways provide a taxonomyfor researchers seeking to understand organiza-tional change; they may also be useful to practi-tioners seeking to address the implications ofchanges in the EE for governance.

Our theory also demonstrates several ways theEE—the IE in particular—and the organizationinteract. For instance, organizational governancestructures reflect the legal, political, social, andcultural rules established by the IE, thus pro-viding the backdrop against which organiza-tional governance operates. Stakeholders mayrevert formallyor informally to the IE toadjudicateclaims on organizational governance.

Finally, the process of governance adaptationin organizations is analogous to institutional(property rights) arrangement adaptation at thelevel of the IE. Consequently, we identify

a substantial overlap of Williamson’s (1985)mechanisms of governance at the organizationlevel and Ostrom’s (1990) institutional designprinciples at the institutional level as means ofattenuating these collective-action problems(e.g., monitoring and dispute resolution mecha-nisms). However, as noted, both organizationaland institutional adaptation—when architec-tural change is required—are difficult.Our analysis points to several opportunities for

further research. First, the microprocess of en-dogenously driven governance structure changeneeds greater attention. Consider Williamson’s(1985) concept of the “fundamental trans-formation,” which describes how economicrelationships change over time as relationship-specific investments aremade. This logic appliesto shared resources and collective action. Agree-ments to share common-pool resources may ini-tially be effective but may deteriorate as thespecific investments weaken the bargaining po-sitions of parties, leading to costly renegotiation.The fundamental transformation at the gover-nance level has a parallel application at the in-stitutional level—for example, as in Vernon’s(1977) “obsolescing bargain model” (see Bucheli& Kim, 2015, and Nygaard & Dahlstrom, 1992). In-sights derived from these and especially socio-logical theories of process changewouldadvanceunderstanding of governance adaptation.Second, an important opportunity arises in un-

derstanding the capabilities required both foreffective governance and effective governanceadaptation. The management literature empha-sizes that organizational capabilities to writeand enforce effective contracts develop over time,as contracting parties experiment and learn(Argyres & Mayer, 2007; Mayer & Argyres, 2004).Thus, even after effective governance mecha-nisms for sharing common-pool resources haveemerged, there is the potential for ex post oppor-tunism if the exchange parties subsequentlymake relationship-specific investments. In otherwords, while we focus mainly on applying in-sights from the institutional (property rights)arrangement literature to the organizationalgovernance structure literature, the institutionalgovernance literature can also benefit from con-sidering core concepts from organization theory,beyond our modified variant of contingencytheory.Third, additional research is required on the

implications for organizational governance


structure adaptation of relationships betweenorganizations in the IE. Examining interactionsamong and between organizational governancestructures would illuminate the social and politi-cal relevance of organizational research (Klein,Mahoney, McGahan, & Pitelis, 2013) and wouldclarify how norms, rules, expectations, and risktolerance in the IE change. Explicating theseinteractions more systematically can provideguidance for managers operating across in-stitutional contexts and within dynamic compet-itive landscapes. Not onlywill examination of thisinterplay inspire substantial empirical testingbut it will also generate multilevel theory devel-opment to explore parallels between organiza-tional governance mechanisms and institutionaldesign principles that benefit both managementand global business research.17

Fourth, there is scope for clarifying the relation-ships between stakeholders within the IE and orga-nizational governance structure change using aformal model. This approach can also enable us todistinguish cases in which effective rules for gov-erning shared resources emerge endogenously(e.g., by a firm’s strategic behaviors, such as lobby-ing to change the IE [Hillman & Hitt, 1999; Holburn &VandenBergh, 2008]) fromcases inwhichagivensetof smooth governance structure rules must adapt toshifts in the IE (which has been our focus in this ar-ticle). A formal model would also shed light on thespeed with which such adaptations take place.

Fifth, our illustrations suggest important ques-tions that must be addressed empirically. Large-sample datasets that reflect governance structurechange would yield important insights about thedesignprinciples thatgovern interaction.Theremaybe contexts, such as public-private procurement ar-rangements (Quelin,Cabral,Lazzarini,&Kivleniece,2014), where detailed information about sharingrules can be extracted from survey data. Additionalqualitative assessments are certainly warranted.Over the long run, a panel dataset that includes in-formation about both the IE and organizationalgovernance would yield important insights aboutgovernance structure change and its consequence.

Sixth, an analysis of the expected influence of IEchange on organizational governance structuresthrough its impact on organizational actors and dy-namics can help managers anticipate and moldchangeat the IE level, aswell as the fit between the IElevel and organizational governance structures. Thismodified variant of contingency theory can thus aidmanagerialpractice tohelp fosterefficientadaptation.Finally, additional research is required on fair-

ness, equity, justice, and legitimacy (Meyer, Boli,Thomas, & Ramirez, 1997; Oliver, 1992) as outcomesof organizational governance adaptation. Theseimportant criteria for the resolution of intercoali-tional conflict must be considered as institutionalinnovations and organizational governance struc-ture changes are implemented. This is particularlyrelevant for complex interactions among public andprivate actors on issues such as health care reformandenvironmentalpolicy.AsKinzigetal. (2013)havenoted, solving such “wicked problems” involves notonly changes in personal and social norms but alsospecific governance mechanisms (e.g., regulationsand financial interventions) that interactwith normsincomplexandhard-to-predictways. Inotherwords,adaptations at different institutional levels work to-gether, not independently. For management schol-arship this interdependence suggests that closerattention to mechanisms and processes of insti-tutional change may yield a better understandingof organizational governance.While we have focused primarily on applying

insights from the institutional governance litera-ture to informmanagement research and practice,the analysis suggests that careful consideration oforganizational governance—aswell as of strategyand entrepreneurship—can deepen our under-standing of institutional problems. Just as organi-zational stakeholders choose whether to initiate,support, or resist organizational change basedpartly on their beliefs about how much value willbe createdandhowmuch they canappropriate, so,too, does social andpolitical changedependon thebeliefs of key participants about social and politi-cal value creation and value capture. Further ex-ploration is needed to evaluate whether andwhensuch coadaptation fosters efficient and effectivegovernance of the IE, in contrast to the capture ofthe IE by organizational actors who seek to ex-clude particular stakeholders.The results of themodified variant of contingency

theory developed here also suggest that change inthe IE and the adaptive responses in organizationalgovernance structures that result may create new

17The common-pool resource institutional research litera-ture often neglects some of Williamson’s (1996) governancemechanisms, such as mutual commitment, while the gover-nance structure literature often neglects some of Ostrom’s(1990) institutional design principles, such as graduatedsanctions and peer monitoring. Thus, a synthesis of designsolutions is a contribution to both theory and practice.


opportunities fordeployingemergentorganizationalresources for value creation. Ultimately, the realiza-tion of a society’s most important economic op-portunities to innovate depends on the alignmentbetween the rules and norms that prevail in the IEand organizational governance structures.

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Peter G. Klein ([email protected]) is W. W. Caruth Chair and professor of entre-preneurship at the Hankamer School of Business, Baylor University, and professor ofstrategy and management at the Norwegian School of Economics. He received his Ph.D.from the University of California, Berkeley. His research focuses on the links betweenentrepreneurship, strategy, organization, and public policy.

JosephT.Mahoney ([email protected]) is theCaterpillarChair of Business in theGiesCollege of Business at the University of Illinois at Urbana-Champaign. He received hisPh.D. in business economics from the Wharton School of Business at the Universityof Pennsylvania. His research focuses on organizational economics and strategicmanagement.

Anita M. McGahan ([email protected]) is George E. Connell Chair in Or-ganizations & Society and professor of strategic management at the Rotman School ofManagement, University of Toronto. She received her Ph.D. from Harvard University. Herresearch focuses on private entrepreneurship in the public interest.

Christos N. Pitelis ([email protected]) is dean of the College of Business, AbuDhabi University, and university ambassador, Brunel University London. He received hisPh.D. in economics from the University of Warwick. His research is on internationalstrategic organization and governance for sustainable value cocreation and capture.


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