A Transaction Cost Analysis Model of Channel Integration in International Markets

Author(s): Saul Klein, Gary L. Frazier and Victor J. Roth

Source: Journal of Marketing Research, Vol. 27, No. 2 (May, 1990), pp. 196-208
Published by: American Marketing Association
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 and VICTOR
SAULKLEIN,GARYL. FRAZIER, J. ROTH*

The authorsdevelop a transactioncost analysismodel designed to explain the

channel integrationchoices of firms in internationalmarkets.In a test with data
collected from a group of Canadianexport firms, the model receivessignificant
support,suggestingthat an importantcontingencywhendecidingon channelstruc-
ture in a foreigncountryis the abilityof the marketto limitthe opportunisticten-
dencies of outside intermediaries.When the enforcementof contractualarrange-
mentscannotbe reliedupon in the market,differentdegrees of forwardintegration
are feasible alternatives.Other empiricalresultssuggest that the firmmay prefer
use of intermediariesin a foreignmarketwith highenvironmental diversityin order
to cope with its inherentcomplexityand maintainflexibility.Channelvolume,the
use of sharedchannels,and countrydestinationalso are shownto affect the nature
of integrationin channelsin internationalmarkets.

A Transaction Cost Analysis Model of Channel

Integration in International Markets

Doing business in internationalmarketsis a difficult
challengefor any firm (cf. Cavusgil 1980; Root 1987).
Especiallydifficultis decidingwhatlevels of integration
the firm shoulduse withinits channelsof distributionin
variousforeign markets.At one extreme, the firm can
performall marketingand distributionfunctionsitself.
At the otherextreme,the firmcan choose not to perform
any of the necessary functions, instead using outside
merchantswho take title to the firm's goods for resale
to othermiddlemenand final buyers.Betweenthese ex-
tremes,a continuumof markethierarchyoptionsis usu-
ally available(cf. Andersonand Gatignon1986).' Ex-
'In relation to this diversity of choices, the available data (U.S.
Bureau of the Census) show that industries vary considerably in their
degree of forward integration. Further,as John and Weitz (1988) point
out, such diversity is likely to extend to firms within industries as
well.
*Saul Klein is Assistant Professor of Marketing, College of Busi-
ness Administration, Northeastern University. Gary L. Frazier is As-
sociate Professor of Marketing, School of Business Administration,
University of Southern California. Victor J. Roth is Associate Pro-
fessor of Marketing, Department of Consumer Studies, University of
Guelph.
The authors are indebted to George S. Day for his support and en-
couragement in carrying out the research. They also thank the Editor
and three anonymous JMR reviewers for their comments on previous
versions of the article.
amples of such intermediateoptions are the use of
commissionagentsto serve foreign markets,joint ven-
tures, and cooperativemarketingarrangements.
Sternand El-Ansary(1988) stressthatthe channelin-
tegrationdecision is a criticalcomponentof any firm's
marketing channelstrategy.Thedecisionis of even greater
significancein an international
context.Choosingthe right
level of channelintegrationcan makethe differencebe-
tween success and failurein a foreignmarket,as it rep-
resentsa point of vulnerabilityfor the firm in termsof
bothmarketresponseandopportunitylosses (cf. Keegan
1984; Root 1987). Moreover,the correctdecisionmust
be madeearly, becauseinitialcommitmentsmay not be
easy to terminate.The questionthat must be answered
is whatdegreeof forwardintegration firmsshouldchoose
in foreignmarketsand why.
Most empiricalresearchin the channelsliteraturehas
centeredon the managementof ongoingdyadicchannel
relationshipsratherthanon the structureof the channel.
Fortunately,interestin channelintegrationissueshas been
risingamongchannelsresearchers in recentyears,in part
becauseof the developmentof transactioncost analysis
by Williamson(1975, 1985; see Andersonand Weitz
1986). Importantempiricalstudies on channelintegra-
tion have been performedby Lilien (1979), Anderson
(1985), Coughlan(1985), DwyerandWelsh(1985), An-
dersonandCoughlan(1987), andJohnandWeitz(1988).
Coughlan(1985) andAndersonandCoughlan(1987) fo-

196

Journal of Marketing Research

Vol. XXVII (May 1990), 196-208

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 COSTANALYSIS
TRANSACTION MODEL
cused on the natureof channel integrationin foreign
markets,andAnderson(1985)andJohnandWeitz(1988)
developed and tested models based on transactioncost
analysis. These studies representan excellent start,but
a varietyof importantresearchissues remainunresolved.
For example, Reid (1983) has advocatedthe application
of transactioncost analysis to questionsof firm inter-
nationalization.
The purposeof our articleis to expandunderstanding
of the reasonsunderlyingfirms' channelintegrationde-
markets.Forthe firsttime, a model
cisionsin international
based on transactioncost analysisis developedand ap-
plied to explainlevels of forwardintegrationwithindis-
tributionchannelsin foreignmarkets.2Productioncosts
also are treatedin the model. The datanecessaryto test
the model were gatheredfrom a groupof Canadianex-
port firms.
Our study is unique in two other respects. First, we
examinefour differentintegrationchoices (i.e., market
exchange, intermediateexchange, and two formsof hi-
erarchicalexchange). With the exception of John and
Weitz' (1988) work, the otherempiricalstudieson chan-
nel integrationhavefocusedon only two choices,whether
the channelis director indirect.Second, we divide "ex-
ternaluncertainty"into two dimensions(environmental
volatilityanddiversity),each being arguedto have a dif-
ferentialimpacton the natureof channelintegrationin
foreignmarkets.Previousresearchbased on transaction
cost analysis has treatedexternaluncertaintyas unidi-
mensional. Prestudyinterviewswith approximately10
Canadianexportersguided the developmentof the the-
oreticalmodel and the operationalmeasures.
Afterbrieflyexaminingthe basic theoreticalrationale
for the impactof productioncosts and transactioncosts
on channelintegration,we review in greaterdetail the
empiricalresearchon verticalintegrationin channelsof
distribution.We then develop the researchhypotheses
and describethe methodsused to collect the data, de-
velop the measures,andtest the hypotheses.Finally,im-
plicationsand limitationsof the study are discussed.
PRODUCTION COSTS AND TRANSACTIONCOSTS
To what extent should a firm performall marketing-
distributionfunctionsinternallyinsteadof relyingheavily
on outside intermediaries?The traditionalanswerin the
marketing literaturehas been basedon a productioncost
argument (cf. Rosenbloom 1987; Stern and El-Ansary
1988). The assumptionhas been that all firms desire more
control, which leads to a preference for integration, but
that such arrangements will not be feasible unless the
2Andersonand Coughlan(1987) examinea numberof constructs
suggestedby severaldifferentperspectivesand do not study uncer-
tainty.Gatignonand Anderson(1988) examinethe degreeof control
multinationalcorporationshave over foreignsubsidiariesand do not
examinevariationsin channelintegrationchoicesper se.
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197
associatedfixed costs can be spreadover a largevolume
of business.Furthermore, as the volumeof businessin-
creases, firms are able to specializein the performance
of marketing-distribution functionsandreapthe benefits
of economiesof scale. Thoughproductioncosts appear
important,especially in terms of "efficiency"as op-
posedto "control,"they aloneare insufficientto explain
variationsin channel integration.For example, a pro-
ductioncost explanationcannot accountfor the use of
marketexchangesby largefirms or differentdegreesof
integrationby firmsof smallersize and less experience.
Transactioncost analysis(Williamson1975, 1985)of-
fers anotherperspectiveto help us understandbetterthe
forces shapingchannelstructure.The basic premiseof
transactioncost analysis(TCA) is that the firm will in-
ternalizeactivitiesthatit is able to performat lowercost
and will rely on the marketfor activitiesin which other
providershave an advantage.TCAis builton a microan-
alytic frameworkwith strongbehavioralreality.Channel
membersare assumedto be subjectto boundedration-
ality. Furthermore,at least some actorsare assumedto
be opportunistic(i.e., havinga tendencyto cheat other
parties)if given the chance. Imperfect,or asymmetric,
informationmay give such actorsan exploitableadvan-
tage in theirdealingswith otherparties.
Transactioncosts (i.e., the costs of governingthe sys-
tem)tendto be low in highlycompetitivemarkets,thereby
providinglittle or no incentiveto substituteinternalor-
ganizationfor marketexchange.In contrast,when faced
with an inabilityof marketsto impose behavioralcon-
straintsandenforcesimplecontracts,firmsare expected
to internalizetransactionsto reducecosts of exchange.
A limit on integrationis the fact that organizationsare
not perfectand transactioncosts also are presentwithin
them.
Though TCA tends to downplaythe impact of pro-
ductioncosts on forwardintegration,the objectiveis to
minimizethe sum of transactionandproductioncosts in
makingforwardintegration decisions(see JohnandWeitz
1988 andWilliamson1985, p. 92-94, 129). The higher
the costs of contractingexternally,the greateris the in-
centive to internalizetransactions.
Unlikeproductioncosts, transactioncosts areverydif-
ficult to measurebecause they representthe potential
consequencesof alternativedecisions. Researchersex-
aminingtransactioncost issues almostnever attemptto
measuresuch costs directly, but rathertest whetheror-
ganizationalrelationsalign with the attributesof trans-
actions as predicted by transaction cost reasoning (Wil-
liamson 1985). "The level of specialized assets required
to supportthe exchange, the uncertainty surroundingthe
exchange, and the frequency of exchange are identified
as the principal factors that make market-mediated ex-
change inefficient" (John and Weitz 1988, p. 121-122).
Asset specificity is the extent to which specialized in-
vestments are needed to support an exchange, whereas
uncertaintyreflects the ability to predict relevant contin-
gencies, both internal and external to the firm. "Fre-
198
quency"refersto the distinctionbetween one-timeand
recurrentexchange.3
LITERATUREREVIEW
The predictionsof transactioncost analysis in terms
of asset specificity and internaluncertainty(i.e., per-
formanceevaluation)have been supportedin studiesby
Anderson(1985) and John and Weitz (1988), and An-
derson and Coughlan(1987) find supportfor the rela-
tionshipbetween asset specificity and channelintegra-
tion. Asset specificityandinternaluncertaintyhavebeen
shownto be relatedpositivelyto the level of integration
in the channelin these studies.
Results relatingto the externaluncertaintyconstruct
havebeenmixed.OnlyJohnandWeitz(1988)havefound
a significant,positive relationshipbetweenexternalun-
certaintyand the level of channel integration.Unpre-
dictability(Anderson1985) and heterogeneity(Dwyer
and Welsh 1985) have been found to be unrelatedto
channelintegration,thoughAnderson(1985) did find a
significantinteractionbetweenasset specificityand ex-
ternaluncertainty.
Resultshave also been mixedon constructsrelatingto
productioncosts. Several empiricalfindings of Lilien
(1979) supportan economies of scale interpretation.
However,Anderson(1985) foundno significantproduc-
tion cost effects, andJohnandWeitz (1988) foundonly
one of two contructsreflectingproductioncosts to be
significant.Transactioncost constructsdominatedpro-
ductioncost constructsin both of the latterstudies.
A varietyof other constructshave been found to be
relatedto channelintegrationin previousempiricalre-
search.For example, in a studyof channelsin interna-
tionalmarkets,AndersonandCoughlan(1987) foundthat
sharedchannelsandcountrydestinationwere important.
RESEARCHHYPOTHESES
Becausetheorysuggeststhat firms act in such a way
as to minimize the sum of transactionand production
costs, both types of cost must be incorporatedin any
conceptualization.The model developedandtestedhere
is based on choices between alternativechannel struc-
turesfor a specificproductline in a specificforeignmar-
ket as determinedby constructsrelatedto both types of
costs.
Withinthis study,the differencesbetweenmarketex-
change, intermediateexchange, and hierarchicalex-
changearebasedon the economictraditionof "functions
performed" (Williamson 1975), rather than on the or-
ganizational theory tradition of the closeness of the re-
lationship or level of coordination between firms in an
exchange (cf. Ouchi 1980). Market exchange is reflected
by the use of merchant distributors who take title to the
3The frequency variable is not examined because we are interested
only in recurrent exchange.
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OF MARKETING
JOURNAL MAY1990
RESEARCH,
firm's productsand performmost necessaryfunctions
withinthe foreigncountry.Intermediateexchangeis re-
flectedby the use of independentorganizationsthatper-
formonly the sellingfunction(e.g., commissionagents),
othernecessaryfunctionsbeingperformedlargelyby the
focal organization.Given the internationalfocus of our
study, two hierarchicalmodes are relevant-the estab-
lishmentof a wholly owned foreign sales subsidiaryor
servingthe foreignmarketdirectlyfromthe home coun-
try of the firm. Thoughthe firm performsa relatively
largenumberof functionsitself in eithercase, the mode
of operationis differentacrossthe two. When the sub-
sidiary option is used, the firm establishesa physical
presencein the foreigncountry,with salespeoplebeing
housed and significantinventorybeing carriedtherein.
Under the other hierarchicaloption, salespeopletravel
andproductsare shippedfromthe firm's home base di-
rectly to foreigncustomers.
Channel Volume
Productioncosts are the costs of actuallyperforming
marketing-distribution functions.If channelvolume for
a productline is relativelylow in a foreigncountry,the
firm is likely to prefera marketexchangewherebyin-
termediariescan handlethe productline more econom-
icallythroughassemblingproductlines frommanyfirms.
In contrast,whenchannelvolumeis high, the production
cost advantageof the marketmode can be reducedvir-
tuallyto zero. As Williamson(1985, p. 94) states, "The
firm is simply betterable to realize economiesof scale
as its own requirementsbecome largerin relationto the
size of the market."Economiesof scale are facilitated
by the potentialfor internalspecializationand division
of labor, which lead to reducedproductioncosts. More
specifically, Anderson(1985) arguesthat high product
volume facilitateseconomiesof scale in finding, hold-
ing, and utilizingmanagementskills, enablingthe firm
to get morebenefitfromits expenditureson a field sales-
force and othermarketinginstruments.
H1: Thegreater thechannelvolumefora productlinein
a foreignmarket,thegreateris thedegreeof channel
integration.
In terms of the two hierarchicaloptions, the estab-
lishmentof foreign subsidiariesis expectedto be facil-
itatedby relativelyhigh levels of channelvolumefor the
productline. Becauseincreasingforwardintegrationre-
quires a more complex and specific governancestruc-
ture, greater fixed costs are inevitable. To cover such
fixed costs, greater volumes are required. If channel vol-
ume for the product line is not extremely high but econ-
omies of scale are still facilitated through use of an in-
tegratedchannel, the firm is expected to serve the foreign
market directly from its home base.
H2: Withinthe hierarchicaloption,the use of foreignsales
subsidiariesis associatedpositively with increasing
levels of channelvolume for the productline.
TRANSACTION
COSTANALYSIS
MODEL
Asset Specificity
Competitiveforeignmarketsfor intermediaryservices
limit the abilityof independentchannelmembersto be-
have opportunisticallybecause intermediariesare re-
placeable. When marketsfail, however, behaviormay
no longerbe controllableat a low cost. A necessarycon-
dition for marketfailure occurs when an exchangere-
quiresone partyto invest in assets, whetherphysicalor
intangible,thathave no alternativeusageoutsidethatex-
change.Suchinvestmenthastheeffectof reducinga large-
numbersbargainingsituation(i.e., one in which many
intermediariesare available)to a small-numberssitua-
tion. As Johnand Weitz (1988, p. 124) state, "Because
nonredeployablespecific assets make it costly to switch
to a new relationship,the marketsafeguardagainstop-
portunismis no longereffective."Undersuchconditions
in foreignmarkets,firms are likely to use relativelyin-
tegratedchannelsin which opportunismcan be combat-
ted throughthe exerciseof legitimateauthority,the mon-
itoring of behavior, and the offering of more varied
incentives than can be used with independentchannel
members. The positive effect of asset specificity on
channel integrationhas received empirical supportin
studies by Anderson(1985), Andersonand Coughlan
(1987), and John and Weitz (1988).
Small-numbers bargainingmay well be the morecom-
mon situationin channelsdecisions, particularlyin an
internationalcontext. The availabilityof alternativein-
termediarieswho are able and willing to handlea man-
ufacturer'sgoods may be severelyrestricted,especially
at the outset (Keegan 1984).
H3:Thegreaterthe transaction specificityof assets,the
greateris thedegreeof channelintegration in a for-
eignmarket.
Asset specificity is not expected to affect the firm's
choice of which hierarchicaloptionto use.
External Uncertainty
To date, the externaluncertaintyconstructin trans-
action cost analysishas been treatedas unidimensional
and viewed as anotherfeatureof marketfailure. High
external uncertainty,given bounded rationality, pre-
cludes the writingandenforcementof contingentclaims
contractsthat specify every eventualityand consequent
response(Andersonand Weitz 1986). It allows negative
informationasymmetriesto developandprovidesthe po-
tential for outside intermediaries to behave opportunist-
ically. As Williamson (1975, p. 23) states, "When,
however, transactions are conducted under conditions of
uncertainty/complexity, in which event it is very costly,
perhapsimpossible to describe the complete decision tree,
the bounded rationality constraint is binding and an as-
sessment of alternative organizational modes, in effi-
ciency respects, becomes necessary." Internalization is
seen to allow the absorption of external uncertainty
through specialization of decision making and savings in
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199
communicationexpenses, facilitatingan adaptive, se-
quentialdecision process, which is arguedto have op-
timalpropertiesundersuchconditions.Furthermore, high
integrationeconomizeson transactionsby harmonizing
interestsand permittinga wider varietyof sensitivein-
centive and controlprocessesto be activated.4
This view is in contrastto the theoreticalpositionheld
by certainorganizationtheorists,who have arguedthat
looser structures(i.e., less verticallyintegrated)are more
effective underconditionsof high externaluncertainty
(cf. Lawrenceand Lorsch 1967; Pfeffer and Salancik
1978). A flexible organizationis seen to be betterable
to adaptto changingcircumstances.Highly integrated
organizationsare seento be somewhatinsulatedfromthe
environmentandhence slow to react.The firmchoosing
an integratedgovernancestructurein an uncertainen-
vironmentmay find it difficultto manageand then rel-
atively difficultto dissolve.
What each perspectiveignores is the possibilitythat
externaluncertaintyhas multipledimensions,each with
a differentialimpacton organizationstructureandchan-
nel choice. Externaluncertaintyappearsto be too broad
a conceptto be treatedunidimensionally; differentfacets
of externaluncertaintymay lead to either a motivation
to reducetransactioncosts (the economictradition)or a
desire for flexibility (the organizationtheorytradition).
Supportfor opposinguncertaintyeffects on integration
mattersis providedby Walkerand Weber (1984) and
Balakrishnan andWemerfelt(1986). WalkerandWeber
foundthatvolumeuncertaintyhada significant,positive
effect on making a componentpart in-house, whereas
technologicaluncertaintywas relatedpositively (though
not significantly)to buyingthe componentpartfromthe
market.Balakrishnanand Wernerfeltshow that though
uncertaintyin generalmakesintegrationmoreeffective,
one particularuncertainty-the possibilityof technolog-
ical obsolescence-works the other way. Splittingthe
externaluncertaintyconstructinto its componentsallows
such opposingeffects to be investigated.
Two dimensionsof externaluncertaintyareof interest
in our study-the volatilityand the diversityof the en-
vironmentin the foreignmarket.These two dimensions
correspondto the environmentalvolatilityand diversity
dimensionsexaminedby Leblebiciand Salancik(1981),
who foundthem to have differentialeffects on decision
4Inthe full theoreticalstatementpresentedby Williamson(1975),
bothtransaction-specific assets anduncertaintyare deemednecessary
for marketfailure.Eithereffect withoutthe othershouldnot resultin
marketfailure(Anderson1985). However,thisrationalemaynot hold
in foreignmarkets.Externaluncertaintyin any foreignmarketshould
be suchthatan increasein assetspecificitywouldincreasetransaction
costs. In addition,if externaluncertaintyis extremelyhigh, it should
influencetransactioncosts independentlyof the level of asset speci-
ficity. This reasoningaside, the interactionsof asset specificityand
environmentalvolatilityand diversityare examinedin the dataanal-
yses.
200
processes. They are also similar to the dimensionsof
complexityanddynamismdevelopedby Duncan(1972)
and supportedby Dess and Beard(1984).
Volatilityrefers to the extent to which the environ-
mentchangesrapidlyand allows a firm to be caughtby
surprise(cf. Leblebici and Salancik 1981). High vola-
tility in a foreign marketis expected to lead to an in-
ability to predictfutureoutcomes, which createsprob-
lems in writingcontractsbecausethese agreementswill
be incompletein some importantrespects. When un-
foreseencontingenciesarise,marketcontractsare strained
in adaptingto the changedcircumstancesbecause op-
portunisticallyinclined partiescan try to interpretun-
specified clauses to their own advantage.As John and
Weitz (1988) and Stinchcombe(1985) indicate,institu-
tionalstructuresthatpermitsequential,adaptivedecision
making are needed when such uncertaintyincreases.
Therefore,highexternaluncertaintybasedon highlevels
of volatilityshouldleadto relativelyhightransaction costs
in marketexchangesin foreignmarkets,encouraging high
levelsof channelintegration in orderto reducesuchcosts.
Diversityreflects the extent to which there are mul-
tiplesourcesof uncertainty in theenvironment (i.e., highly
heterogeneous) (cf. Aldrich1979). A foreignmarketwith
high diversitywould containmany customers,many fi-
nal users, and manycompetitorsfor the firm's product,
withhighdissimilarity amongthem.A firmfacinga highly
diverseenvironmentin a foreignmarketwouldhavedif-
ficultyin obtainingandprocessinginformationabouten-
vironmental entities.Moreover,becausea firmmustadopt
multiplestrategiesto addressthe multiplicityof demands
andconstraintsin a diverseor heterogeneousforeignen-
vironment(cf. Keegan1984), formulatingeffective stra-
tegic programsand responsesis also very difficult. In
combination,the greateramountof informationneeded
and the greaterdifficulties associatedwith developing
multiplestrategiessuggest that environmentaldiversity
in a foreign marketwill encouragethe developmentof
complex and fluid channel structuresthat enhancethe
channel'sabilityto cope with specializeddemands(cf.
Achrol,Reve, andStern1983;DwyerandWelsh 1985).
Independentchannelmemberswithinthe foreignmarket
will be betterable to cope with suchheterogeneity(Kee-
gan 1984). Therefore,externaluncertaintycausedby the
diversityof the environmentis expectedto lead to a de-
sire for flexibility in channel structure(i.e., less inte-
gration).High diversitydoes not, in itself, suggestthat
high volatilityalso is presentin the foreignmarket.5
The preceding discussion suggests that the external
uncertaintyeffect can be broken down into the following
two hypotheses:
H14:The greaterthe volatility of the environmentsur-
'The presence of environmental volatility may create a need for
flexibility as well. However, transaction cost pressures are likely to
dominate any such effect.
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OF MARKETING
JOURNAL MAY1990
RESEARCH,
roundinga transaction thegreater
in a foreignmarket,
is thedegreeof channelintegration.
Hs:The greaterthe diversityof the environment sur-
rounding in a foreignmarket,thelesser
a transaction
is thedegreeof channelintegration.
In terms of the hierarchicaloption, a highly volatile
environmentis likely to makea foreignmarketdifficult
to serve from the firm's home base. The establishment
of a foreignsubsidiaryplacesthe firmcloserto the mar-
ketplacewhereit is in a betterpositionto reactandadapt
to unforeseencircumstances.The diversityof the envi-
ronmentis not expectedto influencethe choice between
these two formsof hierarchy.
option,theuseof foreignsales
H6:Withinthehierarchical
is associated
subsidiaries positivelywiththelevelof
environmentalvolatility.
METHODS
Data Collection
The unit of analysisfor studyinglevels of channelin-
tegrationmust be the transaction,as suggestedby Wil-
liamson (1975, 1985). For purposesof our study, the
transactionis the exportingof a particularproductto a
particularforeignmarketby a particularfirm.
The datanecessaryto test the researchhypotheseswere
gatheredfrom a groupof Canadianexportfirms, iden-
tifiedthroughuse of an industrydirectory.All firmslisted,
withthe exceptionof thosedealingsolely in unprocessed
primaryproducts,were surveyed(925 firmns) throughuse
of a mail questionnaire.6Key informantswere identified
by name from the directoryand were usuallyeitherthe
owneror the generalmanagerof the firm. A totalof 510
responded,a 55%responserate. Data were avail-
finnrms
able on each of the studyconstructsin 375 cases, as 33
questionnaireswere unusablebecause the respondents
did not follow instructionsat the beginningand 102 in-
formantsfailed to providedatanecessaryto measureall
independentvariables; missing data were especially
common on the items relatingto channelvolume. All
questionnaireswith data on necessaryitems, however,
were used for measureassessmentpurposes.A general
descriptionof the sampleis presentedin Table 1.7
6Prestudyinterviews indicatedthat many unprocessedprimary
productssold by Canadianexportfirms are commodities.As such,
theseproductsarenot likely to providemuchvariationon asset spec-
ificity. Moreover,it appeareddifficultto devise an instrumentthat
wouldbe appropriate for bothmanufactured andunprocessedprimary
products.Unprocessedproductsthereforewere excluded.
'In examiningpossible nonresponsebias, we comparedlate re-
spondentswith early respondentson severalcharacteristics.Late re-
spondentstendedto be smallerfirms (p < .10), but were similarto
Moreover,the propor-
early respondentson all othercharacteristics.
tion of respondentfirms identifyingthe United States as the major
exportmarket(i.e., 63%) is similarto the proportionof Canadian
exportsthatgo to the UnitedStates(approximately 70%).Thesefind-
ings andthe study'shigh responseratesuggestthatnonresponsebias
is not a seriousproblem.
 COSTANALYSIS
TRANSACTION MODEL
Table 1
SAMPLE
DESCRIPTION
Industryclassification
Agricultureand primaryproducts
Consumerproducts
Paperand printing
Metalmachineryand equipment
Electricand electronic
Mineralsand chemicals
Exportexperience
Less than5 years
5 to 15 years
Morethan 15 years
Firm size (annualsales)
Less than$1 million
$1 million to $5 million
$5 million to $10 million
$10 millionto $100 million
Morethan$100 million
Exportintensity(exportas percentageof total sales)
Less than20%
20%to 50%
Over 50%
Ownermanaged
Operational Measures
Prestudyinterviewswith approximately10 Canadian
exporterswere instrumentalin devising the operational
measuresfor the study. They were especially useful in
identifyingthe relevantchannelintegrationoptionsin in-
ternationalmarketsand developingthe measuresof en-
vironmentalvolatilityand diversity.
Channel integration. Respondents were informed that
the focus of the study was the marketingchannelsused
by Canadianexportersto serveforeignmarketsandwere
told to concentrateon theirfirm'smost importantexport
productin its most importantforeignmarket.Afterwrit-
ing down the productand market(i.e., country),each
respondentwas askedto indicatewhich of the following
descriptionsbest matched the firm's export arrange-
ments for that productin that market:(1) "We have a
whollyownedsales subsidiary" (62 firms),(2) "Weserve
the marketdirectly from Canada,using companyper-
sonnel"(121 firms), (3) "Weareinvolvedin a joint ven-
turewith anothercompanyto handlesales of thisproduct
in this market"(13 firms), (4) "We use commission
agents"(74 firms), (5) "We sell to a merchantdistrib-
utor who takes title to our productand contactsbuyers-
himself" (76 firms), and (6) "Other[please specify]."
The descriptionsprovidedcorrespondedto two hierar-
chical modes (the establishmentof a foreign sales sub-
sidiaryor servingthe foreignmarketfromhome), an in-
termediatemode (the use of commissionagentsor joint
ventures),and a marketmode (the use of merchantdis-
tributors).
By checking more than one descriptionor checking
the "other"category, 29 firms indicateduse of "dual"
channels.Thesefirmsareheld out of the hypothesistests,
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201
but arecomparedsubsequentlywithfirmsusingthe mar-
ket mode.
Channelvolume.Respondents wereasked:(1) "Ofyour
% total exportsales last year, what percentageis madeup
by this particularproductto this particularmarket?",(2)
1 "Whatpercentageof yourtotalsales last yearcamefrom
18 exports?",and (3) "Approximately,what was the total
4 value of yourfirm's sales last year?"The "channelvol-
41 ume measure"was derivedfrom a combinationof these
16
20 items, which resultedin a dollarvalue for a firm's an-
nual exportsof the particularproductto the particular
21 market(measuredin $10,000s).
36 Asset specificity. Asset specificityrefersto the degree
43
to which durable,transaction-specific assets were found
10 in the exportchannel. Both physical and humanassets
26 were assessed. The six items used to measurethis con-
17 structare listed in Table 2. These items were adapted,
35 in part, from those used by Anderson(1985) and have
12
strongface validity.The itemsweremeasuredon 7-point
48 scales ranging from 1, "completelydisagree," to 7,
23 "completelyagree." They were summedand averaged
29 to arriveat the measureof asset specificity(a = .65).
58
External uncertainty. Separate measures for the two
types of uncertaintywere developed. "Volatility"refers
to the extent to which the environmentchangesrapidly
and allows a firm to be caughtby surpriseand "diver-
sity" refers to the extent to which there are multiple
sourcesof uncertaintyin the environment.The itemsde-
velopedto reflectthese constructsare listed in Table 2.
Seven-pointscales rangingfrom 1, "completelydisa-
gree," to 7, "completelyagree," were used. The items
were summedandaveragedto obtaina measureof each
construct.Coefficientalphais .70 for the volatilitymea-
sure and .55 for the diversitymeasure.8
Assessment of Multiple-Item Measures
Factoranalysis was used to assess the psychometric
propertiesof the threeconstructsrepresentingasset spec-
ificity, volatility,anddiversity.Initial,separateanalyses
indicatedthat five items (not presentedhere) shouldbe
droppedfrom furtheranalysis. These items, thoughap-
pearingto reflect the constructson the basis of content
validity,did notcontributeto the reliabilityof the scales.
To assess validity, Gerbingand Anderson(1988) ar-
gue for the use of all possiblescales withina single anal-
ysis so thatan assessmentof internalconsistencycan be
made.The resultsof sucha factoranalysisindicatedthat
a three-factorsolutionbest representedthe data on the
basis of a scree plot, as well as factorial complexity and
interpretability. The factor loadings after a varimax ro-
tation are reported in Table 2. With one exception, all
8An argumentcould be madethatthe diversitymeasurerepresents
an index ratherthan a scale. In a theoreticalsense, simply because
there are many customersdoes not necessarilymean that there are
also manycompetitors.As Howell (1987) indicates,coefficientalpha
is appropriate
only for measurementscales, not indexes.
202 JOURNAL
OF MARKETING MAY1990
RESEARCH,

Table2 productsthroughthe channelin question.The channel

PSYCHOMETRIC
PROPERTIES
OF MEASURES volume variablereflects only the volume of the export
firm's most importantproductin the foreignmarket.If
Factor 1 Factor 2 Factor 3 otherproductswent throughthe same channel,the abil-
A. Asset specificity ity of the firm to reap economies of scale would in-
1. It is difficultfor an outsiderto crease;productioncosts wouldbe reduced(cf. Anderson
learnour ways of doing things. -.21 .01 .53 and Coughlan1987). A dummyvariablewas createdto
2. To be effective, a salesperson equalone if the channelwas sharedand zero otherwise.
has to take a lot of time to get In 50%of the cases, the channelwas in fact shared.On
to know the customers. -.05 .13 .58
3. It takes a long time for a sales- the basisof prestudyinterviews,we expectedthatexport
personto learnaboutthis prod- firms would tend to use integratedchannelswhen mul-
uct thoroughly. .18 -.01 .69 tiple productlines were distributedthroughthe same
4. A salesperson'sinside informa- channelin foreignmarkets.
tion on our procedureswould The second control variablewas specific to the Ca-
be very helpfulto our competi-
tors. .14 .04 .60 nadiancontextand representedwhetheror not the mar-
5. Specializedfacilitiesare needed ket in questionwas the UnitedStates.A majorityof Ca-
to marketthis product. .03 -.01 .67 nadian exports go to the United States and prestudy
6. A largeinvestmentin equip- interviewsindicatedthatCanadianexportfirmshave sig-
ment and facilitiesis neededto
marketthis product. .32 -.01 .52 nificantlydifferentperceptionsof the U.S. in compari-
son with otherforeignmarkets.ManyCanadianexport-
Eigenvalue 2.30 ersregardtheU.S. as anextensionof the domesticmarket.
% varianceexplained 19.20
B. Volatility
Hence, we believed that, ceterisparibus, the degreeof
1. We are often surprisedby the integrationwas likely to be greaterin the U.S. market
actionsof retailersand whole- thanelsewhere.A dummyvariablewas createdto equal
salers. .08 .77 -.00 one if the U.S. marketwas involved(65%of the cases)
2. We are often surprisedby the and zero otherwise.9
actionsof our competitors. .07 .81 .09
3. We are often surprisedby cus- Estimation Results
tomerreaction. -.07 .78 .02
Hypothesesaboutthe factorsencouragingor discour-
Eigenvalue 1.87 aging forwardintegrationwere testedby using a multi-
% varianceexplained 15.60 nomial logit model (Malhotra1984) that estimatedthe
C. Diversity
1. Therearemanyfinalusersof impactof the independentvariableson the probability
this productin this market. .78 .04 -.06 thateach channelmode would be selected. This analyt-
2. Thereare manycompetitorsfor ical modelis appropriate becausethe determinants of the
this productin this market. .62 .18 .07 utilityof one mode could differfrom thoseof other modes.
3. We have only a few immediate Estimationentailedthe use of LIMDEPandthe Newton-
customersfor this productin
this market(reversescaled). .64 -.13 -.07 Raphsonmethodof maximizingthe log-likelihoodfunc-
tion (see Bunch and Batsell 1989).
Eigenvalue 1.56 When the multinomiallogit model is estimated,one
% varianceexplained 13.00
optionmustbe used as the base mode becauseoncej -
1 alternativeprobabilitiesare known, the /h is deter-
mined. In testing H1, H3, H4, and H5, the base mode
variableshavea loadingof less than.25 on inappropriate used was that which theoreticallyrepresentsthe default
factors,whereasall hypothesizedloadingsaregreaterthan option, namelythe marketoption (i.e., use of distribu-
.5. Even with an obliquerotation,little changeoccurred tors). The utility of the marketoption was assigned a
in the factorloadingsand factorcorrelationswere min- value of zero and the utilitiesof the otheroptionswere
imal (.09, .04, -.005). estimatedandinterpretable with referenceto it. The size
A confirmatoryfactoranalysisalso was conductedon of the variouscoefficientsindicatesthe extentto which
these items. The resultingX2was 142, significantat be- the corresponding variables contribute to the utility of
yond .001. However,the goodness-of-fitindexwas .94, choosing that option beyond their contributionto the utility
all individualt-testsfor factorloadingswere significant, of the market option. Results are reported in Table 3.
andonly two of 55 normalizedresidualswere above .2. The chi square statistic tests the hypothesis that the es-
The discriminantvalidityof the measuresappearsto be timated coefficients, except the constant, are all zero. As
establishedon the basisof the resultsof the commonand
the confirmatoryfactoranalyses.
Control Variables
9Thecorrelationsamong the independentvariables,includingthe
Two controlvariableswere includedin the estimation controlvariables,rangefrom -.08 to .22, indicatingno problemsof
model. One was whetheror not the firmalso sells other multicollinearity.

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TRANSACTION
COSTANALYSIS
MODEL 203

Table 3
ESTIMATION
RESULTSa

Dummy: Dummy: Channel Asset

Option Constant U.S. shared volume specificity Diversity Volatility
A. Comparison with market option
Market 0 0 0 0 0 0 0
Intermediate -.75 .71** .28 3.1* .15 -.10 .03
(-.83) (2.11) (.85) (1.35) (1.12) (-.89) (.29)
Hierarchy- -.78 1.38*** .47* 5.5*** .32*** -.32*** .02
domestic (-.87) (4.05) (1.50) (2.51) (2.34) (-2.98) (.20)
Hierarchy- -3.91*** 1.18*** 1.16*** 6.7*** .24* -.01 .25**
subsidiary (-3.42) (2.87) (3.01) (3.05) (1.46) (-.04) (1.91)
Log likelihood = -426.95
X2 = 84.2
Significance = .0000001
Correctclassificationrate = 43%
Correct by chance = 30%
Tau = .19
N = 346

B. Comparison with intermediate option

Intermediate 0 0 0 0 0 0 0
Hierarchy- -.08 .69** .21 2.4** .16 -.21** -.00
domestic (-.10) (2.12) (.74) (1.90) (1.27) (-2.26) -(.04)
Hierarchy- -3.11*** .52* .86*** 3.6*** .09 .09 .21**
subsidiary (-2.85) (1.30) (2.37) (2.83) (.60) (.68) (1.68)
Log likelihood = -264.4
X2
= 45.0
Significance = .0001
Correctclassificationrate = 52%
Correct by chance = 39%
Tau = .21
N = 270

C. Hierarchy (domestic) compared with hierarchy (subsidiary)

Hierarchy- 0 0 0 0 0 0 0
domestic
Hierarchy- -2.88*** -.07 .65** 1.2** -.08 .29*** .18*
subsidiary (-2.82) (-.19) (1.89) (2.28) (-.60) (2.40) (1.45)
Log likelihood = -105.4
X2 = 23.4
Significance = .006
Correctclassificatonrate = 72%
Correct by chance = 61%
Tau = .29
N = 183

D. Dual channel compared with market

Market 0 0 0 0 0 0 0
Dual channel -3.25*** 1.56*** .08 3.8* .02 .03 .02
(-2.40) (2.80) (. 19) (1.39) (.52) (.47) (.41)
Log likelihood = -55.7
X = 12.3
Significance = .056
Correctclassificatonrate = 72%
Correct by chance = 71%
Tau = .06
N = 105
"Numbersin parenthesesare t-statistics.
*p < .10, one-sidedtest.
**p < .05, one-sidedtest.
***p < .01, one-sidedtest.

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204
is evident from Table 3, this hypothesisis rejectedat
beyondthe .01 level.
The coefficients of channelvolume are positive and
significantin each case, and especiallyhigh for the hi-
erarchicaloptions. These findings indicatethat as vol-
ume of the productline increases,the probabilityof us-
ing a highly integratedchannelincreasesin relationto
the probabilityof using the marketoption. H, is sup-
portedby the results.
H3 predictsthat asset specificityis relatedpositively
to the level of channelintegration.The coefficientsre-
latingto asset specificityin Table 3 supportthis predic-
tion, as they are positive and significanton each hier-
archicaloption.
Mixed supportis foundfor H4and H5on the relation-
ships betweenvolatility, diversity,and channelintegra-
tion. As volatilityincreases,the probabilityof using the
hierarchy-subsidiary option increasesin relationto the
probability using the market option, as expected.
of
However,the volatilitycoefficientis insignificanton the
otherhierarchyoption. As predicted,diversityis related
inverselyto the use of the hierarchy-domestic option,but
it is unrelatedto the hierarchy-subsidiary option.At least
some supportfor opposing externaluncertaintyeffects
is offeredby these results.
The two controlvariablesare relatedsignificantlyto
channel integrationas anticipated.The use of shared
channelsand distributionto the U.S. marketare both
relatedpositivelyto the level of channelintegration.
To ascertainwhetherthe model in partA of Table 3
fits the datawell, we used it to classifythe observations.
A total of 43% of the observationsare classified cor-
rectly. The tau statisticis .19, indicatingthat the 43%
classificationraterepresents19%fewerclassificationer-
rors than would be expectedby chance. However, this
findingmustbe interpretedwith caution,as the datathat
were classified were also used to estimatethe model.
Much of the classificatorypower of the model comes
fromchannelvolumeandthe controlvariables.Overall,
the fit of the model is weak, suggestingthat measure-
mentproblemsare presentand/or otherconstructswith
an importantimpact on channel integrationwere ex-
cluded from the model. Clearly, attemptingto classify
correctlyacrossfour differentoptionsis difficult.
For a morecompleteview of the tradeoffsamongthe
integrationoptions, resultsof a comparisonof the two
hierarchicaloptionswith the intermediateoption as the
base mode arereportedin Table3, partB; exportersus-
ing the market option were withheld from this analysis.
The chi squarestatisticis significantbeyond the .01 level,
with the classificatory power of the model improving
slightly as reflected by the tau statistic. The coefficients
in part B are similar to those in part A, with the excep-
tion that neither of the coefficients for asset specificity
is significant in differentiating intermediate exchanges
from hierarchical exchanges. This finding suggests that
asset specificity may serve only to differentiate ex-
changes at either extreme. Again, environmental vola-
tility is related positively and significantly to use of the
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JOURNAL
OF MARKETING MAY1990
RESEARCH,
hierarchy-subsidiary option, whereasenvironmentaldi-
versityis relatedinverselyandsignificantlyto use of the
hierarchy-domestic option.
In testing H2 and H6, the base mode used is the hi-
erarchy-domestic option, whichis comparedwith the hi-
erarchy-subsidiary option. Resultsare reportedin Table
3, part C. The chi squarestatisticis again significant
beyondthe .01 level and the tau statisticis largerthan
in the precedingtwo tests. As is evident,the probability
of utilizinga foreignsubsidiaryincreasesas channelvol-
ume and volatilityeach increase,providingsupportfor
H2 and H6. Use of a sharedchannelalso facilitatesthe
foreignsubsidiaryoption. Unexpectedly,environmental
diversityhas a significantpositive relationshipto that
option.One interpretation is thatif otherfactorsindicate
the necessityof a hierarchicalexchange,the firmprefers
to be located within a foreign marketwhen faced with
high diversity.
Interestingly,the constanttermfor the hierarchy-sub-
sidiaryoptionis negativeand significantin each partof
Table 3, indicatingthat this option is always least pre-
ferredamongthe channeloptions. This findingis con-
sistentwithwhattransactioncost analysiswouldpredict.
However, it must be interpretedwith caution, as it is
based on the assumptionof a correctlyspecifiedmodel.
If otherimportantconstructswereincludedin the model,
the size, sign, and significanceof the constantcould
change.
On the basis of argumentsand results of Anderson
(1985), the interactionof asset specificity and the two
externaluncertaintydimensionsalso was examinedin
separateanalyses(notreportedhere).The interaction terms
were included first without the main effects of asset
specificity,diversity,and volatility,andthen with those
maineffects. Each solutionwas clearlyinferiorto those
in part A of Table 3, especially the second solution.
Multicollinearity was a problemin each case, leadingto
unstablecoefficients.
Finally,the resultsof the comparisonbetweenthe dual
channelandmarketoptionsarereportedin Table3, part
D. Onlycountrydestinationandchannelvolumeare sig-
nificant. The probabilityof using dual channels in-
creasedwhen the U.S. was the exportcountryand the
channelvolumeof the productline was high. However,
the classificatorypowerof the modelis extremelyweak,
as only two of the 29 dual channelcases are classified
correctly.
DISCUSSION
Our study is the first in which a model based on trans-
action cost analysis has been applied to explain levels of
forward integration within distribution channels in inter-
national markets. The results provide support for some
of the fundamental predictions of transaction cost anal-
ysis.
Asset specificity is shown to differentiate significantly
between the use of market exchanges and hierarchical
exchanges. When specialized knowledge and invest-
 COSTANALYSIS
TRANSACTION MODEL
ments are necessaryto facilitatetransactionsin foreign
countries,the ability of the marketto curb the oppor-
tunistictendenciesof outside intermediariesis limited.
Undersuchconditions,hierarchicalexchangesarelikely
to be preferredbecause opportunismcan be combatted
within the firm throughthe exercise of legitimateau-
thority,the monitoringof behavior,and the offeringof
more varied incentives. Our findings related to asset
specificityareconsistentwith thoseof Anderson(1985),
Andersonand Coughlan(1987), and John and Weitz
(1988), as well as with those from a variety of other
studiesthat have focused on this construct(see Joskow
1988 for a review).
Interestingly,asset specificitydoes not distinguishthe
use of intermediateexchanges from the use of either
marketexchangesor hierarchicalexchanges,suggesting
thatthe need for specializedknowledgeandinvestments
affectschannelchoice only at eitherextreme.Whenonly
one or a few functionsare entrustedto outside inter-
mediariesin foreignmarkets,the firmmaybelieve it can
maintaincontrolof the channeland associatedtransac-
tion costs irrespectiveof the level of asset specificity.
The externaluncertaintypredictionof TCA is sup-
ported by the positive relationshipsbetween environ-
mentalvolatilityand the probabilitythata foreignsales
subsidiarywould be establishedby the firm (see Table
3, A and B). An adaptive,sequentialdecision process
is needed to cope with rapidenvironmentalchangeand
is most likely to be implementedin a highly integrated
channel (John and Weitz 1988; Stinchcombe 1985).
Transactioncosts will be reducedas a result. However,
given thatenvironmentalvolatilityis unrelatedto the hi-
erarchicaloption of servingthe foreign marketdirectly
from home, empiricalsupportfor this effect is mixed.
Results relatingto externaluncertaintyand channelin-
tegrationalso have been mixed in previousresearch.
The results related to asset specificity and environ-
mentalvolatilitysuggestthatthe abilityof the marketto
enforce desiredor contractedbehaviorcannotbe taken
at face value in noncompetitiveinternationalmarkets.
Rather,the degreeof marketfailurepresentin particular
foreignmarketsfor particularproductlines mustbe rec-
ognized and takeninto account.
Strongsupportis found for the impactof production
costs on channelchoice.As channelvolumefor the firm's
productline in the foreign marketincreased,the inte-
grationof the channelincreasedas well. High product
volume is likely to affordeconomiesof scale in acquir-
ing necessary resources and developing management
skills, thereby lowering production costs. Beyond the in-
dividual transaction, a production cost effect also is sug-
gested by the findings associated with the use of shared
channels. The firm is more likely to use an integrated
channel when it can distribute multiple product lines
through the channel because of economies of scale. The
channel volume and shared channel constructs have
stronger relationships with the level of channel integra-
tion in our study than do asset specificity and environ-
mental volatility.
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205
In previousresearchon channel integration,the im-
pactof production costshas beenmixed.Anderson(1985)
found no supportfor productioncost effects, whereas
John and Weitz (1988) found a weak productioncost
effectthatwas dominatedby transaction cost effects. Only
Lilien's (1979) results stronglysupportthe importance
of productioncosts. Ourresultsclearly suggest that the
ideal channelarrangementshould reflect both the vol-
ume of goods involvedand the vulnerabilityof the firm
to opportunisticbehaviorby outside intermediaries.In
otherwords, both the costs of actuallyperformingdis-
tributionfunctionsand the costs involved in governing
the channelshouldbe considered.
In additionto findingsupportfor the impactof trans-
actioncosts andproductioncosts on channelintegration,
we attemptedto extendthe transactioncost analysisper-
spectivein termsof its treatmentof externaluncertainty.
Thetwo dimensionsof externaluncertainty examinedhave
differenteffects on channelintegration.Environmental
volatilityis relatedpositivelyto the hierarchy-subsidiary
option, and environmentaldiversityis relatedinversely
to use of the hierarchy-domestic option.Whenfacedwith
a highly diverse environmentin a foreign market,the
firm may be motivatedto maintaina flexible organiza-
tion and rely on local intermediariesto cope with the
market'scomplexity.These results suggest that an un-
bundlingof the externaluncertaintyconstructis essential
to an understandingof the often opposing desires for
flexibility and efficiency. Such a conclusioncannotbe
drawnwith certainty,however,becauseneitherenviron-
mental dimensionis related significantlyto both hier-
archicaloptions.It is encouragingto note thatempirical
resultsof both Balakrishnanand Wernerfelt(1986) and
Walkerand Weber(1984) supportthe need to examine
differentdimensionsof uncertaintyseparatelywhen ap-
plying TCA.
The internationalcontext of our study enabledus to
comparetwo differenthierarchicaloptions. Production
cost factors are found to be most importantin differ-
entiatingthe use of either option. As channel volume
increases and when shared channels are present, the
probabilityof havinga wholly owned foreignsubsidiary
is found to increase.To offset the fixed costs of estab-
lishingandmaintaining a foreignsubsidiary,greatersales
volumes are necessary.Furthermore,both environmen-
tal volatilityand diversityare relatedsignificantlyand
positively to the subsidiaryoption (in comparisonwith
the hierarchy-domestic option). The volatility effect is
expected, as the establishment of a subsidiary places the
firm in a better position to react and adapt to unforeseen
circumstances in the foreign market. However, the di-
versity effect is unexpected. When other factors indicate
the use of a highly integrated channel, the firm may pre-
fer to establish a local presence in a foreign market when
faced with high external uncertainty, whether it comes
from rapid change or from the presence of a heteroge-
neous group of customers and competitors or both.
The preceding results shed light on the nature of chan-
nel integration in international markets. However, the
206
studyraisesmorequestionsthanit answers.Thoughevi-
dence of opposingexternaluncertaintyeffects is found,
the resultsare somewhatweak. Futureresearchmustex-
aminein greaterdetailhow environmentalvolatilityand
diversity, as well as other dimensionsof externalun-
certainty(e.g., volume uncertainty,technologicalun-
certainty),relateto alternativelevels of channelintegra-
tion in both domesticand foreignmarkets.
Similarto resultsof WalkerandWeber(1984) is our
findingthatproductioncost factorshave a strongerim-
pact than transactioncost factors. However, Anderson
(1985) andJohnandWeitz(1988) foundtransactioncost
factorsto dominate.Additionalresearchis neededto ex-
aminefurtherthe relativeimportanceof productioncost
factorsand transactioncost factorsin affectingchannel
integration.Contingencytheoriesperhapsshouldbe de-
veloped.
Oursis the firstempiricalstudyon channelintegration
to examineintermediateexchanges. Thoughthe ability
of the model to differentiatethese exchangesfrom hi-
erarchicalexchanges is reasonable, intermediateex-
changes are weakly distinguished from market ex-
changes.Futureresearchmustfurtherstudyintermediate
exchangesand build bettermodels to distinguishthem
fromotherformsof exchange.Moreover,we identified
intermediateexchanges on the basis of channel mem-
bers' performanceof the selling function. It would be
interestingto examineintermediateexchangesin which
otherfunctionsare involved. Differentiatingmarketex-
changesfromintermediateexchangeson the basis of the
organizationtheorytraditionof the "closenessof the re-
lationship"also warrantsattention(cf. Dwyer, Schurr,
and Oh 1987).
Countrydestination,whetherthe U.S. or elsewhere,
has a consistentlystrongandpositiveeffect on the level
of integrationin the channel.This findingcould be due
primarilyto the study context, as the establishmentof
integratedchannelsin the U.S. marketby Canadianex-
portersis facilitatedby both geographicalproximityand
culturalsimilarity.Futureresearchmustevaluatewhether
or not this is an isolatedeffect. Empiricalresultsof An-
dersonand Coughlan(1987) suggest otherwise.
Finally,our modeldoes a very poorjob of explaining
the use of dualchannels,thoughpartof the problemmay
be the smallnumberof dualcases examined.Previously,
only John and Weitz (1988) had examinedempirically
the use of dual-multiplechannels.The questionof when
the use of dual-multiplechannelsis appropriateis ex-
tremely important managerially and warrants greater at-
tention in the future.
LIMITATIONS
The transaction cost analysis model and the control
variablesare weak in classifying the export firms in terms
of their channel choices. Imperfect measurement ac-
counts for part of this lack of fit, especially given the
developmental stage of this research area and the fact
that our study pertains to an aspect of internationalmar-
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JOURNAL
OF MARKETING MAY1990
RESEARCH,
keting (cf. Grahamand Gronhaug1989). The measures
of environmentalvolatilityand environmentaldiversity
especially appear to need improvement. Other ap-
proachesto measuringchannelvolume also are needed,
as datawere missingon manyof the sales items used in
our study.
Further,the transactioncost analysis model was es-
timatedon the basis of currentpracticesof the export
firms, whereasthe theoreticalfoundationof TCA is es-
sentially normative.In basing the hypothesistests on
currentpractices,we assumethatinefficientpracticeshave
been selectedout and that some type of equilibriumhas
been reached. Such an assumptionmay not be strictly
true in the case of all export firms, as governmentre-
strictions,contractualcommitments,resourcescarcity,
lack of capableintermediaries,andotherfactorscan lead
to a significantpositive-normativegap. To the extentthat
thereare differencesbetweenwhat firms desire in their
channelarrangements andwhatthey are able to achieve,
the fit of the TCA model would be lessened.
Anotherpossibleexplanationfor the low classificatory
powerof the model is that the transactioncost analysis
modelwe testedis incomplete.Severalresearchershave
commentedon the limited scope of TCA (cf. Harrigan
1983; Heide and John 1988). The literatureon foreign
marketentrysuggeststhatfactorsrelatedto politicaland
economic risks influencechannelintegration(Cavusgil
1980;Keegan 1984;Root 1987). Otherexplanationsfor
vertical integrationhave been proposed,includingthe
productcharacteristic(Aspinwall 1958), marketchar-
acteristic(Bucklin 1966), resourcedependence(Pfeffer
andSalancik1978),politicaleconomy(DwyerandWelsh
1985; Sternand Reve 1980), strategicpurposes(Harri-
gan 1983;Porter1985), andentry-deterring (Stigler1951)
frameworks.Severalof these frameworksare non-effi-
ciency-based.
Futureresearchmust addressthese limitations.An in-
tegrationof alternativeperspectiveson forwardintegra-
tion would be especially welcome. The importanceof
such an integrationis suggestedby our study, in which
organizationtheoryis used to explainthe environmental
diversityeffect on channelintegration.
CONCLUSION
We developed and applieda model based on trans-
action cost analysis, includingproductioncost indica-
tors, to explainlevels of forwardintegrationwithindis-
tributionchannels in foreign markets. Four different
integration choices-market exchange, intermediate ex-
change, and two forms of hierarchical exchange-were
examined. Based on data collected from a group of Ca-
nadian export firms, the results provide support for the
transaction cost model.
The most original findings of the study relate to two
dimensions of external uncertainty. Environmental vol-
atility and environmental diversity are shown to have
differential effects on the level of integration in distri-
bution channels in foreign markets, suggesting that the
 COSTANALYSIS
TRANSACTION MODEL
TCA model must deepen its treatment of the external
uncertainty construct.
Though most empirical research in the channels lit-
eraturehas centeredon the managementof ongoing dyadic
channel relationships, a recent stream of research has fo-
cused on the nature of the firm's channel integration
choices. In our study this focus is shifted to an inter-
national context, which we hope will stimulate addi-
tional research on channel integration in the future.
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