Relational exchange arrangements supported by trust are commonly viewed as substitutes for complex contracts in interorganizational exchanges. Many argue that formal contracts actually undermine trust and thereby encourage the opportunistic behavior they are designed to discourage. In this paper, we develop and test an alternative perspective: that formal contracts and relational governance function as complements. Using data from a sample of information service exchanges, we find empirical support for this proposition of complementarity. Managers appear to couple their increasingly customized contracts with high levels of relational governance (and vice versa). Moreover, this interdependence underlies their ability to generate improvements in exchange performance. Our results concerning the determinants of these governance choices show their distinct origins, which further augments their complementarity in practice. Copyright © 2002 John Wiley & Sons, Ltd.

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I n this paper we develop a knowledge-based theory of the firm. While existing knowledge-based theory focuses on the efficiency of hierarchy in economizing on knowledge exchange, we develop a theory of the firm that focuses on the efficiency of alternative organizational forms in generating knowledge or capability. Our theory begins with the problem as the basic unit of analysis, arguing that a problem's complexity influences the optimal method of solution search and the optimal means of organizing that search. The distinguishing feature that differentiates among organizational alternatives is the different way each resolves conflict over the selection of solution trials, that is, the way it chooses the path of search. Our theory predicts that efficiency demands that these governance alternatives be matched in a discriminating way to problems based on their associated benefits and costs in governing solution search. Thus, our theory is among the first to simultaneously treat both the boundary choice (i.e., internal versus external) and the choice among alternative internal approaches to organizing.

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