The Effects of Inter-Firm Cost Correlation, IT Investment, and Product Cost Accuracy on Production Decisions and Firm Profitability

Abstract

Using analytical and simulation techniques, we investigate the effect of inter-firm cost correlation, IT investment, and product cost accuracy on production decisions, and ultimately firm profitability in an imperfectly competitive market. Along with an unprecedented growth in investments in information technology (IT) over the last two decades, firms have made significant investments in IT to increase product cost accuracy. Yet, a variety of studies present mixed evidence as to the linkage between IT investment, product cost accuracy, and organizational performance. Further, while previous research has shown that IT may contribute to the improvement of organizational performance, contextual factors are important. We reexamine this issue in an imperfectly competitive market and product cost setting. We assert that knowledge of inter-firm cost correlation may be used to reduce the IT investment needed to achieve product cost accuracy and thereby optimize production and ultimately firm profit. To motivate our hypotheses, we develop and analyze an analytical model which incorporates IT investment, a costly, endogenous, imprecise product cost report, and inter-firm cost correlation. Using simulation techniques, we illustrate that production decisions informed by inter-firm cost correlation require less IT investment and result in higher firm profitability. Our emphasis on the initial design of product costing systems and the related IT requirements definition phase suggest that our result could be helpful to firm managers in establishing the optimal levels of IT investment and product cost accuracy in their specific product market setting.

An econometric approach on production, costs and profit in Romanian coal mining enterprises

“…Kecojevic and Grayson (2008) analyse U.S. coal reserves and coal industry from a historical perspective, with a particular emphasis on the number of mines, total output, productivity, staff, safety and environmental records. Callahan, Gabriel, and Smith (2009) apply analytical and simulation techniques in order to investigate to what degree production decisions and firm profitability are influenced by inter-firm cost correlation, investment and accuracy of product cost in an imperfect competitive market. To substantiate research hypotheses, they propose an analytical model that takes into account I.T.…”

The Impact of Information Technology Investments on Firm Performance in National and Multinational Companies

“…The long term survival of firms is closely related to their ability to successfully managed information technologies (IT) in today's harsh and rapidly changing business environment. IT is the fastest growing sector in the economy, with 68 percent increase in output growth rate projected between 2002 and 2012 (Callahan, Gabriel and Smith, 2009). And corporations have invested billions of dollars in information technology (IT) over the last 20 years (Ta Byrd, Te Marshall;1997).…”