The organization of human capital-intensive activity: When does it pay to separate ownership from labor

The organization of human capital-intensive activity poses a unique challenge because much of the assets employed are not proprietary to the firm. This often necessitates the unison of ownership and labor with the same set of individuals - manifest in the partnership form of organization. However, empirical observation reveals that human capital-intensive activity is often organized as non-partnerships and organization form choices do not always explain the surplus accruing to the owner. In an effort to address this puzzle, we ask, what are the conditions under which the separation of ownership from labor limits the “grab and leave” propensity of human capital? Our theory builds on the simple idea that the separation of ownership from labor helps the firm owner only if the human capital-intensive activity is team-specific. Increasing the team-specificity of an individual’s skill or contribution simultaneously reduces both the “grab” and the “leave” options of human capital. We argue that building team-specificity takes time especially where tacit knowledge and communication is involved. We identify three important levers for managing this tacit knowledge creation and transmission process – recruitment of human capital, stability of human capital, and the nature of incentives. Using data on National Basketball Association teams from 1991-2005, we first estimate a player wage equation and show that the greater the team-specificity, the lower the wages that accrue to a player. We then estimate a team-specificity equation and show that the recruitment of team-oriented players and greater team stability increases team-specificity whereas short term incentives undermine it. We discuss the implications of our theory and results for the organization of human capital-intensive activity in a variety of settings such as consulting firms, law firms, investment banks, and universities.

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