Transaction Costs: the Template for all Lifecycles

What if there was a consistent underlying pattern in all Lifecycles that could be used to understand and navigate each Lifecycle better, whilst also achieving synergy between them? There is, and it’s called Transaction Costs.

The notion of Lifecycles in business is well-established.

For example, contract lifecycle management (CLM) seeks to provide a proactively navigable process of contract stages from initiation through to termination (or renewal); product lifecycle management (PLM) looks at how e.g. marketing and sales strategies need to adapt as a product is created and then ages; the technology adoption lifecycle (TALC) describes the progressive uptake of innovations and their eventual obsolescence.

And so on.

In all Lifecycle models, the ultimate aim is map a development process over time to maximise the impact and efficiency of resource use through:

  • A consistent and repeatable approach.
  • Preparing for, and responding appropriately to, predictable and knowable broad changes.

And it’s true: if you can successfully understand, define and then operate according to a Lifecycle, efficiency and impact can be greatly increased.

But what if you could go beyond just “a” – one single – Lifecycle?

What if there was a consistent underlying pattern in all Lifecycles that could be used to understand and navigate each Lifecycle better, whilst also achieving synergy between them?

And what if that pattern was already known, informs a general approach that you could start applying today, and has already been validated in action?

That pattern is Transaction Costs, it is fundamental to our general Value Management approach, and we have understood and applied it for over 30 years.

Transaction Costs and “The Firm”

The concept of Transaction Costs is a fundamental aspect of economic theory and it also helps to understand the purpose and nature of organisations.

[The concept was first introduced by Ronald Coase – even if he didn’t necessarily use the term until later – but, for many today, it is familiar primarily through the work of Oliver E. Williamson.]

The foundational idea is that every business interaction – or “transaction” (or “exchange” to use the term preferred in economic theory) – incurs a varying profile of six types of activity, which maps out a generic “lifecycle” of that interaction:

  1. SEARCH: uncovering potential sources of Value (which can include eliminating waste), and capturing material about it
  2. INFORMATION / NORMALISE: gathering the captured information – into a common structure, where possible – to set out the alternative options in a consistent format that allows for comparisons and evaluations to be explored
  3. REVIEW / NEGOTIATE: going through these options to identify differences that make a difference and “negotiating” the implications of any gaps or misalignments (between parties and/or between requirements), to create viable options to be chosen from
  4. DECIDE / APPROVE: evaluating the viable options based on comparative impact analysis with respect to what has to be achieved, and using the experience of those making the decision to choose an option
  5. IMPLEMENT / MONITOR: enact the chosen option, continuously reviewing its performance what is to be achieved, and agreeing (and implementing) changes where appropriate
  6. REMEDY / ENFORCE: identify and escalate issues and problems, securing remedies for performance gaps that have not been addressed

Each of these “transaction” activities has attendant costs – hence “Transaction Costs” – and competitive advantage can be achieved by being able to reduce these costs.  

Coase’s particular insight was that “the firm” – or organisation – exists for precisely this purpose, where individuals come together to pool (often disparate) resources and expertise to more efficiently carry out these transactions.

It is no accident that proactive contracting through Contract Lifecycle Management can trace its roots back to here, given how the contract lifeycle is particularly closely aligned to the “lifecycle” and terminology of the Transaction Costs.

The Underlying Template 

But this is only one “instance” and the applicability is far wider, as all activity relates to this Transaction Cost structure.

The “profile” of Transaction Costs of course varies by activity, e.g.:

  • A simple commodity purchase may only really involve 1. SEARCH and 4. DECIDE / APPROVE.
  • An audit might focus almost exclusively on 5. IMPLEMENT / MONITOR and 6. REMEDY / ENFORCE.
  • Establishing a strategic alliance will involve all of them, but perhaps especially 3. REVIEW / NEGOTIATE and 4. DECIDE / APPROVE.

And those costs most important to any organisation will also vary – across industry, geography and over time – and this will be true both within each activity the organisation is involved in, and across the totality of its activities: hence why each organisation is different.

In some lifecycles, the costs are considered from the producer’s perspective (e.g. the product lifecycle); in others from the consumer’s (e.g. the technology adoption lifecycle).

But the underlying Transaction Cost framework nevertheless remains consistent as a template.

For example, with product lifecycle management, when considering what the “producer” needs to do:

  • In the early phase of a product’s lifecycle, it’s about collapsing potential consumers’ 1. SEARCH and 2. INFORMATION / NORMALISE costs.
  • When that product is mainstream, it’s about collapsing their 3. REVIEW / NEGOTIATE and 4. DECIDE / APPROVE costs.
  • When mature, it’s about maintaining performance excellence through 5. IMPLEMENT / MONITOR and 6. REMEDY / ENFORCE.

Switching to the “consumer” perspective with e.g. the technology adoption lifecycle:

  • Early adopters are willing to incur 1. SEARCH and 2. INFORMATION / NORMALISE costs in looking for competitive advantage.
  • When a majority adopts the innovation, it is because 3. REVIEW / NEGOTIATE and 4. DECIDE / APPROVE costs have been greatly reduced.
  • Those late to the party expect “safety” because effort is being placed into 5. IMPLEMENT / MONITOR and 6. REMEDY / ENFORCE.

And so, whilst Lifecycle methodologies seek to “map” and – where possible – address costs in their own particular domain, they do so typically unaware that there is a deeper underlying structure.

Because Transaction Costs provide this underlying structure – expressed at the most generic level possible – understanding them, and how to address them, is the key to unlocking effectiveness on a far greater scale, across Lifecycles and initiatives.

Value Management: Targeting Transaction Costs

Is is therefore no accident that Value Management consciously incorporates all of the Transaction Costs, whilst also allowing for completely different “profiles” of engagement as appropriate to the profile of costs that need to be addressed.

Note how six of our Value Modes – distinct focuses, or mindsets, that clarify how Value is conceived of and looked at – map seamlessly to the Transaction Costs:

  1. SEARCH: Value Mode 1: Explore What Matters by surfacing the Things That Matter to Value
  2. INFORMATION / NORMALISE: Value Mode 2: Communicate What Matters in a consistent format as the Things That Matter and as Value Codes.
  3. REVIEW / NEGOTIATE: Value Mode 3: Check Current Capacity by gauging the viability of attending to the identified Things That Matter and considering trade-offs
  4. DECIDE / APPROVE: Value Mode 4: Evaluate / Improve the Means to Deliver by deciding what needs to be put in place to realise Value
  5. IMPLEMENT / MONITOR: Value Mode 5: Audit to Verify Conformance to ensure that what is required is being proprerly implemented
  6. REMEDY / ENFORCE: Value Mode 6: Evaluate / Improve Actual Performance by continuously evaluating current state and the distance to desired state, and taking action to close the gaps

In other words, each of these Value Modes seeks to primarily address a specific Transaction Cost.

(Our other three modes provide the wider context for all of the initiatives the organisation is engaged with.)

Then note that our concept of Value Journeys allows for different starting points and routes through the Value Modes – or Transaction Cost focuses – to reflect the unique nature of each initiative and, ultimately, each organisation.

And finally note that the ARC Diagnostics that underpin all of these Value Modes then do the “heavy lifting” of reducing – even eliminating – the associated Transaction Costs:

  • By targeting each cost in an appropriate way (where the scale and nature of engagement, the type of content and the nature of management reporting all vary by Value Mode).
  • By collapsing the Transaction Costs involved in the diagnostic process through instant engagement at scale, standardisation of information gathering, immediate analysis that supports decision-making, and immediate repeatability to monitor change over time.

This is the continuation and culmination of all our work over the last 30+ years.

Looking Back and Looking Forward

The extent to which Transaction Cost understanding is embedded in our approach becomes obvious when we look back to our work from 1996 to 1998 to help the London Stock Exchange automate the UK Listings process.

One of our earliest major projects (which won a major award at the time), we were called in when a major consulting firm was failing to deliver, and because we understood – and knew what to do about – the underlying Transaction Cost issues.

From very early on, it was clear that these issues were the root challenge.

How did we know?,

Because the Listings Department had organically structured itself into three functions, each of which had two roles, with the result being six activities that mapped neatly to the Transaction Costs:

  • Direction and Clarification (D&C) > Search and Information / Normalise
  • Review and Approve (R&A) > Review / Negotiate and Decide / Approve
  • Monitor and Enforce (M&E) > Implement / Monitor and Remedy / Enforce

Nobody “designed” the structure of the Listings Department upfront, and so its emergence around the Transaction Costs only confirmed their validity as a fundamental pattern.

But, of course, by implementing a vertical structure, the transitions between these activities were fragmented across organisational roles – hence costly gaps and duplication.

Our task was to collapse those boundaries as far as possible, whilst also preserving the “rule-following” and discipline that sustained the value and attractiveness of the LSE ‘brand’.

Even at this early stage in our history then, we were not only focused on Transaction Costs, but also encountering the flip side of Coase’s theory of “The Firm”, which is that – at some point – the structures that emerge become a source of greater Transaction Costs than those that they initially eliminated.

And the story of the nearly 30 years since has been seeing just how far and fast that balance has tipped, making traditional organisational structures not just sub-optimal but counter-productive – utterly unable to keep pace with the rate of change and the shifts in Transaction Costs that come with it.

So, as we look forward, our Value Management approach retains the unchanging structure of Transaction Costs – the template for all Lifecycles – but makes it possible for the organisation to adopt the entirely new structures needed and transform how it operates in response.

What about you, though?

Will you continue to limit yourself to one particular Lifecycle that caters for just one aspect of what’s facing you?  Contract lifecycle management?  Product lifecycle management?  etc?

Or are you ready to embrace Value Management as the only approach that gets under the surface to truly work across all Lifecycles?