Kogod Now - Fall 2014 Issue

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THE AMERICAN UNIVERSITY KOGOD SCHOOL OF BUSINESS THE AMERICAN UNIVERSITY KOGOD SCHOOL OF BUSINESS | FALL| FALL 2014 2014

OFF THE BOOKS

FROM THE DEAN Washington, DC, is a city of public intellectuals. Academic researchers, policymakers, business thought leaders, and nonprofit experts come together in the capital to discuss and debate change—and to act on it. Action is the ultimate culmination of this work: At the end of the day, academic discourse should result in changes to business practices.

THE RESEARCH MEETS PRACTICE ISSUE 1 FROM THE DEAN 2 RISE OF THE MACHINES 4 CAN DOMESTIC FIRMS TAKE A LESSON FROM THE JAPANESE? 6 USING ANALYTICS TO DIAGNOSE CANCER

COVER STORY 10 Off the Books 18 WHAT EMPLOYEES REALLY NEED TO DELIVER CREATIVITY

22 “UP TO” CLAIMS NOT UP TO PAR 24 IT’S A FAKE! WHO CARES? COUNTERFEITS AND CONSUMER BEHAVIOR 26 A MATTER OF TRUST: NEGOTIATION TACTICS FROM A SOCIAL CAPITAL STANDPOINT 30 KOGOD STANDOUT Only Dreamers Need Apply 32 THE CUBAN CITIZEN-CONSUMER DIVIDE 34 REDEFINING PRISON LABOR 36 HOW SUPPORT NETWORKS ENABLE FIRMS TO WEATHER NATURAL DISASTER

Comparing and contrasting global business decisions is a concern of Associate Professor Parthiban David, a corporate governance scholar who studies cross-cultural management. David examines Japanese and American firms’ disparities in R&D financing following changes in quarter-to-quarter earnings. At the root of his findings is a difference in the corporations’ perceptions of how to manage stakeholder relationships.

Relationships also affect many business and consumer decisions. The unique culture in Cuba enticed Associate Professor Sonya Grier to study consumerism in an isolated country that has been largely unexposed to it. Eastern versus Western consumer relationships with brands are at the heart of Assistant Professor Nelson Amaral’s study of counterfeit goods.

Our faculty’s research is also affecting health care diagnostics, algorithmic calculations in stock trading, and consumer advertising claims while they are working with leaders at the University of Maryland Medical System, the Federal Trade Commission, and the NASDAQ. Business in the capital city extends beyond the workings of government to the variable and growing businesses that comprise metropolitan Washington, DC. It’s a young, thriving city, full of entrepreneurs and established firms from aerospace to biotech to hospitality.

Possibilities in DC exist face-to-face but are also multiplying through digital interactions on emerging platforms. This is where our industry, as education leaders, is increasingly focused. With support from faculty leaders at AU, and building on the success of our hybrid Professional MBA, we anticipate the launch of Kogod’s first onlineonly graduate degree as we celebrate our school’s 60 th anniversary.

During those six decades, the Who, What, and Where of education has changed. But the Why remains.

Business in the capital is as exhilarating as ever.

LETTER BY ERRAN CARMEL, INTERIM DEAN, KOGOD SCHOOL OF BUSINESS

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KOGOD TAX CENTER 20 Tax-Efficient Ways to Maintain a Well-Educated Workforce

As those who have endeavored to innovate know, change is disruptive by nature. Our global history is littered with stories of successes that were begot by disruption: mass production in manufacturing, and the jump from analog to digital. The academic discipline that perhaps knows this best is entrepreneurship, an area of study that naturally bridges the business silos. At Kogod, we are innovating in the entrepreneurship space through our Sustainable Entrepreneurship and Innovation Initiative, created this year.

An expert in entrepreneurship, Professor Stevan Holmberg leads this initiative that features a campusbased incubator, the first of its kind at American University. It is a space where student teams evolve their products and services through the guidance of Holmberg, and colleagues Tommy White and Bill Bellows, executives-in-residence and entrepreneurs themselves. Early stage seed funding will enhance the experience and help move ventures closer to launch. The mentorship experience is available to all AU students, regardless of area of study.

This interdisciplinary necessity extends across other disciplines at the university. Changes to general accounting principles have drawn faculty in the accounting and finance departments, who are coming at it from different angles. This imminent issue will soon affect practitioners in both industry sectors. The looming change will fundamentally shift how firms must reflect their capital on their balance sheets and the way that financiers analyze that value. It is an under-examined but critical topic affecting businesses from coast to coast and potentially around the globe.

Faculty research impacts global business investments through the work of Associate Professor Jennifer Oetzel, who uses GIS mapping software to track multinational firms’ expansion in Chinese provinces following natural disasters. She found these epic and expensive risks are still not a deterrent to business’ interest in expansion in China’s massive economy.

RISE OF THE MACHINES There’s a scene in The Bonfire of the Vanities that captures how most of us see the world of Wall Street. Sherman McCoy, the lead in Tom Wolfe’s classic novel of 80’s-era excess, is walking onto the bond floor of Pierce & Pierce.

He turned a corner into “an oppressive space with a ferocious glare, writhing silhouettes, and the roar.”

That flow of information is particularly important when time is measured in nanoseconds, and the numbers of transactions are so high a penny can translate into millions of dollars later.

“These are firms that buy and [sell] almost instantaneously. They don’t hold positions overnight,” said Christopher Singleton, managing director at Kanawha Capital Management, LLC, a wealth management firm in Richmond, VA. “Potentially, [high-frequency trading] can add to the volume of trading, but it certainly adds to the volatility.”

The caveat with the study, Harris said, is that the data is from 2003—which means those 15-second intervals and a simple assessment of message traffic are remnants of the past. While NASDAQ systems handled most all trades in 2003, trades today might be executed on more than a dozen systems, and at much faster speeds.

“One of [the] things we liked about the data we had is that it was a consolidated book, where NASDAQ did most of the trading in these stocks,” he said. “A high-frequency trader would now be looking at [information coming in] in seconds or milliseconds to figure the same things out.”

Today, a similar assessment would require looking at messaging from about 20 dark pools and about 17 decentralized exchanges, he said.

“It’s a much more complicated exercise now, and a much faster exercise,” Harris said. “What we wanted to do is see if we could demonstrate some ability to make this prediction.”

This isn’t the first time Harris, former chief economist at the U.S. Commodity Futures Trading Commission (CFTC,) has written about electronic trading.

In the mid-1990s, his examination of collusive activity among market traders led to a major restructuring of the NASDAQ. This ability to project his research into urgent market situations continued. In 2005, Harris presented his research on electronic trading to the CFTC just as futures trading pits were giving way to electronic trading.

Harris says in recent years there has been an acceleration in technology applications within the financial industry, which has helped create a market where about 6 billion shares are being traded daily on U.S. exchanges.

“Ultimately, yelling across the floor is an outdated mode of communication in these markets,” Harris said.

“The Sound of Silence,” Jeffrey Harris and Mohsen Saad, was published in Financial Review in 2014.

ARTICLE BY LOUIS LLOVIO

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“It was the sound of well-educated young white men baying for money on the bond market,” he wrote.

Other than in isolated pockets, that trading floor is gone. It’s been replaced by a world where algorithms analyze markets, place orders based on market conditions, and control billions worth of transactions completed faster than we can blink.

This setup has radically changed how people in the industry communicate, according to Jeffrey Harris, Gary D. Cohn Goldman Sachs Chair in Finance. Harris and co-author Mohsen Saad of the University of Sharjah recently explored how high-frequency traders harness information from electronic messages.

They studied whether such traders could accurately forecast short-term market conditions using state-of-the-art electronic trading methods in lieu of the face-to-face atmosphere of the floor. High frequency trading accounted for 73 percent of all trades taking place, the former head of NASDAQ said in 2011, according to Investopedia.

Their idea was to find out whether “someone, from looking at the order flow or the activity in a market place—without being face-to-face or learning anything about the person—can figure out anything about future market conditions based on what’s happening now,” Harris said.

“The bottom line of the paper is that it shows that you can, in fact, do that,” he said. “Without getting inside information, you can actually glean [information] from how people are trading or cancelling or sending orders to the market… [and] make some assessment of what market conditions will be.”

Harris and Saad studied message traffic, orders, and cancellations run through NASDAQ’s order management systems. They based their study on NASDAQ data coming in at lightning-quick 15-second intervals during a one-month period.

Having the ability to make informed decisions in a split second quickly helps alleviate some of the inherent risks associated in the financial markets.

Harris cautioned that the study makes a connection between message traffic and future conditions, but it did not test whether a trading strategy could be implemented to take advantage of electronic messaging.

“We document evidence that message traffic at, and nearby, the inside quotes predicts upcoming price and quoted depth changes as much as 75 seconds in advance,” they wrote.

Knowing how information can be processed is critical in an industry where buyers and sellers are constantly finding out what direction markets or individual stocks are headed.

CAN DOMESTIC FIRMS TAKE A LESSON FROM THE JAPANESE?

Today’s business interactions, from happy hour networking to LinkedIn lists, often thrive on a deceptively simple philosophy: It’s all about relationships. Yet the sentiment takes on a slightly different flavor depending on who’s talking.

ARTICLE BY AMY BURROUGHS

Some interpret the maxim to mean the quickest path to success is knowing the right people. Others take the neighborly view that most prefer doing business with familiar people. In either case, the upshot is a desire to cultivate relationships and even believe something more valuable and humanistic is at stake than a business-at-all-costs mentality.

Associate Professor Parthiban David said that when it comes to relationships, US businesses have nothing on Japan.

“Relationships are important anywhere, but clearly the commitment to relationships is very different in Japan versus here,” he said. “[In the US] relationships are very important until they’re not, whereas there, relationships are going to go the extra mile.”

David stressed that neither arrangement is necessarily better, but a research project he conducted leaves no doubt that the two marketplaces are different, particularly in their decisions about R&D.

• Japanese firms have more interconnected business ties. For example, the owners who hold the bulk of equity in Japanese firms often are also customers or suppliers; and • US firms typically hold debt through publicly traded bonds, whereas Japanese firms’ debts are often with banks—banks with whom they share other ties.

David and his co-author, Jon O’Brien of Rensselaer Polytechnical Institute, refrained from painting either society too broadly. Significant variation exists among Japanese firms. Even among US companies, David pointed out, family-owned businesses often have more in common with the communitarian model.

Especially in the past two decades, Japan’s marketplace has experienced a clash of cultures.

US and UK financial institutions brought a “transactional” approach that is more contractarian. More traditional Japanese firms have “relational” owners who continue to reflect the communitarian model.

Such shifts have created tension between the shareholder model espoused in the US and the stakeholder model seen in Japan, David said. “US and foreign owners just want a return on their investment,” David said. “If things don’t work out, they sell them.

For the domestic owners, it’s different. That longterm engagement is economically important to them.”

THE R&D CYCLE David examined how these outlook differences influenced R&D strategy. The guiding principle is that

SELFLESS OR SELF INTEREST? David analyzed four hypotheses about variations in R&D spending among communitarian firms/ relational owners and contractarian firms/transactional owners. His data set consisted of 18,283 entries from 2,123 firms in the Pacific-Basin Capital Markets Database and the Nikkei NEEDS Database over 12 years.

The results confirmed all but one of his hypotheses (with a performance shortfall, R&D investment does not appear to increase more in firms with relational owners than those with transactional owners).

David did find that when performance rebounds,

“SOMETIMES THE IMMEDIATE REACTION IS TO SAY THE JAPANESE ARE JUST MORE TRUSTING OF EACH OTHER. IT’S MORE THAN THAT. IT’S ALSO ‘TRUST, BUT VERIFY.’ ” ASSOCIATE PROFESSOR PARTHIBAN DAVID

transactional owners cut back on R&D more than twice as strongly as relational owners. Overall, communitarian-oriented relational owners supported high levels of R&D at all levels of performance.

The study marks an important contribution to research in firm behavioral theory because it examines cultural differences. Historically, most research assumes a universal model. This may be especially important in transitional economies, where firm owners bring a different philosophy to the table than firm managers—a distinction noted by the researchers.

David pointed out that the Japanese model is not as purely altruistic as it may appear; the communitarian approach simply reflects a more extensive set of interconnected relationships. “This multiplicity of relationships is what binds us together,” David said. “Sometimes the immediate reaction is to say the Japanese are just more trusting of each other. It’s more than that. It’s also ‘Trust, but verify.’ ” Beyond that, he said, Japanese firms are just as dedicated to their economic self-interest as American firms, with a twist—recognition that “By working together, we all do better.”

That might be a philosophy worthy of a happy hour chat.

"Reciprocity and R&D Search: Applying the Behavioral Theory of the Firm to a Communitarian Context," Parthiban David and Jon O'Brien, was published in the Strategic Management Journal in 2014.

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CONTRACT OR COMMUNITY? Compared to Japanese managers, who tend to take a “communitarian” approach, American managers tend to be “contractarian.” The difference lies is in the way each group perceives the nature of relationships—the loyalties and obligations they confer.

In a “contractarian” setting, business rests on contractual, arm’s-length obligations. When terms are satisfied, the obligation ends.

By contrast, “communitarian” cultures such as Japan share close connections and a belief in give-and-take; a firm’s stakeholders are wrapped in social and cultural ties.

These philosophical contrasts yield the following practical distinctions:

• Japanese companies tend to have closer, longer relationships with a small group of core suppliers;

companies invest in R&D to fix subpar performance.

Once they solve the performance problem, they pull back on R&D spending.

Japanese companies also increase R&D activity when performance falls below expectations. But David postulated that once they achieved a turnaround, they would not stop investing in R&D—they would continue.

“The argument we’re making…is that for the Japanese, when performance exceeds aspiration, a different mindset sets in,” he said. “It’s ‘We’re doing so well now, maybe we should invest more because we need to pay our stakeholders forward.’”

What’s more, additional R&D investment can fuel firm growth, which helps everybody flourish. Those stakeholders include employees who gain jobs; partners who receive contracts, buyers, and suppliers; and banks with whom the firm does business.

Interestingly, the norms of reciprocity—by definition—are also at work when Japanese firms do not perform well. As David explained in the paper, “The norm of reciprocity spurs [stakeholders] to rally around the troubled firm: lenders provide funds on generous terms; employees may accept short-term wage adjustments; and long-term suppliers and customers are more willing to make quantity and price adjustments to assist the firm.”

Pragmatism, more than goodwill, motivates this support. “These concessions should help the firm fund the search for solutions,” David wrote.

USING ANALYTICS TO DIAGNOSE CANCER

In 2014, approximately 233,000 new cases of prostate cancer will be diagnosed in the United States, and about 29,480 men will die of the disease, according to the American Cancer Society. Even with such overwhelming numbers, most men face their annual prostate exam with trepidation. health care problems,” he said. “Lots of people in my profession are starting to focus on health care analytics.”

ENTER THE MRI A non-invasive imaging technique, the MRI uses magnetic fields and radio waves to generate images of organs and structures in the body. While it is being used in some prostate evaluations, it has not yet become common practice.

Wasil thinks their research models may help clinicians. “There are researchers working on trying make the determination of a prostate [being] cancerous using MRIs, and our technique would help them.”

The research team set out to test whether MRI screening is more accurate than a biopsy. They worked with a radiologist to assess 223 slices of biopsied, cancerous prostates from 28 patients using an MRI. The team used the resulting data to build a logistical regression model. This first model performed with 65 percent accuracy—relatively the same as the existing PSA test.

Next, they used a classification technique called the “nearest neighbor” method, where they tried to find other cancerous slices that were closest in proximity and similar to a particular slice (resulting in 77 percent accuracy).

Their third and final model was a combination of the logistical regression and nearest neighbor

ARTICLE BY REBECCA KERN

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Unfortunately, not only is prostate cancer’s prevalence spreading, but it’s also hard to diagnose.

Professor Edward Wasil and his colleagues are trying to alleviate the anxiety that comes with the prostate check up by applying health care analytics and mathematical models to diagnose the disease using a minimally-invasive method.

A doctor currently has three options to search for prostate cancer: a prostate specific antigen (PSA) blood test, a digital rectal exam, and a trans-rectal extended biopsy.

The latter two options are unpleasant for the patient, and all three have drawbacks. While the biopsy is more accurate, it is highly invasive and expensive. And the PSA test, which came under scrutiny from the US Preventative Services Task Force (USPSTF) recently, has a high false-positive rate and can be inaccurate. The digital rectal exam suffers from high false-positive and negative rates.

Wasil, a faculty member in the Information Technology department, partnered with researchers from the University of Maryland to test the accuracy of diagnosing prostate cancer using a fourth method— magnetic resonance imaging (MRI).

Their work is part of the new world of health care analytics—a buzzword that packs a mathematical punch. It involves using and analyzing data to drive down health care costs and improve quality of care.

“The focus for my research is to show from an academic’s point of view that we can take techniques that we know and apply them to important

Z = 1.2 (750 - X) X=Y Z = 1.2 (750 - X) X=Y

“IF YOU COULD REDUCE THE NUMBER OF BIOPSIES BY USING MRIs, THAT WOULD LEAD TO HUGE SAVINGS, NOT ONLY IN TERMS OF COSTS, BUT IN TERMS OF PAIN.” PROFESSOR EDWARD WASIL

< Z < 250, 8 < Y < 575 models, which performed with the highest accuracy of 79 percent in detecting cancer. All three models used the same data of cancerous prostates, provided by the University of Maryland Medical System.

NEXT AREAS OF RESEARCH Wasil said in the past five years, the field of operations research has been working more on health care analytics.

So, in a separate endeavor, Wasil and other colleagues are working on a paper assessing how different applications, studies and operations research tools—like statistical methods and optimization methods—apply to prostate cancer research.

“We want to give researchers a sense of what kinds of problems have been looked at—where there have been success stories, where tools have

been useful, and give a nice background as to how each of these tools have been used,” he explained.

They’ve done a synopsis of 40 articles so far that were published since 2000 and plan to send the paper out for review in a journal.

“As you can imagine, there are lots of studies published in both the academic literature and medical literature,” he said.

He said they want to get published in a mainstream academic journal that focuses on quantitative modeling.

FIELDS MERGE Wasil said while their three models for prostate cancer diagnosis through MRI may not transfer to other types of cancer research, the use of logistical regression and nearest neighbor models are commonly used throughout health care analytics.

“Hospitals are beginning to see that health care analytics is an important area that they have to work on,” he said. “In many cases they don’t have expertise in house, and they have to work with outside experts to help solve these important problems.”

So as health care analytics grows and more people are covered under the Affordable Care Act, operations researchers will be kept busy in the years ahead, predicted Wasil.

“My sense is that operations research-based models will continue to be used in ever-increasing numbers by health care professionals,” he said.

"Predicting Prostate Cancer Risk Using Magnetic Resonance Imaging Data," David Anderson, Bruce Golden, Edward Wasil and Hao Zhang, was published online in the Information Systems and e-Business Management journal in February 2014.

Prostate-specific antigen (PSA) is a protein produced only by the prostate. In healthy men, small amounts of PSA in the blood are normal, while elevated levels can indicate the presence of cancer. In the past, a blood PSA test was used as a pre-screening for prostate cancer, but in recent years the accuracy of these tests has come under scrutiny.

Doctors screen a blood sample to determine the level of PSA in the blood.

• Four nanograms of PSA per milliliter of blood are considered normal. Anything more than that amount could indicate cancer.

• About 15 percent of patients with normal or low PSA levels are false negatives—meaning they do have cancer.

• About 75 percent of patients with elevated PSA levels are false positives—meaning they do not have cancer.

In 2011 the US Preventive Services Task Force recommended against using a PSA screening to detect prostate cancer.

Other Factors Linked to HIGH PSA Levels • Age: PSA levels naturally increase as men age • Cycling: Some studies indicate regular bicycling can increase PSA levels • Enlarged prostate due to older age • Bacterial infection • Male hormone replacement therapy Other Factors Linked to LOW PSA Levels • Obesity • Use of herbal supplements • Use of statins, cholesterol-lowering prescription drugs such as Lipitor or Crestor • Use of aspirin regularly, as in the case of heart disease prevention • Use of Thiazide diuretics, also known as water pills, for treatment of high blood pressure *All facts and data from American Cancer Society

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PHASE TWO Since Wasil and his colleagues’ models were using only biopsied slices of cancerous prostates, they now must determine how to build models of the whole prostate in vivo and diagnose whether or not it is cancerous.

“What we’ve shown is we can certainly use MRIs to identify prostate cancer,” he said. “The next step is to build models of the entire prostate.”

Using MRIs to diagnose prostate cancer “is a new area that deserves certainly much more attention,” Wasil said. David Anderson, another author on the study, agreed.

“Commonly used methods now, like the PSA test, only give an estimate of whether there is cancer or not,” Anderson explained. “By using MRIs to screen, we can locate the potential cancer.”

“This information could allow biopsies to be done more precisely, therefore potentially decreasing discomfort and side effects,” Anderson said.

Wasil said MRI screening would be especially effective since the USPSTF advised against screening for prostate cancer using PSA-based tests in a 2012 recommendation.

“There is a very small potential benefit [from the PSA-based screening] and significant potential harms,” the recommendation concluded. “A better test and better treatment options are needed.”

The potential good news for insurance companies is that MRI screenings cost between $500- $700 each, whereas biopsies can cost up to $2,100.

“If you could reduce the number of biopsies by using MRIs, that would lead to huge savings, not only in terms of costs, but in terms of pain. The needle-biopsies are quite painful and have potential side effects,” Wasil said.

While MRIs would be more expensive than a PSA test, which costs about $100, Wasil said the increased accuracy of MRIs would outweigh its costs.

To take their MRI study to the next level, Wasil said he and his colleagues want to gather additional data from an experimental study with patients and combine the results from a PSA test and an MRI screening to make a diagnosis.

Anderson, who is an assistant professor at the City University of New York Baruch College, said he predicts MRI screenings can be added to standard of care for prostate screenings.

“I can see the standard being screening with PSA tests, and then screening any potential positive PSA tests with an MRI,” he said. “Both [can be used] for additional screening and locating the cancerous region before confirming with a biopsy.”

“As of now, MRIs are probably too costly to be used as a broad screening method,” he added.

WHAT TO KNOW ABOUT THE PSA TEST

ARTICLE BY NICHOLAS RUMMELL

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Company debt can seem like a shell game: now you see it â&#x20AC;&#x201C; now you donâ&#x20AC;&#x2122;t. While financial disclosures can capture headlines and interest, a legal and common practice may go unnoticed.

For years, companies have stashed debt related to their equipment and property leases off their balance sheets. Accounting standards allow this, both in the United States and abroad, so long as certain disclosures are made in the footnotes to the financial statements.

These leases can amount to enormous obligations.

Companies may soon have to add those liabilities onto their balance sheets, which could be a huge change in their debt-to-equity ratios. An impending rule change will mean a substantial shift—for better or worse—in how balance sheets look, say a trio of American University professors.

This means a there could be a potential pitfall in securing bank loans and attracting investors that results in a heavier bottom line.

PROFESSOR GOPAL KRISHNAN

and regulatory red tape. Industry leaders wrote hundreds of comment letters to the FASB after its initial exposure draft. Its implementation has been pushed back several times and now stands estimated at 2018. Regulators seem to want one thing, accountants another, and industry groups are splintered on the finer points. Even locking down the need to distinguish between a capital lease versus an operating lease (FASB is debating Type A and Type B leases) is in flux.

The rule is sure to impact all companies to some degree because experts estimate equipment leasing represents a $725 billion industry. But some stand to lose more than others. Airline companies, restaurants, “big-box” retailers, and trucking companies rely heavily on operating leases. Critics warn that unintended side effects from the rule could cripple companies and hamstring undercapitalized banks.

The US Chamber of Commerce estimates the proposed rule would add roughly $1.5 trillion back onto corporate balance sheets: in a “best case scenario,” it would “destroy approximately 190,000 US jobs” because of increased borrowing costs and lost value from commercial real estate, among other unintended consequences. It is debt without being called debt.

“I think it will be a very big deal for some companies,” said Kimberly Cornaggia, associate professor of finance, who is currently studying how bank and publicly traded bond debt covenants may be affected by lease accounting rules. Her recent research on the issue suggests companies may face a seismic shift in their balance sheets if regulators have their way.

“I believe economically long-term, non-cancellable leases are essentially long-term debt. Recognizing these commitments on the balance sheet could trigger technical default for firms with binding debt covenants,” she said.

In a 2013 study, Cornaggia found that if operating leases were put back on the books, companies would face a 15 percent to 29 percent increase in debt-to-capital ratios. She said that average off-balance-sheet lease financing increased 745 percent as a proportion of total debt from 1980 to 2007. Capital leases fell by half during that same period.

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CHANGE COMING Operating leases, such as a commercial warehouse rental, require regular payments but don’t include any ownership stake. Traditionally, these leases have not been considered debt so they were kept off firms’ balance sheets. Alternately, capital leases involve lease payments that effectively result in ownership and currently are on the balance sheet.

The size of an asset or how important it is to the company’s operations aren’t factors considered in the accounting standards.

So it can be surprising when a person finds out what is and isn’t recognized. Sir David Tweedie, former chairman of the International Accounting Standards Board (IASB), said, “One of my great ambitions before I die is to fly in an aircraft that is on an airline’s balance sheet.”

As early as next year, the Financial Accounting Standards Board (FASB) and its international counterpart IASB may issue changes to generally accepted accounting principles (GAAP) that require companies to dump the two lease types into the same accounting bucket for the first time. Critics say it could exponentially increase how much debt companies officially recognize, and that increase could change the perception of its financial health.

“The lease accounting game is considered one of the largest holes in GAAP; so large you can drive a truck through it,” says Gopal Krishnan, chair of the accounting department, who studied the effect of lease accounting on banks’ debt covenants and audit fees. “It’s a contentious issue,” he said.

The Securities and Exchange Commission (SEC) in 2005 estimated that companies had $1.25 trillion in off-balance-sheet (and non-cancelable) leases—about 31 times more than the companies had in recognized capital leases. After the fall of Enron, the SEC ordered the FASB to look into all off-balance-sheet issues including leases.

The FASB issued two exposure drafts, called for industry comment, and has courted controversy ever since.

Here’s the thrust of the problem: nobody seems to agree on what the best model for lease accounting should be, and the discussions on the rule proposals have become a witches’ brew of economic alarmism

“THE LEASE ACCOUNTING GAME IS CONSIDERED ONE OF THE LARGEST HOLES IN GAAP, SO LARGE YOU CAN DRIVE A TRUCK THROUGH IT.”

COVER STORY LEASE ACCOUNTING

Cornaggia uses Walgreens as an example of a company that appears very conservatively financed, but it does not appear that way when its leased assets are recognized. According to Walgreens’ 2007 annual report, the company owned about 20 percent of its storefronts and leased the rest.

In 2007, Walgreens had a 10.6 percent return-oncapital estimate. After recognizing leased assets, its return-on-capital estimate dropped to 7.5 percent, Cornaggia wrote.

Return on capital is a key metric for investors, and such a drop could be a huge red flag for potential or existing shareholders in Walgreens.

Regulators still have much work to do to finalize a rule. Standard-setters have yet to agree on how companies can expense their operating leases once they come back on the books, as well as how to treat small-ticket items.

Current accounting rules designed to protect investors have resulted in arbitrary thresholds on when the leases can go off the books. For example, if the length of the lease term is more than 75 percent of the asset’s expected economic life, the lease does not have to be recognized—or, if the minimum lease payments end up equaling more than 90 percent of the leased asset’s fair value.

Those thresholds, in turn, have only resulted in companies eking out lease terms to come in just under those ceilings.

“A cottage industry [of consultants] has cropped up around on how to structure lease contracts in order to comply with standards for off-balance-sheet accounting treatment,” Cornaggia said.

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DEBT COVENANTS MAY FALTER When the FASB began its foray into lease accounting, fraud was one of the major forces behind the rule change.

In her study, Cornaggia found high levels of excessive leasing among companies investigated by federal authorities for accounting fraud. This finding may be explained, she said, if one considers that firms which are intentionally distorting financial statements could simply be using all available means—including taking advantage of off-balancesheet accounting treatment—to do so.

“Fraud can’t explain the vast amount of leasing that we’ve seen,” she said. “There is some benefit to having it be [off the balance sheet] rather than capitalized, at least from the perception of management.”

However, fraud may not be the biggest concern after all, and there are legitimate benefits from offbalance-sheet leases. The first benefit, Cornaggia said, is tax-related; companies with low marginal

tax rates can pass the tax benefits to a lessor—who can in turn lease the equipment at a lower cost.

Another benefit is operating flexibility, especially if leased equipment can become technologically obsolete quickly.

The second is that companies need to keep leases off the books to satisfy banking debt covenants, formal loan contracts that protect banks from borrowers that go into bankruptcy.

“Once this stuff comes on the balance sheets, some firms will be in breach of covenants. There is no way around it,” said Cornaggia.

Therein is the rub. If companies are forced to recognize leases as liabilities, changing the

“FRAUD CAN’T EXPLAIN THE VAST AMOUNT OF LEASING THAT WE’VE SEEN…THERE IS SOME BENEFIT TO HAVING IT BE [OFF THE BALANCE SHEET]…AT LEAST FROM THE PERCEPTION OF MANAGEMENT.” ASSOCIATE PROFESSOR KIMBERLY CORNAGGIA

complexion of the balance sheet and upping their debt, banks may require higher interest payments from affected companies. Banks always have a choice to forbear if it serves them. Yet, this is only an accounting change; there is no real impact on the underlying risk of the firm, and the bank likely knows this. By comparison, changing reporting standards from Celsius to Fahrenheit does not make a room warmer, but it could complicate contracts that are based on a maximum of 30 degrees.

Critics say the rule change would inflate leverage ratios, raise fixed asset ratios, and morph current earnings before interest, tax, and depreciation.

Dennis Nixon, president of International Bancshares Corporation, wrote last year to the FASB that “most existing covenants will need to be changed as a result of the new standard,” which may “result in a de facto increase in the regulatory capital requirements of financial institutions.” Banks have already seen their capital reserve requirements increase in recent years, mostly due to anxiety from the 2007 economic downturn.

Many banks use debt covenants of five years or more, which means many would have to renegotiate terms if FASB’s rule changes the landscape.

Bankruptcy law does not consider off-balance-sheet leases as debt, which could further muddy the issue for many banks and companies.

A NEW WORLD FOR LEASE ACCOUNTING

ASSOCIATE PROFESSOR SUSAN KRISCHE

“Right now the tax, legal, and accounting legs are all aligned. This proposal would break that alignment,” said Bill Bosco, lease consultant and former chairman of the Equipment Leasing and Finance Association. Bosco, a member of the FASB-IASB lease accounting working group, said renegotiated debt covenants would at a minimum impose higher fees, heftier costs, and greater compliance burdens on companies. “It gives banks an excuse to ‘call the loans’ and increase their fees,” Bosco said.

Fortunately, some banks have foreseen this potential accounting apocalypse. According to Professor Peter Demerjian at the University of Washington, debt covenants have relied less heavily on the balance sheet to determine risk and debt.

He wrote that, in 1996, covenants based on the balance sheet were used in about four of every five private debt contracts. A decade later, he found that number had fallen to about one of every three private debt contracts.

Additionally, many current debt covenants have evolved to include grandfather clauses that specify any changes to accounting rules would apply only to new covenants.

If debt covenants fail, that could also mean higher audit fees. In his research, Krishnan found that audit fees for firms with at least one debt covenant violation were 15 percent higher than firms without violations, and those fees remained higher several years after the initial violation.

Krishnan disagreed that requiring companies to recognize operating leases on the balance sheet would be the end of the world and said auditors already take them into account. “People have known about [operating leases being off-balance-sheet] for 20 years,” Krishnan said. “All that is being done [under FASB’s proposal] is moving leases from the footnotes to the body of the statement.”

The FASB seems to be swayed by these arguments. On June 18, the board agreed that the balance sheet or footnotes should identify lease liabilities separately, by type, which means they might not be lumped in with other debt after all.

The IASB has agreed as well, although immediately, it would only recognize one type of lease. So, as with any regulation, the devil will be in the details of the final rule.

THE ELEPHANT IN THE ROOM Some say the rule proposal is much ado about nothing because shareholders and equity analysts already account for off-balance-sheet leases.

“Investment advisors and shareholders have talked about this for a long time,” Krishnan said.

Leased assets may be the elephant in the room.

According to published research, some equity analysts have “fatigue” and don’t have the time or know-how to compute and analyze the leased assets discussed in a company’s footnotes.

Furthermore, another problem may be smaller, less sophisticated investors. Susan Krische, associate accounting professor, said individual investors are typically considered less savvy than equity and credit analysts when it comes to reading financial statements.

“I think this is a very, very large issue for individual investors because they won’t necessarily recognize the additional debt and the additional risk,” she said. “What may not be a big issue for analysts could be a huge one for individual investors.

The combined effect on leverage and credit risk can potentially be quite dramatic [for any investors who are not trained to make the relevant adjustments].”

Information on the structure and terms of operating leases is required in the footnotes of the financial statements. That allows companies to disclose, but not officially recognize, the leases commitments. Technically, companies are providing information to investors, but it’s harder to figure out the true cost of the debt during a period of time.

“Managers think that somehow the footnote information is discounted or overlooked, which means they will try their best to move stuff away from the statements to the footnotes,” Krishnan said. “In practice, it requires a cost on users because you have to read the footnotes and understand the implications of them. It requires a lot of accounting knowledge.”

Equity analysts have known about operating leases for a long time and are trained to search them for them, so to the analysts off-balance-sheet leases are not a red flag, Krische said. Rather, analysts look for large discrepancies within an industry, such as one airline company leasing 40 percent of its fleet off the books versus another airline company leasing 5 percent off the books, then adjusting the balance sheets to capture the differences in lease liabilities.

In a 2013 research study, Krische found that lease structuring does not raise the same concerns for analysts as do other earnings management activities. However, companies that provide supplemental reconciliations to recognize operating leases and adjust debt-to-earnings ratios can help ease analyst fears about management’s credibility, Krische said.

Auditors that review company books don’t seem too worried by operating leases, either. In a 2011 study, Krishnan found that auditors already account for operating leases (and charge for them) when they review company books. The study found, auditors also take into account all off-balance-sheet leases when issuing going-concern decisions, which are used to determine if a company has enough resources to remain solvent.

When all is said and done, the rule changes will help clarify financial statements for individual investors, analysts, and auditors, Cornaggia said. “If you are looking at anything that needs some measure of debt, and you ignore this, those measures are distorted,” she said.

CREATING THE COVER STORY

Academic papers that gave rise to the cover story: “How do Auditors Perceive Recognized vs.

Disclosed Lease and Pension Obligations?

Evidence from Fees and Going-Concern Opinions,” Gopal V. Krishnan and Partha Sengupta, was published in the International Journal of Auditing in 2011.

“Bringing leased assets onto the balance sheet,” Kimberly J. Cornaggia, Laurel A. Franzen, and Timothy T. Simin, was published in the Journal of Corporate Finance in 2013.

“Management Credibility and Investment Risk: An Experimental Investigation of Lease Accounting Alternatives,” Susan D. Krische, Paula R. Sanders, Steven D. Smith, was published in Behavioral Research in Accounting in 2014.

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For the past decade, the Federal Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) have been working to harmonize accounting standards. However, recent rifts between the two boards could muddy standards or lead to an abandonment of convergence altogether, especially for lease accounting.

In the beginning, both standard-setters were in agreement that off-balance-sheet leases needed to come back onto the books. In 2003, Arthur Levitt, then-chairman of the Securities and Exchange Commission (SEC), said “off-balance sheet debt persists, distorting the financial picture investors have been given in companies in many sectors.” Former FASB Chairman Leslie Seidman often said it was a “widespread view” that leases were liabilities.

More recently, the SEC has backed off such strident views, and FASB has adapted to industry complaints of burdensome cost and confusing thresholds, as well as calls for rule exceptions.

Across the pond, the IASB has remained steady to its earlier stance. In June, IASB Chairman Hans Hoogervorst said at a conference that about 50 percent of listed companies in the industrialized world report material operating leases. “That means that the other half will not at all be impacted by the upcoming standard,” he said.

IASB Vice Chairman Ian Mackintosh called out his US colleagues recently in a speech in London, saying FASB seemed less interested in converging standards than in improving its own.

“If divergences are more or less accepted as inevitable, it can be no surprise they become the norm rather than the exception,” Mackintosh said. “We tried [that approach] for 25 years, and it failed.”

Convergence between IASB and FASB rules have been a long, slow slog, with a few notable achievements. After nearly a decade, both boards were able to come to an agreement on the contentious issue of revenue recognition earlier this year. But critics say lease accounting is a horse of a different color.

“In my opinion, it’s not going to be converged,” said Bill Bosco, who sits on the FASB working group for lease accounting. “With IASB it is ‘my way or the highway.’ ” Industry groups have called out both boards. For instance, the Aviation Working Group conducted its own survey, finding nine out of 10 airline analysts favored the existing accounting procedure.

The lease accounting rule has remained in limbo for the past two years; as a result, the deadline for a final rule has been postponed several times. And while a light at the end of the tunnel is now visible, it’s unknown which of the two standard-setters will get their way in the end.

“FASB and IASB are like two competing umpires at a ballgame,” Bosco said.

“THIS IS A VERY, VERY LARGE ISSUE FOR INDIVIDUAL INVESTORS BECAUSE THEY WON’T NECESSARILY RECOGNIZE THE ADDITIONAL DEBT AND THE ADDITIONAL RISK.”

WHAT EMPLOYEES REALLY NEED TO DELIVER CREATIVITY

When a global consulting firm surveyed managers and employees about trust in their relationship, it discovered a telling imbalance in their perceptions.

ARTICLE BY AMY BURROUGHS

The Boston-based Forum Corporation discovered that among managers, 87 percent said they often or always apologized for their mistakes. Only 19 percent of employees said the same about their bosses. The groups even had disparate perceptions of whether trust is important: 91 percent of employees said yes, although less than half of managers—48 percent—thought so. The study, released in 2013, surveyed 948 employees in several countries.

Associate Professor Xiaomeng Zhang believes managers skimp on trust-building at their peril.

Those who fail to appreciate its importance risk harm to their employee relationships and can even undermine employees’ creative output.

“I think most managers believe it’s important to build trust with their subordinates,” says Zhang, who completed the study with Jing Zhou of Rice University. “But the problem is they do not do anything—or enough—to build the trust.”

BRAINSTORMING IS OLD SCHOOL Yet what it takes to be creative might surprise you. Zhang points out that many people associate creativity with brainstorming—an “anything-goes” technique to generate as many ideas as possible.

But in business, she notes, companies need ideas that actually work—ideas that are practical, affordable, and in line with strategic direction.

People tend to assume employees with low uncertainty avoidance are the most creative. They are less concerned with the rules, thus—in theory— freer to dream up innovations. But Zhang believes employees with high uncertainty avoidance may actually produce the most fruitful ideas.

“To be creative—to effectively think outside the box—one must first be able to think inside the box, which means one must remain keenly aware of rules, guidelines, and constraints,” the authors write. Individuals with high uncertainty avoidance often have the best understanding of “the rules” because that helps them deal with uncertainty.

When it comes to generating ideas, then, these employees must be able to generate ideas that aren’t only new, but also feasible to execute and ultimately deliver return on investment (ROI).

A PRACTICAL TAKEAWAY Zhang and Zhou proposed that when uncertainty avoidance and trust are both high, empowering leaders will give the strongest boost to employee creativity. They also proposed that creative selfefficacy—employees’ confidence in their ability to provide positive, creative contributions—serves as a mediating factor in this relationship. They conducted two studies to test their theory.

The first study surveyed 330 engineers and 113 supervisors at a Chinese company that specialized in design and manufacture of energy-saving light bulbs. They measured employees’ assessments of the five elements in the researchers’ model: • • • • •

empowering leadership, uncertainty avoidance, trust in supervisor, creative self-efficacy, and creativity.

The second study focused on automated production line workers at a Chinese metals manufacturer.

This time, researchers used a different questionnaire to analyze 199 responses from employees and supervisors.

Notably, both studies confirmed the authors’ hypotheses: When employees trust their supervisors, empowering leaders can boost creativity for employees with high uncertainty avoidance.

Zhang says they focused on China in part because many of its companies emphasize leadership and creativity. The model invites testing else-

IF YOU SEND THE MESSAGE TO THE EMPLOYEES THAT ‘I AM GOING TO EMPOWER YOU,’ YOU SHOULD SERIOUSLY MEAN THAT. ASSOCIATE PROFESSOR XIAOMENG ZHANG

where to see if it yields similar results. It bodes well, however, that Zhang and Zhou found positive results in separate studies using different samples in different industries.

To Zhang, the importance of trust is the most interesting part of the story.

“Without trust, displaying empowering leadership alone does not make a difference [and is] sometimes even detrimental,” she says. “This is very interesting, and I think the practitioners should seriously think about this.”

She points to a noteworthy phenomenon that emerged from the research: Many companies spend a lot of money training managers in the “right” behavior but they fail to follow through to ensure managers consistently model that behavior.

“If you send the message to the employees that ‘I am going to empower you,’ you should seriously mean that,” Zhang cautions. “Otherwise, it might hurt the relationship and the performance. In addition, building trust is a long-term process. Believing in its value is not enough; managers should take the actions to do it, and do it consistently.” ˝Empowering Leadership, Uncertainty Avoidance, Trust, and Employee Creativity: Interaction Effects and a Mediating Mechanism,” Xiaomeng Zhang and Jing Zhou, was published in Organizational Behavior and Human Decision Processes in 2014.

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IT TAKES TWO Trust is just one piece of the puzzle. Zhang and Zhou also examined a specific type of employee: one with high “uncertainty avoidance.” Such employees like to know what’s expected of them—the rules and regulations of bosses and the company.

The researchers also wanted to examine empowering leaders—managers who express care for their employees and confidence in their abilities, involve them in decision making, and eliminate bureaucratic constraints.

Zhang and Zhou sought to tease apart how these dynamics affect a single, important outcome: employee creativity. Creativity is a close cousin to innovation, and companies increasingly recognize both are necessary to stay on top in a competitive, evolving marketplace.

Zhang argues that employees need trust in their managers to be at their most creative. Creativity is tough, she asserts. It requires identifying a problem, conducting research, producing and evaluating ideas—all before the “a-ha!” moment materializes.

“Each of these activities requires tons of effort and time,” Zhang says. “Engaging in them can only increase the chances of proposing creative ideas; it cannot guarantee anything.”

Therefore, she says, trusting in a manager is critical for employees to be willing to engage in these activities.

In other words, employees need assurance that even if they fail to produce a gem, they won’t be in the coal mines. Lacking this assurance, employees don’t have the confidence and freedom they need for creativity to flourish.

TAX-EFFICIENT WAYS TO MAINTAIN A WELL-EDUCATED WORKFORCE An employee’s education can be as big a competitive advantage for a firm as its strategy, proprietary processes and intellectual property. This is as true for a boutique graphic design firm as it is for a monolith like Google.

ARTICLE BY DAVID KAUTTER

In an era of intense technological change and global competition (not to mention slow economic growth), employers with a knowledgeable, cutting-edge workforce have an advantage over their competitors.

The recent alliance of Starbucks and Arizona State University to provide subsidized college credit for its employees underscores the increased focus that some employers are placing on an educated workforce.

Employees who pursue self-improvement through education tend to exhibit an innovative mindset that leads to greater efficiency and productivity.

From a financial standpoint, the organizational challenge is how to encourage continuing employee education while maintaining some discipline over cost. Tax considerations should not be ignored in determining how to support employee education in a cost-effective manner.

There are two ways employers can provide taxfree educational assistance to their employees. The first is through a formal educational assistance program, and the other is through a “working condition fringe benefit.”

• There must be a separate written plan; • The plan must be only for employees, sole proprietors, or partners; • The program cannot favor highly compensated employees, generally someone who earns more than $115,000 a year; • The program cannot provide more than 5 percent of its benefits to individuals who own more than 5 percent of the stock or capital or profits interest of the business; • The program cannot give employees a choice between cash (or other taxable benefits) and educational benefits; and • Reasonable notice about the plan is given to eligible employees.

If the program meets these requirements, then payment for tuition, books, equipment, fees, and supplies can be excluded from employees’ income.

Importantly, the education can be an undergraduate course, graduate course, or other type of education; it need not be work-related or part of a formal degree program.

However, expenses for meals, lodging, and transportation are not excludable. And no dice on learning to play poker or tennis— expenses for courses involving sports, games, or hobbies do not usually qualify.

If more than $5,250 in educational assistance is provided, the excess is still deductible by the employer, but is taxable to the employee—that is, unless it qualifies as a working condition fringe benefit described next.

WORKING CONDITION FRINGE BENEFITS Here is the second educational scenario employers should embrace: Employer-provided support that does not satisfy the requirements of a qualified educational assistance program may still be excludable from an employee’s income (and deductible by the employer) if it is considered to be a “working condition fringe benefit.”

This tax benefit is one that, had the employees paid it, they would have been able to deduct its cost as a business expense. To qualify, the education must: • maintain or improve the skills required to do the employee’s job, or • meet the express requirements of the individual’s employer, or requirements imposed by law or regulation, imposed as a condition of continued employment.

However, the education does not qualify for this benefit if: • the education relates to minimum educational requirements to obtain a job, or • it enables the taxpayer to begin working in a new trade or business.

This means that an accountant taking a course in cost accounting is a straightforward case of maintaining or improving skills so it qualifies. However, an engineer earning an MBA is not as upfront.

If the engineer currently has business or management responsibilities, the MBA is considered job-related and excludable; in this case, the education does not qualify him for a new “trade or business.” Otherwise, the education is taxable to

the employee because it would qualify the employee for a new trade.

This area of the law can be complicated, and it pays to examine it before reaching a conclusion on whether education can be excluded as a working condition fringe benefit.

ATTACHING CONDITIONS In order to make sure that the employee takes the education seriously and that the employer obtains the benefit of the educational cost, employers often attach conditions; there’s rarely a “free lunch.” The two most common conditions are a requirement that the employee continue working for the employer for some period of time after acquiring the education.

The other is mandating that the employee obtain a certain grade level, such as a “B” or above. The tax law allows both types of conditions, and both make sense in discrete situations.

Employers who view their employees’ knowledge as important to the success of their business have two programs available to provide assistance to employees on a tax-favorable basis. Due to the programs’ inherent benefits and limitations, many employers maintain both types of plans.

Which plan makes the most sense for a firm?

That depends on its goal.

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EDUCATIONAL ASSISTANCE PROGRAM Educational benefits provided to employees under an “educational assistance program” are tax-free up to an annual limit of $5,250. Employers are allowed to deduct the cost of their assistance through a qualified educational assistance program and, in addition to the exclusion from income taxes, the benefits are excluded from employment taxes for both the employer and the employee.

In addition to a potential increase in productivity, this exclusion from income is a significant benefit in its own right, especially for lower-income employees where even a modest tax cost could prevent them from pursuing education.

For employees to obtain the benefit of excluding up to $5,250 in taxable income, the following requirements must be met:

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ARTICLE BY LINDSEY ANDERSON

Recent research is questioning that assumption and arguing that consumers may find such claims more deceptive than advertisers realize.

“These are claims that are literally truthful but the questions are: Do they mislead consumers? Do consumers take a much broader overall interpretation than is warranted?” Kogod marketing professor Manoj Hastak said. “My recent research for the Federal Trade Commission tends to show that that may be the case. People tend to take these overly broad claims.”

WHY DID THE DISCLAIMER FAIL? Hastak had felt confident the disclaimer would help consumers understand they weren’t likely to save 47 percent. Participants had time to read the simple ad, but they still expected the maximum savings.

The research did not focus on why the disclaimer failed, but Hastak and Murphy did ask participants a few questions about whether they saw the disclosure and what it said.

Half of the participants remembered seeing a disclosure and about one-quarter remembered what it said. However, there appeared to be virtually no difference in ad interpretation between consumers who remembered the disclosure and those who did not.

The reason for the apparent lack of effect of the disclaimer is not clear, Hastak said.

Perhaps consumers see the disclaimers as required “legalese,” so to speak. Or perhaps they optimistically expect their results to be better than the norm.

With limited research on the subject, for now, there are just theories, Hastak said.

A NEW NORM The marketing industry previously policed its own claims, saying that an “up to” claim was fair if 10 percent of consumers achieved the maximum benefit promised.

In light of Hastak and Murphy’s research, the FTC seems to be altering its recommendation.

Now half of all consumers should be able to receive the maximum benefit for a claim to be fair and not misleading, according to the American Bar Association.

“The FTC believes the report will help guide advertisers to avoid the use of misleading ‘up to’ claims,” the commission wrote in 2012. “It reinforces the FTC’s view that advertisers using these claims should be able to substantiate that consumers are likely to achieve the maximum results promised under normal circumstances.”

“I think it has created turmoil within the industry,” Hastak said. “There are sort of nuance issues as you dig deeper. Are all ‘up to’ claims the same?”

What about Internet companies that promise download speeds up to a certain rate? Those claims

LY )

“WHAT WE FOUND IN THIS ONE STUDY IS IT VIRTUALLY MAKES NO DIFFERENCE AT ALL… THE ‘UP TO’ CLAIM BEHAVED EXACTLY LIKE A CLAIM WITHOUT THE QUALIFYING LANGUAGE.” PROFESSOR MANOJ HASTAK

have been criticized as being inaccurate, Hastak said, but each consumer’s speed depends on other factors as well, such as location, usage and more.

“So the question for the industry becomes: How do we make any claims when the reality is that consumer experience will vary?” Hastak said.

“Marketers are worried whether they can make ‘up to’ claims at all and what they need to do to protect themselves from potential FTC scrutiny.”

Additional research would help the FTC better understand the issue, Hastak said.

“There really hasn’t been more work done on this particular issue,” he said, “so it’s kind of [in] a holding pattern, in my opinion.”

“Are Tensile Claims in Advertising Deceptive?

An Empirical Investigation of Energy Savings Claims,” was presented by Manoj Hastak and Dennis Murphy at the International Conference on Research in Advertising in 2013.

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CONSUMER MISUNDERSTANDING Hastak researched “up to” claims for a report released by the Federal Trade Commission (FTC) in 2012.

He and co-researcher former FTC economist Dennis Murphy took an advertisement for a window company that promised to bring consumers energy savings.

One version of the ad carried an “up to” claim that said Bristol Windows are: “Proven to save up to 47% on your heating and cooling bills!” The second, cleansed version dropped the “up to” language and said “Proven to save 47% on your heating and cooling bills!” The third version had the “up to” claim along with a disclaimer printed directly below the claim to let consumers know “The average Bristol Windows owner saves about 25% on heating and cooling bills.”

Hastak expected more consumers to expect lower savings if they received the “up to” and disclaimer advertisements. He was wrong.

“What we found in this one study is it virtually makes no difference at all,” he said. “The ‘up to’ claim behaved exactly like a claim without the ‘up to’ qualifying language.”

Those who received the “up to” ad were almost just as likely to expect 47 percent savings as those who received the scrubbed ad. The consumers who received the disclaimer ad expected to save about 47 percent too.

Regardless of which ad the respondents received, between 42 and 45 percent of viewers expected at least half of Bristol Windows customers to save about 47 percent.

’T ON IT! UW E YO LIEV BE

“Clearance: Up to 50 percent off!” “Lose up to 100 pounds!” “Cut energy costs by up to 30 percent!” So-called “up to” claims are ubiquitous in marketing. The industry assumes consumers understand the condition inherent in the claim: Buyers can save up to 30 percent, but that maximum savings is by no means the norm.

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IT’S A FAKE! WHO CARES? COUNTERFEITS AND CONSUMER BEHAVIOR Picture two handbags. Both are made of the same materials by the same workers in the same factory, but they have one crucial difference: one is official merchandise while the other was produced off-the-clock during an unsanctioned “ghost shift.”

ARTICLE BY LAURA HERRING

“Applying these cultural differences to views of counterfeits became a tangible way to examine this intangible definition and philosophical view.”

Amaral and Chan set out to see what impact dialectical thinking had on consumer attitudes towards counterfeits. For the study, funded by a grant from the Institute on Asian Consumer Insight, the pair surveyed 402 students of various cultural backgrounds at multiple US universities.

The surveys were designed to measure each student’s comfort level with ambiguity and what role context played the student’s purchasing decisions. The researchers presented participants with counterfeit goods, labeled as both counterfeit and ghost shift, and asked how likely they were to purchase each item.

The results confirmed what Amaral and Chan had already seen play out between themselves: consumers did see a difference between blatant forgeries and ghost-shift products, and it did impact their behavior. Participants from Western backgrounds were more likely to buy a ghost-shift item than a true counterfeit, but they were uncomfortable with both. Participants from Eastern backgrounds saw little difference between the two, and they were equally comfortable with both purchases.

“It’s not simply black or white, real or fake,” the researchers wrote. “Counterfeits have many layers, and those layers interact with a tolerance for change that is systematically different across cultures.”

Another of those layers, Amaral found, covers how social classes view counterfeit products and what impact the class has on the status of a brand.

“The manufacturers of luxury brands have always been concerned about losing their most valuable asset: prestige,” Amaral said. “Lots of research has been done to try to determine how

counterfeits undermine that prestige, and yet no one has been able to find clear evidence that they do.”

It’s this lack of evidence that guided another of Amaral’s research studies. He and Barbara Loken, professor of marketing at the Carlson School of Management at the University of Minnesota, examined how different social groups view counterfeits.

They found that who was carrying a counterfeit handbag revealed why previous research failed to find effects from counterfeit use in the genuine brand.

“It’s all about the perceived in-groups and out-groups,” Amaral explained. “When someone on your level or someone you aspire to be carries a fake, the signal is sent that this brand must mean something to that social group; therefore, it should mean something to you.”

The pair conducted multiple studies with multiple participant groups, and each targeted the behavior patterns linked to in- and out-groups.

Amaral and Loken showed the same photo of a young woman with a handbag to four groups of participants, but each group read a different caption. Two groups were told the handbag was authentic while the remaining two groups were told the bag was a fake. Within those groups, half were told the woman was a waitress and the other half that she was a recent medical school graduate.

Their responses indicated that the social class of the person in the photo only impacted the overall brand perception when the handbag was declared counterfeit; authentic products were unaffected by the relationship between the handbag’s user and the study participant.

Participants indicated they assumed in-group or aspiring-group members would have an authentic bag, while out-group members were unlikely to have

“WHEN SOMEONE ON YOUR LEVEL OR SOMEONE YOU ASPIRE TO BE CARRIES A FAKE, THE SIGNAL IS SENT THAT THIS BRAND MUST MEAN SOMETHING TO THAT SOCIAL GROUP; THEREFORE, IT SHOULD MEAN SOMETHING TO YOU.” ASSISTANT PROFESSOR NELSON AMARAL

purchased the authentic themselves, making the point moot.

“What we’ve found, in both studies, is that it’s the observer of a counterfeit that impacts a luxury brand’s bottom line, not the counterfeit itself,” Amaral said.

While Amaral and his research partners are closer to understanding why cultural or social background impacts the view and definition of “counterfeit,” that doesn’t mean their own views have changed.

“Steven and I still disagree about what it means for a product to be counterfeit, even after years of research,” Amaral said. “We each still believe our own point of view, but now we know why.”

“Not All Fakes are Created Equal: Cultural Differences in Considering Counterfeits,” Nelson Amaral and Steven Chan, and “Effects of Counterfeit Use

by In/Out-Group Members,” Nelson Amaral and Barbara Loken, are currently under review.“

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Are both handbags authentic? Is the ghost-shift bag counterfeit? And what does it matter to the original brand if it is?

This is one of the central questions behind Assistant Professor Nelson Amaral’s research in the past few years.

The answer to the question of whether or not the ghost shift bag is counterfeit depends on how “fake” is defined, a harder task than one might think.

Amaral and his research partner Steven Chan, an assistant professor at Sy Syms School of Business at Yeshiva University, have been trying to define the term since 2009.

Amaral and Chan’s research started with a friendly debate in a hotel.

“It seemed like such a simple question, a silly argument really, but we just could not resolve it,” Amaral said. “We kept coming back to it and knew that we had an authenticity study on our hands.”

The pair realized the root of their difference of opinion was in their cultural backgrounds. Amaral was raised with North American and Western European roots; Chan is Chinese-American.

“I was seeing real versus fake in very blackand-white terms,” Amaral said. “To me there was a very concrete distinction, and Steven was looking at context, at all the shades of gray in between my concrete definitions.”

These different views are a microcosm of dialectical thinking—the measure of how comfortable an individual is with situational ambiguity and change—and its prevalence in Eastern culture compared to the West.

“We were trying to answer ‘What defines authenticity?,’ ” Chan said. “This is a very philosophical and difficult thing to study.”

A MATTER OF TRUST: NEGOTIATION TACTICS FROM A SOCIAL CAPITAL STANDPOINT Whether sealed with a handshake, a million-dollar contract, or a string of curses, every business deal is a reflection of trust. Both parties trust that the other will hold up their end of the bargain.

How is trust built? A lot of it comes down to social capital—the result of interactions through time and how each party feels about the other.

Assistant Professor Alexandra Mislin explores social capital in her research, including how it is negatively impacted by emotional misdirection— and, on the flip side, how negotiators can create more trust before reaching the table.

Do a Google search for “best negotiation tactics” and 80 percent of the results will be tips on how to emotionally manipulate the person on the other side of the table. Negotiators will do whatever it takes to get the best deal possible, even faking anger or hostility towards the other party.

“Strategic anger has long been considered a good tactic to claim value in a negotiation,” Mislin said. “But when applied to social capital, it becomes pretty evident that this strategy can lead to serious consequences downstream.”

Mislin explored the impact of emotional contagion and blowback effects on social capital with researchers from the University of New Hampshire, the University of Richmond, and Washington University in St. Louis.

ARTICLE BY LAURA HERRING

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EMOTIONAL BAGGAGE Feelings can pass from person to person and can affect business relationships.

“There’s a lot of research that shows emotions are contagious; that’s why we, as humans, are attracted to happy people,” Mislin said. “It only makes sense that being around angry people spreads negative emotions as well, even when that anger is initially fake.”

This emotional contagion can infect everyone at the bargaining table, including the person who set the emotion free in the first place, escalating the conflict rapidly.

“Strong emotions by their nature are difficult to control, even when they start off as ‘fake,’ ” said Rachel Campagna, assistant professor at the Peter T. Paul College of Business and Economics at the University of New Hampshire and one of Mislin’s co-authors.

“People don’t realize just how easy it is to lose control of strong emotions, especially anger, and are often surprised when they find themselves becoming

truly angry at their negotiation partner,” she said.

The researchers call this impact of false emotions “the blowback effect.” They set out to see just how it impacts relationships through time.

They studied the impact of emotional contagion on social capital through a preprogrammed negotiation simulation. Sixty-two adults were paired with preprogrammed computers to negotiate an employment contract via text message.

Half the participants received hostile messages from their negotiation counterpart, while the control group received neutral messages. The researchers found their hypothesis was confirmed: the participants who received the hostile messages felt angry while the participants who received the neutral messages remained unemotional.

“Even over a computer, these false emotions were contagious. Even as a conservative measure, emotional contagion was influencing negotiation outcomes,” Mislin said.

Similar studies were also conducted using pairs of human participants and the added emotional misrepresentation of happiness and cooperation. Again, the researchers found that the emotional contagion of misrepresented anger resulted in diminished returns for all parties. They also found that misrepresented happiness and cooperation was worth the deceit; it helped build social capital and increased the likelihood of both parties getting what they wanted.

“The prevailing mindset of negotiation has always been ‘the fixed pie’ ideal, the belief that there’s only so much available for a negotiation outcome,” said co-author Dejun Tony Kong, an assistant professor at both the Jepson School of Leadership Studies and the Robins School of Business at the University of Richmond.

“But the reality is that the pie is not limited, more slices can be created through cooperation and trust,” he said. “Negotiation isn’t a competition— there doesn’t have to be a winner and a loser.”

And it’s a lot easier to keep trust intact than to try to repair it after the damage has been done, the researchers stressed. Rebuilding a soured relationship is like trying to glue a shattered vase—it looks good from across the room but up close every crack is visible.

CAN ACTIONS SPEAK LOUDER THAN WORDS FOR WOMEN?

A MATTER OF TRUST

“ON A SUBCONSCIOUS LEVEL, WE’RE ALWAYS REMEMBERING THE LITTLE THINGS, THE SMALL FAVORS AND NICETIES SHARED BETWEEN OURSELVES AND OTHERS… WE MENTALLY TRACK OUR SOCIAL CAPITAL.” ASSISTANT PROFESSOR ALEXANDRA MISLIN

LITTLE CHATS Typically, negotiators have a store of social capital before bargaining begins, built up through interactions outside negotiations, such as trading best wishes for family holidays or discussing the latest weather.

Working with a team of researchers from Techniche Universität Müchen in Germany, Mislin wanted to see how such small talk before a negotiation impacted social capital.

It’s established that small talk develops mutual liking and provides the foundation for trust to be built. Mislin and her fellow researchers were curious to see if the gender of those making small talk impacted social capital and final results.

“There’s this inherent understanding that men and women talk about different things…but there isn’t a lot of concrete data that shows what this means for negotiations,” Mislin said.

They went into their studies with the hypothesis that a negotiator’s gender would influence whether or not small talk was beneficial, and they were correct.

“We really saw a boost in positive negotiation outcomes for men when they engaged in a little small talk beforehand,” she said. “Even a very short conversation went a long way towards getting a better deal.”

It all comes down to expected gender behaviors and stereotypes, according to the researchers.

Because women are expected to be more communicative, they’re anticipated to make small talk and thus earn no extra social capital for engaging in “chit chat” before a negotiation.

“It’s not really notable behavior when a woman makes small talk,” Mislin said. “So if the behavior doesn’t stand out, it can’t really have an impact on final outcomes.”

But men “receive a bonus” for the same communal behaviors, the researchers found.

“In general, men are perceived as more hostile, more aggressive—especially in the context of a negotiation. Even a little bit of chit chat can go a long way to dispel that expectation,” Mislin explained.

While men received benefits for engaging in small talk that women did not, the researchers discovered that neither gender was punished for skipping the chit chat and getting right down to business, despite it being a variation from gender norms for women.

So what does this mean for both genders at the negotiation table? Small talk can be another tool in the arsenal for men, one that builds social capital and increases their likelihood of beneficial gains from negotiation. Women may need to find other ways of cultivating a positive regard in their negotiation counterparts..

Mislin said that bringing a good deal to the table is best for all rather than using social capital alone.

“When it comes down to it, negotiation is about striking a good deal that will be implemented,” Mislin said. “Good social capital goes a long way towards implementation; some negotiators just have an easier time building that than others.”

“Strategic Consequences of Emotional Misrepresentation in Negotiation: The Blowback Effect,” William P. Bottom, Rachel L. Campagna, Dejun Tony Kong, and Alexandra A. Mislin, and “Should we Chit Chat? Benefits of Small Talk for Male but Not Female Negotiators,” Tanja Hentschel, Alexandra Mislin, Claudia Peus, and Brook A. Shaughnessy are under review.

Even though chit chat does not appear to build the same social capital in negotiations for women as it does for men, women can build this capital in other ways. Here are tips for businesswomen on maximizing the potential of a negotiation: •

INTERACTION When meeting a negotiation partner for the first time, smile, maintain eye contact, and find a common ground for discussion.

•

BALANCE Express a willingness to help the other parties meet their most important interests, while also outlining those most important to you.

•

ASK QUESTIONS Be sure you understand the other party’s demands, and explain your perspective.

•

DO YOUR HOMEWORK Make sure you recognize the other party’s culture and company history—beyond the basics of their technical terms and jargon.

•

MANAGE YOUR OWN EMOTIONS Even if your counterpart becomes angry, maintain your composure to avoid escalating the conflict.

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“There’s an emotional recall effect at play,” Mislin said. “While the feeling of anger isn’t lingering all the time, when those two negotiators come back to the table down the road, those hostile feelings are going to resurface and impact that new deal.”

“On a subconscious level, we’re always remembering the little things, the small favors and niceties shared between ourselves and others,” Mislin said.

“We mentally track our social capital.”

The reach of personal social capital is growing as well, Kong said.

“We’re living in huge networks now. Every one of us is embedded in a living social network,” he said. “Every day we’re negotiating within these networks—from salary talks with our boss to holiday plans with the in-laws—and so every day we’re shifting the balance of our social capital.”

A healthy stock of social capital is also crucial for a deal’s eventual implementation. It’s impossible for a deal or contract to cover every relevant aspect of the agreement.

“There’s this idea that social capital can be dismissed, that walking away from the table with an agreement is enough,” Mislin said. “But that couldn’t be more wrong.”

“If I’m not willing to work with you in the future because of your hostile attitude at the bargaining

table, or if I enter into the next negotiations trying to settle the score, then you’re going to end up losing out in the long run.”

KOGOD STANDOUT

ONLY DREAMERS NEED APPLY

Photograph by James Kegley at Union Market, Washington, DC

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Bill Bellows, Stevan Holmberg, and Tommy White are believers.

They believe in the power of entrepreneurs to change the world. And they’re committed to helping future game-changers, here in the nation’s capital and beyond.

With the launch of Kogod’s Sustainable Entrepreneurship and Innovation Initiative—the first of its kind on American University’s campus—that includes an Incubator. It’s a home for student and alumni teams with an idea and early success, which are benefiting from the experience of AU faculty members, alumni, and their networks.

The trio wakes up swinging, whether that means preparing teams to pitch investors, mastering design thinking, forming partnerships, or keeping an eye on the sustainable models of the future.

THE CUBAN CITIZEN-CONSUMER DIVIDE Associate Professor Sonya Grier can add “award-winning filmmaker” to her CV. Grier, who has studied marketing and the entertainment industry, knows the undeniable strength of the medium. When the Association for Consumer Research (ACR) asked for submissions to its 12th annual film festival, she decided to make a film during her time as a visiting scholar at the University of Havana in Cuba in 2013.

ARTICLE BY LINDSEY ANDERSON

“Citizen Consumer: Ideals in Conflict?” examines what it means to be a Cuban citizen in a semiisolated, island country that is increasingly embracing consumerism.

“I always thought that film was a great way to encapsulate and disseminate research [in] a very entertaining and enjoyable way,” Grier said. “I take a lot of video and a lot of pictures, and I don’t do anything with them except share them with my friends, and I thought, ‘I can make a movie.’”

The film earned Grier the Judges’ Choice Award at the 2013 Association for Consumer Research conference. It presents a glimpse into consumerism in a society that emphasizes collective well-being while Cuba begins to open itself up to capitalism and the larger global economy.

“On the surface, Cuba reflects the antithesis of consumerism as practiced in the rest of the world,” Grier narrates in the film. “But is this really the case?”

CHANGING TIDES But Cuba’s balance between citizen and consumer may be shifting. In recent years, the government has expanded opportunities for self-employment and travel to and from the country. The unique citizen-consumer blend was appealing to Grier as she chose between several international locations to spend her research sabbatical.

With the expansion of private business and the influx of tourists and Cubans living abroad, the country’s citizens are increasingly exposed to products and trends of the greater world. Residents are getting a taste for foreign clothes and goods that are brought to the island from relatives abroad. Remittances are funding small businesses and other ventures.

“There’s a real tension between the onset of the economy changing and becoming more integrated into the rest of the world economy,” Grier said.

“There’s this conflict between socialist ideals and… the way capitalist values are coming into play.”

She said it’s also changing some of the fundamental natures of society.

Grier’s research has explored the complex relationship between marketing and consumer health with a special focus on how it impacts minorities.

Grier has received more than $3 million dollars in grant funding from the Robert Wood Johnson Foundation and is also a member of the Institute of Medicine Food Forum and other organizations. She also serves on the editorial board for the Journal of Public Policy and Marketing.

Grier found not all Cubans have equal access to scarce goods and resources as they encounter growing exposure to consumerism. More than $2 billion in remittances from abroad have poured into the island, creating haves and have-nots that often fall along racial lines, she said. The disparity goes against the nation’s socialist ideals.

Educated Cubans are also foregoing jobs that utilize their degrees in favor of work in areas such as tourism that pay in scant Cuban convertible pesos (CUC), the currency traditionally reserved for tourists that is more valuable than the standard Cuban peso. Grier spoke with one lawyer who abandoned a career in a law office to work as a waitress because she could earn more in tips from tourists paying in CUCs. “Money is the key lynchpin in the relationship between citizenship and consumerism,” Grier narrates in the film.

ES COMPLICADO Grier’s film investigates these conflicting ideals as the island struggles to find its place on the citizenconsumer scale, but she says only time will tell what place Cuba will make for itself.

“THERE’S A REAL TENSION BETWEEN THE ONSET OF THE ECONOMY CHANGING AND BECOMING MORE INTEGRATED INTO THE REST OF THE WORLD ECONOMY.” ASSOCIATE PROFESSOR SONYA GRIER

“Will people’s wants and desires orient toward more explicit consumerism?” she asks in the film.

“What will be the role of citizenship in consumption activities?…How will this evolution affect previous socialist gains such as marketplace equality?”

The island may revert to its emphasis on citizenship in the coming years or instead mimic the consumer-centered culture seen in much of the world. Or perhaps its unique history of transculturation and equity will create a new combination of the two—one that balances the ideals of citizenship with the expectations of consumerism.

For now, there are more questions than answers.

“As Cubans often say, ‘es complicado,’” Grier narrates.

“It’s complicated.”

"Citizen Consumer: Ideals in Conflict?," Sonya Grier, won the Judges' Choice Award at the Association for Consumer Research conference in 2013.

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ADVERTISING EQUITY For decades Cuba shut itself off from much of the world as it strove to create an ideal socialist state.

After the 1959 success of the Cuban revolution, private property was nationalized; private business was limited; food was rationed; health care and education were made free and open to everyone— all in the name of more equitably distributing the country’s resources.

While prevailing capitalism means most global citizens are seen primarily as consumers, in Cuba, the emphasis was on creating citizens focused on personal wellbeing rather than the desire of material goods. As such, billboards across the island proclaim the benefits of socialism, urge national

unity, and promote healthy choices. Advertisements for products are conspicuously missing from storefronts and airwaves in Havana. The absence of commercial marketing was a particular lure for Grier to spend time in Cuba.

Grier interviewed Cubans who spoke of that national cohesion, regardless of economic, racial, and cultural backgrounds. “For us, the national unity is very important because it is the way to conserve the country,” one interviewee said.

“Some people, they ask: ‘How can you survive with so many material limitations?’” Another said.

“It’s because of the solidarity that exists between the people.”

REDEFINING PRISON LABOR Help wanted: Slog through thousands of patent applications, looking for typos. Pay is sub-minimum wage. It’s a job that would be hard to find takers for in the United States these days—but not in penitentiaries.

ARTICLE BY BEN MOOK AND JACKIE ZAJAC

AN ALARMING STATISTIC According to the Bureau of Justice Statistics, there were 6.94 million people supervised by the US adult correctional systems during 2012. While this figure is on the decline, it still amounted to about one in 35 of American adults, or about 3 percent of the adult population.

Without meaningful employment training, the long-term prospects for this meaningful segment of the population could be at risk. And while it is

common for inmates to work during their sentence, what is changing is the kind of work they are conducting, according to Carmel.

In federal prisons, inmate employment is handled by Federal Prison Industries, or UNICOR, a corporation wholly owned by the government that is restricted to selling its products and services to federal government agencies. UNICOR has annual revenues of more than $600 million a year.

Carmel said most of the work done in prisons is heavy on manual labor. “Primarily, they are making furniture; budget office furniture used mainly by governments,” he said. There has been an increase, though, in digital jobs requiring computer usage.

These jobs include business services like call center work, data entry, and document preparation.

And inmates are lining up: The waitlist for such jobs at a Federal prison in Ohio has 350 inmates.

“It doesn’t require high levels of education or training,” Carmel, an expert in the globalization of technology, said. “It’s the kind of work that might normally be outsourced offshore.”

INSIDE THE WALLS At the Federal Correctional Institution in Ohio, where Carmel’s study was conducted, a private company contracted UNICOR to have inmates prepare patent documents for electronic publishing for the US Patent and Trademark Office.

The federal prison in Elkton is a low-security facility housing 2,555 male inmates. The prison “factory,” where the business services are handled, has 150 computers that are not connected to a network.

The researchers focused on conducting interviews with key informants. They spent two days speaking with nine inmates, three senior prison staffers and two senior UNICOR staffers The inmates interviewed had worked at the UNICOR facility from six months to six years. The men had a mix of backgrounds; some had worked

with HVAC, made furniture, cooked, or drove forklifts before their incarceration. The inmates’ average sentence was 16.2 years, with on average almost six years left to serve.

EARLY TO RISE Business service workers start the day at 7:10 a.m. and work until 3:20 p.m. They have two 15-minute breaks and 45 minutes for lunch. The work consists of proofreading and editing the formatting and tagging codes of patent documents.

Each week, roughly 180,000 pages of published patent material in XML format are produced.

The work is double- and triple-checked as part of the process. Each inmate works within a quota and within an accepted error rate. If work lags behind, time-and-a-half overtime is also available.

The positive impact, the researchers found, includes: • relatively higher pay (non-UNICOR jobs, like landscaping, pay about 23 cents per hour. By contrast, UNICOR jobs pay $1.15 an hour), • development of positive work habits, • development of business skills, and • elevated status—the jobs are scarce and highly sought after.

Despite the comparably low wages to jobs outside prison walls, the researchers found that these business service jobs created a sense of pride among those chosen for the higher-tier, UNICOR positions.

“Critics might say that it’s exploitative,” Carmel said. “Others would say it is beneficial work that will help the prisoners in the outside world.”

While Carmel, Rottman, and Lacity found the high pay was an easily identifiable attraction for inmates, those interviewed also listed having a structured work day and gaining experience and skills as benefits.

“IT DOESN'T REQUIRE HIGH LEVELS OF EDUCATION OR TRAINING ... IT’S THE KIND OF WORK THAT MIGHT NORMALLY BE OUTSOURCED OFFSHORE.” PROFESSOR ERRAN CARMEL, INTERIM DEAN

“There are arguments that this arrangement might crowd out some private sector competition, and that’s a legitimate argument,” Carmel said.

“But, I would argue that the larger, societal benefits are greater.”

The work is a productive use of the inmates’ time. And since a high school, or equivalency, degree is required to work for UNICOR, it may prompt some inmates to seek a GED to qualify, the authors noted.

Gauging benefits post-prison is complicated.

While recidivism rates have been studied extensively for more traditional, manual labor, the long-term outcomes from business services work have not been as thoroughly researched.

In the future, Carmel recommends looking at multiple correctional facilities and finding a control group of non-UNICOR inmates for comparison. The researchers may also seek other prison populations, such as women and juvenile offenders, to have a more complete picture of the practice of impact sourcing.

"Impact Sourcing: Employing Prison Inmates to Perform Digitally-enabled Business Services," Erran Carmel, Mary Lacity, and Joseph W. Rottman, was published in Communications of the Association for Information Systems in 2014.

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The days of prisoners making license plates are long over.

Instead, “factories behind fences” have taken over. Such programs have been employed in correctional facilities for more than 150 years, according to the National Institute of Justice. Proponents argue that inmates gain skills that increase their chances of employment upon release, and reduce recidivism.

More recently, the Prison Industry Enhancement Certification Program (PIECP), established in 1979, paved the way for private employers to employ inmates in return for a “prevailing wage.”

A recent study by Professor Erran Carmel, recently appointed Interim Dean, found that prison inmates working in business service jobs like the ones facilitated by the PIECP—for example, document processing—receive some of the highest pay relative to other prison work and learn positive work habits and business skills.

Carmel, with Mary Lacity and Joseph Rottman, both of the University of Missouri at St. Louis, studied impact sourcing, the practice of hiring and training marginalized individuals with fewer prospects for good employment. The group spoke exclusively with prisoners and officers at a federal prison in Elkton, Ohio.

“We found that prison employment had positive immediate effects on the inmates’ lives while they were in prison,” they wrote.

HOW SUPPORT NETWORKS ENABLE FIRMS TO WEATHER NATURAL DISASTER

KOGOD NOW EDITOR

Jackie Zajac

$69 billion. That’s how much money natural disasters cost companies in China last year. Mudslides, droughts, earthquakes—all contributed to this cost, according to the Chinese National Statistics Bureau. Nonetheless, the Chinese economy is one of the largest and fastest growing in the world, with more multinational corporations expanding there each year.

ARTICLE BY LAURA HERRING

Then why are companies foregoing the risk and expanding into a region that has a history of natural disasters? Earthquakes in Sichuan province—one of the largest economic centers in western China—cost more than $16 billion alone in 2013.

“The evidence clearly shows that natural disasters can wreak havoc on a company’s bottom line, yet new investments continue to be made in these regions,” Associate Professor Jennifer Oetzel said. “[We knew] something was making it possible for managers to justify these expansions.”

Oetzel set out to decide what the threshold of risk management was and what parameters determined it, with co-researchers Chang Hoon Oh, from the Beedie School of Business at Simon Fraser University, and Canfei He, at the College of Urban and Environmental Studies at Peking University.

EXPECTING THE UNEXPECTED Through a grant from the Canadian government, Oetzel and her co-researchers are developing a survey for top-level managers to discover how this networked knowledge shapes disaster management.

“People and corporations are more vulnerable than ever to natural disasters; the data proves that,” Oetzel said. “Rapid urbanization and the growth of even bigger megacities, coupled with the increase in natural disasters, means everyone needs to have better disaster management plans.”

While they are still focusing on multinational firms with a presence in China, they believe all companies will be able to employ the findings.

“By uncovering exactly what it is these networks provide, companies in China, Africa, the Middle East, and the US can be more prepared to face natural disaster,” she said. “And everyone can benefit from that.”

"Intra- and Inter-Organizational Learning and Firm Response to Natural Disasters," Chang Hoon Oh, Jennifer Oetzel, and Canfei He, is a Best Conference Paper for Practice Implications nominee at the 34th Annual Strategic Management Society conference, Fall 2014.

Lara Kline CONTRIBUTORS

Lindsey Anderson Amy Burroughs Laura Herring David Kautter Rebecca Kern Louis Llovio Ben Mook Nicholas Rummell DIGITAL SUPPORT

Laura Caruso DESIGN AND ILLUSTRATION

Design Army COPY EDITOR

Lisa Griffin

Kogod Now, published twice annually, is the official magazine of the Kogod School of Business

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STEADY GROUND? Oetzel and her co-authors discovered that having a pre-existing network of support in place makes the difference.

Companies are much likelier to expand when they already have a footprint—for instance, a US-based hospitality company with existing hotels in the province. Increased expansion is also seen from other US-based companies in different industry sectors—say, a construction manufacturer—that see the hospitality firm has subsidiaries in the province.

That is, provided they are not direct competitors.

“The bigger that support network is, the more likely [a firm] is to continue to expand, regardless of the disaster rate,” Oetzel said.

The researchers used geographic information software to map Chinese census data on the locations of foreign subsidiaries from 285 companies, as well as disaster information from the Center for Research on the Epidemiology of Disasters, headquartered in Belgium.

The final sample included 107,921 observations on firms’ presence, natural disasters, and geo-demographic information at the province level between 1955 and 2008. The 285 companies have headquarters in North America, South America, Europe, and Asia, and have subsidiaries in 22 Chinese provinces.

The team was able to pinpoint how close a natural disaster’s epicenter was to a corporate structure, and the population density impacted by

each disaster, creating a visual representation of thousands of data points.

“Being able to combine so many types of data into one final product was astounding,” Oetzel said. “[Mapping] technologies are very powerful for research like ours.”

What the researchers saw proved that despite severe natural disasters, which impacted large populations in certain regions, firms continued to expand into provinces where they already had subsidiaries.

“Our findings show that having some sort of in-country support, some sort of institutional knowledge, seems to balance the risk of natural disaster,” Oetzel said. “And the larger the in-country network is, the more likely a company is to expand.”

But what exactly that institutional knowledge is remains to be seen.

“We can tell from the numbers that some sort of knowledge is being shared; we just can’t define what that knowledge is yet,” she said. “But that’s definitely the next step.”

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