The Differential Impact of Accurate Product Cost Information in Imperfectly Competitive Markets : A Theoretical and Empirical Investigation

Many researchers have claimed that costing systems that provide materially more accurate or precise cost reports have a strict value-enhancing effect on decisions (i.e., Cooper 1988, 1995; Cooper and Kaplan 1991; Christensen and Sharp 1994; Rogers, Comstock and Pritz 1994; Swenson 1995; Gupta and King 1997). However, this study provides theoretical and empirical evidence that the value of more accurate cost information may be dependent upon the firm?s competitive market structure as well as the firm?s product market strategy. We extend the theoretical work of Galor 1986 to incorporate an endogenous imprecise cost signal in two imperfect market structures: Cournot competition and Bertrand competition with imperfectly substitutable products. In addition, we theoretically link market structure to product market strategy. To examine product market strategy, we employ a laboratory markets design that allows for strategic reaction by a rival firm in each of these markets as the competitive position of a firms is determined by its capacity to produce at low cost or to differentiate its product from others (Porter 1985). Consistent with our theoretical work, we argue that firms that compete on the basis of cost leadership (which we demonstrate may be characterized as Cournot competition) benefit through increased profits from increased product cost accuracy, whereas firms that compete on the basis of product differentiation (which we demonstrate may be characterized as Bertrand competition) do not benefit by such increases. Our results are consistent with this contention. That is, profit was higher in the experimental cost leadership markets (operationalized as Cournot markets) when subjects knew their true cost while profit was higher in the experimental product differentiation markets (operationalized as Bertrand markets) when subjects received uninformative cost reports and made their decisions based on expected costs. These results suggest that the value of more accurate cost reports may be dependent upon the firm?s competitive market structure and product market strategy