TRANSACTIONAL

COST THEORY
 EXECUTIVE SUMMARY

 This report aims to provide an understanding of transactional cost management through its impact
on construction industry and how it impacts individual projects. Transactional cost theory covers
all the factors that impact any project and the transactions they make since every transaction has
some transaction cost included (Schimdt and Wagner, 2019).

 The report also focuses on why transaction cost theory is significant to business decisions and
how can managers keep this in mind and make effective decisions that improve their individual
and company’s performance.

 This report also focuses on advantages and disadvantages on transactional cost theory and the
challenges with using this theory.
 INTRODUCTION

 Every managerial theory is discovered and improved to help managers to be more

efficient with their decision and be more productive. Transactional Cost Theory is just
another one of them.

 Transaction Cost is one of the most important expenses of the business that takes place
seemingly without anyone’s knowledge.

 It requires skills and expertise to understand what transaction cost is, how to identify it,
and how to reduce it. There are many factors that impact transaction cost such as owners,
contractors, transactional environment etc (Belloti da Fonseca, Vanalle and Camarotto,
2018).
TRANSACTIONAL COST THEORY

 Organizational structures can achieve

economic efficiency by reducing the cost of
exchange with the help of transactional cost
theory. There are different kinds of transaction
costs, including the associated with searches,
enforcemennt, and negotiations. The two main
division of transaction cost: i) Pre-contract
transaction costs and ii) Post-contract
transaction costs. Both are focus on this report.
TYPES OF TRANSACTION COST

SEARCH COSTS BARGAININ

G COSTS

ENFORECEMENT
COSTS
 SEARCH COSTS

 To decide on purchasing a product or service,

customers look for information and compare
alternatives (Karimi, Holland and Papamichail,
2018). Customers must pay search and
information fees to obtain the neccessary
information. People can use cash, credit, or
time to pay for search and information fees.
 Bargaining costs
 Costs associated with bargaining and
making decisions are incurred either
directly or indirectly when a contract is
being negotiated. The terms for an
agreement between two parties frequently
include a payment. Usually, both side
benefit from this investment.
 ENFORCEMENT COSTS
 In the real world, people often deviate from the
terms of a contract; therefore, managing contracts
incurs costs associated with enforcement. When
pursuing a deal, one party has to make sure
everything is legal and that breaking this contract
has legal backlash. This can be done by hiring a
lawyer and have them draw up the necessary
paperwork. These expenses are made to make sure
that the parties to the contract keep their world and
abide by its terms.
 Transaction cost theory in construction projects

•
 Pre-contract transaction costs

 Also known as pre-acquisition costs or pre-transaction costs, it

refer to expenses incurred by a company or entity in preparation

for entering into a specific contract, acquisition, or transaction.

These costs are associated with activities undertaken before the

contract or transaction is finalized and may include various

expenditures aimed at evaluating, negotiating, and structuring the

deal. Pre-contract transaction costs are typically considered as

part of the due diligence and planning process and are often

necessary to assess the feasibility and risks associated with the

proposed transaction.
Post-contract transaction costs

 refer to the expenses and costs that are arise after a contract
or agreement has been executed and during the period of
contract performance or fulfillment. These cost are incurred
during operational phase of the contract and are typically
associated with carrying out the obligations outlined in the
contract. encompass various expenditures and financial
considerations that occur after the contract and has been
finalized.
Significance of transaction cost theory
 Organizational structures can achieve economic efficiency by
minimizing the cost of exchanging goods and services according
to the theory of transaction cost (Crook et al., 2013). The
transaction cost theory reveals that in construction sites, the
overhead cost increases due to lack of knowledge about the
transactions in the project. Project managers must have a clear
idea about the transactions that takes place in the project and
identify which ones and how much is necessary. Unnecessary
expenses increase the total cost and lower the overall margin.
Significance of transaction cost theory
 To be more efficient in controlling transaction costs,
three factors need to be paid close attention to which are
monitoring,c ontrolling, and managing. In the
construction industry planning, bidding, programming,
reworking, and non-performance are the main sources
of the excessive transaction costs. Project managers
need to focus on these situations to lower the transaction
cost as much as possible.
 INFLUENCING FACTORS

THE OWNER THE CONTRACTOR

THE TRANSACTION
PROJECT MANAGEMENT ENVIRONMENT
TEAM
THE OWNER: The owner and owners representatives’ influence is a
significant factor in a project’s performance. Their experience, attitude
toward risk, financial stability, and confidence in the team all come as
important factors in the performance of the project. There are few indicators
that can help measure the role of the owner. Those are:

• Change orders

• Communicating with other parties

• Experience in similar projects

• Payment on time

• Organizational efficiency
 CHANGE ORDERS
 If the owner is not confident or clear about his/her plan, the owner may
want to make frequent changes to the initial plan. These changes take
time to be implemented and result in the additional cost being incurred.
The quantity and level of these change orders show how confident and
clear the owner is about his/her plan.

COMMUNICATING WITH OTHER PARTIES

 If the owner is not confident or clear about his/her plan, the owner
may want to make frequent changes to the initial plan. These
changes take time to be implemented and result in the additional
cost being incurred. The quantity and level of these change orders
show how confident and clear the owner is about his/her plan.
 EXPERIENCE IN SIMILAR PROJECTS
 If the owner is experience in managing similar projects , he/she will
make fewer mistakes and will request less information from the
contractor which will lower the transaction cost.

PAYMENT ON TIME
 An owner that does not make delayed payments occasionally will
take loans to make those payments which increase finance costs.
Delayed payment to subcontractors and other stakeholders will
degrade the relationship with said parties. Timely payments will
create good relationships with these parties and reduce the
possibilities of legal disputes which in turn reduces total
transaction costs.
 ORGANIZATIONAL EFFICIENCY

 Combining inputs can help achieve a cost-minimizing scale

of operations (Mosheim 2012). Organizations need to
realize what are the capabilities relevant to their objective
and how to procure them to achieve highest level of
effectiveness. If the owner is used to these situations and
knows to deal with them, it can help the organization
greatly. The owner’s performance in these fields will dictate
the total transactional cost severely.
• THE CONTRACTOR: Since a contract cannot cover all possible
contingencies, the contractor may refuse to recitify defects found in the
course of the project, may ask for additional payment due to inflation or
ither cost overruns, may threaten to deliberately file for bankruptcy, may
fall behind schedule, and may pick out design errors and charge
unreasonable rates for correcting them (Chang, Ive 2007). The following
factors can measure the contractors behaviours:

• Bidding behaviour

• The contractor’s qualifications

• Relationship with subcontractors

• Experience

• Relationship with clients

 BIDDING BEHAVIOUR
 Unbalanced pricing and collusion can be major problems for the
construction owners (Su et al., 2019). A bidder can overstate any item’s
price and increase the total cost. Collusive bids are hard to detect since
detecting them requires expertise in the field. The failure detect such issues
will result in an increased cost and reduced margin. How the contractor
performed in the past transactions can be taken into account to measure this
indicator.

THE CONTRACTOR’S QUALIFICATIONS

 It is a very basic requirement that the owner is aware of the
ability of the contractor to complete the project. If the
contractor’s abilities are unclear to the owner, then the contract
should be bonded by a secured party (Sacks et al., 2018). This
uncertainty about the contractors capabilities increases the cost
due to bonding costs. It may also reflect the possibilities of
deficiencies in the contractor’s side such as the inability to
properly schedule and coordinate the work. The owner’s
bonding requirements measure this indicator.
 RELATIONSHIP WITH SUBCONTRACTORS

 Good relationship with subcontractors can result in

improved performance since the subcontractors usually
communicate and perform well for the contractors that they
have a good working relationship with. General contractors
that do not have a good working relationship with their
subcontractors may see a backlash in the forms of raised
bids and sometimes not bidding at all. Therefore the
relationship of a general contractor with their subcontractors
positively affects their economic efficiency. The quality if
these relationships can be measured by the level of
partnership between the contractor and the subcontractor.
 EXPERIENCE
 Experience in similar types of project involves lessons learned
from completed projects (Kululanga, McCaffer. The track record
of previous projects and results in various fields such as
completing on schedule, without exceeding budget, and
upholding quality can indicate the contractor’s possibility of
success.
RELATIONSHIP WITH PREVIOUS CLIENTS
 Cooperation and trust are important to complete a project
properly and efficiently. This is well established in the
industry but a strong relationship between owners and
contractors is still difficult to achieve (Bresnen, Marshall
2000). A smooth relationship can lower the overall
transactional costs.
PROJECT MANAGEMENT TEAM : Since a contract cannot cover all
possible contingencies, the contractor may refuse to recitify defects found
in the course of the project, may ask for additional payment due to
inflation or ither cost overruns, may threaten to deliberately file for
bankruptcy, may fall behind schedule, and may pick out design errors and
charge unreasonable rates for correcting them (Chang, Ive 2007). The
following factors can measure the contractors behaviours:

• Ladership

• Quality of decision making

 LEADERSHIP
 Experience in similar types of project involves lessons learned
from completed projects (Kululanga, McCaffer. The track record
of previous projects and results in various fields such as
completing on schedule, without exceeding budget, and
upholding quality can indicate the contractor’s possibility of
success.
QUALIITY OF DECISION MAKING
 Cooperation and trust are important to complete a project
properly and efficiently. This is well established in the
industry but a strong relationship between owners and
contractors is still difficult to achieve (Bresnen, Marshall
2000). A smooth relationship can lower the overall
transactional costs.
THE TRANSACTION ENVIRONMENT: Since a contract cannot cover
all possible contingencies, the contractor may refuse to recitify defects
found in the course of the project, may ask for additional payment due to
inflation or ither cost overruns, may threaten to deliberately file for
bankruptcy, may fall behind schedule, and may pick out design errors and
charge unreasonable rates for correcting them (Chang, Ive 2007). The
following factors can measure the contractors behaviours:

• Project Complexity

• Fair risk allocation

 PROJECT CEMPLEXITY
 Experience in similar types of project involves lessons learned
from completed projects (Kululanga, McCaffer. The track record
of previous projects and results in various fields such as
completing on schedule, without exceeding budget, and
upholding quality can indicate the contractor’s possibility of
success.

FAIR RISK ALLOCATION

 Cooperation and trust are important to complete a
project properly and efficiently. This is well established
in the industry but a strong relationship between owners
and contractors is still difficult to achieve (Bresnen,
Marshall 2000). A smooth relationship can lower the
overall transactional costs.
 PROJECT CEMPLEXITY

 Experience in similar types of

project involves lessons learned
from completed projects
(Kululanga, McCaffer. The track
Planning record of previous projects and
results in various fields such as
completing on schedule, without
exceeding budget, and upholding
quality can indicate the
contractor’s possibility of
success.
CHALLENGES OF TRANSACTION COST THEORY

• The global market in almost every industry is now very

competitive. Customers expect higher quality and low price.
Markets are now unstable and risker. Considering all these
factors, lowering transaction cost seems to be the only
pragmatic plan to be successful in this market (Mpunga,
2016). The main challenge with gaining maximum economic
efficiency is the factor of trust. A transaction between two
parties that trust each other will not try to be overly
opportunistic and take advantage of every situation possible. If
trust does not exist between the parties, long term relation may
not be possible between them.
ADVANTAGES
AND
DISADVANTAGES
 ADVANTAGES

• Often while making a transaction, the client’s knowledge play

a bigger part in making the deal than actual product (Bradlow
et al., 2017). There are many products in today’s market,
namely electronic goods that require intense knowledge about
the goods which can help the client get a better deal and
lower transaction cost. When more parties than the principal
and the agent are involved in the deal making process, other
parties are usually brought in for their expertise. Not
everybody has the same amount of knowledge in every
sector. Expertise is necessary to get good deal and reduce
the transactional cost.
 DISADVANTAGES
 Experience in similar types of project involves lessons learned
from completed projects (Kululanga, McCaffer. The track record
of previous projects and results in various fields such as
completing on schedule, without exceeding budget, and
upholding quality can indicate the contractor’s possibility of
success.
EFFECTS ON COST CONTROL

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CONCLUSION

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 Outsourcing
•buying a specialized service, is another strategy
for managing interdependencies.The decision to
make or outsource products depends on whether
value exceeds bureaucratic costs.
 THE CONTRACTOR:
 Our Mision
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 Strategies

Planning Growth Optimization

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Our experience
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2020 2022 2023

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 Project timeline

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January March May July October

Entrepreneurship
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business
Profitability
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Market analysis
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Competition
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THANK YOU!!!