Why Do Firms Both Make and Buy? An Investigation of Concurrent Sourcing BA549A Session 3: Transaction Cost Economics - Empirical Anne Parmigiani Strategic Management Journal (2007) by Eunkwang Seo

Q1. Why would firms both make and buy simultaneously? AGENDA Main Question Q1. Why would firms both make and buy simultaneously? Q2. Whether is concurrent sourcing a distinct choice or a point at the make/buy continuum? Three Theoretical Lenses Transaction Costs Economics : Asset specificity, uncertainty Neoclassical Economics : Uncertainty, economies of scope Capability-based View : Expertise, technological uncertainty

TCE) Concurrent sourcing occurs at moderate transaction costs. THEORY & HYPOTHESES Transaction Costs Economics The Assumption of a Make/Buy Continuum “Discrete market exchange at the one extreme to hierarchical organization at the other, which myriad of intermediate modes filling the range in between” (Williamson, 1985) A linear relationship between asset specificity (or uncertainty) and internalization. Emphasis on Transaction Characteristics Firm would never integrate for production cost reasons alone (Williamson, 1985). This may be true for full integration, but in the case of partial integration (i.e., concurrent sourcing), aspects of production costs such as economies of scale (or scope) might matter. TCE) Concurrent sourcing occurs at moderate transaction costs.

Transaction Costs Economics THEORY & HYPOTHESES Transaction Costs Economics Hypotheses H1TCE: Moderately asset-specific goods will be concurrently sourced. H2TCE: Goods with a moderate level of volume uncertainty will be concurrently sourced. Unpredictability of demand and an accompanying inability to accurately forecast and schedule production H3TCE: Goods with a moderate level of performance uncertainty will be concurrently sourced. The difficulty in predicting how a good will perform in the firm’s subsequent production processes (difficulty in output control)

Neoclassical Economics THEORY & HYPOTHESES Neoclassical Economics Hedging against Uncertainty Neither completely making nor completely buying will sufficiently resolve the uncertainty. A firm can keep its internal plant at full production by using suppliers to handle fluctuating additional volumes. Aspects of Production Costs (Economies of Scope) A firm is motivated to make and buy to reduce production costs. When both the firm and the supplier can reduce production costs through economies of scope, the firms would be motivated to make and buy simultaneously in order to enjoy both lower internal costs and low supplier prices. NEO) Concurrent sourcing occurs at high uncertainty and production costs.

Neoclassical Economics THEORY & HYPOTHESES Neoclassical Economics Hypotheses H2NEO: The greater the good’s volume uncertainty, the more likely the firm will concurrently source. H3NEO: The greater the good’s performance uncertainty, the more likely the firm will concurrently source. Reduce information asymmetry through learning by external sourcing H4NEO: The greater scope economies for both the firm and its suppliers to produce the good, the more likely the firm will concurrently source. The difficulty in predicting how a good will perform in the firm’s subsequent production processes (difficulty in output control)

Capability-based View THEORY & HYPOTHESES Capability-based View Expertise and Learning Both the firm’s and the supplier’s expertise matter for concurrent sourcing. The greater a firm’s (a supplier’s) expertise, the greater its degree of internalization (outsourcing). Addressing Technological Uncertainty Learning is imperative when the progress of technology is difficult to predict. Concurrent sourcing makes the firm ‘ambidextrous’ to predict the technological change more accurately as well as ‘flexible’ by having a real option. CAP) Concurrent sourcing occurs at high expertise and tech uncertainty.

Capability-based View THEORY & HYPOTHESES Capability-based View Hypotheses H5CAP: The greater the expertise of both the firm and its supplier, the more likely the firm will concurrently source. Keeping core competences and learning from competent suppliers H6CAP: The greater the good’s technological uncertainty, the more likely the firm will concurrently source. Being ambidextrous and having a real option resulting in greater flexibility Q. Do firms learn from just sourcing supplies?

EMPIRICS Methods Research Setting Metal stamping and powder metal firms for production tooling and services Consisting of numerous independent, mature small firms & homogenous production process Data and Sample After on-site interviews with managers from 11 metal forming firms, she surveyed 453 firms (366 in stamping and 87 in powder metal) to collect data. 193 usable surveys were obtained (43 percent usable response rate) Five production-related goods die design, die building, die maintenance, end-part machining, and end- part surface coating Final sample used in the analysis includes 804 observations.

EMPIRICS Methods Measures DV: Sourcing mode Internally, externally, or concurrently (percentage of internal production) IV: Asset specificity, Volume uncertainty, performance uncertainty, technological uncertainty, scope economies, expertise Controls: # of employees, firm age, unionization, firm type, scale economies, volume required, input similarity Models Ordered Logit vs. Multinomial Logit Ordered logit is used when dependent variable is ordinal categories, while multinomial logit is used when dependent variable is distinct choices. Comparing the fitness of the two models

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CONCLUSION and CRITIQUE Hybrid Governance Mode Concurrent sourcing appears to be a distinct choice over making or buying, rather than a linear combination of the two sourcing modes. By separating plural modes from other types of governance, we can better understand hybrid modes. Some factors may motivate a firm toward one mode but not necessarily away from another. Critique Ideas are very interesting, but empirics are not sufficient to support the ideas. How much can a firm learn by sourcing supplies? TC + BC of concurrent sourcing vs. TC or BC of single sourcing.