Week 5 - Corporate Strategy and Vertical Integration

Three dimensions of corporate strategy

• where in the world to compete

• what industries

• what stages of value chain

3 reasons to outsource

incentives and costs, production efficiency, site specificity

Reasons to outsource

Incentives and costs

• stronger cost and quality incentives

• lower internal influence costs

• avoid internal politics

Reasons to outsource

Production efficiency

• non replicable resources (expertise, patents, relationships)

• economies of scale

• specialisation

Asset specificity

Specific Investment

asset worth less outside relationship

Asset specificity

General investment

some value elsewhere

Asset specificity

Non human asset specificity

custom machines specialised buildings, software, designs

Asset specificity

Human asset specificity

firm specific skills client specific knowledge in outsourcing

2 reasons to outsource

control over brand, access to market information

Problems with private information leakage

data leak risk, outsourcing requires sharing private information

Solutions for private information leakage

exclusivity clauses, patents and trademarks, vertical integration

Reasons to outsource

Site specificity

value depends on location

Vertical integration (when to integrate)

long contract duration, high negotiation costs, high uncertainty/complexity

Benefits of vertical integration

better coordination and control, lower contracting costs, easier renegiotation

Contingent contracts

evaluate performance, enforce complete contingent contracts

If contingent contracts are left uncomplete…

• direct negotiate costs

• inefficiencies due to information asymmetries

• costly delays

‘Make’ or ‘buy’

What is make?

produce outputs to be used within the firm

‘Make’ or ‘buy’

What is buy?

inputs from the market rather than inhouse production