Internalization Choices under Competition – A Game Theoretic Approach

Abstract

Research Summary
A long-standing void in international business literature is understanding whether and how the internalization choices of competing multinational enterprises (MNEs) affect each other. This paper presents a game-theoretic, location-allocation mathematical model that predicts the organizational boundaries of competing MNEs. Given multiple players in the market, the game analyzes the competition between MNEs with respect to market share, yielding Nash equilibria that determine how many MNEs will be left in the market, and whether their production and marketing sites are internalized or outsourced. Results of computational experiments suggest that the internalization choices of profit maximizing MNEs that compete with each other, sharply deviate from the internalization choices ignoring such competition.

Managerial Summary
We present a game theory model of the effect of competition between multinational enterprises (MNEs) on their decisions whether to outsource or internalize production and marketing activities. Our model predicts that, at the presence of even modest knowledge transfer costs, such competition likely results in a monopoly outcome. The monopolistic MNE outsources production and builds on the resources that are freed due to this outsourcing to establish more R&D units and internalize marketing units. In addition, our model shows that when knowledge transfer costs are negligible, entry barrier reduce and more competitors arises. These competing MNEs will split markets between them in order to avoid direct competition, will have a greater propensity to outsource their marketing sites, and will need fewer marketing sites to control worldwide sales.

Keywords: internalization, competition, global value chains, global system view, discrete choice modeling