The Double-Edged Sword of Vertical Integration: Navigating Value Capture, Transaction Costs, and Information Flow

Abstract

The traditional transaction cost perspective helps us understand how governance structures impact dyadic transaction costs by focusing on the possibility of ex-post holdup, but it usually neglects the impact of such decisions on other agents. This paper examines the broader implications of vertical integration on innovation ecosystems. While integration enhances internal coordination and rent extraction, it reduces incentives for external firms to share knowledge, introducing endogenous costs. A theoretical model reveals how integration reshapes collaboration dynamics, leading to over-adoption of innovations, decreased external information-sharing, and reduced diversity of inputs. The findings highlight trade-offs between efficient internal knowledge flows and broader market cooperation, emphasizing the strategic importance of balancing integration and disintegration. By advancing theory and providing managerial insights, this paper contributes to understanding the interplay between organizational structure, innovation, and market-wide collaboration.

Keywords: Transaction Cost Economics, Vertical Integration, Information Sharing, Organizational Design, Value Capture Theory