A Bargaining Perspective on Strategic Outsourcing and Supply Competition

Strategic Management Journal, Forthcoming

Melbourne Business School Working Paper No. 2004-25

50 Pages Posted: 30 Jul 2004 Last revised: 18 Nov 2012

Catherine de Fontenay

Melbourne Business School; Department of Economics

Joshua S. Gans

University of Toronto - Rotman School of Management; NBER

Date Written: July 1, 2007

Abstract

This paper considers the outsourcing choice of a downstream firm with its own upstream production assets. Using both a standard linear pricing model and a bilateral bargaining approach, we examine the equilibrium pricing outcomes that emerge if there are two downstream and two upstream assets. We then characterize the downstream firm's decision as to whether to outsource to an independent or established upstream firm. In so doing, it faces a trade-off between lower prices afforded by independent competition and higher asset value associated with the consolidation of upstream assets. We show that, while under a standard approach, this choice is resolved in favor of independent upstream production, when efficient, non-linear pricing is feasible, outsourcing is to an established firm. This suggests the importance of pricing structure in evaluating the nature of strategic outsourcing behavior.

Keywords: Outsourcing, vertical integration, double marginalization, bargaining, competition

JEL Classification: L42

Suggested Citation

de Fontenay, Catherine and Gans, Joshua S., A Bargaining Perspective on Strategic Outsourcing and Supply Competition (July 1, 2007). Strategic Management Journal, Forthcoming; Melbourne Business School Working Paper No. 2004-25. Available at SSRN: https://ssrn.com/abstract=570001 or http://dx.doi.org/10.2139/ssrn.570001

Catherine C. De Fontenay

Melbourne Business School ( email )

200 Leicester Street
Carlton, Victoria 3053 3186
Australia

Department of Economics ( email )

Melbourne, 3010
Australia
61383443604 (Phone)
61383446899 (Fax)

Joshua S. Gans (Contact Author)

University of Toronto - Rotman School of Management ( email )

Canada

HOME PAGE: http://www.joshuagans.com

NBER ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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