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The Make-or-Buy Decision in the Presence of a Rival: Strategic Outsourcing to a Common Supplier

  • Anil Arya

    ()

    (Fisher College of Business, Ohio State University, Columbus, Ohio 43210)

  • Brian Mittendorf

    ()

    (School of Management, Yale University, New Haven, Connecticut 06520)

  • David E. M. Sappington

    ()

    (Department of Economics, University of Florida, Gainesville, Florida 32611)

Firms routinely decide whether to make essential inputs themselves or buy the inputs from independent suppliers. Conventional wisdom suggests that a firm will not buy an input for a price above its in-house cost of production. We show that this is not necessarily the case when a monopolistic input supplier also serves the firm's retail rival. In this case, the decision to buy the input (and thus become one of the supplier's customers) can limit the incentive the supplier would otherwise have to provide the input on particularly favorable terms to the retail rival. Thus, a retail competitor may pay a premium to outsource production to a common supplier in order to raise its rivals' costs.

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File URL: http://dx.doi.org/10.1287/mnsc.1080.0896
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Article provided by INFORMS in its journal Management Science.

Volume (Year): 54 (2008)
Issue (Month): 10 (October)
Pages: 1747-1758

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Handle: RePEc:inm:ormnsc:v:54:y:2008:i:10:p:1747-1758
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  7. Chen, Yongmin, 2001. "On Vertical Mergers and Their Competitive Effects," RAND Journal of Economics, The RAND Corporation, vol. 32(4), pages 667-85, Winter.
  8. Stefan Buehler & Justus Haucap, 2003. "Strategic Outsourcing Revisited," SOI - Working Papers 0305, Socioeconomic Institute - University of Zurich.
  9. Alexander Schrader & Stephen Martin, 1998. "Vertical Market Participation," Review of Industrial Organization, Springer, vol. 13(3), pages 321-331, June.
  10. Long, Ngo Van, 2005. "Outsourcing and technology spillovers," International Review of Economics & Finance, Elsevier, vol. 14(3), pages 297-304.
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