R&D Delegation in a Duopoly with Spillovers

There is evidence that competing firms outsource R&D to the same independent for-profit laboratory. We draw on this stylized fact to construct a model where two firms in the same industry offer transfer payments in exchange for user-specific R&D services from a common laboratory. Inter-firm and within-laboratory externalities affect the intensity of competition among delegating firms on the intermediate market for technology. Whether competition is relatively soft or tight is reflected by each firm's monetary offers to the laboratory. These offers determine the R&D outcomes, the laboratory's capacity to earn benefits, the profits for the delegating firms, as well as social welfare. We identify the situations in which the laboratory finds it profitable to deliver services to only one firm, or to both of them. In the latter case we compare the delegated R&D game to two other ones where firms conduct in-house R&D, either cooperatively or non-cooperatively. The delegated R&D game Pareto dominates the other two games, and the laboratory earns positive benefits, if and only if R&D services are complementary inside the laboratory, but only limitedly so, and inter-firm spillovers are sufficiently low. The firms' privately-profitable decision to delegate R&D, when the laboratory participates, always benefits consumers.