Management Incentives, Signaling Effects and the Costs of Vertical Integration
The costs of vertical integration are analyzed within a game-theoretic signaling model. It is shown that a company when being vertically integrated with a supplier may well decide to buy certain components from this supplier even at a lower quality than that offered by external sources. When the parent company decides to stop buying components from the integrated supplier, the value of the ownership share in the supplier is reduced: On the one hand, the supplier’s profit from the transactions with its parent is foregone. But on the other hand, other clients may decide against buying from this supplier as the latter’s reputation for providing an appropriate quality is damaged. The loss in value of the ownership share may outweigh the loss due to the lower quality. The anticipation of this effect leads to reduced ex ante incentives for the supplier’s management to raise quality. A spin-off may therefore be beneficial as it strengthens incentives. Costs and benefits of vertical integration are analyzed and consequences for vertically integrated companies organized in profit centers are discussed.
|Date of creation:||Aug 2003|
|Publication status:||published in: Zeitschrift für Betriebswirtschaft, 2004, 74 (1), 27-52|
|Contact details of provider:|| Postal: IZA, P.O. Box 7240, D-53072 Bonn, Germany|
Phone: +49 228 3894 223
Fax: +49 228 3894 180
Web page: http://www.iza.org
|Order Information:|| Postal: IZA, Margard Ody, P.O. Box 7240, D-53072 Bonn, Germany|
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Schmitz, Patrick & Dirk Sliwka, 1999.
"On Synergies and Vertical Integration,"
Discussion Paper Serie A
602, University of Bonn, Germany.
- Oliver Hart & John Moore, 1988.
"Property Rights and the Nature of the Firm,"
495, Massachusetts Institute of Technology (MIT), Department of Economics.
- Oliver Hart & Sanford Grossman, 1985.
"The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration,"
372, Massachusetts Institute of Technology (MIT), Department of Economics.
- Grossman, Sanford J & Hart, Oliver D, 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 691-719, August.
- Grossman, Sanford J. & Hart, Oliver D., 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Scholarly Articles 3450060, Harvard University Department of Economics.
- Grossman, Sanford J & Hart, Oliver, 1985. "The Cost and Benefits of Ownership: A Theory of Vertical and Lateral Integration," CEPR Discussion Papers 70, C.E.P.R. Discussion Papers.
- Chiu, Y Stephen, 1998. "Noncooperative Bargaining, Hostages, and Optimal Asset Ownership," American Economic Review, American Economic Association, vol. 88(4), pages 882-901, September.
- Jean Tirole, 1988. "The Theory of Industrial Organization," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262200716, September.
- Rosenkranz, Stephanie & Schmitz, Patrick W., 2001. "Vertikale Unternehmenskooperationen," MPRA Paper 6930, University Library of Munich, Germany.
- Schmidt, Klaus M, 1996.
"The Costs and Benefits of Privatization: An Incomplete Contracts Approach,"
Journal of Law, Economics and Organization,
Oxford University Press, vol. 12(1), pages 1-24, April.
- Schmidt, Klaus M., 1996. "The costs and benefits of privatization: An incomplete contracts approach," Munich Reprints in Economics 19773, University of Munich, Department of Economics.
- Masten, Scott E, 1984. "The Organization of Production: Evidence from the Aerospace Industry," Journal of Law and Economics, University of Chicago Press, vol. 27(2), pages 403-417, October.
When requesting a correction, please mention this item's handle: RePEc:iza:izadps:dp856. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Mark Fallak)
If references are entirely missing, you can add them using this form.