Does Outsourcing New Product Development Harm or Hurt?

CHICAGO, Nov. 7, 2012 /PRNewswire-USNewswire/ -- Whether outsourcing New Product Development harms or hurts depends on the nature of uncertainty the outsourcing firm faces (technological versus cultural) and the mechanisms it employs to cope with uncertainty.

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As companies have grown comfortable with outsourcing, they have started to outsource strategic activities that until recently had not been outsourced, such as New Product Development (NPD). Despite its increased popularity, many NPD outsourcing arrangements are not delivering the expected benefits.

The authors study the performance consequences of outsourcing NPD and develop a framework to explain why some outsourcing firms benefit while others suffer losses. Central to this framework is the observation that outsourcing firms face varying levels of technological and cultural uncertainty that can be managed through two types of governance mechanisms: taking a minority equity participation in the outsourcing provider versus selecting a provider to whom the outsourcing firm has outsourced NPD in the past (i.e. prior tie selection). The focal performance measure is shareholder value, a financial metric that is highly relevant to managers today.

When outsourcing firms are operating in a technologically uncertain environment, minority equity participation is the most effective governance mechanism. It helps firms understand the true value-creating potential of the outsourcing provider's technology and it ensures the provider's loyalty when confronted with technological change. In contrast, prior tie selection exacerbates the problems inherent to technological uncertainty, and leads to less favorable performance consequences of outsourcing NPD.

When firms face cultural uncertainty, they are advised to use prior tie selection as governance mechanism, as it enables them to manage key problems created by cultural distance: honest misunderstandings that hamper knowledge transfer and opportunistic miscommunication that is hard to detect because of information asymmetry. In contrast, minority equity participation does not solve these problems, and thus will not lead to more favorable performance consequences of outsourcing NPD.

The analysis appears in the October 2012 issue of the American Marketing Association's Journal of Marketing Research.

The authors provide managers direction in terms of how to govern NPD outsourcing arrangements (i.e. minority equity participation and/or prior tie selection) when they face technological or cultural uncertainty.

No single governance mechanism is always superior. Instead, minority equity participation and prior tie selection can be double-edged swords, with a performance-enhancing potential that increases under certain uncertainty conditions but decreases under others.  

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SOURCE American Marketing Association