The hidden costs of outsourcing: evidence from patent data

Abstract Drawing on patent data for approximately 500 firms over 20 years, we advance recent theory on firm boundaries and test these propositions for the first time. We first provide evidence for the existence of knowledge complementarities between vertically related activities in a firm's value chain by showing that firms face increasing (decreasing) performance in conducting downstream activities (i.e., patent litigation) the less (more) they outsource related upstream activities (i.e., patent filing). We then propose and empirically demonstrate that vertical integration benefits through learning differ from vertical outsourcing costs through forgetting. We show that firms can partly offset these hidden outsourcing costs by sourcing similar upstream products from internal and external suppliers. Copyright © 2010 John Wiley & Sons, Ltd.