UNIVERSITY OF SOUTHERN DENMARK DEPARTMENT OF MARKETING & MANAGEMENT

TERM PAPER

PLURAL SOURCING: WHY DO COMPANIES MAKE AND BUY?

ADVANCED STRATEGY AND ORGANIZATION THEORY

STUDENT: PETRU RARES POPELCA CPR: 251187 3145 JUNE, 2010

ABSTRACT Plural sourcing is a phenomenon where firms simultaneously make and buy the same good. Altough in practice firms often use it, plural sourcing has received little attention in the literature on firms boundaries. This paper attempts to review, discuss and compare different theoretical approaches for explaining why firms use plural sourcing. The streams of literature used in this paper for explaining plural sourcing are: transaction cost economics, agency theory, neoclassical economics and the firm capabilities literature. Main hypotheses and findings from each theory and their explanation for plural sourcing are presented. Plural sourcing is implemented by firms because it helps safeguard transaction specific assets, reduces performance measurement difficulties, handles technological uncertainty, reduces the negative effects of volume uncertainty and contributes to the organizational learning. These effects of plural sourcing are supported with empirical examples identified in the literature. The tensions and also complementarities that arise between the identified theories are discussed. In the conclusions section, possible topics for future research are presented. INTRODUCTION Theories of the firm traditionally posit that firms determine their boundaries by choosing whether to make or buy a good (Coase, 1937; Williamson, 1975). Most of the extant research examines the dichotomous choice between markets and hierarchies and doesnt consider that, however, in practice, we can see that some firms are using simultaneously both governance forms (Heide, 2003; Heriot & Kulkarni, 2001; Parmigiani, 2009; Rothaermel et al., 2006). Plural sourcing is a phenomenon where firms simultaneously make and buy the same good, therefore they simultaneously use the governance mode of market and hierarchy. This paper poses the following research question: Why do firms at the same time make and buy the same good? This question addresses the determinants of plural sourcing and is basical for understanding the conditions which favor or lead to make and buy. The research concerning plural form organizations is not very advanced, many different terms being used to describe the same phenomenon which makes more difficult for scholars to develop a congruent research stream. Some of the first scholars to acknowledge the presence of plural sourcing were Porter (1980) and Harrigan (1984), and they use the term taper integration, to describe a firm which is partially integrated and simultaneously has suppliers for a part of its supplies or distribution. Plural sourcing, which is referred as concurrent sourcing by Parmigiani (2007), is described as a governance structure where a
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firm is backward, partial vertically integrated with regard to the same good or service. I will use in the rest of the paper the term concurrent sourcing interchangeably with plural sourcing. Jacobides and Billinger (2006) use the term permeable vertical architectures to describe firms that are partly vertically integrated and partly open to the markets, Heide (2003) uses the term plural governance in industrial purchasing and Du et al. (2006) use bi sourcing when a firm is acquiring the same intermediate inputs from external and internal suppliers. Conceptually, Bradach and Eccles (1989) and Gulati et al. (2005) describe concurrent sourcing as a plural governance mode. Empirically, scholars have studied concurrent sourcing in a variety of industries and settings, including trucking, computing, restaurants, general manufacturing and research activities (Bradach, 1997; Cassiman and Veugelers, 2006; He and Nickerson, 2006; Heide, 2003; Rothaermel et al., 2006). Plural sourcing is also common in sales, where firms use both internal agents and outside representatives (Dutta et al., 1995). Parmigiani (2007) shows that concurrent sourcing of individual components in manufacturing is common when a firm and its suppliers jointly possess substantial relevant knowledge. When considering the make or buy choice, the firm chooses either between the costs incurred by the making process or the ones incurred by the buying process. When using plural sourcing the firm must incur both the costs of attracting capital, managing plant and equipment capacity, and coordination that accompany internal production as well as the cost of finding, selecting, negotiating with, and maintaining the relationship with external suppliers. Once both internal and external sources are in place, managing these simultaneously can be challenging owing to comparisons, suspicions, and shirking that can occur between the two sources (Hennart, 1993). Plural sourcing may actually increase coordination costs in situations in which products produced by outside suppliers and the internal unit must match exactly (Porter, 1980). Given that concurrent sourcing is more costly to set up and manage, why would firms select this sourcing mode over solely making or solely buying? The answer would be that the benefits gained by using plural sourcing have to be higher than the costs incurred by it. It is very important for the company to find out exactly which are the benefits and if it is worth using plural sourcing. The forces that motivate the firm toward making may not be the same as those motivating it not to use the market. It could be that forces pushing the firm away from making and away from buying motivate it to concurrently source, as the lesser of the three evils (Parmigiani, 2007 : 286). Alternately, there are benefits that motivate the firm to make and
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buy, thus motivating it to concurrently source to gain the different benefits of both. It is the concurrent use of these two mechanisms, not the extent of one or the other, which provides the benefits to the firm. Economists have provided some explanations why firms would concurrently source and could help us understand why concurrent sourcing is a phenomenon that is becoming highly appreciated and used by firms. Plural sourcing can be used as a buffer in times of demand uncertainty, pushing the fluctuations in volume into suppliers in order to ensure full internal capacity and stable production, even if the costs with suppliers would be higher (Adelman, 1949; Gulati et al., 2005; Harrigan, 1984; He and Nickerson, 2006). Firms engage in plural sourcing to acquire knowledge about production costs and processes in order to improve their bargaining power when negotiating with outside suppliers and to be able to monitor them better (Ahmadjian & Lincoln, 2001; Bradach & Eccles, 1989; Du et al., 2006; Harrigan, 1984; Porter, 1980). Through concurrent sourcing, firms can obtain a deeper understanding of the production process as well as benefit from the broader knowledge of suppliers while simultaneously balancing shirking and slacking (Hennart, 1993). Moreover, different studies show that opportunities for cost sharing and learning among buyers and suppliers create incentives for concurrent sourcing (Ahmadjian & Lincoln, 2001; Cassiman and Veugelers, 2006; He and Nickerson, 2006; Heide, 2003; Parmigiani, 2009). Bradach (1997) studied restaurant chains looking whether they own or franchise a restaurant and found that they often do both. His conclusion was that concurrent use of both forms can improve performance and enhance learning. Through plural sourcing, the effects of both production and transaction costs can be better understood, as firms simultaneously strive to produce efficiently, improve their processes, and monitor suppliers (Parmigiani, 2007). Parmigiani (2009) made a survey among a class of senior executive MBA students to find out whether their firms are engaged in concurrent sourcing. The results demonstrate that managers recognize the concept of concurrent sourcing and that concurrent sourcing is common in their experience. The next section of this paper presents the relevant literature streams identified for explaining plural sourcing and empirial support for this phenomenon.

RELEVANT LITERATURE STREAMS Transaction cost economics In the last three decades, transaction cost economics (TCE) has been the dominant paradigm for understanding why firms choose to make rather than buy goods (Coase, 1937; Jacobides and Hitt, 2005; Williamson, 1975). TCE considers the behavioral implications of the economic actors involved in the sourcing decision (Heriot & Hulkarni, 2001). Transaction costs, or the costs of drafting, negotiating, monitoring and enforcing a contract, increase because of the bounded rationality and opportunism on the part of a firms employees and suppliers (Williamson, 1985). As a consequence of bounded rationality the economic agents are not able to foresee all eventualities of their actions, and contracts are incomplete, so they have to be flexible and adapt fast to changing circumstances. Opportunism is defined as self-interest seeking with guile (Williamson, 1985: 47) and makes it necessary for the firms to safeguard their investments. Williamson (1985) argues that it may not be necessary to estimate the transaction costs of vertical integration and outsourcing. It is usually sufficient just compare these costs at a given time and decision makers choose between making and buying depending on which economizes on the transaction costs. When selecting the governance form, a firm has three alternatives: market, hierarchy or their hybrid (Mols, 2010). The characteristics of the market are: high-powered incentives, no administrative control and efficiency in autonomous adaptation (Williamson, 1991). The market is supported by classical contracts, and it protects against opportunism when there are many alternative buyers and sellers and all relevant information is contained in the prices (Williamson, 1985). The characteristics of the hierarchy are: low-powered incentives, opportunities for administrative control, and efficiency in cooperative adaptation. Hierarchy is supported by forbearance, it protects against opportunism by following norms and the use of fiat, and it economizes on bounded rationality by allowing for adaptive sequential decision-making (Williamson, 1985). Due to opportunism and bounded rationality, asset specificity, uncertainty and the frequency of transaction are key transaction cost drivers, as they increase the costs of using the market, motivating the firm not to buy but make (Williamson, 1975, 1985). The most
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important factor is the asset specificity and because it has the highest impact on the transaction costs (Williamson, 1985) it is the central independent variable. It refers to the degree of idiosyncrasy of an investment; the more idiosyncratic the investment is, the more likely the firm is going to produce the good inside the firm, because the production costs would be lower than the possible costs for safeguarding against suppliers opportunism (Poppo and Zenger, 1998; Williamson, 1975). Transaction cost theory is the most influential theory for explaining firm boundaries (Santos and Eisenhardt, 2005), but it doesnt explain the existence of concurrent sourcing. The central problem is safeguarding transaction specific assets and the unit of analysis is the transaction (Williamson, 1985), while in the case of plural sourcing we are dealing with two differently governed transactions (Mols, 2010). Concerning asset specificity no empirically supported findings exist in the plural sourcing literature. The only evidence on the effect of asset specificity on concurrent sourcing is provided by Dutta et al. (1995) in their article on dual distribution. The authors argue that in a lock-in situation, supplier opportunism would traditionally lead to vertical integration, and they present the internal production as a safeguard against the possible suppliers opportunistic behaviour, that could arise as a consequence of the buyers investment high level of asset specificity. The internal level of production can be increased in case the supplier doesnt delivers what he has promised or tries to hold up the buyer. Specifically, they examine dual channels whereby the firms distribute through independent manufacturers representatives and house accounts. Using the house accounts offers the buyer with an alternative and thus with a termination safeguard (Dutta et al., 1995). Using concurrent sourcing offers a solution to protect against hold ups from the supplier. The commitment to terminate the contract becomes more credible with an increase in the percentage of the internal production (Heide, 2003; Puranam et al., 2008). TCE remains a perspective where the sourcing forms are located at distinct stages of one continuum (Parmigiani, 2007) which runs from high to low asset specificity (or vice versa) and are therefore still considered to be mutually exclusive because asset specificity cannot be both low and high, at the same time. And exactly this assumption contradicts the nature of plural sourcing, where distinct governance modes coexist in performing the same transaction (Krzeminska, 2009). Although Parmigiani (2007) agrees that TCE is an influential theory for investigating strategic issues and an essential theory of vertical integration, she argues that TCE has been surprisingly silent on the question of concurrent sourcing. One of the hypotheses from her
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paper states that with an increase in the asset specificity of an activity, increases the chance of internalizing it, but at moderate levels of asset specificity concurrent sourcing could be used. This idea is contested by Puranam et al. (2008), who argue that intermediate levels of asset specificity cannot explain the use of plural sourcing. Parmigiani (2007) couldnt find support for her hypotheses on her survey on small manufacturing firms. Her result suggests that plural sourcing occurs when firms are just indifferent in choosing between making and buying (Puranam et al., 2008). To sum up the existing empirical results concerning the effect of asset specificity on plural sourcing, we can see that evidence is contradictory. While Dutta et al. (1995) find asset specificity to be positively correlated with plural sourcing, Parmigiani (2007) affirms that specific investments would determine firms to make. Uncertainty is another factor that influences the sourcing decision and includes both the potential for environmental change and the unpredictability of a partners behavior (Williamson, 1985). An increase in the level of uncertainty can lead to adaptation problems and difficulty in evaluating performance, which would motivate firms in using the hierarchy, because authority enables better monitoring and coordination, and avoids supplier opportunism (Williamson, 1985). Uncertainty consists of a number of distinct constructs, such as demand unpredictability, environmental volatility and performance measurement difficulty (Parmigiani, 2007). Performance uncertainty is the crucial uncertainty type in TCE because it reflects the risk of opportunism which is the basis for all transaction cost arguments. Opportunism relates to incomplete or distorted passing on information, especially to intentional attempts to cheat (Williamson, 1985). This uncertainty refers to the difficulty in predicting how a good will perform after purchasing it. Opportunism on the side of the exchange partners leads to performance ambiguity, since performance ambiguity would not pose any transactional or contractual problems when all economic actors honestly present the true nature of their performance (Heide, 2003; Williamson, 1985). Further, performance ambiguity problems are conceptually based on bounded rationality, since otherwise all economic actors would posses all information about the true nature of the other economic agents performance and no performance ambiguity could arise. Thereby, performance ambiguity is normally associated with market failure and therefore is expected to lead to choose hierarchy, since a supplier can more easily act opportunistically without being detected when we have information asymmetry (Jacobides and Hitt, 2005;
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Parmegiani, 2007; Williamson, 1975). But at moderate levels of performance uncertainty firms could concurrently source (Parmigiani, 2007). Performance uncertainty will be greater for more complex goods, especially those that involve multiple components and technologies, since complexity increases the difficulty in evaluating quality before use (Parmigiani, 2007; Williamson, 1975). This will lead to difficulties in monitoring the supplier. A good example in this sense is the example of Toyota and its electronics supplier Denso (Ahmadjian & Lincoln, 2001). As electronics technology became more complex, information asymmetries increased between Toyota and Denso. Denso understood electronics far better than Toyota, and Toyota found it increasingly difficult to evaluate what its key supplier was doing. At this point, in order to reduce its dependence on Denso, Toyota decided to use concurrent sourcing, by building an in-house capability in electronic components. Dutta et al. (1995) suggest that uncertainty about the independent manufacturers representatives (rep channel) performance favors the implementation of house accounts (direct channels), because this internal uncertainty refers to an information asymmetry of which reps can take advantage when no house accounts exist. Performance ambiguity seems to be an important determinant of plural sourcing, since more authors succeed in supporting their hypotheses empirically (Ahmadjian & Lincoln, 2001; Dutta, 1995; Heide, 2003). Volume uncertainty is another type of environmental uncertainty that should affect the sourcing decision. This uncertainty refers to unpredictability of demand and creates difficulties for the firm to forecast and schedule production (Harrigan, 1984; Porter, 1980). Volume uncertainty will make it more difficult to contract with suppliers since volume requirements will directly affect their costs, which will generally be lower when volume is smooth and predictable (Parmegiani, 2007). Volume uncertainty will also lead to more misunderstandings and coordination problems, increasing the need to communicate and this will impede adaptation (Williamson, 1985). As a result, firms will produce more of their requirements internally in this situation. But, Parmegiani (2007) argues that goods characterized by a moderate level of volume uncertainty are going to be concurrently sourced. Even if TCE theory suggests that adaptation problems intensify when we are talking about specific assets (Williamson, 1985), Heide (2003: 22) argues that buyers that make specific investments in the context of a plural structure increase their assets portability. This is a very interesting finding because is a way of reducing the asset specificity.
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Du et al. (2006) also argue that the firm can use the internal supplier to minimize the potential efficiency losses from the hold-up problem of the external supplier. Thus, although investments are made in relation to a particular external supplier, the joint presence of an internal operation increases the likelihood that some of the relevant assets can be redeployed, in case the supplier tries to hold up the buyer. Thus, in addition to uncertainty itself, the interaction between uncertainty and specific assets may affect the use of plural sourcing. Transaction cost economics doesnt support the phenomenon of concurrent sourcing and arguments from a transaction cost perspective suggest that many cases of plural sourcing may turn out to be quite different goods being procured through different modes (Mols, 2010; Parmigiani, 2007; Puranam et al., 2008). The idea of concurrent sourcing may appear to arise when Williamson (1985) suggests that . . . where firms are observed both to make and to buy an identical good or service, the internal technology will be characterized by greater asset specificity than will the external technology (Williamson, 1985: 96). But technologies with different asset specificity refers to different goods, and what appears to be identical are in fact heterogeneous transactions (Puranam et al., 2008). Another empirical illustration of heterogenous transactions can be found in a paper by He and Nickerson (2006) that examines why many interstate trucking companies engage in hiring their own drivers as well as relying on external drivers often for trips of comparable mileage and loads. The answer they propose is that not all load-miles are equal, thus suggesting that firms are not necessarily simultaneously making and buying the exact same thing (Puranam et al., 2008). Another gap of TCE in explaining concurrent sourcing is that the standard comparative cost logic of TCE cannot explain why some proportion of a good is made and some proportion simultaneously bought; it only allows for a prediction of the conditions under which all or none of it is bought (or made) (Puranam et al., 2008). Bradach and Eccles (1989) criticized transaction cost economics for its lack of attention to concurrent sourcing. They argue that by slavishly adhering to the markets and hierarchies framework, [TCE research] ignores the obvious and fascinating issues of why companies so often both make and buy (Bradach & Eccles, 1989: 100). According to them, price, trust and authority are three basic processes that are combined in different ways within governance forms and are vital for understanding concurrent sourcing. Heriot and Hulkarni (2001) also agree with the idea that plural sourcing requires a higher degree of trust than the generic make or buy.

Dutta et al. (1995) contradict this and they find support for the ability of transaction cost theory to explain plural sourcing, arguing that trust is not a variable necessary to explain concurrent sourcing. After reviewing the literature on TCE, we can see that there is a serious theoretical deficit when we consider the contradictions among researchers in the concurrent sourcing literature on whether TCE is appropriate to explain concurrent sourcing at all (Krzeminska, 2009). Agency theory Complementing the focus on transaction costs, the agency theory focuses on measurement costs caused by information asymmetries (Holmstrom, 1999; Santos and Eisenhardt, 2005; Williamson, 1985). Information asymmetries exist when one party (i.e. the external supplier), called the agent, is better informed about aspects of the exchange than the other, the principal, leading to adverse selection and moral hazard. Adverse selection is a problem of precontractual opportunism, and is based on the private information that the agent has. Moral hazard represents changes in the behaviour of the agent after writing the contract and could take the form of quality debasement or actual cheating (Milgrom & Roberts, 1992). A central variable in agency theory is performance measurement difficulty (Poppo and Zenger, 1998) or information asymmetry (Heide, 2003). Performance measurement difficulty refers to situations where it is costly and difficult to accurately measure and assess the performance of the supplier. The monitoring costs increase with the increase in the measurement difficulty, and this affects negatively the performance of the external suppliers (Mols, 2010). When the performance measurement difficulty is high, it is costly to closely inspect product quality, and the suppliers have strong incentives to produce at a lower quality or cheat and as a result the market fails (Holmstrom, 1999; Milgrom & Roberts, 1992). As a result, hierarchy is going to be used because it is easier to access information, monitor inputs and behavior, supervise activities and align incentives (Ahmadjian & Lincoln, 2001; Holmstrom, 1999). Therefore, the negative effect of measurement difficulties is predicted to be stronger when activities are carried out by external suppliers than when activities are organized internally (Poppo & Zenger, 1998), because market transactions bear the risk of opportunism problems, since suppliers can more easily remain undetected when delivering low quality products (Heide, 2003; Parmigiani, 2007).
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On the other hand, Krzeminska (2009) argues that hierarchy offers low powered incentives (Williamson, 1991) that could lead to performance ambiguity, because of moral hazard of employees. As a result, she states that under conditions of high performance ambiguity it comes to both market and hierarchy failure (Krzeminska, 2009: 78). The conclusion is that neither market nor hierarchy can solve the problem of performance uncertainty alone, and only a combination of this two governance modes, by serving as a benchmark for each other, could reduce the performance ambiguity (Bradach, 1997; Bradach & Eccles, 1989; Dutta et al., 1995; Heide, 2003). Concurrent sourcing would than be the solution for mitigating the negative effects of performance measurement difficulties. Hennart (1993) shows that cheating and shirking costs increase more than proportionately as the buyer uses pure market or only hierarchy. Hence she argues that a combination of both methods generally minimizes the sum of cheating and shirking costs. This explains the result from her paper why most transactions exhibit features of both markets and hierarchy. By creating competition between internal and external suppliers, the firm enjoys the benefits of stronger incentives acting on both kinds of suppliers (Bradach, 1997). The competition created doesnt have an effect only on the external supplier, but on the internal one as well (Puranam et al., 2008). Toyota used the competition created between the internal and external units to discipline its supplier and achieve better prices and cost reductions for the products it needed (Ahmadjian & Lincoln, 2001). Ahmadjian and Lincoln (2001) present the case of Toyota and its electronics supplier, Denso. In time, Denso developed specialized capabilities, and Toyota entrusted them with the actual parts-design process. At this moment measurement and monitoring problems became very important in Toyotas efforts to better manage its procurement of complex electronic parts and subassemblies. Denso understood electronics far better than Toyota, because it was their core capability, and Toyota found it very difficult to evaluate what its key supplier was doing. The potential moral hazard problem was solved by building up an internal unit to produce electronics, which helped Toyota to develop expertise in monitoring and evaluating the performance of its supplier (Ahmadjian & Lincoln, 2001; Heide, 2003). Bradach (1997) describes the plural forms phenomenon in the context of franchising systems, in which firms often rely on a combination of franchised and company-owned outlets. In the language of agency theory, the franchiser is the residual claimant of the revenue stream. Usually, the performance is measured by focusing on the behaviour of the franchisee. Even if in the contract are specified many sanctions and standards, is very difficult for the principal (the franchiser) to monitor and ascertain the behavior of the agent
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(the franchisee) (Heide, 2003). The empirical data from the paper suggest that company and franchise arrangements complement each other in ways that provide a chain with more, and more varied, ideas for new strategies and with a more thorough selection process than either arrangement alone offers (Bradach, 1997 : 296). Heide (2003) argues that firms solve information asymmetry problems not by establishing multiple market relationships but by shifting from exclusive reliance on market transactions to a plural form by introducing hierarchy. He argues that the internal production provides information to the buyer. The author based his framework on the assumption that plural sourcing has the ability to eliminate adverse selection and moral hazard problems through [] enabl[ing] firms to exploit some of the inherent benefits of market contracting [] without a loss of control (Heide, 2003: 26). He argues that with an increase in the information asymmetry when using the market, increases the likelihood that the market relationship will be complemented with an in-house unit. Very important is that for achieving this benefits you dont need a production on a large scale. Buyers with internal production are better at evaluating whether a potential supplier has the required skills, production facilities and quality control systems. Hence, internal production makes the buyer better at choosing among potential suppliers and this will reduce the adverse selection (Mols, 2010). But in the same time the presence of a hierarchical form serves as a screening device, which gives suppliers the opportunity to signal their characteristics and reveal their private information (Heide, 2003). This suggests an additional means by which a plural structure may reduce adverse selection in relation to the supplier. While most of the literature is focusing on the benefits gained by the buyer, Heide (2003) argues that even if concurrent sourcing represents potential competition for an outside supplier, it could also be beneficial for him. Using plural sourcing to help a buyer in developing its ability to evaluate product quality, will enhance the chances for high-quality suppliers to differentiate themselves from the others. As a conclusion, agency theory explains the use of concurrent sourcing. While using the market provides information for the buyer concerning the prices, using the hierarchy provides information concerning the costs and quality, and this reduces the information asymmetries between buyer and supplier. By comparing the two, the buyer can leverage this in his favour and decrease its costs.

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Neoclassical economics According to neoclassical economics literature, a firm would concurrently source for hedging against demand uncertainty (Parmigiani, 2007). In this case, a firm will produce in order to run at full capacity and outsource to suppliers the fluctuating additional volumes, and this way it will be more efficient due to having this flexibility in production (Harrigan, 1994; He and Nickerson, 2006; Parmigiani, 2007; Porter, 1980). Puranam et al. (2008) argues that with fluctuations in demand, firms are exposed to periods of excess capacity if they choose to invest in production for peak demand and is very important when deciding on the level of internal production. Plural sourcing would only be reasonable as long as paying higher per unit costs in the long run is cheaper than building own production capacity, which represents fixed costs and will probably not be fully utilized in the future (Krzeminska, 2009). If a firm decides to protect itself against volume uncertainty by using the market, for a product with a high degree of asset specificity, it could be difficult to find a supplier who can produce the specific good and cover demand peaks. And if a supplier is found, he could sell only for a premium, and increase the costs of procurement. Parmigiani (2007) argues that the greater the goods volume uncertainty, the more likely the firm will concurrently source, but she couldnt find empirical support for the hypotheses in her paper. It means that volume uncertainty doesnt have an impact on choosing plural sourcing. Neoclassical economists also suggest that firms would use concurrent sourcing to reduce information asymmetry, such as that caused by performance uncertainty (Parmegiani, 2007). When using plural sourcing, the internal production can give firms superior insight into performance measurement and costs, enabling enhanced monitoring and measurement of the external suppliers (Dutta et al., 1995; Harrigan, 1985; Heide, 2003; Puranam et al., 2008). Plural sourcing in general, and in cases of high performance ambiguity in particular, is a useful strategy only when the costs of coping with uncertainty exceed the cost of coordinating two sourcing modes simultaneously (Heriot & Hulkarni, 2001). Furthermore, plural sourcing is only superior compared to other governance forms when the costs which arise due to preventing the possible opportunism under conditions of high performance ambiguity are lower for plural sourcing than for other governance forms. At a first glance, it may appear that the general costs of maintaining a governance mode are higher for plural sourcing in comparison to either make or buy, but Krzeminska (2009) states that this is false under
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conditions of high performance ambiguity. She argues that both market and hierarchy fail in the presence of high performance ambiguity, because the required control and monitoring mechanisms to control for potential opportunism would be high for each governance form separately. Concerning market, complete contracts are impossible to draft and at the same time, still dont eliminate possible opportunism because of bounded rationality (Williamson, 1975, 1985). Concerning hierarchy, extensive control and monitoring as well as incentives are ineffective when output or behavior cannot be measured against a standard and furthermore they decrease profitability of internal production due to high bureaucracy costs. And this is exactly the point where plural sourcing shows its role, because it offers the possibility to benchmark the performance of each supplier with the other one (Bradach, 1997; Dutta, 1995; Parmigiani, 2007). Based on the superior control and monitoring mechanisms of internal production as well as external procurement, making and buying the same assets leads to higher performance under high performance ambiguity conditions than any other governance form (Krzeminska, 2009). Furthermore, the credible threat of substituting internal production with the procurement of an external supplier or vice versa powers incentives of both suppliers (Bradach & Eccles, 1989; Dutta, 1995; Harrigan, 1984; Porter, 1980; Puranam et al., 2008). Therefore, as in the case of volume uncertainty and contrary to TCE, which suggests to internalize (Williamson, 1975), there is not a continuous relationship between the degree of performance uncertainty and the level of internal production. In this case, the firm is motivated both to make, to better understand the production process, and to buy, to be able to benchmark. Parmigiani (2007) cannot support her hypotheses that performance ambiguity favor concurrent sourcing. Instead, she can show that performance ambiguity leads to higher internalization which makes easier incentives alignment by using authority. The logic that performance uncertainty leads to plural sourcing, where making serves to better understand the product, while buying benchmarks internal and external suppliers is rejected in her paper. Heriot and Hulkarni (2001) support the idea that intermediate sourcing strategies like concurrent sourcing and long term relationship with suppliers are more prevalent than the generic make or buy choice. They argue that this result cannot be supported only by transaction cost economics theory alone, because this would mean that firms would focus on the two extremes of markets and hierarchy. Their idea is supported by Hennarts (1993) finding that firms are more likely to choose intermediate sourcing strategies than the two

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extreme strategies. The conclusion that can be drawn is that firms choose to economize not only on transaction costs but on other types of costs as well (Heriot & Hulkarni, 2001). Besides transaction costs, firms are considering production costs when choosing a sourcing strategy (Harrigan, 1984; Heriot & Hulkarni, 2001; Parmigiani, 2007; Porter, 1980). The firm has been viewed as a production function by the neoclassical economics literature, which is focusing on minimizing production costs through the exploitation of economies of scale and scope (Mols, 2010). Porter (1980) argued that the firm is motivated to internalize production in order to exploit economies of scope and scale, discouraging the use of markets. This prediction finds empirical support in Poppo and Zenger (1998), with the mention that the firm needs to possess a sufficient internal scale to enjoy economies of scale. The greater the scope and scale economies, the less the marginal costs for producing a good. If a firm is vertically integrated and it can reduce average unit costs by producing a lower quantity, then concurrent sourcing lowers production costs. If external suppliers also produce at lowest average costs, then total production costs are reduced by concurrent sourcing (Parmigiani, 2007). But with an increase in the external suppliers cost advantage, plural sourcing is becoming less attractive to a buyer, suggesting that the scale advantage of an external supplier creates a disincentive for internal production (Harrigan, 1984; Heide, 2003; Parmigiani, 2007). This argumentation is consistent with TCE, since production cost disadvantages exist on the buyers side when the supplier can produce at large scale more efficiently, which would motivate the firm to buy the asset. But it would only happen when we are talking about transactions with low asset specificity in TCE logic. This is also true for evidence concerning supplier scope economies. While Dutta (1995) argues that a firm will outsource the production when the suppliers production is characterized by greater economies of scope, Parmigiani (2007) argues that the greater the scope economies of both the internal and external suppliers, the more likely the firm will concurrently source. Harrigan (1984) emphasizes the role of concurrent sourcing in balancing economies of scale and scope economies in the value chain and in reducing the vulnerability to shortages in satisfying demand. If we dont find a balance, diseconomies of scale in production, which are a standard assumption in neoclassical economics will arise (Puranam et al., 2008). It is reflected in the increase in the average costs on long term. Another source of diseconomies of scale arises from volume uncertainty coupled with costs of excess capacity (Porter, 1980).
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Neoclassical economics explains plural sourcing, but doesnt explain when concurrent sourcing is more efficient compared to either internal production or buying from suppliers. The capabilities based view This approach, which incorporates the resource and knowledge based views of the firm, analyses how the attributes of the firm and its suppliers influence the sourcing decision (Parmegiani, 2007), in the firms attempt to achieve a sustainable competitve advantage. For example, Barney (1991) argues that resources should be valuable, rare, inimitable, and nonsubstitutable (VRIN) in order to offer a sustainable competitive advantage. When firms possess different resources and capabilities that can give them a sustainable competitive advantage, the firms also have different production costs. Typical knowledge or resource based views argue that firms internalize and maintain internally those activities in which their superior capabilities enable efficient production (Argyres, 1996; Jacobides and Hitt, 2005). If there is a poor fit between activities and firms capabilities, then it will be more efficient to outsource ( Kogut and Zander, 1992). This suggests a continuum: the greater a firms expertise about a good, the greater its degree of internalization and the greater the suppliers expertise, the greater the degree of outsourcing. If either the firm or the supplier has relatively greater expertise, then internalization or outsourcing, respectively, will result (Jacobides and Hitt, 2005). However, if both the firm and the supplier have significant expertise, the firm will be motivated both to make, to take advantage of its own knowledge, and to buy, to learn from suppliers. This prediction was empirically supported by Parmigiani (2007). Another aspect identified in the literature for explaining plural sourcing is the learning process. Concurrent sourcing allows the firm access to both external suppliers knowledge and technology developments and to firms own internal knowledge of the good and its production processes (Cassiman & Veugelers, 2006; Harrigan, 1984; Parmigiani 2007; Porter, 1980). Buying from a supplier in order to learn from the suppliers skills and at the same time use this knowledge in the making of own assets enables the firm to keep up with technological development while reducing the risk of potential obsolescence of internal production technologies (Krzeminska, 2009). The internal production is necessary to enable the firm to assess and absorb the suppliers knowledge absorptive capacity (Cohen and Levinthal, 1990; Veugelers and Cassiman, 1999).
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Cohen and Levinthal (1990) argue that the ability to evaluate and use suppliers knowledge depends on the level of prior related knowledge. Parmigiani (2007) and Ahmadjian and Lincoln (2001) agree that a firm facing technological uncertainty needs a wider technological knowledge base, and hence it will use both internal and external sources to maintain and develop the existent knowledge. Parmigianis (2007) hypothesis is that technological uncertainty increases the likelihood that a firm uses concurrent sourcing and she succeeds in proving empirical support for this. High technological uncertainty increases the risk of making significant investments, which later could incur huge losses. Concurrent sourcing cannot reduce the technological uncertainty, but it reduces the negative effects of technological uncertainty, because it provides more information on technological developments and knowledge from many different sources. Plural sourcing is assumed to be the most efficient governance form when technological volatility is high and the technological clockspeed is fast (Cassiman and Veugelers, 2006). Employing a concurrent sourcing strategy can help to solve technological uncertainty in two ways. First, by staying informed with current technological developments and with future requirements, the firm can prepare itself for upcoming innovations and will not be overwhelmed by them. Second, in case a technological change occurs, the firm can more quickly adapt to the new technology by either buying from the supplier (who already possess the new technological skills) or by jointly implementing or developing the new technology (Krzeminska, 2009). These arguments can be used to explain why Toyota chose concurrent sourcing for their electronic components. According to Ahmadjian and Lincoln (2001), Toyota realized that they had to get access to electronics technology in order to maintain their competitive advantage. As I presented in a previous section, one of the reasons Toyota implemented concurrent sourcing was to prevent the hold up problem. But if Toyotas only concern was contractual hazards, they could have simply acquired a controlling stake in Denso. Another explanation could be that Toyota wanted to learn from its supplier. With the rapid pace of change in automotive electronics, Toyota had to build absorptive capacity: a base of electronics knowledge from which rapid learning of leading-edge technology could be developed (Ahmadjian & Lincoln, 2001). Another benefit of plural sourcing is the one presented by Rothaermel et al. (1996). They demonstrate empirically that concurrent sourcing allows for the integration of internal and external knowledge, and has a direct and positive effect on the number of products in the firms product portfolio.
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While is obvious that the buyer benefits from concurrent sourcing, why would a supplier want to take part to such an arrangement? In some cases the buyer can be large and powerful and can force the supplier to enter the relationship (Parmigiani, 2007). This is the case for much of the neoclassical economics literature, which assumes that large firms can anytime find a supplier to satisfy the fluctuations in demand (Porter, 1980). The supplier can also realize that the buyer wants to gain access to its knowledge. This could give the supplier an indication of his bargaining power. Ahmadjian and Lincoln (2001) argue that Denso, Toyotas main electronics supplier, was interested in this type of partnership because having Toyota as a guaranteed customer for a big part of its output, considerably reduced the uncertainty for them. Scholars agree that the firm and suppliers both can gain from complementary knowledge when using concurrent sourcing, aligning their incentives, and this is the reason why both parts engage in a relationship of this type (Bradach, 1997; Bradach and Eccles, 1989; Cassiman and Veugelers, 2006; Parmigiani, 2007; Puranam et al., 2008). Although transaction cost theory suggests that acquisition of external knowledge may substitute for own R&D investment (Williamson, 1985), empirical research suggests that inhouse R&D and external know-how are complementary (Puranam et al., 2008). After reviewing a part of the literature on capabilities, we can state that the resource and knowledge based views offer explanations for why a company would concurrently source. DISCUSSION The economic theories developed for explaining the choice between make or buy are not able to explain the choice of concurrent sourcing (Puranam et al., 2008), and this may explain why the literature on this phenomenon is not very rich. However, the scholars papers presented in this literature review contribute with explanations as to why firms concurrently source. Even if is one of the most important theories that talks about the boundaries of the firm, there are contradictions between scholars on whether TCE can explain the choice for concurrent sourcing. From this reason, the tensions between TCE and the other theories explaining plural sourcing are presented. Agency theory, neoclassical economics and capabilities based view offer strong arguments in explaining concurrent sourcing. Therefore, they complement each other in explaining plural sourcing.

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This literature review allows a comparison of theories that imply a continuum view (transaction cost economics and capabilities based view) with those that imply a discrete choice view (neoclassical economics and agency theory). Firms that concurrently source may only need to buy or make a minor percentage of their requirements and still get the governance benefits of both market and hierarchy. Neoclassical literature argues that in case of volume uncertainty, a firm will concurrently source to protect itself from the fluctuations in demand. A part of the production would be produced inhouse, while the difference between the changing demand and the internal production level will be outsourced to suppliers. This reasoning is in contrast to the TCE argument that proposes the firm is motivated toward greater making in cases of volume uncertainty to protect against supplier opportunism (Williamson, 1985). Another contradiction between TCE and neoclassical economics appears when the firm has difficulties in measuring suppliers performance. While the former suggests that the activity should be internalized to protect against possible supplier opportunism, the latter argues that the firm should concurrently source to be able to benchmark and gain additional information about the production process and the costs incurred by this. TCE focuses on the exclusive choice of make or buy, choosing the one that economizes on transaction costs. But the key when dealing with demand and volume uncertainty is that neither completely making nor completely buying will sufficiently resolve the uncertainty. It seems that there is not a continuous relationship between the degree of performance and volume uncertainty, and the level of internal production. However, these two streams of literature also agree in the attempt to explain plural sourcing. When the supplier is able to achieve economies of scale and the transaction costs are lower than production costs, than the firm is motivated toward buying. This argument is consistent with TCE rationale but only when the asset specificity is low. Both theories are analyze the reduction in the uncertainty concerning volume and suppliers performance but having a different central goal. While TCE aims at minimizing transaction costs, neoclassical economics aims at minimizing production costs. If we admit that firms choose to economize not only on transaction costs but on other types of costs as well (Heriot & Hulkarni, 2001), than we could consider the two streams of literature as complementing each other in explaining concurrent sourcing. TCE and agency theory consider the opportunism in the behaviour of economic agents as a primary assumption, and therefore complement each other in the attempt to minimize the costs caused by the information asymmetry and its negative effects. Dutta et al. (1995) argue
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that concurrent sourcing is a solution to hold up problems because internal production could be used as a safeguard against the possible suppliers opportunistic behaviour, when we are dealing with high levels of asset specificity. Heide (2003) argues that internal production provides the buyer with information and this will reduce the moral hazard and adverse selection problems. So, if we consider Dutta et al. (1995) solution for explaining concurrent sourcing from a TCE perspective, and the general agreement in the agency literature in explaining concurrent sourcing, we could say that the two streams of literature reinforce each other. The literature on TCE and capabilities suggest that firms tend to integrate activities with a high level of asset specificity and/or when the firms capabilities provide substantial production, sales, or development advantages. Transaction cost and capabilities arguments arise from different premises and different units of analysis, but reach similar conclusions about boundary choices for components involving idiosyncratic assets (Parmegiani, 2009). But when trying to explain concurrent sourcing, although TCE suggests that acquisition of external knowledge may substitute for own R&D investment (Williamson, 1985), empirical research from knowledge based view literature suggests that in-house R&D and external know-how are complementary. While TCE doesnt consider the literature on organizational learning, these two theories could complement each other in giving a more complete picture of concurrent sourcing (Ahmadjian and Lincoln, 2001). CONCLUSIONS This literature review presents theoretical explanations as to why concurrent sourcing is widespread used by firms, and supports the idea with empirical evidence from the literature. Transaction cost economics, neoclassical economics, agency theory and capabilities theory contribute to the choice of sourcing mode and they illustrate the firms desire to simultaneously monitor suppliers, produce efficiently and improve processes (Parmegiani, 2007; Parmigiani 2009). In the literature there is a tension between integration arguments and the benefits of outsourcing. Concurrent sourcing appears as an alternative to the traditional choice of make versus buy, thereby identifying a potential solution to the tension that arises between the incentives to integrate and the benefits of outsourcing.

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Concurrent sourcing helps to solve the coordination problems and in the same time to keep the flexiblity because it permits both activities, but requires knowledgeable suppliers and a substantial degree of internal expertise about the components (Parmegiani, 2009). The benefits from concurrent sourcing are known, but as Rothaermel et al. (2006) Strongly suggests, is very important to find a balance between the level of internal production and procurement from suppliers. There are limits to the benefits of plural sourcing, thus, increasing plural sourcing beyond some point begins to produce decreasing returns. Discovering and maintaining this balance between vertical integration and strategic outsourcing is a critical and challenging, but potentially rewarding task for managers. The disadvantages of concurrent sourcing are related to the costs of adopting and implementing concurrent sourcing, increased conflict potential, the potential loss of economies of scale and scope advantages, and increased complexity. All these increase costs and therefore concurrent sourcing is only efficient when the effects of combining external suppliers with internal production lower costs even more (Mols, 2010). The findings from the literature on concurrent sourcing generate some practical implications for managers. When considering their sourcing options, they should consider concurrent sourcing along with making or buying. In times of technological change, concurrent sourcing may offer increased learning base by combining internal and external knowledge sources. For big unionized firms, concurrent sourcing could be an option, since the internal production unit can be benchmarked against outside suppliers who benefit of markets high powered incentives (Parmigiani, 2007). A topic for future research could be the impact of concurrent sourcing on performance, having as a starting point the paper by Rothaermel et al. (2006). Because only Puranam et al. (2008) propose an economic model to decide on the percentages of making and buying, future research could develop other models for deciding on how much to buy and how much to make.

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