Fan, Xiaoshuai;
Körpeoğlu, Ersin;
Li, Cuihong;
Liang, Jun;
(2024)
Innovative-Product Sourcing: Incentives and Commitment.
Social Science Research Network (SSRN): Amsterdam, Netherlands.
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Abstract
We consider a buyer firm that sources the design and production of an innovative product from its suppliers. A supplier can improve its design with innovation effort and can potentially produce the design of another supplier, albeit at a switching cost added to the supplier's production cost. A sourcing mechanism allocates the design and production by considering both the design value and production cost. The connection between design value and production allocation provides a source of supplier innovation incentives. This connection may be strengthened by the buyer committing to certain rules in the sourcing mechanism before receiving suppliers' designs, in a trade-off against ex-post allocation efficiency. We show that the no-commitment mechanism that maximizes allocation efficiency reduces to either joint sourcing that selects a single supplier for both design and production or separate sourcing that always selects the best design. Interestingly, committing to either rule induces greater supplier effort than no commitment, and combining the two in an enhanced commitment that selects the best design and allocates its production to the same supplier incentivizes even greater effort. All three commitment mechanisms are commonly observed in practice and simple to implement. We compare these mechanisms and identify the buyer's choice. We show that separate sourcing is dominated by other mechanisms. Hence, the buyer can restrict commitments to selecting a single supplier for design and production but should be cautious about the selection criteria. An additional innovation prize does not change the choice among these mechanisms but complements strong allocation-based incentive mechanisms.
| Type: | Working / discussion paper |
|---|---|
| Title: | Innovative-Product Sourcing: Incentives and Commitment |
| Open access status: | An open access version is available from UCL Discovery |
| Publisher version: | https://papers.ssrn.com/sol3/papers.cfm?abstract_i... |
| Language: | English |
| Additional information: | This version is the version of record. For information on re-use, please refer to the publisher’s terms and conditions. |
| Keywords: | innovation, sourcing, procurement mechanism, contest, commitment |
| UCL classification: | UCL > Provost and Vice Provost Offices > UCL BEAMS > Faculty of Engineering Science UCL > Provost and Vice Provost Offices > UCL BEAMS > Faculty of Engineering Science > UCL School of Management UCL > Provost and Vice Provost Offices > UCL BEAMS UCL |
| URI: | https://discovery.ucl.ac.uk/id/eprint/10145796 |
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