Sourcing Co-Created Products: Should your Suppliers Collaborate?

Working Paper Number: 
WP 18-11

We investigate the phenomenon of sourcing co-created products. Specifically, we study how a multi-product downstream firm should source from the upstream market, that is single-source versus multi-source, in a situation where the products are co-created with the suppliers. We conceptualize co-creation as investments made at different hierarchical levels aimed at reducing the production costs incurred by the supplies. We also incorporate into our model the downstream firm's decision to establish a collaborative, knowledge-sharing environment for its suppliers. Outright purchase from the upstream market serves as a benchmark.

We find that the downstream firm may be worse off when the upstream suppliers collaborate, unless the cross-effect of its and its suppliers' investments is very large. For a commonly used additively separable cost function, we find that the downstream firm's optimal strategy is multi-source co-creation without collaboration. An important economic force that our analysis has uncovered is that single-sourcing of co-created products destroys the downstream firm's incentives to invest. Multi-sourcing softens the holdup problem, leading to a positive level of investment by the downstream firm. Finally, we find that the incentives of the downstream firm to multi-source are stronger for co-created products than for non-co-created products.

JEL Codes: 
C72, D4, L1, M31

Niladri B. Syam