Governance and Value Creation: A New Approach on Vertical Integration

Abstract

In this paper we present a new look on vertical integration. We argue that a vertical integration decision, while costly in terms of additional overhead and its imposition of competing demands on managerial attention, guarantees that the firm ́s assets and their related activities are operated in ways not detrimental to the functioning of the overall firm’s performance. As such, vertical integration decisions would be determined not only by the eventual advantages of outsourcing, but also by the capacity that an outside party has to affect negatively firm ́s performance. When the outside party can affect very negatively the achievement of firm ́s goals, the optimal governance structure will be biased in favor of vertical integration, while outsourcing will tend to be the optimal governance when a third party that owns and operates the asset can not affect to a great extent the firm ́s functioning.

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