Businesses that outsource research and development (R&D) overseas are more likely to innovate than those who outsource at home, says recent research.
Professor Michael Mol, of Warwick Business School, and Associate Professor Olivier Bertrand, of SKEMA Business School in France, analysed a large database of 6,015 French businesses over a five-year period and found that the use of home R&D suppliers can have a largely negative effect on product and process innovation.
"Firms that go through the trouble of finding highly qualified foreign suppliers see a bigger pay-off than if they had outsourced at home," said Professor Mol. "This is a very interesting finding, because typically we only associate outsourcing abroad with efforts to bring down costs, not to increase innovation.
"Home outsourcing occurs when firms lack innovative capabilities and is either trying to save costs or their own internal R&D department is lacking. By contrast, those that choose to outsource abroad do so to tap specialist sources of knowledge that complement and strengthen their own internal R&D.
"An interesting example of this is IBM's strategy to build research labs in places like Switzerland, Japan, Israel, UK, China and India from which R&D is outsourced to various research institutes."
Research and Development is a core part of many businesses, and companies are increasingly looking to external sources to increase innovation.
According to the 2012 Global Innovation 1000, the top three industries that spend the most on R&D are Computing and Electronics, Health (including pharmaceuticals) and Automotive.
Professor Mol's study shows that a key factor in the decision-making process of outsourcing R&D is cognitive distance, which refers to the distance in knowledge and understanding between the business that outsources and its supplier. Suppliers in the home country are less attractive for innovation purposes because their knowledge is often too similar.
The research shows that while outsourcing at home is a sound option to fill short-term gaps, outsourcing abroad can be hugely beneficial if a company is looking to innovate.
"When firms are looking for capabilities which are relatively mundane, they can often find them in a wide variety of locations around the world," said Professor Mol.
"If these capabilities can be outsourced at home, it generally makes little sense to source them from abroad given the costs involved. By contrast, R&D tapped from international markets provides firms with more opportunities and choices, and hence a greater potential for complementarities with the internal R&D function."
And he explains that it is important for managers and business owners to have a clear understanding of the advantages of outsourcing abroad.
"Understanding the differences between outsourcing at home and abroad and the implications for innovation performance is important," said Professor Mol. "From a managerial perspective, it is important to understand how outsourcing R&D contributes to innovation outcomes, and when offshore outsourcing is a viable strategy.
"Since R&D outsourcing, especially abroad, is a small yet rapidly growing phenomenon, academics and practitioners should continue to invest in understanding its implications."
The paper 'The antecedents and innovation effects of domestic and offshore R&D outsourcing: The contingent impact of cognitive distance and absorptive capacity' was published in Strategic Management Journal, the world's top strategy journal.