Heterogeneous Offshore Outsourcing Demand Pull Innovation: Theory and Evidence from the Information Technology Hardware Industry

Abstract: This paper examines how heterogeneous offshore outsourcing demands affect an insourcing firm’s innovation choices, how its choices affect an outsourcing firm’s decision on what to outsource, and how these two dynamic decision interactions consequently shape an insourcing firm’s organizational innovation capability. This paper contributes to our understanding of outsourcing demand pull innovation in several vital ways: First, we collect firm-level data of two types of offshore outsourcing contracts and two types of R&D investments in the IT hardware industry, a type of data that was previously nonexistent but sorely needed to deepen our understanding. Second, our theoretical and empirical results show that an insourcing firm’s innovation decision depends on the type of its outsourcing demand, technological advantage, and industry’s competitive and technological environment. Lastly, this paper goes beyond proving the existence of outsourcing demand pull innovation by finding the 80-20 rule, in which firms retaining innovation will invest 80 % of their innovation resources in product and business model innovation and 20 % in process innovation. The ratio of the rule can change over time and the change can indicate the new nature of innovation within industries. These results have important implications for start-ups ’ market entry strategies and incumbents ’ long-ru