Information Asymmetry, Hold-up Problem, and Supply Chain Contracting

This paper examines the impact of a reduction in information asymmetry about a supplier's innovation quality on the contracting dynamics with its customers. We postulate that reducing information asymmetry mitigates the contracting risk for its customers but leaves the supplier firm vulnerable to hold-up risk. Such risk is acute, particularly when the relative bargaining power of the customer is high. We find that after the enactment of the American Inventors Protection Act (AIPA), which mandates timely disclosure of patents and thereby enhances innovation transparency, firms with a more concentrated customer base significantly reduced R&D input, consistent with hold-up issues causing underinvestment. Furthermore, as a commitment device, customers with high bargaining power make more timely payments to firms susceptible to hold-up risks. These timely payments by such customers help mitigate the reduction in R&D input by suppliers. We also find that firms switch to an opaque innovation strategy following an increase in customers' bargaining power. Our study speaks to the role of public information in facilitating firms' contracting with customers and highlights the importance of supply chain dynamics in shaping the corporate information environment