Branded components are becoming increasingly popular in industrial markets in which industrial original equipment manufacturers (OEMs) conspicuously uses the brand name of an independent component supplier while marketing its products to its own customers. Despite the popularity of such contractual agreements, to date, systematic research on understanding the motivations behind and implications of the use of this practice has been limited. In this research, the authors use the governance lens of transaction cost economics to propose that leveraging the vendor’s preexisting brand reputation and safeguarding the vendor’s customization investments are key motivators for choosing branded component contracts. The authors use data on 191 contracts from three engineering-intensive industry sectors to test the hypotheses.
The results are illuminating and provide strong support to the authors’ thesis. Specifically, they find that firms are more likely to choose branded component contracts when the supplier’s brand name adds significant differentiation (the “leveraging” motivation) and when the component supplier has made significant but noncontractible component customization investments (the “safeguarding” motivation). The safeguarding motivation is found to be relevant even to suppliers with modest preexisting brand reputation.
The authors further investigate the performance consequences of these contracting decisions and find some noteworthy results. First, the authors find significant, adverse outcomes from choosing the “wrong” contract form. Performance is enhanced when parties support the vendor’s preexisting differentiation capabilities and the vendor’s component customization investments by using branded component contracts, and vice versa. In effect, these OEMs appear to follow the “comparative advantage decision rule” implicated in governance theories. Second, these costs of misalignment are surprisingly asymmetric in nature. In particular, not choosing a branded component contract when the theory argues for a branded component contract leads to significantly more adverse outcomes than choosing a branded component contract when the theory argues for not using such contracts. Third, the costs of misalignment arising from providing insufficient safeguards for the supplier’s customization investments are larger than those costs arising from foregoing the differentiation gains through leveraging the supplier’s preexisting capabilities.
The results provide many insights to aid managers in making decisions with regard to this important strategy. First, they provide a novel motivation to the use a branded component approach. Vendors that undertake significant investments in enhancing the value of the component by customizing it to the OEM’s system can be effectively supported by this contract strategy, which gives them the incentives to undertake appropriate levels of such investments. Second, it suggests that engaging highly reputed suppliers under component branded contracts will not automatically translate into benefits for the host product when customized engineering activities are important for value creation. Third, the results shed some light on feasible go-to-market strategies for vendor firms. In particular, vendors that are capable of providing differentiation through customizing the component to OEM requirements can simultaneously provide meaningful points of unique differentiation to multiple OEMs. This is not the case when the differentiation is derived from the preexisting capabilities of the vendor. Finally, the research suggests that a branded component approach can be used not only to leverage but also to create brands. Specifically, the authors contend that a branded component approach of incentivizing vendors could be a valuable strategy while dealing with state-of-the-art technology-based entrepreneurial companies, which currently do not have an established reputation but have the capabilities in innovative niche technologies that are value creating.
Biography
Mrinal Ghosh is W. “H” and Callie Clark Associate Professor of Marketing at the University of Arizona. He has a PhD in Marketing from the University of Minnesota and previously held positions in the Marketing Department at the University of Michigan. His primary research interests lie in developing and testing theoretical models of interorganizational exchange in the substantive context of business-to-business markets, distribution channels, and sales force compensation and management. His current research focuses on understanding the role of contractual terms, such as leasing and product bundling in interfirm ties, and using structural modeling approaches to understand the impact of channel choices. His work has appeared in Journal of Marketing, Journal of Marketing Research, Marketing Science, Review of Industrial Organization, and Applied Economic Letters.
George John is General Mills–Gerot Chair in Marketing in the Carlson School of Management at the University of Minnesota. He received a bachelor’s degree in Aeronautical Engineering from the Indian Institute of Technology, Madras, India; an MBA from the University of Illinois; and a PhD in Marketing from Northwestern University. Previously, he served on the faculty of the Business School at the University of Wisconsin–Madison. His research interests center on interorganizational relationships and marketing in high-technology environments. He is listed by ISI-Web of Science as a highly cited researcher in the Business–Economics category (www.isihighlycited.com).
Journal Marketing Research, Volume 46, Number 5, October 2009
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