Supply base innovation and firm financial performance

• Author: Sriram Venkataraman,Keith Skowronski,Sining Song,Fan Zou,Yan Dong
• Published date: 01 October 2020
• DOI: http://doi.org/10.1002/joom.1107
• Date: 01 October 2020

RESEARCH ARTICLE

Supply base innovation and firm financial performance

Yan Dong

1

| Keith Skowronski

1

| Sining Song

2

| Sriram Venkataraman

1

|

Fan Zou

1

1

Department of Management Science,

Darla Moore School of Business,

University of South Carolina, Columbia,

South Carolina

2

Department of Supply Chain

Management, Haslam College of Business,

University of Tennessee, Knoxville,

Tennessee

Correspondence

Sriram Venkataraman, Department of

Management Science, Darla Moore School

of Business, University of South Carolina,

1014 Greene Street, Columbia, SC 29208.

Email: sriram.venkataraman@moore.

sc.edu

Handling Editors: Subodha Kumar,

Sriram Narayanan, Fabrizio Salvador

Abstract

Firms are increasingly sourcing innovation from their supply chain partners.

Meanwhile, supply chains have evolved into complex networks, which compli-

cates the role that supply chain partners play in innovation and financial per-

formance of firms. Previous research has mainly focused on the direct effect of

innovation on a firm's financial performance, overlooking the innovativeness

and complexity of supply networks. In this research, we focus on a firm's sup-

ply base, defined as the first tier of a supply network, and investigate the rela-

tionship between the intensity of R&D within the supply base and the

financial performance of the focal firm. We also examine the moderating role

of three aspects of supply base complexity—Number of suppliers, differentia-

tion, and inter-relationships among suppliers. Utilizing secondary data from

Bloomberg and Compustat, we find that the R&D intensity of a firm's supply

base is positively associated with the firm's financial performance. Further, all

three aspects of supply base complexity negatively moderate this relationship.

These findings make important contributions to the literature by establishing a

direct, positive relationship between supply base R&D and firm financial per-

formance, which is attenuated by complexities within the supply base.

KEYWORDS

empirical research, supply base complexity, supply base innovation, supply network

1|INTRODUCTION

Firms must create new products and services to be com-

petitive, or in other words, they must be innovative

(Dröge, Vickery, & Markland, 1994; Porter, 2008). Firms

invest in R&D to achieve this goal, and these investments

have been shown to lead to better financial performance

(e.g., Geroski, Machin, & Van Reenen, 1993). More

recently, firms have begun to utilize their suppliers to

supplement internal R&D investments (Choi &

Krause, 2006; Narasimhan & Narayanan, 2013). For

example, Apple enjoyed substantial financial success

from its iPod and MacBook, which were developed using

multiple innovations from Apple's suppliers, such as

Samsung, LG, and TGK (Dedrick, Kraemer, &

Linden, 2010). The innovativeness of a firm's suppliers

can significantly affect the success of new products and

the bottom line of the firm. However, relying on suppliers

as a source of R&D may not always be helpful, as it may

All authors contributed equally to the manuscript.

Received: 15 October 2018 Revised: 1 June 2020 Accepted: 9 June 2020

DOI: 10.1002/joom.1107

768 © 2020 Association for Supply Chain Management, Inc. J Oper Manag. 2020;66:768–796.wileyonlinelibrary.com/journal/joom

create challenges in coordinating efforts across multiple

parties (Dhanaraj & Parkhe, 2006; Li, Poppo, &

Zhou, 2010). For example, the delay of Boeing's launch of

the 787 Dreamliner was traced back to the complexity of

integrating new technologies across the supply chain (Tang,

Zimmerman, & Nelson, 2009). LEGO also encountered sim-

ilar challenges when developing a packaging solution with

its suppliers (Andersen & Gadde, 2019). Therefore, it is of

critical, practical importance to understand how aspects of

a firm's supply chain influence the firm's ability to generate

financial outcomes from supplier R&D.

A firm's supply chain is a key component of the firm's

innovative ecosystem (e.g., Azadegan, Dooley, Carter, &

Carter, 2008; Dyer & Hatch, 2004), and previous research

has illustrated the impact of a firm's supply network on

firm innovation (e.g., Bellamy, Ghosh, & Hora, 2014). We

add to this literature by focusing on the aspect of the sup-

ply network that the firm directly interacts with—the

supply base. A firm's supply base is the “portion of the

supply network that is actively managed by the focal

company through contracts and purchasing of parts,

materials, and services…and it is the portion of the supply

network that is within the managerial purview of the

focal company”(Choi & Krause, 2006, p. 639). The dis-

tinction between a supply network and a supply base is

that the focal firm is not usually in direct interaction with

all aspects of the supply network, whereas the focal firm

directly selects and actively manages the firms that con-

stitute its supply base.

We focus on the supply base, as opposed to the sup-

ply network, for two reasons. First, the relationship

between supply base innovation and firm financial per-

formance has, to the best of our knowledge, yet to be

empirically examined. As Lu and Shang (2017) explain,

“a central challenge for advancing supply chain struc-

ture research, therefore, is to show how and why sup-

ply base structural characteristics influence buyers’

financial performance”(pp. 23–24) because “it is the

supply base that more directly and strongly influences

performance”(p. 23). Narasimhan and Nar-

ayanan (2013) echo a similar sentiment, arguing that

“the number of direct ties that firms have with their

supply network partners is a significant factor in supe-

rior innovation performance. In contrast, indirect ties

are not as helpful in furthering innovation perfor-

mance”(p. 30). Anecdotal evidence also aligns with

these arguments. For example, Fiat Chrysler Automo-

bile Group (FCA) reports that its supply base has a pos-

itive influence on FCAs innovation performance

(FCA, 2018, p. 95). Thus, we complement the literature

of network characteristics by examining the aspect of

the network that directly interacts with the focal

firm—The supply base. Second, and possibly more

importantly, by examining the supply base, we are bet-

ter able to develop actionable managerial implications.

We focus on two aspects of a firm's supply base: The

supply base's R&D intensity (SBRDI) and the complexity

of the supply base. When a focal firm is committed to

enhancing financial performance through innovation, it

may support this objective by leveraging the innovative

activities of its suppliers. Thus, the level of R&D intensity

of its supply base should affect the firm's financial perfor-

mance. However, not all firms benefit equally from sup-

ply base R&D (Chick, 2013). The complexity of a firm's

supply base may affect the firm's ability to assimilate new

knowledge among suppliers because complexity affects

the ease of coordinating activities within the supply base

(Choi & Krause, 2006; Lu & Shang, 2017). Following

Choi and Krause's (2006) conceptualization of supply

base complexity, we examine the moderating effects of

three categories of supply base characteristics: number of

suppliers (directly observable as the number of suppliers

in the supply base), differentiation (operationalized as the

different countries that members of the supply base are

headquartered in—the spatial complexity), and the inter-

relationships among suppliers (operationalized as the

sales agreements between members of the supply base,

which we refer to as commercial interconnectedness

1

).

We combine supply chain structure data from Bloomberg

and financial data from Compustat to construct a 7-year

panel dataset of 753 public U.S. manufacturing firms.

Using this data, we estimate econometric models to

examine the effect of SBRDI on a firm's financial perfor-

mance and the moderating effects of supply base com-

plexity on the relationship between SBRDI and the firm's

financial performance.

We find that, on average, SBRDI is positively associ-

ated with a focal firm's financial performance

(operationalized as ROA in this study). Thus, supply base

R&D activities indeed contribute to the firm's financial

bottom line. However, we also find that all three aspects

of supply base complexity—the number of suppliers,

the spatial complexity, and the commercial

interconnectedness—attenuate (i.e., negatively moderate)

the relationship between SBRDI and the firm's financial

performance. While a complex supply base, with a larger

number of suppliers, suppliers from a more diverse set of

countries, and a higher level of commercial interconnec-

tions, may appear to allow the firm to access a more

diverse set of knowledge sources and engage in faster

knowledge diffusion, our results show the opposite. We

find that supply base complexity tends to inhibit the ben-

eficial effect of SBRDI on a firm's ROA because complex-

ity heightens coordination and integration challenges.

Our results, therefore, highlight the downside of a com-

plex supply base. In other words, partnering with a

DONG ET AL.769