Investment Strategies for Sourcing a New Technology in the Presence of a Mature Technology

Abstract

To stay competitive, high-technology manufacturers (HTMs), such as Apple and Intel, not only frequently source new technologies from their suppliers, but also financially support the development of these new technologies into component products or production tools. We consider an HTM that can either source a new but immature technology from a financially constrained supplier, or source a mature technology from an existing supplier if and only if the development of the new technology fails. To support the new technology, the HTM can choose to inject capital in the form of an equity or a loan. The investment strategy affects the new supplier`s development efforts and, hence, the new technology`s chance of success. Because the existing supplier can still receive an order from the HTM should the new supplier fail, the investment strategy also affects the effort to improve the mature technology, which presents the HTM with a trade-off in motivating the two suppliers. We first show that competition from the existing supplier lowers the new technology`s chance of success in equilibrium. Second, loans are not necessarily better than equity investments for the HTM because loans are mostly secured by the new supplier`s technology-specific assets, the market value of which can be zero should the new supplier fail. However, a loan is preferred by the HTM over an equity when the new technology`s chance of success is low because the new supplier is better motivated to exert effort without repaying the loan.