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Market-Based Solutions to Vital Economic Issues


Market-Based Solutions to Vital Economic Issues
Apr 1, 2016

Ensuring Corporate Social and Environmental Responsibility Through Vertical Integration and Horizontal Sourcing


Taylor Guitars purchased an ebony mill in Cameroon to ensure corporate social and environmental responsibility (CSER) in sourcing, and shared the responsibly-sourced supply of ebony with competitors through horizontal sourcing. Inspired by this case, we investigate vertical integration as an alternative strategy for CSER in sourcing in which a firm can vertically integrate with its supplier in order to ensure responsible practices in the supply chain. In a competitive setting, an exposed CSER violation in one supply chain may increase the competing supply chain’s demand (positive externalities) due to substitution, or decrease the competing supply chain’s demand (negative externalities) due to public’s suspicion about industry’s social and environmental practices. Furthermore, NGOs’ scrutiny and reporting policies may influence the chance of a violation exposure, as well as demand externalities between the competing supply chains. We examine horizontal sourcing as a potential strategy for mitigating the impact of a CSER externality caused by a competing supply chain. When horizontal sourcing is infeasible, we find that higher violation exposure externalities induces better CSER, but overly intensive violation scrutiny alongside strongly negative externalities may backfire and discourage CSER. By contrast, when horizontal sourcing is feasible, intensive violation scrutiny induces CSER, but strongly positive externalities may impair industry-wide CSER. These findings have instructive implications for firms interested in ensuring CSER in their supply chain, as well as for NGOs’ violation scrutiny and reporting policies.

Note: Research papers posted on SSRN, including any findings, may differ from the final version chosen for publication in academic journals.

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