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The Impact of Outsourcing New Technologies on Integrative Capabilities and Performance
Author(s): Carmen Weigelt
Source: Strategic Management Journal, Vol. 30, No. 6 (Jun., 2009), pp. 595-616
Published by: Wiley
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Strategic Management Journal
Strat.Mgmt. J., 30: 595-616 (2009)
Published online 12March 2009 in
Wiley InterScience(www.interscience.wiley.com)DOI: 10.1002/smj.760
Received 5May 2006; Final revision received12 January2009
THE IMPACT
OF OUTSOURCING NEW
TECHNOLOGIESON INTEGRATIVE
CAPABILITIES
AND PERFORMANCE
CARMENWEIGELT*
A.B. Freeman School of Business, Tulane University, New Orleans, Louisiana, U.S.A.
Outsourcing plays an important role for firms adopting new technologies. Although outsourcing
provides access to a new technology, it does not guarantee that a firm can subsequently
integrate the technology with existing business processes and leverage it in themarketplace.
This distinction, however, has rarely been made in the literature. In the context of business
process enhancing technologies, this study builds on the resource-based and knowledge-based
views to study the impact of outsourcing onfirms' subsequent performance in themarket and their
integrative capabilities, that is, a firm's capacity to use and assimilate a new technology with
its business processes and build upon it.The study argues that greater reliance on outsourcing
may reduce a firm's learning by doing, internal investment, and tacit knowledge applications,
thereby impeding a firm's integrative capabilities and performance in themarket. The study
uses survey and archival data on banks' outsourcing strategies for Internet adoption to test for
the performance consequences of outsourcing, which are found to be negative. However, the
findings also show that outsourcing is less detrimentalforfirms with experience inprior related
technology. Copyright ? 2009 JohnWiley & Sons, Ltd.
INTRODUCTION
Few firms can stay abreast of all new technol
ogy developments through internal efforts alone
(Teece, 1986; Contractor and Lorange, 1988).
Outsourcing relationships with technology ven
dors have become widespread and have evolved
from outsourcing of repetitive and fairly special
ized tasks to outsourcing of more complex tech
nologies and entire business processes (Greco,
1997; Fichman and Kemerer, 1997). In 2000,
over half of all information technology (IT) ser
vices in North America were outsourced (Pro
gentResearch, 2002). As theoutsourcing of entire
business processes becomes more common, the
Keywords: outsourcing; capabilities; technology; perfor
mance; banking
*Correspondence to: Carmen Weigelt, A.B. Freeman School of
Business, TulaneUniversity, 7McAlister Drive, New Orleans,
LA 70118, U.S.A. E-mail: cweigelt@tulane.edu
questions arise of whether outsourcing is always
beneficial, andwhether thereare limits tobenefits
from outsourcing.
Prior research is equivocal about the perfor
mance implications of outsourcing. On the one
hand, prior work views outsourcing as a means
to increase efficiency, reduce costs, or foster inno
vation by gaining access to cutting-edge technolo
gies, specialized resources, and learningopportu
nities (Hamel, 1991; Powell, Koput, and Smith
Doerr, 1996; Mowery, Oxley, and Silverman,
1996;Mitchell andSingh, 1996;Brown andEisen
hardt, 1997; Poppo and Zenger, 1998). On the
other hand, researchersargue thatoutsourcing can
lead to the hollowing of corporations, the depre
ciation of firm capabilities (Bettis, Bradley, and
Hamel, 1992), or impaired coordination across
activities (Leonard-Barton,1995; Chesbrough and
Teece, 1996). Further,prior research rarelydistin
guishes between a firm gaining access to a new
Copyright ? 2009 JohnWiley & Sons, Ltd.

596 C.Weigelt
technology and its subsequent ability to internal
ize and leverage such in themarket (Hamel, 1991;
Ettlie, 1988). Thus, although externalpartners
may
provide access to a technology, such access may
not fully substitute for internal learning (Attewell,
1992; Fichman andKemerer, 1997) or guarantee
thata firmcan use anddeploy the technology in the
market (Leonard-Barton,1988; Steensma andCor
ley, 2000). Hence, the importantquestion arises:
When does outsourcing hurt or benefit firm per
formance?
The distinction between gaining access toa tech
nology and being able to effectively use it is
particularly importantwhen a firm adopts a new
technology to enhance business processes, such as
service delivery. This is because the use of these
technologies (which include customer-facing and
information-systems applications) often requires
that they be assimilated into ongoing firm pro
cesses (Attewell, 1992; Purvis, Sambamurthy,and
Zmud, 2001) as well as adopted by customers
(Meuter et al., 2005). A firm must understand how
the new technology interactswith its work pro
cesses in order to adapt and reconfigure the tech
nology to fit the idiosyncrasies of its business
(Leonard-Barton, 1988; Meyer and Goes, 1988;
Attewell, 1992; Swanson, 1994). The extent to
which technology assimilation triggers new rou
tinesandcapabilities insidea firm(Damanpourand
Evans, 1984) may explain part of the variance in
benefits that firmsderive from externally sourced
technology.
Furthermore,gaining access toa new technology
does not automatically ensure that a firm can suc
cessfully deploy the technology in themarket. For
a firm to reap benefits from a new technology, such
as cost savings from Internet banking or online
reservation systems, its customers need to adopt
the technology (Meuter et al., 2005). While the
innovation literaturefocuses on customer traitsand
technologycharacteristicsaspredictorsof adoption
(Rogers, 1995), the services technology literature
stresses thata better customer understandinghelps
firmswith influencing theircustomers' technology
adoption (Parasuraman,
2000; Bitner, Ostrom, and
Meuter, 2002). Outsourcing may impactcustomer
adoption of a new technology by affecting the firm
customer relationship.
This article studies the impact of the degree
of new technology outsourcing on a firm's inte
grative capabilities which reflect a firm's capac
ity to use and assimilate a new technology into
Copyright ?) 2009 JohnWiley & Sons, Ltd.
its business processes and build upon it (Helfat
and Raubitschek, 2000), and its performance in
themarket, captured as customer adoption of a
new technology. A firm's degree of outsourcing
is the extent towhich it relies on a thirdparty's
expertise versus efforts of its own staff to adopt a
new technology.Building on thecapabilities liter
ature (Penrose, 1959;Nelson andWinter, 1982), I
argue thatgreater technology outsourcing reduces
a firm's learningby doing and investment in inte
grative capabilities. I also argue thatoutsourcing
interfereswith firm processes used to raise cus
tomers' perceived value of a technology, thereby
hurting customer adoption. Finally, I testwhether
firmswith prior related experience (Cohen and
Levinthal, 1990) are less likely to suffer thedown
sides of outsourcing.
This studymakes several contributions to the lit
eratures on capabilities and technology sourcing.
First, by distinguishing between access to a tech
nology and subsequent capabilities related to that
technology, this study addresseswhether firmsare
likely tobuild integrativecapabilities forexternally
sourced technology. In doing so, this study con
tributes to an emerging research stream that tries
tobetterunderstand the sourcesof firmcapabilities
(Ethirajet al., 2005).While the theoreticalnature
of firm capabilities as valuable, inimitable, and
path-dependent processes thatenable the deploy
ment of resources and enhance firm performance is
well conceptualized and empirically tested (Nelson
and Winter, 1982; Barney, 1991; Amit and Schoe
maker, 1993;Helfat, 1997;Yeoh andRoth, 1999),
the same does not hold for our understanding of the
sources of firm capabilities (Ethirajet al., 2005)
and the role outsourcing plays therein.Capabil
ities evolve through learning by doing (Nelson
and Winter, 1982) and deliberate investment in
resources and organization structures (Zollo and
Winter, 2002), but the question remainswhether
technology sourcing prevents the development of
capabilities necessary for the effective use of that
technology inside an adopting firm, and, if so, what
firms may be able to do tomitigate the downside
of outsourcing.
Second, this study provides new insights into
how outsourcing impacts customer adoption of a
new technology and, hence, a firm's ability to
leverage a new technology in the market. Most
prior studies on outsourcing focus on manufac
turing industries (e.g., semiconductor, automotive,
or computer) (Dyer, 1996; Steensma and Corley
Strat. Mgmt. J., 30: 595-616 (2009)
DOI: 10.1002/smj

Technology Outsourcing, Capabilities, and Performance 597
2000; Leiblein, Reuer, andDalsace, 2002) rather
than on customer-facing technologies, where the
customer interactswith the technology. This dis
tinctionmatters because inmanufacturing indus
tries process outsourcing can be sheltered from
the customer, thereby reducing potential disrup
tions in the firm-customerrelationshipdue to out
sourcing. For instance, despite outsourcing their
shoe manufacturing, athletic footwear companies
Nike andReebok isolated theircustomer relation
ship from their outsourcing partner by retaining
product design and marketing in-house (Rosen
zweig, 1994). In contrast, technology outsourcing
for the supportof service delivery directly affects
customers, given their role as 'co-producers'of
the service (Lovelock andYoung, 1979; Daman
pour, 1996). For example, when outsourcing ser
vice delivery, such as call centersor Internetappli
cations, a firm's customers directly interactwith
theoutsourcing partner.Customers' willingness to
use outsourced services and theirperceptionof ser
vice quality' affect a firm's ability to reapbenefits
from outsourcing.
Third, this study examines the role that prior
experience with related technology plays inmiti
gating thepotentially negative effects of outsourc
ing on a firm's integrative capabilities and per
formance in themarket. Studies building on ideas
of the resource-basedview and evolutionary eco
nomics note that capabilities develop in stages
and build on prior related experience (Cohen and
Levinthal, 1990; Helfat and Peteraf, 2003). This
raises the question of whether firmswith prior
experience are less likely to encounter potential
downsides of outsourcing because their experi
ence enables them to learnmore easily (Mowery
et al., 1996). Prior experience may also enhance
a firm'sunderstandingof thecustomer-technology
link, thereby achieving a fit between technology
attributesand customer needs despite outsourcing,
which, in turn,is likely to enhance performance in
themarket.
This study is based on both archival and sur
vey data of 94 U.S. banks that participated in
two sequential surveys on Internet outsourcing
strategies.The context of Internetbanking iswell
suited for this study because outsourcing of new
customer-facing technologies iswidespread in the
financial services industry.Furthermore, Internet
banking as a new service delivery channel affects
a bank's business processes, and its success in
themarket depends on customers' adoption of the
technology. Finally, PC banking, a prior technol
ogy related to Internetbanking thatwas first intro
duced in the late 1980s, provides an opportunity
for theanalysis of themoderating impactof experi
ence inprior related technology on the relationship
between new technology outsourcing and integra
tive capabilities and performance in themarket,
respectively.
THEORY AND HYPOTHESES
Technology outsourcing
The conditionunderwhich technologyoutsourcing
enhances or hurts performance is a central ques
tion for both managers and strategy researchers,
and the answer may depend on the source of
valuable capabilities and a firm's ability to inte
grate and apply them. The resource-based view
(RBV) hints at benefits from outsourcing when
other firms are the source of valuable capabili
ties and outsourcing provides a firmwith access
to these capabilities (Lavie, 2006; Penrose, 1959),
but cautions firmsagainst outsourcingwhen valu
able capabilities require learning by doing and
the building of path-dependentknowledge stocks
inside the firm. Thus, a firmmay benefit from
outsourcing if it enables the firm to enrich its
knowledge stock, tap into specialized resources,
and fill voids in its technology portfolio (Wom
ack, Jones, andRoos, 1990; Powell et al., 1996;
Mitchell and Singh, 1996;Mowery et al., 1996;
Steensma andCorley, 2000), which, in turn,may
enhance performance by increasingproduct vari
ety and speed tomarket (Brown and Eisenhardt,
1997) or by reducingproduction costs (Poppo and
Zenger, 1998). Furthermore,by introducing firms
to new technologies and know-how, outsourcing
can counter pitfalls from local search and compe
tency traps (Levinthal andMarch, 1993); pitfalls
thatotherwisemay lead tocore rigiditiesormissed
opportunities by restricting firms to the realm of
theirexisting capabilities (Leonard-Barton,1992).
Hence, technology outsourcing can provide firms
with opportunities to strengthen their capability
Strat. Mgmt. J., 30: 595-616 (2009)
DOI: 10. 1002/smj
1
For example, customer dissatisfaction with the service and
support provided by its outsourcing partner caused Dell to scale
back on its outsourcing of customer service and bring part of
the function back in-house. Thus, customer discontent with the
outsourced service prevented Dell from realizing all the cost
savings that outsourcing promised (Johnson, 2003).

598 C.Weigelt
base and performance in themarket beyond that
possible through internalefforts alone.
On the other hand, a central tenet of the RBV
is thatvaluable capabilities are firm-specific and
evolve within the firm (Barney, 1991; Nelson
andWinter, 1982). Valuable capabilities are path
dependentandaccumulateover time throughlearn
ing by doing and deliberate investments in activ
ities to build know-how (Ethiraj et al., 2005;
Zollo andWinter, 2002). Building on these ideas,
researchershave warned thatoutsourcing can lead
to the hollowing of corporations and the depreci
ation of internalcapabilities (Hamel, 1991; Bettis
et al., 1992) and that thereforevertical integration
ispreferred.These researchersargue thatoutsourc
ing shifts investments inknowledge-building activ
ities from the firm to the supplier, thusslowing the
process of learningby doing inclient firms (Bettis
et al., 1992).
Firms' ability to integrate and apply external
knowledge may also determine whether technol
ogy outsourcing benefits or hurts firm integrative
capabilities and performance in themarket. This
ability, according to the knowledge-based view
(KBV), depends on the tacitness of knowledge
associated with a new technology and the inter
dependence of activities carriedout between firms
(Kogut and Zander, 1992; Grant, 1996). While
explicit knowledge is easily exchanged among
firms, tacit knowledge requires context-specific
understanding to make sense, and, therefore, is
'sticky' to its owner and the context in which it
has accumulated (Polanyi, 1967). Consistent with
these ideas, Borys and Jemison (1989) find that
supplier relationships for the transferof tacit tech
nology knowledge failed more often than those
transferringcodified technology. Similarly, Dem
setz (1988) argues thattacitknowledge can only be
obtained throughoutsourcing if it can be embed
ded in the technology itself. Thus, if knowledge
can be codified, for example in blueprints or pro
totypes, outsourcing is likely to enable a firm
to use external expertise to enhance its perfor
mance. In contrast,when technology knowledge
is tacit, vertical integration facilitates its transfer
through shared experience and language among
organizationmembers2 (Arrow,1974;Monteverde,
1995) and outsourcing is likely to be inferior.
Further, the interdependence of activities that
are required to integrate a new technology with
internalprocesses affects thepotential for benefits
fromoutsourcing (Kogut andZander, 1992;Grant,
1996). Interdependent activities require ongoing
communication, knowledge exchange, andmutual
adjustment between actors carrying out various
parts of an activity (Thompson, 1967; Gulati and
Singh, 1998).Outsourcing is likely tobe beneficial
if activities have low interdependence,are sequen
tial, and can be easily divided into separate sub
activitieswith well-understood interfaces (Wheel
wright and Clark, 1992). For example, Nike and
Reebok achieved cost savings from outsourcing
their shoemanufacturing. One can argue, accord
ing to theKBV, that the outsourcing benefits in
thiscasewere attributableto therelative sequential
and low interdependenceof activities and thewell
understood process of shoe manufacturing. Once
Nike has designed a new shoe, itmakes a proto
type that embodies much of the tacit knowledge
thatwent into the shoe design. This prototype,
in turn,aids in handing over the subtask of shoe
manufacturing to a thirdparty. In contrast, verti
cal integration ismore beneficial for activities that
are interdependent, little understood ex ante, and
require frequent knowledge exchange and learn
ing insitu for theircompletion (Wheelwright and
Clark, 1992;Gulati and Singh, 1998).
Overall, RBV and KBV arguments imply that
whether technology outsourcing benefits or hurts a
firm's integrative capabilities and performance in
the market depends not only on gaining access to
a technology, but also on whether a firm can inte
grate externally sourced technology with internal
processes. Moreover, research finds that vertical
integration tends to be superior to outsourcing for
transferringtacit knowledge andmanaging inter
dependent activities (Kogut and Zander, 1992;
Leonard-Barton, 1995; Chesbrough and Teece,
1996; Leiblein et al., 2002).
2
A stream of research on buyer-supplier relationships in the
Japanese auto industry suggests that firms with contracting, or
relational, capabilities are sometimes able to recreate firm-like
conditions for coordination of tacit knowledge among partners
(Womack ?tal., 1990; Nishiguchi, 1994; Dyer, 1996; Dyer and
Nobeoka, 2000). They find that many of the benefits emanating
from Japanese buyer-supplier networks are driven by character
istics such as a network identity, common language, interfirm
employee transfers and team formations that mimic firm mech
anisms for creating, transferring, and recombining knowledge.
Womack et al. (1990) note that building close interfirm ties and
trust relationships took Toyota nearly 20 years, and that invest
ments in buyer-supplier relationships like the ones made by
Toyota are rather atypical in traditional Western buyer-supplier
relationships.
Copyright ? 2009 JohnWiley & Sons, Ltd. Strat. Mgmt. J., 30: 595-616 (2009)
DOI: 10. 1002/smj

When outsourcing hurts: technology
outsourcing and integrative capabilities
Having discussed when outsourcing is likely to
benefit or hurt a firm, I turn to the type of technol
ogy studied in this article.Technologies designed
to enhance business processes, such as customer
facing technologies, tend to 'havean abstractand
demanding scientificbase' thatrequiresspecialized
knowledge (Fichman andKemerer, 1997: 1346).
Third parties specialize in building this exper
tise by accumulating knowledge from deploying
these technologies in client firms, and by pack
aging and transmitting lessons learned through
'generic' applications of the technology to other
clients (Attewell, 1992; Swanson, 1994).Although
this makes third parties a valuable source of new
technology, the idiosyncrasies of business pro
cesses requiresubstantialmodification and adjust
ment of the technology for use by client firms
(Leonard-Barton, 1988; Fichman and Kemerer,
1997). Because the technology's interactionwith
business processes is context-specific and, thus,
difficult to fully anticipate ahead of deployment,
user firmsoften discover the technologyde novo as
it is being deployed and have to develop new capa
bilities to use the technology effectively (Mowery
and Rosenberg, 1989; Attewell, 1992; Swanson,
1994). Thus, technology adoption is a blend of
exploiting a thirdparty's technology knowledge
and creating new capabilities for its integration
and use (Mowery andRosenberg, 1989; Swanson,
1994). These new integrativecapabilities reflect a
client firm's skills in tailoringa technology to firm
specific needs to enhance its application (Helfat
andRaubitschek, 2000; JansitiandClark, 1994).
Outsourcing is likely to negatively impact an
adopting firm's subsequent integrativecapabilities
in thecontext of business process enhancing tech
nologies. First, as outsourcing increases, it limits
a firm's exposure to a new technology, and hence
learningby doing,which plays an importantrole in
the development of integrativecapabilities to use
and apply a new technology in the firm's business
processes (Rosenberg, 1982; Ethiraj et al., 2005).
Learning by doing to develop integrativecapabili
ties is an iterativeprocess of successive trials that
occur as the firm experiments with a new tech
nology, responds to updates of the technology,
and discerns its best uses depending on the tech
nology's interactionswith its business processes
(Leonard-Barton,1988; Attewell, 1992). Manag
ing the interplaybetween technology and firmpro
cesses is likely tobenefit from thecoordinationand
free flow of information in firms,whereas chal
lenges arisewhen activities are split among firms
due to outsourcing (Leonard-Barton,1995).
Second, capabilities evolve through not only
learningby doing, but also deliberate investment in
internalprocesses (Ethirajet al., 2005; Zollo and
Winter, 2002) thatfacilitates thebuilding of know
how througha sharedunderstandingarounda new
technology. As outsourcing increases, it diverts
capital and time investments away from internal
infrastructureto themanagement of external rela
tionships.A firmmay spend, even in the absence
of opportunism, increasingenergy on negotiations
and convincing thirdparties of appropriateactions
(ConnerandPrahalad, 1996). In addition, the firm
is likely to allocate fewer resources and talent to
areas thatareoutsourced and, therefore,often per
ceived as noncore, which leads to a neglect of
capabilities in those areas (Leonard-Barton,1992;
Bettis et al., 1992). This lack of internalresource
allocation for theuse of a new technology is likely
to impair the building of integrative capabilities
related to the technology.
Third, given the difficulty of transferringtacit
knowledge across firm boundaries, outsourcing
may limit a firm's insights into codified com
ponents transferablewith the technology, thereby
potentially causing a firm tomake faulty assump
tionsandconclusions about the technology (Cohen
andBacdayan, 1994;Pisano, 1996).Discerning the
often unclear cause-and-effect linksbetween anew
technology and its applications to business pro
cesses requires transferringnot only the technol
ogy itself, but also itsunderlying tacitknowledge
(Attewell, 1992; Fichman and Kemerer, 1997).
Knowledge-transfer problemsmay be exacerbated
if third parties share less technological knowl
edge than adopting firms require to effectively
use a technologywithin theirbusiness processes.
Hence, without significant involvement, adopting
firms
may be unable tounderstandthecausal ambi
guities surroundinga new technology, which, in
turn, is likely to limit the integrative capabilities
they can develop.
Hypothesis la: The higher a firm's degree of
outsourcingfor a new business process enhanc
ing technology, the lower itssubsequent integra
tivecapabilities related to the technology.
DOI: 10.1002/smj

600 C.Weigelt
When outsourcing hurts: technology
outsourcing and performance in themarket
Access to a new technology via outsourcing does
not guarantee thata firmcan leverage the technol
ogy in themarket (Steensma and Corley, 2000).
The performance benefits that a firm reaps from
customer-facing technologies will greatly depend
on the extent towhich customers adopt the tech
nology (Meuteret al., 2005).3However, customer
adoption of a technology cannot be taken for
granted (Rogers, 1995). Similar to organizational
members who often face considerable latitude in
using anew technology theirfirmadopts (Leonard
Barton and Deschamps, 1988), customers can
often choose whether or not to adopt (Curran and
Meuter, 2005). Technologies often fail in themar
ket due to a lackof customer adoption thatresults
partly from an inability of the adopting firm to
demonstrate the technology's value, relevance, and
benefit to its customers (Rogers, 1995; Meuter
et al., 2005).
Literature on technology adoption has isolated
perceived ease of use and usefulness as factors
that affect customers' acceptance of a new tech
nology (Davis, 1989; Rogers, 1995). Since learn
ing cost, perceived risk, expected time and cost
savings associated with using a technology vary
for different customer groups, an adopting firm
needs to understand its customers and the rea
sons why some customers opt out (Parasuraman,
2000; Curran andMeuter, 2005). The technology
services literatureargues that such understanding
enables a firm to target communication, educa
tion, customer-friendly instructionsor aids to their
customers' specific technology concerns, thereby
increasing thevalue thatcustomers perceive from
using the technology (Bitner et al., 2002; Durkin
et al., 2003; Meuter et al. 2005). Thus, for new
technologies to receive high customer adoption, a
firm needs to ensure that the technology's applica
tionsmeet its customers' needs (Utterback, 1974;
Rogers, 1995). Therefore, a firm'sperformance in
the market is assessed as customer adoption, that
is, the extent to which a firm's customers use a
new technology.
Outsourcingmay negatively affect a firm's per
formance in the market. First, gaining customer
knowledge to tailor technology attributesand com
munication to customer needs depends on a set
of tacit, interdependentprocesses, such as collect
ing informationon customers' technology percep
tions, interpreting the information in the context
of a firm's market, disseminating it throughout
the organization, and acting upon it (Day, 1994;
Kohli and Jaworski, 1990). Executing these pro
cesses in an iterative fashion, where a firm's learn
ing about new technology features alternateswith
obtaining customer feedback on the technology, is
crucial for fitting a new technologywith customer
needs toensure customer adoption.As outsourcing
increases, the extent to which a firm gathers and
applies customer knowledge to fit technology fea
tures tocustomer needs declines, which, in turn,is
likely to reduce customer adoption.
Second, the process of tailoring technology
applications to customer tastes is complicated by
customers' variability in preferences: the service
level they request, the learningeffort theyarewill
ing to make, and the service quality they expect
from a new technology (Frei,2006). This variabil
ity across customers makes fitting a technology to
customer needs a process of successive approx
imation and trial-and-errorlearning that is diffi
cult to plan in advance and standardize (Attewell,
1992). Therefore, increased technology outsourc
ing is likely to result in frequent updating and
renegotiatingof contracts as new knowledge about
customer preferences is discovered. Renegotiations
can be time-consuming (Conner and Prahalad,
1996) and can interfere with timely adaptations
of the technology to customer needs. Furthermore,
outsourcing introduces an extra layer between the
firm and its customers, namely the third party pro
viding the technology, which is likely to reduce
the extent to which customer needs are reflected
in technology applications (Fornell, 1992). Conse
quently, as outsourcing increases, performance in
the market is likely to decline.
Third, since customers interact with a technol
ogy during service delivery, they become a key
inputfactor to the 'productionprocess' (Lovelock
and Young, 1979). This active role of the customer
makes it difficult to separate service delivery into
independent sub-activities that can be executed
independentlyby holders of technologyknowledge
and holders of customer knowledge. In order to
reduce service failures, a firm needs to stay close to
its customers to learn about their interactions with
the technology and define the customer's role in
3
For instance, for a bank to realize the cost savings associated
with customers migrating from branch to Internet transactions
(costing $1.07 versus 1 cent each) (Dandapani, 2004), its cus
tomers need to actually use the Internet.
Copyright
?~)
2009
John
Wiley
&Sons,
Ltd. Strat.
Mgmt.
J.,30:595-616
(2009)
DOI: 10.1002/smj

service delivery (Meuter et al. 2005). By increas
ing a firm's distance to its customers, outsourc
ingmay cause a rise in service delivery glitches,
which, in turn, is likely to reduce performance in
themarket.
Hypothesis lb: The higher a firn's degree of
outsourcingfor a new business process enhanc
ing technology, the lower itssubsequentperfor
mance in themarket.
Limits to pitfalls from outsourcing: the role of
experience inprior related technology
The performance impact of outsourcing may
depend on whether a firm can absorb external
knowledge. The ease with which knowledge can
be transferredis, in part, influencedby the recip
ient firm's absorptive capacity to interpret,digest,
and assimilate external knowledge (Cohen and
Levinthal, 1990). Absorptive capacity has been
shown to predict innovative activity (Cohen and
Levinthal, 1990), researchproductivity (Cockburn
andHenderson, 1998), and the extent of manage
rial IT use (Boynton, Zmud, and Jacobs, 1994).
Studying the adoptionof video banking, Pennings
and Harianto (1992) show that experience with
prior technology applications facilitated a bank's
adoption of video banking.Rosenberg (1990) fur
therhighlights the relevance of prior experience
by noting that prior experience 'requiresa sub
stantialresearchcapability tounderstand, interpret,
and appraiseknowledge thathas beenplaced upon
the shelf' (Rosenberg, 1990: 171, italics in origi
nal).Hence, experience inprior related technology
may limit the downside of outsourcing by foster
ing a firm'sability to integrateexternal technology
with firmprocesses.
Prior experience provides a firmwith thecapac
ity to better understand the cause-and-effect rela
tionshipsunderlying anew technology,make sense
of it, and integrate itwith firm processes (Fich
man andKemerer, 1997).Drawing on prior related
experience for applications of new knowledge
decreases the likelihood of errors and false starts
(Cohen and Bacdayan, 1994), thereby providing
the platform on which to build new capabilities
(Nelson andWinter, 1982; Helfat and Peteraf,
2003). Thus, a firm
may be able to substituteprior
relatedexperience for the tacitknowledge compo
nents of a technology thatare difficult to transfer,
therebyreducing thenegative effect of outsourcing
on integrativecapabilities.
Also, as mentioned earlier, managers often
hold areaswhose activities are outsourced in low
regard resulting in meager allocation of talent
and resources to those areas (Leonard-Barton,
1992), which reduces the likelihood of internal
capability development (Bettis et al., 1992). Firms
with prior experience may be able to counter
this tendency by having built expertise in areas
currently affected by outsourcing. With prior
experience, firmsmay be less inclined todiscredit
the importanceof integrativecapabilities in areas
affected by outsourcing.
Hypothesis 2a: Firms with experience inprior
related technology exhibit less of a decline in
subsequent integrative capabilities as their
degree of outsourcing for a new business pro
cess enhancing technology increases.
Similarly, a firm's prior relatedexperiencemay
lessen the negative effect of outsourcing on a
new technology's performance in themarket by
enabling the firmtobuild on priorcustomer-related
knowledge. Such knowledge may have accumu
lated by studying customers' reactions to prior
technology, experimenting with prior technology
at the customer interface,or by previously apply
ing technology to service delivery. Hence, expe
riencemay enable a firm tomore easily address
customervariability inpreferences and apply tech
nology to fit customer needs, even as outsourcing
increases. The benefits of prior experience may
translate into less need for basic learning by doing
to yield customer adoption because the firm has
already engaged in those learning activities in the
past (Cohen andLevinthal, 1994; Pisano, 1990).
In addition, by enhancing a firm's familiarity
with a new technology, prior related experience
increasesa firm's ability to split technology-related
activities into sub-activities and recombine them
(Eisenhardt and Tabrizi, 1995). By understand
ing the interfacesbetween a technology's compo
nents and firm processes, a firm may be able to
more successfully manage the process of collect
ing informationon customer interactionswith an
outsourced technology, thereby reducing the neg
ative effect of outsourcing on performance in the
market.
Hypothesis 2b: Firms with experience inprior
related technology exhibit less of a decline in
subsequentperformance in themarket as their
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602 C.Weigelt
degree of outsourcingfor a new businessprocess
enhancing technology increases.
In summary, as a firm's technology outsourc
ing increases, its integrative capabilities and per
formance in themarket decrease. However, prior
related experience mitigates this negative effect
of outsourcing. It follows that pursuing higher
degrees of technology outsourcing is particularly
disadvantageous for firms lacking prior related
experience.
METHODS
Internet banking
Since Internetbanking is a new technology that
spread into the service sector via technology ven
dor relationships, it is a suitable setting for study
ing the impact of new technology outsourcing
on integrative capabilities and performance. In
2002, banks spent an estimated $130 billion on
IT, of which at least 35 percent went to out
sourcing (McKendrick, 2002). Technology ven
dors specialize in Internetbanking solutions and
gain expertiseby generalizing lessons learnedfrom
installing their solutions at multiple banks and
by subsequently embedding those lessons learned
into prepacked, 'off-the-shelf' software solutions.
These solutions tend to be 'generic' in that they are
tailored to the banking sector, but they lack the par
ticularitiesof a specific bank's business processes.
Hence, contractingwith technology vendors may
reduce the necessity for a bank to acquire exten
sive software programming skills, but it does not
eliminate the need for internal capabilities to cus
tomize, understand, integrate, and use a new tech
nologywith internalbusiness processes (Helfatand
Raubitschek, 2000). Building integrativecapabili
ties related to a new technology is likely to ensure
better integration of the vendor's products with
those of the bank and, thus, better customer sat
isfaction and customer online service adoption.
Banks vary in the extent to which they source
Internet solutions from technology vendors, such
as Fiserv, EDS, or Jack Henry & Associates, and
employ internal staff to customize and integrate
these solutions with their business processes. An
Internetbanking solution is a front-endsystem that
relies on a programming link to transferinforma
tionenteredby customersonline to thebank's core
Copyright ?C2009 JohnWiley & Sons, Ltd.
processing system (Federal Financial Institutions
Examination Council [FFIEC], 2003:22). Thus,
Internet banking is 'the automated delivery of
new and traditionalbanking products and services
directly to customers throughelectronic, interac
tive communication channels' (FFIEC, 2003: 1).
Online financial services include such basic ser
vices as account inquiry and fund transfers as well
as more Web-enabled financial services such as
account aggregation and electronic bill payment.
DATA
I collected data from banks' annual Reports on
Condition and Income and conducted two surveys
on U.S. banks' Internetoutsourcing activities dur
ing thewinter of 2001/2002 and thespringof 2003.
The second survey was a follow-up to all banks
participating in the first survey.
For the first survey I randomly sampled 800
bank holding companies (BHCs)with more than
$100 million in assets from the Federal Deposit
Insurance Corporation's (FDIC) list of 2,512
BHCs. The FDIC's Web site listed 5,065 FDIC
insured BHCs as of December 2000. In cases of
multibank holding companies, I chose the largest
entity within the holding company. I contacted
each bank by phone to obtain the name and contact
informationof themost senior executive in charge
of the bank's Internet initiative. Since I could not
gather contact information for 32 banks, most of
which had been acquired during 2001, the survey
sample includes 768 both privately and publicly
held banks.
To prepare the survey, I reviewed bank Web sites
and press releases and conducted interviews with
bank executives in charge of their bank's Internet
activities. I designed the survey using measures
from theOffice of theComptroller of theCurrency
Internetbanking studies,market research studies,
interviewswith industryexperts, andprior research
on innovation and strategy. Eight experts who were
either senior bank executives or industry analysts
participated in the pilot testing of the survey.
I sent the first survey to informants during the
winter of 2001/2002 and administered two follow
up postcard mailings and follow-up phone calls
to banks during February to mid-April 2002. The
informantswere senior executives in charge of
theirbanks' Internet initiatives. I received replies
from 224 banks, which is a response rate of 29
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percent.Accounting for 21 acquired banks in the
sample of 768 banks, the response rate rose to 30
percent.
InApril 2003, I sent a follow-up survey to the
224 senior executives who participated in the first
survey or, in cases of job changes, to the senior
executive now in charge of the bank's Internet
activities. The survey focused on Internetbanking
capability andperformancemeasures and repeated
somemeasures frommy first survey. I conducted
follow-up postcardmailings and follow-up phone
calls during May and June 2003. A total of 132
banks responded to the second survey,which is a
response rate of 59 percent.Accounting for nine
banks in the sample thathad been acquiredduring
2002 and early 2003, the response rate increased
to 64 percent. The 224 banks replying to the first
survey held assets between $100 million to over
$10 billion as of December 2001.
I conducted t-tests between respondents and
nonrespondents and between earlier and later
respondentsfor size, numberof banks in aBHC's
structure,and financial condition (loans/deposits)
to examine the data for potential nonrespondent
bias. The t-testswere not significant, indicatingan
absence of a nonrespondentbias between respon
dents andnonrespondents (size: t= -0.18; BHC's
structure: t= 1.15; financial condition: t= 1.07)
andbetween earlierand laterrespondents(size: t=
-1.03; BHC's structure:t= -0.71; financialcon
dition: t= -1.08) to the first survey. T-tests for
the second surveywere also not significant (size:
t= -1.61; BHC's structure: t= -1.62; financial
condition: t= -0.57). Further, t-tests comparing
time of adoption (t= 0.74), degree of initial out
sourcing (t= -1.45), and online retail service
offerings (t= -1.32) for respondents and nonre
spondents to the second surveywere not signifi
cant.
Gerhart,Wright, McMahan, and Snell (2000)
caution against rater reliability issues in survey
research. To increase rater reliability, both sur
veys had global and specific measures to assess
informants' knowledge of their banks' Internet
activities (Kumar, Stem, and Anderson, 1993).
About 70 percent of respondentshad titles at the
vice president level or higher. Titles were in e
commerce (37%), operations (25%), IT (16%),
marketing (9%), sales (6%), finance (2%), CEO
(2%), and other-not specified (4%),which reflects
earlier findings that the area that originally cham
pioned Internetbanking varies across banks (BAI,
Copyright ?) 2009 JohnWiley & Sons, Ltd.
1999). Respondents to the first survey had, on
average, a job tenure of 3.8 years and a bank
tenure of 8.3 years. Except for 24 respondents
who underwent job changes, all respondentswere
identical in both surveys. To ensure respondents'
competence, I asked each informantto ratehis or
her personal involvement in (1) thebank's online
initiatives, (2) the addition of new online func
tionality, and (3) the selection of Internet sup
plier/partnerson a seven-point Likert-type scale.
The threeitemswere reliable forboth surveys (a=
0.88 and a = 0.85, respectively) and respondents
were highly involved (mean= 6.03, S.D. = 1.23,
andm = 5.95; S.D. = 1.26, respectively).
Although multiple informants are preferred in
surveys (Golden, 1992;Kumar et al., 1993) Iused
only a single informantbecause utilizing multi
ple informants from a single firmwhen a sin
gle informant ismost knowledgeable often cre
atesproblems (Glicket al., 1990).Gerhart,
Wright,
and McMahan note that single raters tend to be
more reliable in smaller ratherthan in largerfirms
due to substantialwithin-firm variation in larger
firms; for example, different policies across busi
ness areas are a major source of rater reliability
bias at the firm level (Gerhart,
Wright, andMcMa
han, 2000: 867). Given the small size of most
banks' e-business units (71% of e-business units
had five or fewer employees) and because I asked
informantstoassess only Internetactivities directly
related to theirarea, Ibelieve raterreliabilitybias
is not a serious concern in this study.
Common method variance is a potential short
coming in survey-based research that collects
dependent and independent variables from the
same respondent (Podsakoff and Organ, 1986).
However, Ibelieve thatthevalidity ofmy findings
is not subject to common method bias since the
dependent and independentvariables come from
two different surveys conductedmore thana year
apart,which reduces correlationamong dependent
and independentvariables that
may be attributable
to common method bias (Podsakoff and Organ,
1986;McEvily andChakravarthy,2002). Further
more, although the same executives were targeted
by both the first and second survey, 24 of the
respondents in the second survey differed from
those in the first survey because of job changes.
Hence, in24 cases the independentand dependent
variables come from different sources. This pro
vides me with the opportunity to testwhether the
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604 C.Weigelt
responses to thedependentmeasures differ signif
icantly between new and incumbent respondents.
I conducted t-tests for the responses to the three
items forming the capability measure (t= 0.98;
p = 0.33; t= 1.61; p = 0.12; t= 1.53; p = 0.13)
and for customer adoption (t= 0.37; p = 0.72).
These t-testswere not significant at the p < 0.10
level, implying that the two groups of respondents
did not significantly differ in their responses, fur
ther indicating thatcommonmethod bias is not a
concern.
Variable Measurements
Dependent variables
The article studies the impact of outsourcing on
two dependent variables collected in the second
survey: integrative capabilities and performance
in themarket (customer adoption). Prior work
has measured capabilities as number of patents
(Mowery et al., 1996), products (Yeoh andRoth,
1999;Katila andAhuja, 2002), researchanddevel
opment (R&D) expenses (Cohen and Levinthal,
1990;Helfat, 1997), or latentconstructs based on
surveys (Steensma and Corley, 2000). I follow
Steensma and Corley (2000) by measuring inte
grative capabilities using a latent construct based
on three seven-point Likert scale items. Infor
mants4 rated the degree to which their bank (a) is
capable of customizing standardizedoff-the-shelf
technology to its Internetapplications, (b) is capa
ble of developing future applications of Internet
banking services, and (c) has adequate IT skills
to operate Internetbanking in-house (Appendix).
The latentconstructof integrativecapabilities cap
tures the extent to which a firm is able to assim
ilate, enhance, and apply a new technology to
its internal processes (Mytelka, 1985; Leonard
Barton, 1988;Helfat andRaubitschek, 2000). The
standardizedCronbach coefficient alpha for the
three items was a = 0.85. I also conducted a fac
tor analysis to ensure that the items loaded on
one factor. I combined and averaged the three
items to create the variable integrative capabil
ities. Higher values indicate greater integrative
capabilities.
Isolating the performance of online banking
from thatof other service delivery channels ischal
lenging; since the inception of Internetbanking,
banks have struggled to assess the effectiveness
of their online operation and its contribution to
overall financialperformance.Banks are different
from other industries that service their customers
throughmultiple channels such as retailing (e.g.,
Williams-Sonoma orBarnes & Noble) in thatcus
tomers utilize theirbank's services throughmul
tiple channels (e.g.,ATMs, branches, call centers,
or online) without being charged on a transaction
by-transaction basis.5 It is thereforenearly impos
sible to tracerevenues to specific transactions,and
hence specific service delivery channels.Although
industry analysts have observed that customers
who bank online havemore products, lower attri
tion rates, and, on average, 35 percent higher
balances than their offline counterparts (Bielski,
2003), the causal chain of whether online cus
tomers aremore profitable due to banking online
orwhether more profitable customers bank online
cannotbe established. Second, tracingcosts to spe
cific channels and specific customers is also diffi
cult. Technology is an integral part of a bank's
operations, and several banking channels (e.g.,
online banking platform, branch, and ATM net
works) utilize and draw on the same back-end data
processing for theiroperation.
Faced with these limitations, banks use 'total
number of active online customers' as a way to
assess the performance of their online banking
channel. This is a suitable performancemeasure
because, while revenues cannot be traced by deliv
ery channel, it is known that online banking is a
4
Huber and Power (1985) raise concerns regarding raters' poten
tial desirability biases and intentional distortions in surveys.
However, although it would be favorable for all respondents
to report high integrative capabilities for their bank, the mean
for this variable is only 3.82 (S.D.
=
1.72). A frequency distri
bution for the capability variable shows that less than 15 percent
of respondents reported a score of six or higher, and that less
than 25 percent reported a score of five or higher. Hence, a
desirability bias seems unlikely to exist in this survey data.
5
A retailer such as Barnes & Noble can measure the profit it
earns from an online customer versus a retail store customer
because each engages in a specific transaction that is docu
mented. That is, revenues and costs for the transaction are
measured (e.g., sales price, costs of goods sold, handling and
shipping). In contrast, banks cannot track how profitable one
channel is versus another. The reason for this is that a customer
uses multiple channels for the same banking products without
being charged for each individual transaction. Thus, a customer
may open a bank account in a branch, withdraw money from
the ATM, request a loan over the phone, and check balances and
pay bills online. Given this, customer profitability in banking is
notoriously difficult to attribute to a specific channel.
Copyright
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John
Wiley
&Sons,
Ltd. Strat.
Mgmt.
J.,30:595-616
(2009)
DOI: 10. 1002/smj

lower-cost channel than branch and ATM (Dan
dapani, 2004; Durkin et al., 2003).Migrating cus
tomers toonline banking is thereforelikely associ
atedwith increasedcost savings forbanks. Inaddi
tion, in the academic literature,customer adoption
and usage of a new technology are viewed as mea
sures of new technology acceptance and success
(Rogers, 1995; Leonard-Barton and Deschamps,
1988). Although not directly capturing a firm's
online sales and profits, a higher percentage of
customer online adoption signals a firm's abil
ity to penetrate a new market. Therefore, online
customer adoption is an appropriate,andwidely
used, proxy for theperformance of Internetbank
ing operations.
Accordingly, Imeasure performance in the
mar
ket as the percentage of a bank's total customer
base (demand-deposit households) that regularly
checks balances online.Respondents reportedtheir
total customer base checking balances online as
of the spring of 2003, the time of the second
survey. To ensure themeasure's validity, I sep
arately asked respondents the following two ques
tions and thencalculated a customer online adop
tionmeasure:What isyour bank's totalnumberof
active online customers?
What isyour bank's total
number of retail customers (offline and online)?
I reestimated themodels with this second per
formancemeasure and the results were consis
tent. The correlation between both measures is
r= 0.88. This performancemeasure considers that
technologies adopted inbusiness processes orunits
may not directly affect overall returnon equity
(ROE) or returnon assets (ROA) (Ray, Barney,
andMuhanna, 2004).6
Independentvariables
All independentvariables were collected in the
first survey. Degree of outsourcing captures the
extent to which a firm relies on external vendors
to adopt a set of eight online service areas. Prior
literature tends to conceptualize interfirmmodes
as binary (Leiblein and Miller, 2003) or as an
ordinal continuum of interfirmrelationships (e.g.,
licensing, equity stakes, joint ventures, and acqui
sition) (e.g., Steensma andCorley, 2000;Nicholls
Nixon andWoo, 2003), although some of these
choices (e.g., licensing agreements) can be con
tinuous. Therefore, following Pisano (1990) and
Poppo and Zenger (1998), degree of outsourcing
is a continuous variable ranging from zero (all
in-house) to 100 (all outsourcing).Using external
vendors to acquire new technology is prevalent
in the banking industrywith only a few banks
among the largest relying solely on in-house pro
cessing. In the sample, only one bank did so; all
others used varying degrees of internaland ven
dor involvement to implementeight online service
areas: account balance inquiryand funds transfer,
credit/loan/mortgage, bill payment, bill present
ment, investment, insurance,CRM, and nontradi
tional services. Eight banking experts evaluated
the list of service areas to ensure it was repre
sentative of online service offerings. Informants
reportedtheirbank's percentageof in-housedevel
opment versus outsourcing for each service area
(Appendix). I calculated degree of outsourcing by
summing thepercentages of outsourcing across all
service areas offered and dividing the sum by the
total number of online service areas offered. The
measure includes service areasadoptedcompletely
in-house and accounts for firmsdiffering in their
degree of outsourcing across service areas.
Experience in prior related technology may
influence a firm's performance in the market
and integrative capabilities by providing learn
ing opportunities that foster absorptive capacity
(Cohen and Levinthal, 1990). For over 20 years,
banks have attempted to shift theircustomers from
physical branches to remote channels, such as
home banking, ATMs, and smart or debit cards
(Pennings and Harianto, 1992). I define experi
ence inprior related technology as previous PC
banking offerings that are a predecessor technol
ogy to Internetbanking. PC banking familiarized
banks with remote customer self-servicing tech
nology and offered services similar to the basic
services offered by Internetbanking.Although PC
banking included several of today's basic online
services, it required users to install the bank's soft
ware on their PCs to access accounts remotely.
Experience inprior related technology is a binary
variable of one for banks that had at any point
in time a PC direct-dial program for their retail
customers and of zero otherwise.
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6
The logic is that as the performance of one business unit
increases thereby positively contributing toROE (ROA), another
business unit may perform poorly resulting in a negative effect
on ROE (ROA). Both effects may cancel each other out leading
to no visible effect from e-banking on aggregate performance
measures such as ROE or ROA.

606 C.Weigelt
Control variables
I control for firm-and relationship-specific factors
thatmay influence a firm's capabilities and per
formance in themarket. Firm size is an archival
measure taken from each bank's annual Report
on Conditions and Income. Inkeeping with prior
research in banking, firm size ismeasured as the
log of assets (Dos Santos and Pfeffers, 1995).
Larger firmsmay have greater capacity, slack, and
incentives to acquire new capabilities due to their
scale (e.g., broad service portfolio) or fixed-cost
spreading advantages (e.g., large customer base)
(Cohen, 1995).
Technical andmarketing investments aremea
sured as composite formative indicators (Bollen
andLennox, 1991). Technical investmentsconsist
of technological intensityand IT strengththat
mea
sure tangible and intangible aspects of resource
investments, respectively (Amit and Schoemaker,
1993). Technological intensity is measured as a
bank's IT investments in systems, equipment,
and data processing divided by total assets (Pen
nings andHarianto, 1992). IT strength is a reflec
tivemeasure from the first survey and comprises
the seven-point scale items: (a) a bank's over
all technology/IT knowledge and (b) IT invest
ments/budget uponWeb launch,which correlate
highly (r= 0.59). I created the formative mea
sure technical investmentsby summing and aver
aging the z-scores for technological intensity and
IT strength. Similarly, I created the formative
measure marketing investmentsby summing and
averaging the z-scores for market scope and mar
keting intensity.Market scope is the percentage
of income derived from nontraditional banking
sources and captured as ratio of noninterest income
to total income. Marketing intensity ismeasured as
abank's advertisingexpenses divided by revenues.
Timeof adoption is thenumberof months since
year-end 1995 before a bank started to adopt
Internetbanking. The variable controls formar
ket learningeffects and technological advancement
that occur as new technologies diffuse through an
industry(SchoeneckerandCooper, 1998). Scope is
measured as the number of service areas
(Appendix) inwhich a bank initially adopts online
services. Greater scope has been shown to increase
the complexity of a new technology and the coor
dination efforts required to adopt it (Novak and
Eppinger, 2001).
Copyright (C2009 JohnWiley & Sons, Ltd.
Imeasure number of external partners as the
average number of vendors thata firmhad across
eight online service areas at time of adoption
(Appendix). Contracting with more external par
ties may increase a firm's external coordination
efforts and divert attention from cultivating capa
bilities due to bounded rationality (Simon, 1960).
Collaboration with partner is a firm's average
degree of collaboration with its partner across
eight online service areas (Appendix). Informants
rated on a seven-point scale the extent towhich
their vendor relationshipwas, on average, arms
length or collaborative, which controls for the
extent of interactionandknowledge exchange that
may occur in external relationships (Mitchell and
Singh, 1996). Higher net worth customers, who
tend to be more knowledgeable about the Inter
net and demandmore sophisticated services,may
be more likely to adopt Internetservices (Rogers,
1995). Imeasure customer affluence as the ratio
of deposit accounts over $100,000 divided by all
bank deposits. Finally, I control for thenumberof
employees in a bank's e-business unit. This vari
able, measured as the log of a bank's number of
e-business employees, controls for the costs and
efforts a firm expands internally to adopt a new
technology.
At themarket level, Icontrol formarket concen
tration,which is the four-firmconcentration ratio
of deposits in a bank's market defined by the num
ber of states inwhich that bank has operations. Lit
erature in economics attests to links between mar
ket concentration and innovative activity, arguing
thatmarket concentrationmay negatively affect
innovative activity by inhibiting competition and
potential returns from innovation (Levin, Levin,
and Meisel, 1987; Acs and Audretsch, 1987).
Hence, market concentrationmay limit a firm's
incentive to invest in building capabilities related
to a new technology since the returns may not be
worth the effort in thepresence of limited compe
titiondue to high concentration.
Analysis
Estimating the effect of outsourcing on both inte
grative capabilities andperformance in themarket
(customer adoption) requires two important con
siderations. First, since managers tend to choose
their degree of technology outsourcing based on
theirexpectation thata certain degree of outsourc
ingwill yield greater returnsthananother,a firm's
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outsourcing decision may introduce endogeneity
bias (HamiltonandNickerson, 2003). Second, out
sourcing is likely to have a simultaneous rather
than sequential effect on integrative capabilities
and performance in themarket. The process of
capability building is likely to occur at the same
time as customer adoption.Firms build capabilities
for a new technology as they offer it to customers,
as they receive feedback from customers adopting
the technology, and as they tweak the technology.
Regarding the first consideration, I test for
potential endogeneity applying the Davidson
Hausman-Wu test of endogeneity (Wooldridge,
2003). The hypothesis for the presence of endo
geneity in degree of outsourcingwas rejected for
both dependent variables (integrative capabilities
t= 1.24, p = 0.27 and performance in the market
t= 1.10, p = 0.30). Thus, potential endogeneity
of degree of outsourcing does not seem to be a
problem in thisdataset7.
Given the absence of endogeneity of outsourc
ing in themodel, but considering the concern for
potential simultaneity of integrative capabilities
and performance, I apply a seemingly unrelated
regression (SUR) model (Zellner, 1962) using
STATA to test the hypotheses. I estimate the fol
lowing set of equations where Xi and Zi are vectors
predicting the respective dependent variable.
Integrativecapabilitiesi= & + /,
degree of outsourcingi + P2 Xi + Si (1)
Performance in the marketi = 83
+ ,84
degree of outsourcingi + f85 Zi + 7i (2)
An SUR is an extension of a linear regression
thatpermits correlated errors between equations.
Correlation in error termsbetween equationswith
different dependent variables is particularly likely
when both equationsutilize the same dataset.Fur
ther,given theabsence of endogeneity of outsourc
ing in the model, an SUR model is preferable to a
3SLS because itdoes not require instruments,and
hence is likely to yield more precise estimates.8
I also estimate two-limit Tobit regressions for
integrative capabilities bound between one and
seven andperformancebound between one percent
and 100 percent customer adoption.Tobit is appro
priate for dependent variables thathave observa
tions thatare censored by a lower and upper limit
bound.Tobit estimates the likelihood thata depen
dentvariableexceeds a thresholdvalue (zero forno
customer adoption) and its value, if it exceeds the
threshold. In this study, Tobit estimates both the
likelihood that a new technology yields customer
adoption and the extent towhich it does so.
RESULTS
Table 1 presentsmeans, standarddeviations, and
correlations for themeasures. Degree of outsourc
ing correlates negatively with integrativecapabil
ities (r= -0.43) and performance (r= -0.53).
Experience in prior related technology correlates
positively with the dependent variables (r= 0.20
and r= 0.12, respectively) and negatively with
degree of outsourcing (r=-0.21).
Integrative capabilities and performance in the
market estimates
Table 2 presents the results for the SUR testing
therelationshipbetween degree of outsourcing and
integrativecapabilities (Hypothesis la) andperfor
mance in themarket (Hypothesis lb) inModel
1 of Equations 1 and 2, respectively. Model 1
of Equation 1 predicts the effect of outsourcing
on integrative capabilities, which is significant
and negative (,8= -0.023; p < 0.001), indicat
ing that greater outsourcing of new technology
7
Given the absence of endogeneity of outsourcing in this dataset,
the use of a two-stage least squares (2SLS) or three-stage least
squares (3SLS) approach is not necessary. While Heckman two
stage models are commonly used to control for the endogeneity
of dichotomous or categorical variables capturing outsourcing,
a 2SLS or 3SLS approach is used to account for the potential
endogeneity of continuous variables (Hamilton and Nickerson,
2003).
8
To ensure the robustness of the model results presented in
this article, I estimated several additional models. First, even
though the Davidson-Hausman-Wu test of endogeneity showed
that potential endogeneity resulting from degree of outsourcing
was not a concern in this data, I estimated a 3SLS regression
model (Wooldridge, 2003). The results for the hypotheses were
consistent with those reported in Table 2. Second, I estimated
separate 2SLS models for both integrative capabilities and per
formance in the market, respectively, which account for potential
endogeneity of outsourcing, but not for potential simultaneity.
Again, the results were consistent with those shown in the study.
These tests ensure the robustness of the SUR results shown in
this article.
9
Although 132 banks replied to both surveys, some banks had
incomplete data reducing observations to 94.
DOL: l0. 1002/sm'J

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leads to lower integrative capabilities. This con
firmsHypothesis la.Among thecontrol variables,
scope, number of external partners, and market
concentration exhibit a negative, significant effect
on integrativecapabilities.
Model 1of Equation 2 predicts theeffect of out
sourcing on performance in themarket. Degree
of outsourcing is negative and significant (,8=
-0.197; p < 0.001), indicating that greater out
sourcing for a new technology lowersperformance
in themarket, supportingHypothesis lb. Among
the control variables, collaboration has a positive
significant effect on performance in themarket.
I also estimated Tobit models predicting inte
grative capabilities and performance in themarket
(Hypotheses la and lb). The results are consistent
and presented in Table 2.
Estimates of the interaction effect
Model 2 presents results of the interactioneffect
between degree of outsourcing and experience in
prior related technology, testing Hypotheses 2a
and 2b that predict that the negative impact of
outsourcing on integrative capabilities (Hypothe
sis 2a) andperformance in themarket (Hypothesis
2b) is less for firmswith experience inprior related
technology. The interaction is positive and sig
nificant in Model 2 of both Equations 1 and 2
(,8 = 0.043; p < 0.001 and ,B
= 0.197; p < 0.01,
respectively).Additionally, I estimatedTobitmod
els to test Hypothesis 2b. Consistent with the
results in Model 2 of Equation 2, the interac
tion effect is positive and significant (, = 0.222;
p < 0.001).
To gain further insights into the interaction
between experience in prior related technology
and outsourcing, I graphed the interaction for
firmswith and without prior experience at dif
ferent degrees of outsourcing in Figure la and lb
(Aiken and West, 1991). The graph in Figure la
shows that as outsourcing increases, firmswith
prior experience exhibit far less of a decline in
integrative capabilities than firms without prior
experience. In fact, the line is close to horizontal
for firmswith prior experience. Furthermore,firms
with experience inprior related technology achieve
higher integrative capabilities in the presence of
outsourcing, a finding consistent with absorptive
capacity arguments (Cohen andLevinthal, 1990).
Strat. Mgmt. J., 30: 595-616 (2009)
DOI: 10.1002/smj

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610 C.Weigelt
(a) 6
5
-
U)
e4
2 3 -, -|4- PC banking
No PC banking
C)c
2-
0
x=O x=1 00
Degree of outsourcing
(b) 40
35
30
00
? 5
20 - PC banking
En
d20
-4-
PCObanking
L
X 15-0
5 -
X=0 x=1 00
Degree of outsourcing
Figure 1. Interaction between degree of outsourcing and
experience in prior related technology (PC banking)
In fact, there is no difference in integrative capa
bilities between firms with and without prior expe
rience at zero outsourcing.Thus, prior experience
mitigates the negative effect of outsourcing, sup
portingHypothesis 2a.
Figure lb shows that under conditions of verti
cal integration, firms realize similar levels of per
formance in the market regardless of their prior
experience. However, as firms begin to outsource,
the gap in performance realized by firms with
and without experience in prior related technol
ogy widens. Although both groups of firms show
a decline in performance as outsourcing increases,
this decline is less for firms with prior experience.
Thus, firms with experience in prior related tech
nology achieve higher performance in the market
when outsourcing than firmswithout experience.
The finding indicates that prior technological expe
rience can be leveraged in the marketplace and
thereby mitigates the negative effect of outsourc
ing, supportingHypothesis 2b.
In summary, the results show that outsourcing
negatively impactsa firm's integrativecapabilities
and performance in the market. However, experi
ence in prior related technology reduces the nega
tive effect of outsourcing.
Copyright ?) 2009 JohnWiley & $ons, Ltd.
DISCUSSION AND CONCLUSION
This study provides new insights into the impact of
new technologyoutsourcingon a firm's integrative
capabilities and performance in the market. The
findings imply thatgreateroutsourcing forbusiness
process enhancing technologies (Attewell, 1992;
Swanson, 1994) lowers a firm's integrative capa
bilities and performance in the market. This neg
ative effect of outsourcing is likely due to two
reasons.First, althoughoutsourcingprovides firms
with access to specialized technologies, thebuild
ingof integrativecapabilities related to these tech
nologies requireslearningby doing and investment
in internal processes (Ethiraj et al., 2005; Zollo
andWinter, 2002). Given thatbusiness processes
are idiosyncratic, firms are likely to learn in situ
about a new technology while using it (Attewell,
1992). Such learning,however, decreases as out
sourcing increases. Hence, to build integrative
capabilities for a new technology, firms need to
be involved in the technology adoption process.
Passive capability accumulation is unlikely, and
outsourcing cannot simply substitute for internal
capabilities (Powell et al., 1996). Thus, although a
firm may outsource to obtain a technology, it still
needs to understand how the technology relates
to its internal processes (Brusoni, Prencipe, and
Pavitt, 2001).
Second, outsourcing may interfere with firm
processes designed to raise customers' perceived
value of a new technology and, hence, customers'
adoption of the technology. Understanding how
customers perceive and interact with a new tech
nology depends on a set of interdependent, tacit
processes, such as collecting informationon cus
tomer needs, interpreting it, and disseminating
it throughout the firm (Day, 1994). These pro
cesses may be interrupted when activities are split
into subtasks between a firm and external parties.
Moreover, learning about customer preferences is
a process of successive approximation that varies
across firms due to customers' variability in pref
erences (Attewell, 1992; Frei, 2006). As such,
this process is difficult to standardize or plan in
advance, which may require frequent updating and
renegotiation inoutsourcing relationships.
This study finds that greater vertical integra
tion is superior to outsourcing of business pro
cess enhancing technologies. These findings are
consistent with RBV and KBV arguments that
state that greater vertical integration is preferred
Strat. Mgmt. J., 30: 595-616 (2009)
DOI: l0.1002/smj

for interdependentactivities involving tacitknowl
edge (Kogut and Zander, 1992). Given a com
mon language and shared understanding among
employees, vertical integration is superior for the
coordination of tacit, context-specific know-how
(Leonard-Barton, 1995; Monteverde, 1995;
Leiblein et al., 2002). On the other hand, there
are conditions under which outsourcing may be
superior tovertical integrationand enable firms to
offer higher quality products and realize cost sav
ings (Rosenzweig, 1994;Dyer, 1996;Mitchell and
Singh, 1996). According to theKBV, outsourc
ing isbeneficial for sequential, low interdependent
activitieswhere the interfacebetween activities is
well known (Kogut andZander, 1992). Outsourc
ingmay also be suitable for products or services
previously performed in-house thatcanbe obtained
at lowercost or higher quality outside. In thatcase,
outsourcing affects known services thatoften have
become peripheral to a firm'score andwhose link
ages to other system components arewell known.
In contrast, this is not the case with new busi
ness process enhancing technologieswhose inter
actions with firm processes are not fully known
until their deployment (Attewell, 1992). Hence,
when deciding to outsource, firms should consider
the interdependenceof activities and theneed for
tacitknowledge exchange among activities.
Overall, the finding of a negative effect of
outsourcing emphasizes thatalthough outsourcing
gives firms access to a new technology, it does
not guarantee that a firm can use and deploy the
technology in themarket (Hamel, 1991). There
fore, it is importantto delineate between offering
anew technology tocustomersvia outsourcing and
learninghow to use it.Outsourcingmay endow a
firmwith new technology applications for its cus
tomers,but these shouldnot be equatedwith better
performance in themarket. In fact, offering new
technology applications through outsourcing can
be costly if customers do not adopt the new offer
ings. This may be the case if outsourcing results
in technology applications that are little tailored
to a firm's customers. As outsourcing increases,
a firm's staff may push a new technology less to
theircustomers because they do not feel involved
in the technology's success. Hence, internal staff
involvement is advisable when outsourcing for a
new technology in order to ensure the building
of integrative capabilities related to the technol
ogy and the application of firm-specific customer
knowledge.
Moreover, the negative effect of outsourcing is
more pronounced for firmswithout experience in
prior related technology. These firms exhibit a
drastic decline in integrativecapabilities and per
formance in themarket as outsourcing increases.
Thus, although prior experience provides absorp
tive capacity (Cohen and Levinthal, 1990), the
findings show limits to benefits from absorptive
capacity: prior experience can reduce but neither
eliminates nor reverses thedownside of outsourc
ing.However, as outsourcing decreases, the dif
ference in integrativecapabilities andperformance
between firmswith andwithout experience inprior
related technology declines. Hence, as outsourcing
decreases, prior experience seems not toprovide a
distinguishing advantage,perhapsbecause benefits
from absorptive capacity are countered by inertia
resulting from prior IT investment that functions
as a short-run substitute for a new technology.
That is, prior experience that enhances a firm's
ability to tailor a new technology to customer
needs may not lead to greater customer adoption
if there is a prior technology thatcustomers have
already adopted and that they perceive as a viable
alternative (Rogers, 1995). Prior experience also
may not lead to greater new capabilities if there
are sunk costs from learning the prior technol
ogy (Forman,2005). However, greateroutsourcing
widens thegap in integrativecapabilities and per
formance between firmswith and without prior
experience, implying that firms should not under
estimate the role of prior experience in absorbing
externalknow-how.
This studyhas limitations.First, studying a sin
gle technologywithin a single industryavoids the
difficulty of controlling fordifferences across tech
nologies and industries in potential profitability,
capital costs, and technology advancement (Levin
et al., 1987).However, a single-industry studyalso
has limitations,especially regardingitsgeneraliza
tion.This study's findings are applicable to firms
in other industries, such as retail, travel, broker
age, or education, thatoutsourcenew technology to
enhancebusiness processes. Further, severalof the
major technology vendors for the banking indus
try,e.g., EDS orFISERV, also provide technology
solutions to the health care, retail, telecommuni
cation, and energy industry.With this inmind,
there is reason to believe that this study's find
ings can be generalized to other industry con
texts.
Strat. Mgmt. J., 30: 595-616 (2009)
DOI: 10. 1002/smj

612 C.Weigelt
Second, this study's findings provide insights
into the outsourcing-performance link. Specifi
cally, banks thatoutsource achieve less customer
adoption of a new technology. Thus, while this
study shows thatoutsourcing negatively affects a
firm's performance in themarket with customer
adoption being a suitable performance measure
in the context of customer-facing technologies, it
does not provide insights into performance out
comes from a cost minimization standpoint or
customer profitability, a performancemeasure that
relates revenues to costs.
Third, little besides the degree of outsourcing
and collaboration is known about the character
of the outsourcing relationship. The impact of
outsourcing on integrative capabilities and per
formance in the market may vary based on the
supplier's skills, the specific tasksperformed, and
the supplier'sprior contactswith thebuyer.Future
research could study how partner characteristics
affect a firm's capabilities and performance. In
addition, researcherscould use amore fine-grained
measure of outsourcing, distinguishing between
R&D, service/product delivery, consulting ser
vices, and support services.
Fourth,while integrativecapabilities as amea
sure are based on survey data in this study, future
research could try to devise new approaches for
collecting archivalmeasures of integrative capa
bilities. Finally, future research could study how
internalefforts, such as coordinationacross depart
ments and units, affect an adopting firm's integra
tive capabilities and performance in the market.
ACKNOWLEDGEMENTS
I gratefully acknowledge helpful comments that
have substantially improved thework fromMar
garet Cording, Margarethe Wiersema, SMJ Edi
tor Richard Bettis, and two anonymous review
ers. Financial support for the data collection was
provided by aNational Science Foundation grant
(#332-0043) and a Financial Services Exchange
grant.
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616 C. Weigelt
APPENDIX
Key measures from survey
Integrativecapabilities related to thenew technol
ogy: seven-pointLikert scale (1= low; 7 = high)
(from second survey)
Rate thedegree towhich your bank:
1. Is capable of customizing standardized 'off
the-shelf' technology to your bank's Internet
applications
2. Is capable of developing futureapplications of
Internetbanking services
3. Has adequate IT skills tooperate Internetbank
ing in-house
All themeasures below are from the first
survey:
PC banking: Yes, from to (month/year)/No
Has your bank ever, at any time, offered a PC
direct-dialprogram for your retailcustomers? (PC
direct-dial programs require client software in
stalled onyour customers'PC with a directmodem
connection either toyour bankor toan Internetser
vice provider, such as AOL or AT&T, supporting
theservice on behalf of your bank.)
Outsourcing parties: number of external parties
Indicatewith howmany externalparties your bank
contractedfor each service.
Degree of outsourcing:
At the time when your bankfirst adopted each of the
following online services,what was thepercentage
of in-house development versus external arrange
ments (third party/vendor relationships)
that your bank used to implement each service?
In- Ex- # of
house temal external
parties
Account balance = 100%
inquiry and funds
transfer services
Bill payment services = 100%
Bill presentment = 100%
services
Credit/loan/mortgage = 100%
services
Investment = 100%
(non-FDIC insured)
services
Insurance services = 100%
Nontraditional = 100%
services (e.g., Web
site hosting,
account
aggregation, virtual
mall)
CRM (customer = 100%
relationship
management)
services in general
Time of adoption: Year:
- Month:
When did your Web site begin to offer transactional
capabilities?
IT strength: seven-point Likert scale
What was your bank's overall technology/IT knowl
edge and resources relative to peers at the time
when deciding to launch your initial Web presence?
1. Overall technology/IT knowledge
2. IT investments/budget
DOI: 10. 1002/sm'J

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