Why do MNE Subsidiaries Outsource R&D in Countries with Weaker National IPR Regimes? The Role of Local Institutions

Research on international knowledge sourcing has investigated the seemingly puzzling situation of multinational enterprises (MNEs) conducting research and development (R&D) in countries where intellectual property rights (IPR) protection is weaker than in their home country, and concluded that MNEs mitigate the appropriability hazards in these countries by resorting to internal mechanisms involving the entire MNE network. These studies have mainly focused on captive R&D units and identified specific internal mechanisms which may not be generalized to other governance modes. In particular, MNE subsidiaries increasingly outsource R&D to local contractors in weaker IPR countries. Drawing on institutional and transaction costs economics, we address this gap and argue that the quality of subnational institutions plays a contractual hazard-mitigating role that may at least partially compensate for the appropriability hazards of a relatively weak national IPR regime and, hence, positively influence the subsidiary decisions to rely more or less extensively on local external (versus internal) R&D partners. However, subsidiaries that strategically prioritize external knowledge sourcing in their innovative activity are less sensitive to the quality of sub-national institutions as these subsidiaries commonly adopt a set of appropriability mechanisms that help protecting their knowledge.