Outsourcing through Purchase Contracts and Firm Capital Structure

Abstract

We examine firm and industry characteristics associated with outsourcing and the relation between outsourcing and capital structure using a unique database of outsourcing purchase contracts. We find that highly valued, profitable firms with high-value added per employee and suppliers farther away with higher competition are more likely to outsource using purchase contracts. In addition, we document that firms that operate in industries with more severe import penetration and fewer fixed assets are more likely to outsource using purchase contracts. Examining the outside purchase contract and leverage decisions, we find that the outsourcing decision is associated with less leverage. Our results are consistent with firms that choose to use purchase contracts using less leverage to mitigate the potential loss of relation-specific investments of contracting parties that can occur with financial distress or bankruptcy. This paper was accepted by Gustavo Manso, finance.