Innovation suffers when strategic partners restrict information flow

Based on the research of Ramkumar Ranganathan

From the Wright brothers’ first flight to the speedy development of COVID-19 vaccines, collaboration has been key to innovation. Paradoxically, even competitors can benefit from collaboration — when they hold different pieces of the same puzzle.

But these companies must strike a delicate balance, according to new research from the McCombs School of Business at The University of Texas at Austin. Ramkumar Ranganathan, associate professor of management, offers some principles for managing the balance between competition and collaboration — particularly when it involves sharing information.

Ranganathan studied strategic alliances in which one focal company collaborates with multiple other companies that also compete with one another. It’s a double-edged relationship.

On the one hand, the allies’ knowledge bases can fill in missing pieces for the focal company. On the other hand, competitors fear proprietary discoveries getting into the hands of rivals.

As a result, collaborators create firewalls for the focal company’s internal use of information. Those restrictions, such as confidentiality agreements, can inhibit innovation by limiting internal inventors from sharing knowledge with one another.

“This assumption that you’re free to recombine knowledge from rival partners inside your firm and then create something new — we are not sure that assumption always holds,” says Ranganathan.

Costs of Firewalls

To assess how much firewalls might reduce innovation, Ranganathan collaborated with Navid Asgari of Fordham University, Deepak Nayak of Ohio State University, and Vivek Tandon of Temple University. They analyzed patent data for 95 companies between 1996 and 2007 in a highly innovative industry: pharmaceuticals.

The study examined:

An invention’s quality, shown by citations in other companies’ patents.
Innovations it led to, measured by citations in the focal company’s patents.
Intensity of competition among allied companies, gauged by being in the same technological domains.
How connected the focal company’s inventors were, indicated by overlapping names in its patents.

For example, in 2003, the patents of Sangamo BioSciences named 18 inventors, all overlapping in the company’s patent portfolio. The following year, inventors split into two groups with no connections, which suggests that firewalls were erected.

The analysis of patent data confirmed that firewalls had negative effects:

Competition creates firewalls. For every 1% increase in competition among alliance partners, there was 0.16% less connectedness among a focal company’s inventors.
Firewalls hamper innovation. A 1% decrease in connectedness meant a 1.33% drop in invention quality and a 1.53% drop in the ability to generate future innovation.

“Internal firewalls reduced the quality of innovations for the firm and reduced the firm’s ability to build on these innovations,” Ranganathan says.

Bargaining Power Matters

The researchers also found one factor that can boost innovation: bargaining power. If a focal company possessed knowledge that allies coveted, it had more leverage to set rules. The stronger a company’s bargaining power, the more connected its inventors were, suggesting fewer firewalls.

Ranganathan doesn’t suggest that companies forgo innovation alliances. Rather, he encourages them to minimize firewalls while they’re putting partnerships together. They should consider their own bargaining power and whether they can structure alliances so that competitors don’t overlap.

“Firms need to pay attention to these longer-term issues,” he says. “It’s very easy to look at the short term and think, ‘This alliance partner is giving me X amount of money to co-develop this technology. So, what if I don’t let this person talk to this other person for a few months? That shouldn’t matter, right?’ But it does matter.”

“Knowledge Behind Firewalls: How Rivalry Among Partners Constrains Innovation Inside Firms” is published in Organization Science.

Article by Suzi Morales