Capabilities, Transaction Costs and Firm Boundaries: A Dynamic Perspective and Integration

Abstract

A large literature has developed in recent years that attempts to compare transaction cost and capabilities explanations of firms’ vertical boundaries. Much of this literature has treated comparative capabilities (buyers’ vs. potential suppliers’) as determinants that are independent of transaction costs, based on the idea that capabilities theories of the firm are distinct from the transaction cost theory of the firm. We argue that this approach is mistaken. We contend that capabilities differences are largely the creatures of past boundary decisions made on the basis of transaction cost considerations. Therefore, the two theories of the firm cannot be conceptually distinguished. We then seek to articulate an integrated perspective that incorporates both capabilities and transaction cost logic. Our argument carries implications for theories of the firm, and for empirical research aimed at testing those theories.