Strategic Management Journal
Strat. Mgmt. J., 35: 146–157 (2014)
Published online EarlyView 29 March 2013 in Wiley Online Library (wileyonlinelibrary.com) DOI: 10.1002/smj.2082
Received 13 July 2011 ; Final revision received 3 October 2012
RESEARCH NOTES AND COMMENTARIES
EXPLORATION OR EXPLOITATION? SMALL FIRMS’
ALLIANCE STRATEGIES WITH LARGE FIRMS
HAIBIN YANG,1* YANFENG ZHENG,2 and XIA ZHAO3
1
College of Business, City University of Hong Kong, Kowloon, Hong Kong, China
School of Business, University of Hong Kong, Hong Kong, Hong Kong, China
3
College of Business Administration and Public Policy, California State University,
Dominguez Hills, Carson, California, U.S.A,
2
How do small firms manage their alliance strategies with large firms? This study compares
the relative impacts of exploration and exploitation alliances with large firms on small firms’
valuation. Integrating the literatures on the exploration/exploitation paradigm and alliance
governance, we argue that exploitation alliances with large firms will on average generate higher
values for small firms than exploration alliances with large firms due to a heightened risk of
appropriation in exploration alliances. However, if small firms can manage their alliances with
large firms via proper alliance governance, they will increase their valuations from exploration
alliances with large firms. Analyses of the U.S. biopharmaceutical industry from 1984 to 2006
largely support our hypotheses. Copyright  2013 John Wiley & Sons, Ltd.
INTRODUCTION
How can small firms benefit from strategic
alliances with large established firms? Prior
research on strategic alliances has primarily
taken the perspective of large firms while paying
scant attention to alliances in entrepreneurial settings (Katila, Rosenberger, and Eisenhardt, 2008;
Rothaermel, 2001). There is now a growing
research interest in small firms engaging in strategic alliances with large partners. On the one hand,
empirical evidence indicates that alliances with
large firms are vital to the survival and growth
of small firms, as these alliances can offer small
Keywords: exploration alliances; exploitation alliances;
small firms; large firms; alliance strategy
*Correspondence to: Haibin Yang, College of Business,
City University of Hong Kong, Kowloon, China. E-mail:
[email protected]
The first two authors contributed equally.
Copyright  2013 John Wiley & Sons, Ltd.
firms not only the legitimacy and reputation necessary for external stakeholders to interact with
them, but also complementary resources for commercializing their technologies (Stuart, Hoang, and
Hybel, 1999). On the other hand, while alliances
between small and large firms can create value, in
some circumstances small firms may suffer from
alliances with large firms because the latter tend to
outlearn or exploit the small firms and take away
the lion’s share of the value created in alliances
(Alvarez and Barney, 2001). Small firms therefore often face the challenge of configuring their
alliance portfolio with large firms: which alliance
strategies will benefit small firms, and under what
circumstances?
We address these questions by examining the
relative performance implications of exploration
versus exploitation alliances with large firms for
small firms and further investigate the contingencies of their relative impacts. Entering exploration
Research Notes and Commentaries
alliances with large firms reflects a small firm’s
desire to discover new opportunities with the
aim of building new competencies and better
adapting to the environment (Koza and Lewin,
1998). In contrast, exploitation alliances with
large firms leverage a small firm’s existing capabilities and combine competencies across organizational boundaries (Rothaermel and Deeds,
2004). Although both exploitation and exploration
alliances may create value, they compete for limited resources within each partner firm. This is
particularly the case for small firms that often lack
sufficient resources to afford both alliance strategies (Lin, Yang, and Demirkan, 2007).
Following the exploration/exploitation paradigm
(March, 1991), we argue that although exploration
alliances enable small firms to generate larger
performance variations by experiencing substantial successes as well as failures (He and Wong,
2004; McGrath, 2001), these variance-increasing
activities pose significant challenges to small
firms. Apart from the highly uncertain outcome
of exploratory activities, small firms are often at
a high risk of appropriation by large firms. The
potential appropriation concerns originate from
the difficulties of governing exploratory alliances
as manifested in contract design, monitoring,
and enforcement (Teece, 1992). It is accordingly
difficult for small firms to manage asymmetric
alliances with large firms, which often have
much stronger bargaining power. In contrast,
exploitation alliances allow small firms to engage
in well-defined collaborations with large firms and
generate more predictable performance. We therefore propose that, in general, exploitation alliances
with large firms will bring greater benefits to small
firms than exploration alliances with large firms.
We further extend this line of logic by investigating the critical contingencies from an alliance
governance perspective (Poppo and Zenger,
2002). While in general small firms are better off
forming mean-seeking exploitation alliances than
variance-seeking exploration alliances with large
firms (McGrath, 2001), we contend that small
firms can utilize proper alliance governance in
terms of formal or relational structure to mitigate
the risks of exploration alliances. As a result,
they may obtain greater value from exploration
alliances with large firms.
We tested our hypotheses using alliances formed
by small U.S. biotechnology firms with large
pharmaceutical or chemical firms from 1984 to
Copyright  2013 John Wiley & Sons, Ltd.
147
2006. We chose this industry because it presents
an ideal context for investigating the tension
between exploration and exploitation, as well as
that between small and large firms in alliances
(Rothaermel and Deeds, 2004).
THEORY AND HYPOTHESES
Strategic alliances are cooperative agreements
between firms involving exchange, sharing, or
codevelopment of products, technologies, or
services (Gulati, 1998: 293). A firm’s strategic
alliances can be classified as exploration or
exploitation alliances according to its motivation
either to explore new opportunities or to exploit
existing opportunities (Koza and Lewin, 1998).
Exploration alliances are formed to seek and
generate new knowledge and technologies, while
exploitation alliances are formed to leverage
complementary assets between alliance partners
(Rothaermel and Deeds, 2004). Both exploration
and exploitation alliances with large firms may
improve the performance of small firms.
First, exploration alliances with large firms provide opportunities for a small firm to access tacit
and often diverse knowledge from large firms.
The knowledge required for scientific discovery is both complex and multifaceted, demanding both a broad and deep knowledge base that
greatly exceeds the capacity of a single firm.
Small and large firms often possess complementary innovation-enhancing resources since small
firms excel at product innovations while large firms
are good at process innovations (Abernathy and
Utterback, 1988; King, Covin, and Hegarty, 2003).
A small firm may therefore benefit from the high
returns of exploration alliances with large firms
by acquiring and learning advanced technological know-how from the latter. For example, Shan,
Walker, and Kogut (1994) found that cooperative relationships with large established firms lead
to greater innovation output for small biopharmaceutical firms. Second, exploitation alliances
with large firms provide a small firm with efficient access to complementary resources in large
firms such as manufacturing, marketing, financial,
and other resources for commercializing its technologies (Rothaermel, 2001). Third, alliances with
large firms may provide a small firm with external legitimacy that buffers it from the liabilities
of newness or smallness. A small firm generally
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H. Yang, Y. Zheng, and X. Zhao
lacks the external legitimacy associated with stable exchange relationships with key environmental constituencies and does not have track records
in providing products or services. Alliances with
large firms for either exploration or exploitation
may be particularly desirable for a small firm
seeking to gain legitimacy and reduce uncertainty
regarding its quality (Stuart et al., 1999).
However, small firms often face high risks in
allying with large firms. Since these asymmetric
alliances are more critical to small firms than
to large firms (Doz, 1988), this dependence will
increase small firms’ vulnerability in contract
design, interorganizational learning, and outcome
sharing due to their weak bargaining power. For
example, Alvarez and Barney’s (2001) study of
128 alliances between small and large firms found
that the majority of small firms are unfairly treated
and that their performance and even long-term
survival are at risk.
Relative influences of exploration
vs. exploitation alliances
We argue that both exploration and exploitation alliances with large firms are beneficial for
small firms. However, due to bounded rationality
and resource constraints, small firms face tremendous pressure to balance between exploration and
exploitation in their alliance formation decisions.
We posit that, in general, small firms will derive
greater benefits from exploitation alliances with
large firms because these alliances ensure welldefined returns for small firms by combining
the complementary resources between small and
large firms. Although the performance potential of
exploration alliances with large firms may exceed
that of exploitation alliances, small firms often face
heightened risks of appropriation in exploration
alliances.
First, small firms have higher risks of being outlearned by large firms in exploration alliances than
in exploitation alliances. Large firms often form
exploration alliances with small firms with the
purpose of accessing the latter’s cutting-edge technological knowledge. This is particularly the case
in the biopharmaceutical industry where the technology paradigm for drug development is shifting
from chemistry-based to biotech-based technologies, which are often the competencies of many
small biotech firms (Pisano, 1990). Since the success of exploration alliances depends on each
Copyright  2013 John Wiley & Sons, Ltd.
firm’s willingness to integrate and share respective
knowledge bases (Ireland, Hitt, and Webb, 2005),
this integration process will open up the door for
large firms to access the tacit knowledge of small
firms. The knowledge resources of small firms are
also more easily appropriated than the resources of
large firms because small firms often have a limited product development scope (Deeds and Hill,
1998), and many resources from large firms tend
to be physical in nature (Katila et al., 2008). In
contrast, the concerns of proprietary knowledge
spillover to large firms tend to be less in exploitation alliances since less integration of partners’
tacit knowledge is involved in exploitation than
in exploration alliances (Ireland et al., 2005).
Second, the value created by exploration
alliances between small and large firms is subject
to appropriation by large firms. Since small firms
often challenge large firms’ existing products
or business, they simultaneously compete and
collaborate in alliances. Value appropriation is
a critical issue for alliances composed of competing firms (Dussauge, Garrette, and Mitchell,
2000), particularly when the involved firms
have asymmetric bargaining powers. Large firms
are likely to wield their influence by capturing
larger shares of the value (Alvarez and Barney,
2001). This is especially the case in exploration
alliances because future contingencies are difficult
to anticipate and firms are constantly subject to
value allocation renegotiation (Rothaermel and
Deeds, 2004). For instance, exploration alliances
often entail high uncertainty and cause friction
between partners over alliance outcomes such
as intellectual property rights. Large firms are
more likely to gain control over newly-developed
technologies in alliances since they typically
possess greater bargaining power than small firms.
In contrast, small firms may be able to generate greater values from exploitation alliances with
large firms. Exploitation alliances are formed to
capitalize on complementary assets between partner firms. Going it alone is usually not a viable
option for a small firm attempting to commercialize its technologies because the process is costly,
time-consuming, and risky. Instead, small firms
may benefit greatly from the value created by
allying with large firms via economies of specialization (Teece, 1992). In addition, the likelihood of proprietary knowledge outflow toward
large firms tends to be minimal in exploitation
alliances since this type of alliance involves less
Strat. Mgmt. J., 35: 146–157 (2014)
DOI: 10.1002/smj
Research Notes and Commentaries
integration of partners’ tacit knowledge (Ireland
et al., 2005). Exploitation alliances also entail
lower uncertainty; it is easier for partner firms to
delineate obligations and benefits because the technology for commercialization is often both welldeveloped and protected (Rothaermel and Deeds,
2004). The value appropriation risks for small
firms are much lower in exploitation alliances than
in exploration alliances with large firms.
We argue that although exploration alliances
with large firms may create high returns, small
firms also face high risks of appropriation. Conversely, exploitation alliances with large firms
allow small firms to generate more predicable
returns from the synergistic combination of their
complementary resources (Hoang and Rothaermel,
2010; McGrath, 2001). Small firms are therefore
generally better off forming exploitation rather
than exploration alliances with large firms.
Hypothesis 1: A small firm’s exploitation
alliances with large firms have a greater
positive effect on its market valuation than its
exploration alliances with large firms.
Moderating roles of alliance governance
Although small firms may benefit more from
mean-seeking exploitation alliances than varianceseeking exploration alliances with large firms in
general, we contend that small firms can mitigate the high risks of appropriation in exploration alliances with large firms by resorting to
governance mechanisms such as formal and relational governance (Gulati and Nickerson, 2008;
Hoetker and Mellewigt, 2009). Formal governance
refers to the legal delineation of rights and obligations between alliance partners within an exchange
agreement, while relational governance entails the
informal enforcement of obligations, promises,
and expectations following the values and agreedon processes in social relationships (Poppo and
Zenger, 2002). We argue that increased protection from either formal or relational governance
is likely to reduce the appropriation risks, making it more beneficial for small firms to engage in
exploration alliances with large firms.
Formal governance
Equity structure imposes a formal governance
mechanism in that the rights and obligations
Copyright  2013 John Wiley & Sons, Ltd.
149
of participating partners can be specified via
ownership control in alliances. Equity alliances
refer to structures that involve equity ownership
such as equity transfers or the creation of a
new entity, while nonequity alliances refer to
contractual agreements that do not involve any
equity ownership changes. Equity alliances are
considered to present a higher level of hierarchical
control than nonequity alliances because equity
ownership helps align partners’ interests and deter
opportunistic behaviors (Gulati and Singh, 1998).
We argue that an equity alliance will generally be a better governance mode for small
firms’ exploration alliances with large firms. First,
an equity governance structure will foster close
knowledge integration so that all firms could
work closely in order to generate new knowledge. Unlike a contractual agreement that asks
for detailed specification of activities to be undertaken at specific times, an equity governance structure gives participating firms significant leeway
in following where the knowledge and discovery process leads. This structure accordingly provides greater flexibility for exploration activities
than contractual agreements do (Ireland et al.,
2005). Second, an equity structure will help protect small firms’ benefits via hierarchical control in
exploration alliances. As noted earlier, exploration
alliances often carry high levels of uncertainty
associated with the difficulty of specifying and
enforcing contractual agreements (Rothaermel and
Deeds, 2004). This uncertainly increases the risk
that alliance outcomes such as intellectual properties will be appropriated by larger partners due to
the relatively weak bargaining power of the smaller
firm. The equity investment made by large firms
in alliances can serve as a hostage for small firms
to leverage when protecting their interests (Klein,
1980). The hierarchical governance structure also
improves control by aligning partner firms’ incentives and better restricting their appropriation
potential. Equity arrangements are therefore more
desirable than nonequity arrangements for a small
firm in its exploration alliances with large firms.
In a similar vein, we argue that a nonequity governance structure is desirable for small firms when
forming exploitation alliances with large firms.
Exploitation alliances generally involve lower levels of coordination and uncertainty than exploration alliances (Ireland et al., 2005; Rothaermel,
2001). This lower level of coordination is better
matched with a loose governance structure such as
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H. Yang, Y. Zheng, and X. Zhao
nonequity alliances. First, firms are able to clearly
define each other’s responsibilities in exploitation
alliances via a nonequity governance structure.
For instance, a small firm can form a marketing alliance with a large firm where the division
of labor can be clearly spelled out in contractual
terms. Second, the risk of a small firm’s loss of its
core technological knowledge to its large partners
is lower due to the packaged knowledge utilized in
exploitation alliances (Mowery, Oxley, and Silverman, 1996), and the need for greater hierarchical
governance is therefore reduced. Third, the profit
sharing from exploitation alliances with large firms
is relatively certain and can be well specified when
firms enter into alliance relationships, reducing the
risks of appropriation by large firms. We therefore
contend that a nonequity governance structure is
more desirable than an equity structure for small
firms forming exploitation alliances with large
firms.
Hypothesis 2a: A small firm’s equity-based
exploration alliances with large firms have a
greater positive effect on its market valuation
than its nonequity-based exploration alliances
with large firms.
Hypothesis 2b: A small firm’s nonequity-based
exploitation alliances with large firms have a
greater positive effect on its market valuation
than its equity-based exploitation alliances with
large firms.
Relational governance
An informal governance mechanism created
through trust and shared value may serve as an
alternative interorganizational governance structure in alliance relationships (Poppo and Zenger,
2002). Firms are embedded within interfirm relationships where norms and common values are
developed in order to fill in the voids left by formal
contracts. Westphal and Zajac (2001) argued that
firms not only seek legal compliance in interfirm
relationships, but also abide by institutional norms
and values. We contend that relational governance
can serve as alternative means of mitigating the
appropriation risks (Poppo and Zenger, 2002),
making it more desirable for small firms pursuing
exploration alliances with large firms.
First, strong relational governance is particularly effective for reducing the risks of the
Copyright  2013 John Wiley & Sons, Ltd.
learning race in exploration alliances. Trust
relationships developed via closed networks and
repeated interactions direct partnering firms’
interests for the long-term health of interfirm
relationships and deter short-time opportunistic
behaviors in existing alliances (Deeds and Hill,
1998). This is important in knowledge-intensive
activities such as exploration alliances where the
uncertainty regarding future outcomes is high
(Hoetker and Mellewigt, 2009). The knowledge
integration process is likely to be smooth when
both parties have trust toward each other. Small
firms will therefore have fewer concerns of
being out-learned by large firms in exploration
alliances because trust serves as a self-monitoring
mechanism, and firms tend to obey the rules of
collaboration (Deeds and Hill, 1998). The effect
of relational governance on knowledge protection
will be much less in exploitation alliances where
the demand for knowledge integration is reduced.
Second, strong relational governance will also
protect small firms against potential appropriation by large firms, particularly in exploration
alliances with greater ambiguities over property
rights and profit sharing. Firms are likely to use
goodwill rather than bargaining power to resolve
conflicts over newly-generated intellectual properties in exploration alliances. Carson, Madhok,
and Wu (2006) also argued that relational governance may increase the alliance’s overall value
creation by increasing efficiency, enhancing flexibility, and lowering set-up costs vis-à-vis formal
governance.
We thus argue that the beneficial effect of
relational governance will be more prominent for
exploration than exploitation alliances with large
firms. This is not only because trust and social
norms are critical for uncertain projects involving
an intensive exchange of tacit knowledge and a
higher level of collaboration, but also because
rights and obligations can be easily delineated in
more certain exploitation alliances. Small firms
may better realize the potential of exploration
alliances with large firms under the protection of
relational governance.
Hypothesis 3: A small firm’s exploration
alliances with large firms have a greater
positive effect on its market valuation than its
exploitation alliances with large firms when
strong relational governance exists between
them.
Strat. Mgmt. J., 35: 146–157 (2014)
DOI: 10.1002/smj
Research Notes and Commentaries
METHOD
The research context for this study is the
U.S. biopharmaceutical industry. This industry
has witnessed numerous alliances between small
biotechnology firms and large partners such as
pharmaceutical or chemical companies over the
past two decades (Shan et al., 1994; Stuart et al.,
1999). While the competence-destroying technologies from the biotechnology sector pose significant
challenges for large pharmaceutical and chemical firms, small biotechnology firms often ally
with large firms in order to access complementary resources in manufacturing, distributing, and
marketing. The biopharmaceutical industry therefore provides an ideal setting for our study. We
retrieved data from two premier sources of business information in this industry: BioScan and
Recombinant Capital (RECAP). We identified all
small biotechnology firms founded between 1984
and 1992 that generated revenues lower than
$100 million as well as their alliance histories
with large partners (e.g., Pfizer) with annual revenues greater than $1 billion during the observation period. Large biotech firms such as Amgen
and Genentech were therefore excluded from
our sample. We collected patent information for
our sample firms from the United States Patent
and Trademark Office (USPTO) and compiled an
unbalanced panel data of 753 firm-year observations for small biotech firms from 1984 to
2006.
Dependent variable
Firm valuation is the market value of the company’s equity. We operationalized this as the
product of its shares outstanding and the stock
price per share. This is a more accurate measurement of firm performance for small firms than
other commonly used financial measurements
(e.g., P/E ratio) because biotech start-ups are
typically not profitable. In practice this is of great
interest to entrepreneurs because their economic
returns hinge on how the markets value their
firms. We collected sample firms’ valuation
data primarily from the Center for Research
in Security Prices (CRSP) and RECAP. We
derived the market value as the average of 12
end-of-month daily values for corresponding years
(Lavie, 2007).
Copyright  2013 John Wiley & Sons, Ltd.
151
Independent variables
Each alliance was classified as either exploitation
or exploration according to the detailed alliance
information acquired from either BioScan or
RECAP. Following Rothaermel and Deeds (2004),
we coded alliances that focused on upstream activities of the value chain such as drug discovery
and development as exploration alliances. Downstream activities of the value chain such as manufacturing and marketing alliances were coded as
exploitation alliances (Rothaermel, 2001). In addition, since firms may have different intentions, our
coding used the perspective of the focal firm (i.e.,
small firms in our study) (Lavie and Rosenkopf,
2006). Because the termination information for
alliances is not available for many alliances, we
constructed an alliance portfolio to include all
alliances announced between year t and t − 4 for
a firm at year t using a five-year moving window (Yang, Lin, and Peng, 2011). We then counted
the number of exploitation or exploration alliances
with large partners within the alliance portfolio as
our measure.
We measured the number of equity- or
nonequity-based exploration alliances as well as
the number of equity- or nonequity-based exploitation alliances. We used the absolute number of
these four types of alliances in the analyses in
order to assess which alliance type was likely to
generate greater valuation for small firms. A ratio
variable was not used, because we believe that a
high degree of both exploration and exploitation
alliances can coexist within a firm’s alliance portfolio. The relationship between exploration and
exploitation was therefore treated as orthogonal
rather than continual in this study (Gupta, Smith,
and Shalley, 2006). In order to correct for the
potential bias in size effect, we controlled for firm
size and alliance experience in our analyses.
It has been widely acknowledged in the literature that firms are likely to develop relational
governance within a dense network (Coleman,
1988). A dense network will foster the cultivation of trust, common norms, and values that are
likely to be shared by network members. We therefore used the ego network density as the proxy
for relational governance. Specifically, we constructed yearly alliance matrices within the biopharmaceutical industry from 1984 to 2006 using a
five-year moving window. Altogether we identified
65,864 pairs of alliances from various data sources.
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H. Yang, Y. Zheng, and X. Zhao
Alliances with more than two firms were entered
into the matrices as separate dyadic combinations
of all firms within the alliance. Ego network density was calculated as the percentage of existing alliance ties within an ego’s alliance portfolio
divided by all possible ties (Phelps, 2010).
Control variables
We controlled a series of variables that are influential in affecting a firm’s market valuation. We measured biotech population density as the counted
number of total biotech firms in each year, a proxy
of industry competition. From investors’ perspective the existence of a large number of competing
firms provides the option to leverage across different firms with similar technologies. Firm age
was measured as the number of years from the
date of incorporation; firm size was measured as
the natural log of the number of employees; and
alliance experience was measured as the count
of all prior alliances formed by the focal firm
including alliances with both large and other partners. Technological dynamism was controlled for
in order to capture the exogenous velocity surrounding a firm’s technological endeavors via a
multistep approach as follows. We began with the
population of all biopharmaceutical patents. For
each three-digit patent class we regressed the number of patents over the past five years based on
calendar year. We then divided the standard error
of the regression coefficient by the average number of patents filed within the specific class during
the past five years. This measurement is similarly
constructed as environmental dynamism and has
been adopted in previous research (Keats and Hitt,
1988).
A small firm’s technological capability may
have a considerable impact on its market valuation.
We measured this variable as the number of its
academic journal publications (Rothaermel and
Hess, 2007). This information was retrieved from
the Science Citation Index database. We also
experimented with an alternative measurement of
technological capability by using the total number
of citation-weighted patents the focal firm filed and
owned between years t − 4 and t. This alternative
measurement generates consistent findings with
our reported one using the publication-based
measurement.
Small firms’ financing capability also greatly
influences their market valuations. We measured
Copyright  2013 John Wiley & Sons, Ltd.
this variable as the U.S. dollar amount of accumulative equity investment in millions. The rationale
is that a small biotech firm’s ability to attract
equity investments reflects its strong financing
capability and accordingly influences its bargaining power over large firms. We obtained this information from RECAP database, which has collected financial history for a large number of
biotech firms from their inception (Zheng, Liu, and
George, 2010).
Analysis
We tested our hypotheses using the time-series
cross-sectional feasible generalized least squares
(FGLS) regression model for the unbalanced panel
data we complied. This model is appropriate
because it addresses potential heteroskedasticity
and autocorrelation, which often exist in ordinary least squares regression (Wooldridge, 2002).
A potential selection bias may exist in our analysis because small firms’ valuation may be affected
by unobserved factors that also influence small
firms’ intentions of forming alliances with large
firms, causing the endogeneity problem. We therefore performed a conventional Heckman two-stage
approach addressing this problem. In the first stage
we regressed the tendency of forming alliances
with large firms on the alliance density within the
interfirm network, small firms’ financial resources,
technological resources, firm size, and firm age.
We assume that small firms with fewer resources
are more pressured to form alliances with large
firms in order to access external resources (Eisenhardt and Schoonhoven, 1996). We generated the
inverse Mills ratio (IMR) from the first-stage estimation and controlled it in the second stage.
RESULTS
Table 1 presents a summary of the descriptive
statistics. Following Aiken and West (1991),
we mean-centered the predictor variables before
generating interaction terms. A variance inflation
factors (VIF) test found that the average VIF value
was 2.13, far below the critical value of 10.
Table 2 displays the FGLS estimations. Model
1 presents the baseline model with control variables only. Larger firms are perceived more positively by the market, and firms with more alliance
experience and financing capability receive higher
Strat. Mgmt. J., 35: 146–157 (2014)
DOI: 10.1002/smj
Correlations
Mean
S.D.
1
2
3
4
5
6
7
8
9
Copyright  2013 John Wiley & Sons, Ltd.
Note: N = 753. *Refers to alliances with large partners. Correlations above | 0.07| are significant at the 0.05 level.
1. Firm valuation
301.69 365.48
2. Biotech population density
937.79 216.25
0.32
3. Firm age
12.03
4.79
0.25
0.77
4. Firm size
5.25
1.56
0.57
0.49
0.44
5. Alliance experience
12.75 14.20
0.45
0.44
0.32
0.52
6. Technological dynamism
0.08
0.06
0.07 −0.08 −0.15 −0.02 −0.06
7. Inverse Mills ratio
0.96
0.66 −0.17
0.26
0.50 −0.21 −0.07 −0.35
8. Technological capability
2.75
0.82 −0.05
0.06
0.07
0.02
0.08 −0.04 −0.05
9. Financing capability
341.67 466.54
0.38
0.08
0.03
0.20
0.09
0.18 −0.22 −0.20
10. Exploration alliances*
0.76
1.40
0.09 −0.25 −0.35 −0.05
0.13
0.20 −0.30
0.01
0.06
11. Exploitation alliances*
0.44
1.02
0.27 −0.09 −0.13
0.10
0.24
0.12 −0.20 −0.08
0.11
12. Relational governance
22.99 22.30 −0.04
0.01
0.02
0.01 −0.09
0.09 −0.08 −0.09 −0.02
13. Number of equity-based
0.26
0.69
0.13 −0.18 −0.26 −0.01
0.07
0.16 −0.28
0.02
0.17
exploration alliances
14. Number of nonequity0.50
1.03
0.03 −0.22 −0.30 −0.06
0.13
0.16 −0.21 −0.01 −0.03
based exploration alliances
15. Number of equity-based
0.05
0.22 −0.04 −0.16 −0.12 −0.09 −0.03
0.02 −0.06
0.00
0.01
exploitation alliances
16. Number of nonequity-based
0.40
0.99
0.29 −0.06 −0.11
0.13
0.25
0.12 −0.19 −0.08
0.12
exploitation alliances
Table 1.
0.27 −0.04 0.01 0.09
0.98 −0.03 0.11 0.21 0.06
0.07
0.21
15
0.04 0.30
14
0.23
13
0.88
12
0.05
11
0.22
0.05 −0.04
0.71
0.11
10
Research Notes and Commentaries
153
Strat. Mgmt. J., 35: 146–157 (2014)
DOI: 10.1002/smj
154
H. Yang, Y. Zheng, and X. Zhao
Table 2.
FGLS estimates of small firms’ alliance strategy with large firms
Variables
Biotech population density
Firm age
Firm size
Alliance experience
Technological dynamism
Inverse Mills ratio
Technological capability
Financing capability
Model 1
Model 2
Model 3
Model 4
0.05
(0.61)
−2.16
(−0.53)
96.13***
(10.33)
5.35***
(6.20)
279.60
(1.43)
7.85
(0.34)
−8.21
(−0.64)
0.21***
(9.15)
0.11
(1.44)
0.42
(0.10)
95.01***
(10.47)
3.44***
(3.81)
139.98
(0.72)
10.64
(0.48)
−4.67
(−0.37)
0.20***
(8.91)
−0.48
(−1.07)
15.47†
(1.95)
58.77***
(5.70)
0.10
(1.32)
0.51
(0.13)
94.34***
(10.44)
3.47***
(3.85)
141.63
(0.74)
13.33
(0.60)
−5.58
(−0.45)
0.19***
(8.46)
−0.52
(−1.15)
0.12
(1.53)
0.20
(0.05)
95.33***
(10.51)
3.38***
(3.73)
142.71
(0.74)
10.87
(0.49)
−4.30
(−0.34)
0.20***
(8.92)
−0.37
(−0.69)
12.77
(1.05)
75.06***
(4.14)
Relational governance
Exploration alliances
Exploitation alliances
Number of equity-based exploration alliances
43.80**
(2.80)
0.42
(0.04)
−13.78
(−0.31)
65.21***
(6.12)
Number of nonequity-based exploration alliances
Number of equity-based exploitation alliances
Number of nonequity-based exploitation alliances
Exploration alliances × relational governance
Exploitation alliances × relational governance
N
Log likelihood
753
−5, 297
753
−5, 278
753
−5, 274
0.12
(0.29)
−0.83
(−1.09)
753
−5, 277
Note: Nonstandardized coefficients are reported with z-values in parentheses. Two-tailed test.
† p < 0.10; *p < 0.05; **p < 0.01; ***p < 0.001.
market valuations. In Model 2 we entered the predictor variables such as exploration and exploitation alliances. We found that exploitation alliances
are positively related to firm valuation at a
significant level (b = 58.77, p < 0.001), while
exploration alliances are positively related to
firm valuation at a marginally significant level
(b = 15.47, p < 0.10). A t-test suggests that there
is a significant difference between the coefficients (p < 0.01), supporting Hypothesis 1 that a
small firm’s exploitation alliances with large firms
have a greater positive effect on its market valuation than its exploration alliances with large
firms.
Copyright  2013 John Wiley & Sons, Ltd.
In Model 3 we entered the variables of four
different combinations between formal governance
and exploration or exploitation alliances with large
firms to test Hypotheses 2a and b. To avoid
the multicollinearity arising from high correlations among exploration alliances, exploitation
alliances, and the four different combinations, we
excluded the variables of exploration alliances and
exploitation alliances in Model 3. The findings
show that the coefficient for the number of equitybased exploration alliances is positive and significant (b = 43.80, p < 0.01), while the coefficient for
number of nonequity-based exploration alliances
is not significant (b = 0.42, p > 0.10). A t-test
Strat. Mgmt. J., 35: 146–157 (2014)
DOI: 10.1002/smj
Research Notes and Commentaries
shows that there is a significant difference between
the two coefficients (p < 0.05). Therefore, Hypothesis 2a is supported, indicating that a small
firm benefits more from its equity-based exploration alliances than its nonequity-based exploration alliances with large firms. Model 3 also
shows that the coefficient for number of nonequitybased exploitation alliances is positive and significant (b = 65.21, p < 0.001), while that for number
of equity-based exploitation alliances is not significant (b = −13.78, p > 0.10). A t-test shows that
there is a marginally significant difference between
the two coefficients (p < 0.10). This suggests that
nonequity alliance governance is more desirable
than equity governance for exploitation alliances
with large firms, supporting Hypothesis 2b.
In Model 4 we entered the interaction between
exploration alliances and relational governance,
as well as that between exploitation alliances
and relational governance. The results show that
the former is positively related to firm valuation
but at a nonsignificant level (b = 0.12, p > 0.10),
while the latter is negative and nonsignificant
(b = −0.83, p > 0.10). A t-test shows that there
is no significant difference between the two coefficients (p > 0.10), suggesting that relational governance does not make much difference between
small firms’ exploration alliances and exploitation
alliances with large firms. Therefore, Hypothesis 3
is not supported.
DISCUSSION AND CONCLUSION
Both researchers and practitioners have been
intrigued by the question of how small firms
should develop their alliance strategies with large
firms. Which alliance strategy will better enhance
small firms’ market valuations and under what circumstances? This study addresses these questions
by comparing the relative influences of exploration
and exploitation alliances with large firms on the
market valuations of small firms.
Our findings suggest that alliance strategies with
large firms in terms of exploration or exploitation exert differential impacts on small firms’
valuations. Due to the high risks of appropriation in exploration alliances with large firms and
the general incapability of small firms to govern
these complex and uncertain activities, small firms
reap less returns from exploration than exploitation alliances with large firms. This is analogous
Copyright  2013 John Wiley & Sons, Ltd.
155
to the general advice given to novice investors to
invest in low-variance stocks rather than in highvolatility ones. Our findings further suggest that,
if small firms are equipped with proper alliance
governance, they are able to capture greater benefits from their alliances with large firms. We
found that small firms are better off governing
exploration alliances with an equity-based structure, while governing exploitation alliances with
a nonequity-based structure. Our analyses suggest
that small firms reap the highest benefits from
their nonequity-based exploitation alliances with
large firms, followed by equity-based exploration
alliances. We did not find support for relational
governance. It suggests that formal structure is
more effective than relational structure in governing small firms’ exploration alliances with large
firms. Part of the reason can be explained by the
fact that small firms are often at a disadvantage to
vie for large firms’ trust, which is especially the
case in the biopharmaceutical industry.
This study contributes to both the entrepreneurship and strategic alliances literatures. While most
prior research on strategic alliances has primarily focused on large firms, we examined alliances
from the perspective of small firms. In particular,
we suggest that in general small firms can derive
greater benefits from exploitation alliances than
from exploration alliances with large firms. However, if small firms manage their alliances with
large firms via proper alliance governance, they
will enhance their value from exploration alliances
with large firms. Our findings extend prior studies
that adopted the perspective of large firms in allying with small biotech firms (Rothaermel, 2001)
by highlighting the contingencies that help small
firms configure their alliances with large firms.
The study offers important insights for managers
of small firms to understand better how to benefit from alliances with large partners. Managers
should proactively design their strategic alliances
with large firms and consider the ramifications of
each new partnership choice. For example, managers should recognize that while both exploration
and exploitation alliances with large firms may be
beneficial, small firms will generally benefit more
from exploitation than from exploration alliances.
Exploration alliances with large firms are riskier
for small firms due to potential value appropriation by their large partners. However, small firms
protected by formal governance such as an equitybased structure are likely to have greater returns
Strat. Mgmt. J., 35: 146–157 (2014)
DOI: 10.1002/smj
156
H. Yang, Y. Zheng, and X. Zhao
from the variance-seeking activities in exploration
alliances.
Limitations and directions for future studies
The findings of this study should be considered
in light of its limitations, which also provide
directions for future studies. First, our data come
from a single industry. This sampling creates a
well-defined context for examining our theoretical
hypotheses but limits the generalizability of the
findings to other contexts. Although we believe
that the general pattern may hold for small firms’
alliances with large firms in other contexts, further
empirical validation is required in other industries such as computers and telecommunications
industries. Second, given that firm performance is
commonly considered as a multidimensional construct, it will be interesting to explore whether a
small firm’s high valuation will lead to its longterm economic returns (Kale, Dyer, and Singh,
2002). In addition, our study focused on the public market valuations rather than private equity
valuations as the latter may be conducted differently in terms of actors, process, and frequency.
Future research may probe into the unique context of private equity valuations to gain additional
insights. Third, future research may consider conducting field studies to measure directly the relational governance between small firms and large
firms in alliances. Our research implies that a small
firm’s embeddedness in an alliance network may
not win trust for them from large firms. Probably it is easier for a small firm to develop trust
with a few rather than many large alliance partners. Future research may explore the development
of trust mechanisms between asymmetric firms in
alliances. Finally, while we compared the relative
impact of small firms’ exploration and exploitation
alliances with large firms, we did not address the
question of alliance portfolio balance in terms of
exploration and exploitation alliances (Lin et al.,
2007). Future research may investigate whether
small firms should focus on dynamic balance via
sequential ordering of exploitation and exploration
(Rothaermel and Deeds, 2004).
In conclusion, small firms often face a challenge of configuring their alliance portfolio with
large firms: they should address not only the tension between the need for resources and the risk
of appropriation, but also the balance between
exploration and exploitation alliances with large
Copyright  2013 John Wiley & Sons, Ltd.
firms. This study investigates the relative impacts
of exploration and exploitation alliances with large
firms on small firms’ valuations by drawing on the
exploration/exploitation framework as well as the
alliance governance literature. We find that in general small firms benefit more by forming exploitation alliances with large firms than by forming
exploration alliances with large firms. However, if
small firms are protected by proper alliance governance such as an equity-based structure they are
likely to increase their returns from their exploration alliances with large firms. This study conveys an important message that small firms should
adjust their alliance strategies with large firms by
considering appropriate alliance governance.
ACKNOWLEDGEMENTS
We thank Editor Edward Zajac and the anonymous
reviewers for their invaluable comments and
guidance throughout the review process. This
research was supported by the Research Grants
Council of the Hong Kong Special Administrative
Region, China (CityU 151810).
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