I provide a justification of intellectual property rights as a source of static efficiency gains in manufacturing, rather than dynamic benefits from greater innovation.I develop a property-rights model of a supply relationship with two dimensions of non-contractible investment. In equilibrium, the first best is attained if and only if ownership of tangible and intangible assets is equally protected. If IP rights are weaker, theorganization of the firm is distorted and efficiency declines: the final producer musteither integrate her suppliers, which prompts a decline in their investment; or else risktheir defection, which entails a waste of her expertise. My model predicts a greaterprevalence of vertically integrated manufacturers where IP rights are weaker, and aswitch from integration to outsourcing over the product cycle. Empirical evidence onthe international supply chains of multinational companies bears out both predictions.As a normative implication, I find that IP rights should be strong but narrowly defined,to protect a business without holding up non-competing derivative innovations.