1
A preference for collaboration or control?
The effect of institutional differences and host country
economic indicators on the degree of ownership in an
international acquisition – a BRIC perspective
Josh Krop
Student number: 6129781
MSc Business studies, International Management
Supervisor: dr. Ilir Haxhi
Second Examiner: dr. Nicolo Pissani
2 Statement of Originality
This document is written by Student [fill out your Given name and your Surname] who declares to take full responsibility for the contents of this document.
I declare that the text and the work presented in this document is original and that no sources other than those mentioned in the text and its references have been used in creating it. The Faculty of Economics and Business is responsible solely for the supervision of completion of the work, not for the contents.
3
Abstract
In the past decades international business literature has primarily focused on MNE’s (Multinational Enterprises) from developed economies. There has been a lack of literature covering the most promising emerging markets: Brazil, Russia, India, and China (BRIC countries) despite their transition to world stage economies. International business research on market entry strategies has increasingly concentrated on the degree of ownership MNE’s acquire in their subsidiaries. It represents the measure of control the MNE has over its subsidiary, and therefore the measure of risk it is willing to take when investing abroad. Previous research on what determines the degree of ownership in an acquisition has considered the effects of formal and informal institutions. This research has had varying results and has primarily focused on MNE’s from developed economies. While some scholars argue that foreign investment in poorly organized societies necessitates collaboration with local firms resulting in a joint venture (JV), others point to a need for control leading to a wholly owned subsidiary (WOS). The aim of this study is twofold: first to explore the difference in corporate governance regulations and national culture on entry mode strategies by companies from BRIC countries; and second, to analyze the moderating effect on this relationship of market potential (as expressed in a country’s Gross Domestic Product) and market competitiveness (as expressed in a country’s score on the Global Competitiveness Index). Our findings support the influence of corporate governance quality on entry mode strategies by companies from BRIC countries when looking at the effect individually. They also partially support the influence of the cultural variables power distance and masculinity, as well as slight significance of the influence of market potential and market competitiveness. As for the degree of ownership, our findings substantiate that MNE’s from BRIC countries opt for high degrees of ownership of their foreign investments in case of positive relationships concerning market potential, and market competitiveness. However, in the case of a positive relationship concerning power distance and masculinity, they opt for collaboration with their newly acquired subsidiary. As a conclusion I recommend that future research considers the use of other cultural variables such as the GLOBE or Schwarz’s approach to measure cultural differences, a replacing measure for competitiveness that has received less criticism in its construct, the use of a longitudinal study to measure the difference in investment behavior over the years, and a larger sample of relevant MNE’s in terms of size. This research contributes to previous literature by showing that BRIC MNE’s behave not very differently from developed countries’ MNE’s when investing in a foreign country. As for specific cultural variables and host country economic indicators, they also influence market entry strategies of BRIC MNE’s, but just as with developed countries’ MNE’s they do so in different degrees and ways.
4
Contents
1. Introduction ... 4
2. Literature review ... 7
2.1 Market Entry Modes and Degree of Ownership ... 8
2.2 Institutions and Degree of Ownership ...10
2.3 Economic Indicators and Degree of Ownership ...13
2.4 Lacunae in Existing Literature ...14
3. Hypothesis Development ...15
3.1 Formal Institutions and Degree of Ownership ...15
3.2 Informal Institutions and Degree of Ownership ...16
3.3 Market Potential and Degree of Ownership ...21
3.4 Market Competitiveness and Degree of Ownership ...22
4. Methodology ...23 4.1 Data Collection ...23 4.2 Dependent Variable ...24 4.3 Independent Variables ...25 4.4 Moderating Variables ...26 4.5 Control Variables ...26 5. Results ...28 5.1 Descriptive Analysis ...28 5.2 Regression Analyses ...30 6. Discussion ...37 6.1 Limitations ...41
6.2 Recommendations for Further Research ...43
7. Conclusion ... 43
5
1. Introduction
In the past decades the most promising emerging markets (EMs): Brazil, Russia, India, and China, also known as the BRIC countries, have made their transition from ‘economies of tomorrow’ to ‘economies of today’. Although the economic growth that these countries are experiencing has been widely recognized (Arnold and Quelch, 1998)1, the increase in their Outward Foreign Direct Investment (OFDI) over the past decade2 has generally been overlooked. International business research on international acquisitions has concentrated on the degree of ownership MNE’s acquire in their subsidiaries (Anderson and Gatignon, 1986; Agarwal and Ramaswami, 1992; Erramilli and Rao, 1993). It represents the degree of control the MNE has over its subsidiary, and therefore the measure of risk it is willing to take when going abroad (Erramilli, 1996).
This risk stems, among other factors, from the formal and informal institutional distance between the home and host countries, in particular the corporate governance infrastructure and cultural distance (Robinson, 1987; Davidson; 1982). Previous research on what determines the degree of ownership in an acquisition has considered these effects of formal and informal institutions. However, there have been two opposing theories: an MNE’s need for collaboration resulting in a lower degree of ownership, or a need for control resulting in a higher degree of ownership. Although the potential effect of market potential and market competitiveness has been recognized, these have rarely been tested in this relationship (Papadopoulos et al., 2002; Ghemawat and Hout, 2010). As conventional market entry research has primarily focused on MNE’s from developed economies, this study will test the existing theory concerning the direct effects of both formal and informal institutional distance, and the indirect effect of market potential and market competitiveness on market entry strategies of EM MNE’s from BRIC countries. This leads to the following research question:
To what extent do institutional differences and host country economic indicators have an effect on a BRIC MNE’s degree of ownership in an international acquisition?
Previous research that has focused on the relationship between ownership and market entry modes has also researched its relation to formal institutions, especially a host country’s corporate governance system (Brouthers and Hennart, 2007). According to North (1990), formal institutions refer to laws and rules that are made by institutions of the
1 The average yearly growth rate developed to 3.7 percent in Brazil, 7.1 percent in Russia, 7.2 percent in India and 10.0 percent
in China between 2000 and 2008 (UNCTAD, 2010).
6
economic, political, and legal system. One of the ways the formal institutions can be measured is through the corporate governance system, which is essentially the corporate code of conduct that businesses have to abide by. In research so far there is a consensus that the better the quality of the corporate governance infrastructure, the more likely an MNE will acquire a higher degree of ownership (Gani, 2007; Globerman and Shapiro, 2003). Considering that most EM MNE’s originate from environments that are characterized by weak institutional systems, however, it remains to be tested how EM MNE’s include corporate governance quality in their decision in degree of ownership in a foreign investment.
Cultural distance is an aspect of informal institutions, which are measured on a scale using Hofstede’s (1980) dimensions of uncertainty avoidance, power distance, individualism, and masculinity. Cultural distance has found to increase management costs by the knowledge barriers they create (Anand and Delios, 1997) but also impedes acquiring and interpreting information about foreign partners’ behavior (Gomez-Meija and Balkin, 1992). Previous research on institutional distance and ownership structures has proven that cultural distance can play a role in how, and to what degree, a firm will enter the market (Meyer et al., 2009; Bowe et al., 2014; Yamin and Golesorkhi, 2009; Erramilli, 1996; Wennekers et al., 2007). As the results regarding which type of market entry strategy is preferred are not unanimous, it is worth testing this theory, in particular in relation to EM MNE’s. These considerations concerning formal and informal institutions lead to the first sub question:
To what extent do the corporate governance infrastructure and cultural distance have an effect on the degree of ownership in an international acquisition by a BRIC MNE?
In literature the role of market potential of the host country, commonly measured by GDP, on the degree of ownership has been given little attention (Mitra and Golder, 2002). It is assumed that the larger the target market is, the higher the amount of risk a company is willing to take in its market entry decision (Papadopoulos et al., 2002). Developing countries may grow faster than developed countries in this measure, however, their markets are much riskier and volatile. Ghemawat and Hout (2010) proved with empirical evidence across 96 countries that economies with more highly developed markets, measured by GDP, tend to be more open to trade. This can be explained by the fact that developed economies are more efficient and thus bring in foreign competition. Where GDP is researched, however, it is only included as a control variable (Yamin and Golesorkhi, 2009; Maekelburger et al., 2012), which underlines that further research has to be done to examine its relation to market entry ownership.
7
Market competitiveness, in this research measured by the Global Competitiveness Index, has received considerable attention from policymakers. National competitiveness is heavily analyzed in some countries as it is considered a “matter of national economic survival” (Lall, 2001). Market competitiveness affects a country’s openness to trade and thus the degree of ownership in an acquisition (Ghemawat and Hout, 2010). A finding within the Global Competitiveness Index so far has been that developed countries have markets that are far more competitive than developing ones (Estrin, 2002). Peng and Heath (1996) have demonstrated that a less competitive market has an impact on a firm’s choice on market entry ownership. For example, it could prevent a firm from choosing a WOS and prefer a JV instead, where this would not be the case if the market were more competitive (Peng, 2006). Therefore, the second sub question of this thesis is:
To what extent do market potential and market competitiveness have a moderating effect on the degree of ownership in an international acquisition from BRIC countries?
The purpose of this research is to shed new light on the effects of institutional distance on market entry ownership. In literature so far, relations have been found between degree or type of ownership and formal and informal institutional distance (Globerman and Shapiro, 1999). Relationships between market potential, and market competitiveness have so far been partial, as they were used as control variables (Yamin and Golesorkhi, 2009; Maekelburger et al., 2012). Since both these variables have been used in research concerning formal and informal institutional distance and market entries, we expect there to be a clear interaction effect between institutional distances, market potential, and market competitiveness. Considerable knowledge could be acquired from this relationship between country specific variables and institutional differences for companies worldwide interested in determining the degree of ownership in a subsidiary. The result of this research could also be useful for scholars studying the considerations of business managers when making a choice in FDI ownership degrees.
By collecting data on ownership degrees through the Zephyr database, which includes over 500,000 foreign direct investments worldwide, this study conducts regression analyses to measure the direct effects of institutional differences, measured by the Corporate Governance index and through Hofstede’s cultural dimensions, on the degree of ownership in an international acquisition. Furthermore, we use GDP and GCI, collected from the World Bank, to measure the moderating effect of the host country economic indicators on this
8
relationship. All analyses were performed through regression analyses with the statistical software SPSS.
This thesis contributes to international business literature on market entry risk. Most importantly, while most of the research concerning market entry strategies focuses on the bipolar decision of whether to enter or not, few studies have looked at the relationship between institutions and specifically the degree of ownership as a result. Previous research has primarily measured ownership as distinguishing between full and shared (Cho & Padmanabhan, 2005), minority and majority stakes (Yamin and Goleshorki, 2010; Bowe et al., 2012), and equity and non-equity entries (Maekelburger et al., 2011). Second, cultural distance has been a well-researched phenomenon but the variables used to measure it have rarely been tested separately. Cultural distance is most often measured by Kogut and Singh’s (1988) cultural distance measure, which assumes that all variables can be combined into one component. As previous research (Brouthers and Brouthers, 2001) has proven that not all cultural variables measure the same thing, it is in this research that they are therefore measured separately. Although the Hofstede’s Power Distance and Uncertainty Avoidance have been measured in previous research, little is known about the effects of the other components Individualism and Masculinity. A contribution of more practical nature is the research being done from an EM MNE’s perspective, especially from the BRIC countries.
This thesis is organized in the following way. First, an overview based on the literature will be given of the different types of entry mode strategies. This will be followed by an overview of the role of institutions, which will lead into the proposed hypotheses. Then the moderating role of market potential and market competitiveness will be presented followed by related proposed hypotheses. Finally, I will discuss statistical results and implications thereof, as well as their limitations in the concluding chapters.
2. Literature Review
Firms, which seek a competitive advantage by expanding their operations abroad, do this with certain added risks but also chances of increasing their profit. Literature studies researching why firms enter a foreign market show different schools of thought. The first views a firm entering a foreign market with the intention of exploiting international factor-cost differences by taking advantage of low wages (vertical FDI) while a second school of thought emphasizes the benefits of internalizing the activities abroad in order to reduce costs for the firm (horizontal FDI). A third school of thought refers to the location-specific advantages of firm’s international operations (Beamish and Banks, 1987). Once a firm has decided to enter, the
9
main question remains is how, and to what degree, this entry will be performed. In the following sections I will give an overview of market entry research, and how formal and informal institutions influence market entries.
2.1 Market Entry Modes and Degrees of Ownership
Pan and Tse (2000) introduced their ‘hierarchical model of entry modes’ which would help managers determine a firm’s choice of entry based on two modes: equity or non-equity. The choice between equity and non-equity modes is viewed as the ‘first level of hierarchy’ due to the difference in risk between the two entry modes. Where equity modes require a major resource commitment in the overseas location, non-equity modes do not require the formation of a joint venture or wholly owned subsidiary, which differs radically from equity modes in terms of “resource commitment, risk, return, control and other characteristics” (Pan and Tse, 2000).
The degree of ownership a firm acquires is an essential decision that determines the measure of control the firm can apply on its subsidiary. The higher the risk a firm will take in its market entry strategy, the higher the degree of ownership can be. According to Kogut and Singh (1988) the different modes of FDI can be categorized into four categories: Greenfield, acquisition, joint venture (JV) and export. When choosing an equity mode, MNE’s opt for a wholly owned subsidiary (WOS) or for equity joint ventures (acquisition, minority stake, 50% share or majority- equity joint venture) while choosing within non-equity modes requires a choice between export (direct, indirect, or other) and contractual agreements (licensing, R&D contracts, alliances, or other). In this context wholly owned subsidiaries are considered most risky and export is considered least risky. Each of these entry modes carries a different measure of risk but with a corresponding amount of potential return. Past research has demonstrated that cultural distance can influence the degree of ownership an MNE acquires, especially when it comes to the tradeoff between a JV and a WOS. On the one hand cultural distance can increase management costs through the knowledge barriers it can create (Anand and Delios, 1997). On the other hand it can influence acquiring and interpreting information about foreign partners’ behavior, creating challenges for an MNE in estimating the value of its subsidiaries (Gomez-Meija and Blakin, 1992). Research into institutional distance and the degree of ownership has divided these two views into two opposing theories: an MNE’s need to collaborate and choose a JV (Erramilli and Rao, 1993) or its need for control resulting in a WOS (Gomez-Meija and Balkin, 1992).
10
While Pan and Tse (2010) have considered market entry strategies to be split into equity and non-equity, other scholars have considered them divided between different modes - activity mode, ownership mode, and establishment mode of market entry (Dikova & van Witteloostuijn, 2007; Slangen & Hennart 2008). The activity mode refers to the decision about the value added activities that are transferred abroad while the ownership mode examines whether a firm should use hierarchical forms of foreign operations (wholly owned subsidiaries) or share ownership with local partners (joint ventures). With regard to establishment mode, a decision between acquisitions and Greenfield investments has to be made. One of the aspects that affect a decision within an equity mode of entry is the availability and access to resources. A Greenfield does not necessarily give access to a local firm and thus its resources the way a JV or WOS would. On the other hand, a Greenfield does allow the entrant to buy components of resources once they have entered the market.
Pan and Tse (2000) have tested their model against the impact of macro-level factors such as location, risk, home and host country relationships and industry factors. They conclude their research by stating that macro-level factors have a high effect on the ‘first level of hierarchy’, affecting the choice between non-equity and equity modes, as well as within the ‘lower level of hierarchy’. Research focusing on the ‘lower level of hierarchy’, in particular the distinction between JVs and WOS emphasizes that a JV will seem like a more reasonable alternative in an institutionally advanced environment (Meyer et al., 2009; Schwens, Eiche and Kabst, 2011). The reason for this divide between JVs and WOS can be traced back to a MNEs decision between collaboration and control, which can be clarified by the transaction cost economics (TCE) theory (Hennart, 1988). This theory is based on the assumptions of bounded rationality, stating that humans are rational but limited in doing so, and opportunism, defined as “self-interest with guile”. According to these conditions an appropriate governance structure is needed in order to economize on bounded rationality and simultaneously safeguard transactions against opportunism. As international operations can be very expensive, the cost of monitoring, dispute settling, and reward refining are especially high (Hennart, 1988), making the management of subsidiaries even more costly. Meyer et al. (2009) find that when the institutional environment is more advanced a JV will seem more common, because the resources of the subsidiary are more likely to be transferrable. Research on market entry modes and degrees of ownership has also looked at the effects of cultural distance. Past studies indicate that higher cultural distance between the home and host country increases management costs and hinders knowledge transfers. While there are scholars who believe that high cultural distance will lead an MNE to collaborate
11
through a JV (Erramilli and Raom 1993; Brouthers and Brouthers, 2001; Lopez-Duarte and Vidal Suarez, 2010), others point to their need to control and use a WOS (Padmanabhan and Cho, 1996; Fisher and Ranasinghe, 2001; Chen and Hu, 2002; Tsang, 2005).
Before the effect of institutions on the degree of ownership can be analyzed, it has to be recognized that different motives for FDI have variable degrees of equity ownership to them. Dunning and Lundan’s (2008) OLI framework attempts to explain FDI motives by dividing its advantages into three aspects: ownership (O), location (L), and internalization (I). The ownership advantages stem from benefits over control in production, management and strategy processes. In order to achieve this control, a large amount of ownership is needed. As for the location motives to engage in FDI, Dunning and Lundan (2008) have specified four types which explain why firms undertake value adding activities outside of their home country: natural resource seeking, market seeking, efficiency seeking, and strategic asset seeking. Finally, the internalization process refers to firms that prefer to internalize processes in order to reduce trade costs. As for entry mode strategies, Pan and Tse (2010) have considered market entries to be split into three strategies: activity mode, ownership mode, and establishment mode (Dikova & van Witteloostuijn, 2007; Slangen & Hennart 2008). The activity mode refers to the decision about the value added activities that are transferred abroad while the ownership mode examines whether a firm should use hierarchical forms of foreign operations (WOS) or share ownership with local partners (JVs). With regard to establishment mode, a decision between acquisitions and Greenfield investments has to be made. Depending on the motive and the market entry strategy of the parent firm, the degree of ownership will vary. It is not a defined concept that a higher degree of ownership is always preferred over a lower one. Previous research has proven that, depending on motive and strategy, a firm might choose a lower degree of ownership such as a JV because it desires knowledge and resources from a foreign firm (Dhanacal, 2004).
2.2 Institutions and Degree of Ownership
Research has pointed out that the differences in institutions have influenced managerial decision to enter a host country (Buckley and Casson, 1998; Kogut and Sing, 1988). The BRIC countries are generally characterized by weak regulatory structures, an institutional environment that lacks credibility (Khanna & Palepu, 1997), and continuous institutional transformation. Foreign firms face inexperienced bureaucracies, a lack of reliable business information, underdeveloped legal systems, and widespread corruption. In order to reduce institutional pressures and to compensate for institutional weaknesses, foreign firms have to
12
select adequate modes of entry. But does this same view apply to MNE’s from these emerging economies making an investment in a developed market?
Due to globalization, firms have started to expand to distant countries which have led to an increase in benefits but also an increase in risk (Franke and Nadler, 2008). In this research the degree of risk a firm is willing to take when entering a market is measured by the degree of equity ownership a parent firm acquires in the target firm. Earlier research on market entry strategies has revealed that this risk goes hand in hand with institutional – such as cultural, administrative, geographic, and economic - distance between the home and host country. According to North (1990), institutions are the “rules of the game” and can affect transaction costs directly. Institutions can be divided into two categories: ‘formal’ and ‘informal’. Formal institutions comprise of rules, laws, and property rights, while informal affect traditions, customs, taboos, sanctions and codes of conduct. North argues that from a transaction cost perspective, institutions can influence the ‘costs of doing abroad’ and will influence managers’ choice of market entry. Williamson (1985), known for the more traditional transaction cost research, has claimed that other aspects such as ‘opportunism’ and ‘bounded rationality’ have a greater influence on transaction costs. More recent research, has also suggested that institutions directly influence the creation and implementation of an MNE’s strategy (Peng, 2006; MacMillan, 2007).
Formal institutions comprise of rules, laws, and property rights and are also defined as “public institutions and policies created by governments as a framework for economic, legal, and social relation” (Globerman and Shapiro, 2003). Institutions have an essential role in a market economy to support the effective functioning of the market mechanism, such that firms and individuals can engage in market transactions without incurring undue costs or risks (North, 1990; Peng, 2009). According to Dikova and Witteloostuijn (2007), formal institutions are often concerned with a country’s Corporate Governance system because of the coercive powers they exert. An established assumption throughout literature is that market entry risk is affected by the corporate governance system in the host country, in this research the formal institutions (Anderson and Gattignon, 1986). Research shows that the better the quality of the corporate governance infrastructure, the more likely an MNE will acquire a high degree of ownership (Gani, 2007; Globerman and Shapiro, 2003). On the other hand, countries whose corporate governance systems are unwelcoming to foreign investors will more likely receive less FDI (Wang et al., 2010). While some research claims that less advanced corporate governance infrastructures will lead to a WOS (Zhou and Poppo, 2010; Chang et al., 2012), other scholars are indicating that foreign investors will prefer JVs in a similar situation (Henisz,
13
2000). The first argument is based on the expectation that, if governance quality is poor, MNEs will have difficulties in controlling the actions of their subsidiaries, making the cost of negotiating and monitoring an agreement very high, resulting in a WOS. The counter argument runs as follows: investing through a JV limits the investor’s commitment of resources on the host country by sharing his risk with the subsidiary (Zhou and Poppo, 2010). If governance infrastructure is of good quality, then it seems logical that investing MNE’s would feel more comfortable to collaborate with local partners (Henisz, 2000).
One of the main aspects of institutional research has focused on cultural distance, the informal institution, which refers to the distance between a firm’s domestic culture and the culture of its potential market (Kolodko, 2002; Martin and Ianchovichina, 2008). Scholars have examined how cultural distance can affect the decision to enter a market. The greater the cultural distance between two countries, the greater the risk for the home country, and therefore the less likely it will locate value-creating activities in the host country (Harzing, 2003). Considering a market entry strategy from a transaction cost perspective, cultural distance can increase the risk and uncertainty in the target market (Peng, 2009). Drawing from Johanson and Wiederheim-Paul’s (1975) Uppsala model of internationalization, cultural distance is more likely to influence firms from developing countries because of their inexperience in foreign expansion. The effect of cultural distance on market entry strategies has been researched before, but the results of its effect have debated. While Johanson and Vahlne (1975) claim cultural distance influences the timing and degree of market entries, Mitra and Golder (2002) have shown insignificant results when it comes to this effect. Cultural distance has found to increase management costs by the knowledge barriers they create (Anand and Delios, 1997) but also impedes acquiring and interpreting information about foreign partners’ behavior, thereby creating challenges for MNEs to safeguard against partners’ opportunism (Gomez-Meija and Balkin, 1992). While some researchers are claiming that high cultural distance will lead to a desire to collaborate resulting in a Joint Venture (JV) (Erramilli and Raom 1993; Brouthers and Brouthers, 2001; Lopez-Duarte and Vidal Suarez, 2010), others say high cultural distance will lead to a need for control resulting in a Wholly Owned Subsidiary (WOS) (Padmanabhan and Cho, 1996; Fisher and Ranasinghe, 2001; Chen and Hu, 2002; Tsang, 2005). Despite these opposing theories studies have shown that there are significant differences in ownership preferences between countries that can be explained using cultural variables, especially masculinity and uncertainty avoidance (Erramilli, 1996). According to Hofstede (1983), these two dimensions are the most decisive in affecting organizational decisions. Wennekers et al. (2007) and Pan (2002) have built upon this theory
14
and proven that uncertainty avoidance is positively related to the degree of business ownership. However, most of these studies were conducted on MNE’s from developed economies, with a major focus on the United States and United Kingdom. Research by Malhotra et al. (2011) does look at the effect of cultural distance for EM MNE’s market entry strategies but limits its research to the number of cross-border acquisitions, rather than investigating the types of market entry strategies and the degrees of ownership.
2.3 Economic Indicators and Degree of Ownership
A less examined aspect of research on market entry strategy has been the moderating role of the market potential and the market competitiveness of the target country. According to Rothaermal et al. (2006), the market potential could be an important variable that influences an MNE’s strategy. As market entry strategies are essentially a tradeoff between risk and return, the higher the market potential the more risk an MNE is likely to take. It therefore seems logical that the market potential of a host country could moderate the effect of the market entry according to risk and return, but this is yet to be examined. The same concept can be applied to market competitiveness, which looks at how costs can be reduced when markets work favorably for a foreign firm (Peng, 2006).
In international business literature, the relationship between market potential of the host country, most commonly measured by a country’s GDP (Mitra and Golder, 2002), on the degree of ownership has been given little attention despite research claiming it will affect the market entry decision (Papadopoulos et al., 2002). Market potential is most commonly measured by a country’s GDP (Mitra and Golder, 2002). It is assumed that the larger the target market is, the higher the amount of risk a company is willing to take in its market entry decision (Papadopoulos et al., 2002). GDP is an appropriate measure for market potential due to its relation to equity market capitalization. This looks at, among other aspects, the market-to-book ratio of a market. Developing countries may grow faster than developed countries in this measure, however, their markets are much riskier and volatile leading to ambiguous information such as impaired stock values. Erramilli (1996) and Ghemawat and Hout (2010) found significant results for market potential being a predictor for the degree of ownership in an acquisition. The latter proved with empirical evidence across 96 countries that economies with more highly developed markets tend to be more open to trade and investments (FDI). Other research by Lall and Siddharthan (1982) has shown that MNE’s engaging in FDI in large, sophisticated markets are more likely to engage in a higher degree of ownership through a more risky market entry strategy.
15
Market competitiveness may determine the effect on a country’s openness to trade and thus the degree of ownership in an acquisition (Ghemawat and Hout, 2010). Although this measure of competitiveness has not been without debate in its construct, it still receives substantial attention particularly from analysts and is repeatedly used in research, making it an interesting measure for further research (Lall, 2001). A finding within the Global Competitiveness Index so far has been that developed countries have markets that are far more competitive than developing ones (Estrin, 2002). Peng and Heath (1996) have demonstrated that a less competitive market has an impact on a firm’s choice on market entry ownership. For example, it could prevent a firm from choosing a WOS and prefer a JV instead, where this would not be the case if the market were more competitive (Peng, 2006).
2.4 Lacunae in existing literature
In literature so far relations have been found between degree and type of ownership, on the one hand, and formal and informal institutional distance, on the other (Globerman and Shapiro, 1999). In line with Malhotra et al. (2011), and Ingram and Silverman (2002), existing literature suggests that the degree of ownership, which a firm acquires, is influenced by formal and informal institutional distance, specifically corporate governance structures and cultural distance. However, on the nature of these relations there is a lack of consensus among scholars. Moreover, existing research overwhelmingly concentrates on MNE’s from developed countries.
Relationships between foreign investment, market potential and market competitiveness of host countries have so far been partial, as they were used as control variables (Yamin and Golesorkhi, 2009; Maekelburger et al., 2012). Since corporate governance infrastructures and cultural distance have been used in previous research concerning formal and informal institutional distance on market entry strategies, I expect there to be a clear interaction. I also expect institutional distance and market potential to moderate this effect, due to their individual effects on formal and informal institutions in previous research. Of course, I will concentrate my research concerning this effect on the behavior of EM MNE’s.
Considerable knowledge could be acquired from the relationship between institutional differences and economic variables between countries, in particular for international business managers but also for governments interested in promoting FDI. The result of my research could also be useful for scholars studying the considerations of business managers that lead to making a choice in FDI ownership degrees.
16
3. Hypothesis Development
3.1 Formal Institutions and Degree of Ownership
When companies make the decision of going abroad they must keep the host country Corporate Governance structure in mind. According to North (1990), market structures are effective if government policies are properly implemented, if businesses can thrive within a legal and regulatory framework and if the adaptive efficiency of both the polity and the economy is enhanced (Ahrens, 2002). Market structures also have to show a high degree of accountability, participation, predictability and transparency resulting from interdependent and mutually reinforcing institutional and organizational arrangements. Institutional differences are particularly significant for MNEs operating in multiple institutional contexts (Globerman and Shapiro, 1999). Formal rules establish the permissible range of entry choices (e.g., with respect to equity ownership) but informal rules may also affect entry decisions. Thus, legal restrictions may limit the equity stake that foreign investors are allowed to hold (Delios and Beamish, 1999) and informal norms, such as norms concerning whether bribery is acceptable, may favor locally owned firms over MNE’s (Peng, 2003). In other words, because the transactions costs of engaging in emerging markets are relatively higher than in developed markets, MNE’s have to devise strategies to overcome these constraints (Peng, 2009).
There are two opposing views on the effect of formal institutions and the degree of ownership. On the one hand it is assumed that foreign investors may prefer JVs over WOS when the formal environment is uncertain (Zhou and Poppo, 2010, Erramilli and Raom 1993; Brouthers and Brouthers, 2001; Lopez-Duarte and Vidal Suarez, 2010). In this case, the MNE limits its commitment and resources but by sharing the financial commitment with another partner it limits its risk. This is closely related to an MNE’s willingness to collaborate. Seeing that a new host country is characterized by a different culture with different norms and ethics, as is explained by North (1990), a JV can help overcome cultural and administrative problems. On the other hand, it has been suggested that uncertain formal conditions in the host country will have a negative effect on the relation between the host MNE and its subsidiary. This is especially the case in countries with a formal environment that makes it hard for the investor to predict all contingencies in an agreement (Agarwal, 1994; Brouthers and Brouthers, 2001). In this case, the foreign investor will prefer WOS over JVs in highly uncertain formal environments. This view is closely related with the need for control. If the formal environment is unfavorable for the MNE it will have greater difficulty in finding complete or accurate information about its partners. This asymmetry in information also has an effect on
17
understanding the way its partners think. These effects all lead to higher costs which in turn will let the MNE want to fully control its foreign operations through a WOS.
Although evidence exists for both views, most research (Akhter and Lusch, 1988; Agarwal and Ramaswami, 1992, Arora and Fosfuri, 2000) has argued that firms are more likely to enter a host country through a JV when the corporate governance quality is poor although adversaries such as Chang et al. (2012) claim otherwise. Based on most previous findings and, also, BRIC countries being characterized by weak regulatory structures, it would seem probable that EM MNE’s will want to create a JV, unless they are entering a host country with a higher score on the index for Corporate Governance quality (Khanna & Palepu, 1997). I therefore predict the following hypothesis:
H1a: When a host country rates high on the Corporate Governance Index relative to the BRIC home country, an MNE will opt for a high degree of ownership.
3.2 Informal Institutions and Degree of Ownership
Informal institutions can be considered the heritage of a culture - what a country considers ethic, when norms are perceived as natural, rational and morally right (Venaik and Brewer, 2010). It is also considered the sets of attitudes and values that are common to a group of people. The most known approach of the importance of national cultural values for workplace behaviors, attitudes and other organizational outcomes are the classifications of Geert Hofstede (1984). He identified four dimensions of culture: individualism, power distance, uncertainty avoidance, and masculinity. Research by Kogut and Singh (1988) on the relation between Hofstede’s cultural dimensions and the chosen type of ownership established that the greater the cultural distance between the home base of the investing firm and the target country, in their case the United States, the more likely the MNE would choose a JV over a WOS. Other research by Erramilli (1996) has also found this, while also pointing out that specifically uncertainty avoidance and power distance are most likely to influence managers’ decision on the mode of FDI. There are, however, also been opposing views to these results, which will be discussed in the sections below.
Power distance
Power distance is the extent to which less powerful members of institutions and organizations within a country expect and accept that power is distributed unevenly (Hofstede, 1984). The degree to which inequality is accepted differs from culture to culture, even though it is present everywhere (Vitelli et al., 1993). In countries scoring high on the power distance index (PDI)
18
power tends to be concentrated at the top while in low PDI countries it is more evenly distributed. Managers in high power distance institutions do not have to worry about disagreements as authority tends to be centralized and leadership more likely to be autocratic. Their subordinates tend to behave submissively around the managers and will likely obey their managers’ instructions without question (Hofstede, 1984). In countries with a low PDI authority and decision-making by managers are more decentralized. Subordinates are more likely to initiate and express ideas to their managers. Consequently, managers are more likely to listen to this advice when making decisions. As a result of this divide, firms in high PDI countries tend to have tall pyramidal structures with a large number of supervisory personnel (Erramilli, 1996). On the other hand, firms with a low PDI tend to be less centralized resulting in flatter pyramidal structures and fewer supervisory personnel.
Due to the institutional framework BRIC countries have, it is more likely that they have a high power distance within their respective institutions. This is more likely due to the inequality ratio within these countries, which is likely to create more distance between managers and their subordinates. Within these high power distance cultures, roles are more given and innovation is unlikely to be valued. On the other hand, decision makers from high PDI countries are more likely to prefer control. It can therefore be predicted that EM MNE’s are likely to opt for a low-risk entry strategy, which results in less control compared to a high-risk entry.
Research by Erramilli (2006) has proven that countries characterized by high PDI are more likely to have decision makers who prefer centralized authority and autocratic management. They maintain this control in their FDI by establishing fully or majority-owned subsidiaries. MNE’s characterized by managers of low PDI cultures on the other hand tend to show greater willingness to decentralize their operations by sharing control with foreign partners. The cultural distance between the home and host country, which predicts that the bigger the distance the more likely MNE’s will enter through shared-equity ventures, also affects this. Not all research has supported these results, however, Hennart and Larimo (1998) have found opposing evidence. Their research on the impact of culture and ownership decisions showed that Japan, scoring high on PDI, was more likely to enter the United States with shared-equity ventures. They suggested that the Japanese use JVs not so much as a mechanism to learn about U.S. conditions, but rather as a shield against U.S. xenophobia as a possible explanation for these results. Most research, however, has pointed at Erramilli’s findings, indicating that MNE’s from countries with a high PDI will more likely choose a WOS, as entering a market with a low-risk entry mode would necessitate changes and cause
19
reorganization liabilities. It is therefore expected that if the host country has a low level of power distance (such as the Netherlands with PDI=38) compared to the home country (such as Russia with PDI=93), the degree of ownership will more likely be high as Russian partners are expected to be less flexible in doing business.
H1b: When a host country rates low on power distance relative to the BRIC home country, an MNE will opt for a high degree of ownership.
Uncertainty avoidance
Hofstede’s second dimension, uncertainty avoidance, examines the level of tolerance for uncertainty and ambiguity within a country (Hofstede, 1984). It implies the differences in how people perceive opportunities and threats in their environment, and how they act upon them (Schneider and de Meyer, 1991). A country that scores high on the uncertainty avoidance index (UAI) has a low tolerance for uncertainty, risk and ambiguity (Hofstede, 2001). It avoids this uncertainty by developing a set of rules. As a result, its organizations are more structured with an emphasis on hierarchy, need for written rules, and a craving for organization uniformity (Erramilli, 1996). Low uncertainty avoidance indicates that a country has less concern for ambiguity, risk and uncertainty, and has more tolerance for diversity and change (Hofstede, 1980). Individuals who accept uncertainty and become less upset about it characterize these societies. Individuals in low uncertainty avoidance cultures are more willing to take risks and easily feel secure enough to be relatively tolerant of behavior and opinions different from their own (Erramilli, 1996). Consequently, managers are more willing to delegate, be flexible and assume risks causing organizations to be less structured with few written rules (Hofstede, 1983). Research by Erramilli (1996) and Wennekers et al. (2007) has shown that individuals with high anxiety levels populate countries with a high UAI. As a result of this, their MNEs are more likely to control their subsidiaries through a high degree of ownership. Research by Pan (2002) has shown that countries such as Japan (UAI=92), where managers prefer well-structured and predictable situations, are more likely to desire predictable and controllable outcomes. As for United States (UAI=46), where individuals are more willing to accept risk and uncertainty, managers are less interested in fully controlling their subsidiaries. In research by Wennekers et al. (2007), a direct effect was again found between the level of uncertainty avoidance and the degree of business ownership, indicating that MNE’s from high uncertainty avoidance countries will prefer high degrees of ownership over their foreign subsidiaries.
20
Firms originating from countries with a high UAI are more likely to acquire majority ownership and control because less control would coincide with more uncertainty. They are more likely to impose their own style of management through a high degree of ownership. On the other hand, firms originating from low UAI countries are more likely to be run by individuals who feel secure enough to be more tolerant of other cultures. For example, an MNE entering a country with a relatively low uncertainty avoidance index (UAI) compared to the BRIC country, would be more likely to acquire a higher degree of ownership. On the other hand, if a firm would enter a host country with a relatively high uncertainty UAI score, it would opt for a low risk market entry.
Whereas China and India are somewhat low uncertainty avoidant (UAI=30 and UAI=40 respectively), Brazil and Russia have a much higher index (UAI=76 and UAI=95 respectively). We can expect that in a low uncertainty avoidant society such as United Kingdom (UAI=35) a higher degree of ownership will be acquired by Russia (UAI=95) than in for example France (UAI=86). Considering that an MNE will likely avoid high-risk entry strategies in low uncertainty avoidance countries, it seems logical that the following hypothesis can be examined:
H1c: When a country rates low on uncertainty avoidance relative to the BRIC home country, an MNE will opt for a high degree of ownership.
Individualism vs. Collectivism
The third cultural aspect of Hofstede (1984) concerns the impact of individualism. According to Whitley (1992) it refers to “the importance of the individual as the central social actor and focus of rights and duties, as contrasted with the family or other collective entity, and the extent to which individuals are seen as separate social units with distinct capacities, skills and desires that are naturally equal and not subservient to the claims of collectives”. In individualistic cultures, it is expected that people will focus on one’s own wealth and well-being. In collectivist cultures people will be more focused on group welfare.
Not much research has been done on the relation between individualism and entry mode choice. According to Hofstede (1983) societies can be split into individualist and collectivist societies. In individualistic societies people ties between individuals are very loose, everyone is primarily concerned with looking after themselves. In collectivist societies the ties between the people are very tight. In his research he found that the Individualism in a country is statistically related to the country’s wealth. When comparing the Individualism Index with GDP it was found that countries with high GDPs were generally more individualistic. Countries with low GDPs were often more collectivist.
21
In countries with high individualism it can be expected that managers would be focused on making the highest amount of money. From this point of view, a foreign market entry with a high risk would be most suitable because this possibly offers the highest rate of return. Considering that the BRIC countries are less well off and therefore less individualistic, it seems probable that:
H1d: When a country rates low on individualism relative to the BRIC home country, an MNE will opt for a high degree of ownership.
Masculinity vs. Femininity
The last aspect of Hofstede’s (1983) dimensions of culture is masculinity. According to him, societies have evolved in such a way that some roles are associated with men, while others with women only. He refers to this as the social sex role division. Societies are often built up in such a way that men and women take on different roles. Some societies allow this distribution between what men and women do to be more flexible. He makes this divide based on two groups, a maximized social sex role division called “masculine” and a relatively small social sex role division called “feminine”. Masculine societies are societies where traditional masculine social values determine the values: including the importance of showing off, achieving something visible, and making money. In feminine societies the dominant values are more traditionally associated with the female role: putting relationships before money, caring about the quality of life, helping others, and not showing off.
Hofstede (1984) asserts that Japan is the most masculine country, but German-speaking countries such as Germany and Austria also belong in that category. On the feminine side Nordic countries rather find themselves and also the Netherlands. There is therefore no clear relationship between how developed a country is and its relation to masculine or feminine cultures.
From a management perspective, in a masculine culture managers would seem to be more dominant and assertive, focused economic growth and the expansion of their business. In a feminine culture managers would seem to be more considerate of social and societal dimensions of their business. In relation to market entry strategies, the masculinity or femininity of both the home and host country is likely to have an effect on the degree of risk taken.
H1e: When a country rates low on masculinity relative to the BRIC home country, an MNE will opt for a high degree of ownership.
22 3.3 Market Potential and Degree of Ownership
In previous literature, a less examined aspect of market entry strategies has been the moderating role of the host country’s market potential, measured by its GDP. In terms of risk and return, the target market certainly has an influence when it comes to making a market entry strategy. Thus, the market potential could have an influence on managers’ tradeoff between associated risk and returns for a foreign market (Papadopoulos, 2002). Contrary to the institutional risks, which firms may be able to overcome in process of settling in a market, a country’s market potential represents a direct award associated with entering this target country. The market potential could therefore moderate the measure of risk an EM MNE will take in its market entry strategy.
According to Porter (1990) advantages could arise from the size and composition of the economic demand in becoming a source of competitive advantage. Firms competing in a market where the demand is high could seek greater control in order to achieve a competitive advantage. Just as the domestic economy having an effect on the degree of ownership, the economy of a target market plays a key role as well. Firms that are present in markets that are large, demanding, and sophisticated succeed by being innovative and competitive. As Porter explains, competing in a large market gives companies, among others, opportunities to exploit economies of scale, knowhow to compete, and the ability to satisfy the most demanding buyers. In order to take advantage of these opportunities, MNE’s are more likely to invest in countries with high market potential.
The market potential of a host country could therefore play a key role in managers’ decision to enter a new market (Ekeledo and Sivakumar, 2004). The larger the target market is, the higher the degree of risk a manager is willing to take in his market entry decision (Papadopoulos et al., 2002). Empirical evidence suggests that the market potential strongly drives foreign investments (Ellis, 2008). It is therefore probable that firm from both developed and developing countries are likely to take additional risks if the market potential is high (Ekeledo and Sivakumar, 2004). An EM MNE would make a riskier market entry decision the more promising the market potential is.
H2: The degree of risk an EM MNE from a BRIC country is willing to take in its market entry decision will be moderated by the market potential of the host country. The higher the market potential of a host country, the higher the degree of ownership will be.
23
The same reasoning can be applied to the market competitiveness of the target country. According to Peng (2006), market efficiency could have an influence on the type of market entry, especially in the financial sector. For example, in a developed economy a firm can be taken over by a friendly takeover or hostile bid which will lead to the restructuring of the acquired firm. In a less efficient market, a similar acquisition would less likely take place due to, for example, more volatile and less liquid stock markets (Lin et al., 2008). Market efficiency refers to the overall score of doing business in host countries, measured by the Global Competitiveness Index (GCI). This index can be important for at market entry strategies.
Different degrees of ownership involve different types of risk when looking at the GCI of a country. According to Haspeslagh and Jemison (1991), acquiring or merging with an existing firm can expose the host firm to more challenges than a Greenfield operation, especially in an uncompetitive market. Since a primary reason to enter a market through an acquisition or JV is the access to already available resources, the competitiveness of the market could play a role in the transfer of these resources. According to Buckley and Casson (1998) a JV operation requires certain coordination challenges of which the success also depends on the competitiveness of the market. The competitiveness of a market is not always a given, especially in emerging markets (Estrin, 2002; Peng and Heath, 1996).
Within an uncompetitive market an entry by high degree of ownership can thus be very risky, especially in the financial markets (Peng, 2009) because financial markets rely heavily on a reliable institutional framework that ensures transparency, predictability and contract enforcement (Peng and Heath, 1996). The relationship between these institutional qualities and financial markets does not carry the same degree of efficiency everywhere. In developed markets the restructuring of an acquired firm will be more welcoming to foreign investors. In inefficient markets however, a dominant stakeholder such as a family, business group or the state will more likely control firms. In addition to this, uncompetitive markets often do not have transparent financial information available, making a high degree of ownership even more risky (Khanna and Palepu, 1997), While developed economies rely more on formal institutions, developing countries rely more on informal institutions, which makes it difficult to value a company based on its resources (Tong et al., 2008). The process of due diligence and contract negotiations is therefore also more difficult in uncompetitive markets, increasing potential transaction costs (Peng, 2006). Thus, it can be concluded that costs and risks increase when countries are uncompetitive. From this perspective we can suggest that the lower the GCI score of a host country, the higher risk of the EM MNE to enter the market.
24
H3: The degree of risk an EM MNE from a BRIC country is willing to take in its market entry decision will be moderated by the market competitiveness of the host country. The higher the market competitiveness of a host country, the higher the degree of ownership will be.
Figure 1: Conceptual Model
4. Methodology
4.1 Data Collection
Since this thesis is aimed at EM MNE’s, my research is based on data from the four biggest emerging economies: Brazil, Russia, India, and China. According to Saunders et al. (2011) data on acquisitions can be acquired through secondary sources such as databases, because these sources are permanent, available, and the longitudinal studies may be feasible. According to Huyghebaert et al. (2010), the Zephyr database is suitable as it includes over 500.000 foreign direct investments worldwide. In order to gather this data on MNE’s from these specific countries, the Zephyr database was used with certain criteria, specifically: ‘the investment must be from the home country Brazil, Russia, India, or China’, ‘the investment must be cross-border’, ‘the FDI must be made between 2008 and 2012’, ‘the investing firm must be publicly listed/delisted’, while ‘the percentage of ownership’, ‘industry of parent firm’, and ‘ROA of parent firm’ must be mentioned.
In order to find the effect of institutional distance, market potential, and market efficiency, data needed to be collected from different databases. First, the data about degree of ownership from BRIC countries was found through Zephyr. Second, the independent
H1a: Corporate Governance Quality
H1b: Power Distance
H1c: Uncertainty Avoidance
H1d: Individualism
H1e: Masculinity
Degree of
Ownership
H2: Market potential (GDP)
H3: Market efficiency (GCI)
25
variables were institutions, specifically the Corporate Governance structure and cultural distance between the home and host country, which could be found through the World Bank and/or UNCTAD. The moderating variables market potential, measured by GDP, and market efficiency, measured by the Global Competitiveness Index, were also found in the World Bank database.
We collected a sample of 117 acquisitions by MNE’s from BRIC countries in thirteen different industries, covering also control variables for firm size (number of employees), firm performance (ROA), initial stake (measured in percentage), the industry, and deal type. ROA is most commonly measured by the Net Income divided by the Total Assets; however, Net Income was often an incomplete measure in the Zephyr database, thus, it was substituted Net Profit. Due to missing data, the sample was reduced to 103 observations. Where needed, this data was checked with annual income statements.
4.2 Dependent variable
The dependent variable in this research is the degree of ownership in market entries from BRIC EM MNE’s between 2008 and 2012. Previous research has primarily measured ownership as distinguishing between full and shared (Cho & Padmanabhan, 2005), minority and majority stakes (Yamin and Goleshorki, 2010; Bowe et al., 2012), and equity and non-equity entries (Maekelburger et al., 2011). My research is unique as it measures the direct effect on the percentage of ownership as opposed to previous research where ownership was mainly categorized. Data on the percentage of ownership was collected from the Zephyr database. In order to have a normally divided dependent variable, the natural logarithm of the percentage was used.
4.3 Independent variables
The corporate governance index, in this research the measure of the formal institutions, was measured by using Kaufmann et al.’s (2004) index. In his analysis he was able to distinguish governance quality in terms of six variables: voice and accountability, political stability, government effectiveness, regulatory quality, rule of law, and control of corruption. These values were collected from the World Bank (2013) where 199 countries were assigned a score between -2.5 and 2.5, the higher values indicating a higher governance quality. Dikova and Witteloostuijn (2007) have pointed out that these six variables are seen as a reliable measure for the formal institutions as they are based on more than one hundred individual variables measuring perceptions of governance. Recent research by Slangen and van Tulder (2009) has successfully used this measure in predicting entry modes, making it a viable measure. In this
26
thesis, I measured governance quality by subtracting the home country index by the host country index for each respective year. As in previous research (Kaufmann et al., 2005), I then averaged the six individual indices to measure one composite value as they correlated highly with each other (r>.935, p<.001). The difference in indices between the home and host country then indicated whether the average of the host country were lower or higher than the home country. A negative value then indicated that the host country had a lower average corporate governance index between the years 2008 and 2012, whereas a positive score indicated the opposite.
The informal institutions were measured by using the elements of Hofstede’s (1984) framework of cultural distance, covering the following determinants: power distance, uncertainty avoidance, individualism, and masculinity. Hofstede’s model is one of the most cited studies concerning informal institutions. These aspects represent the important informal institutional differences between countries that are being researched. These cultural dimensions can be found on Hofstede’s website (geert-hofstede.com). For each of these dimensions, I gave each country a score between 0 and 100 to indicate their value. According to Drogendijk and Slangen (2006) Hofstede’s measure of cultural variables has been regarded as one of the best in explaining cultural frameworks. In this research I found all of the data regarding this variable except for one, as the Cayman Islands were not included on Hofstede’s website. For this reason these values were replaced with Jamaica’s, being the closest to the Cayman Islands geographically.
Hofstede’s index has proven to be an accurate measure for informal institutions, as it has been frequently used in international business research. Kogut and Singh (1988) used it to explain the choice between acquisitions, Greenfield investments and joint ventures using the Uncertainty Avoidance index of the firm’s home country. Other researchers have also used it to measure the cultural distance between a firm’s home country and its host countries (Erramilli, 1993; Agarwal, 1994, Delios and Henisz, 2003; Erramilli and Rao, 1993). Research by Drogendijk and Slangen (2006) has compared Hofstede’s measures with Schwarz’s measures. Schwarz identified a set of 56 individual values recognized across cultures which he reduced to 45 useful values, resulting in seven dimensions. Although this measure seemed to cover all the limitations that Hofstede had been criticized for, findings indicate that both measures of cultural distance explain establishment mode choices by MNE’s equally well. For this reason, and because Hofstede’s index has been successfully tested and replicated, validated, and found reliable (Shane, 1995), I chose it as a measure in this research. Similar to governance quality, I used the difference in values between the home and host country.
27
Instead of using one composite value, however, I measured each component separately to indicate the difference in each dimension. For example, the difference in power distance between Russia (PDI=93) and the United States (PDI=40) shows that power tends to be more evenly distributed in American firms compared to Russian firms.
4.4 Moderating variables
My research takes two moderating variables into account: market potential and market efficiency. Market potential was measured by taking the gross domestic product (GDP) of each host country. According to Mitra and Golder (2002), this is a valuable measure. These values were taken from the World Development Indicators database. As GDP’s tend to be very large numbers (USA having a GDP of $14.99 trillion), GDP was divided by 1 billion (1,000,000,000) in order to maintain relatively small numbers.
The second moderating variable was the efficiency of the market. The efficiency of the market was measured by taking the Global Competitiveness Index (GCI). The GCI assesses the competitiveness landscape of 148 economies, providing insight into the drivers of their productivity and prosperity. The report series remains the most comprehensive assessment of national competitiveness worldwide, making it a viable measure for this research.
4.5 Control variables
Control variables included in this research were target firm size, firm performance, initial
stake and industry. As this research was completely focused on the target firms, so were all
of the control variables included in the research. The target firm size is defined by the contributed capital of the firm, measured by Net Profit over Total Assets. The reason for this control variable stems from the idea that larger firms have more resources and better management capabilities, and thus are more likely to be acquired by foreign partners rather than small local firms. Delios and Beamish (2001) have concluded that bigger firms with more specific resources tend to be able to overcome difficulties, making them more attractive for foreign investors than smaller firms.
The second variable is firm performance which was measured by looking at the Return on Assets (ROA) of the company. As mentioned earlier, this was measured by the Net Profit divided by the Total Assets. Performance is related to the size of the firm, indicating how profitable a firm is when acquired. According to Ren, Gray and Kim (2009), the performance of the subsidiary can have an effect on the degree of ownership, which is why it was worth controlling for.
28
The third variable was the initial stake which, according to Wei (2000), may have an influence on the percentage of acquisition. If a host firm already has a stake in a target it makes it impossible for it to do a full acquisition. Finally, I also included as a control variable the industry of the chosen companies as entry modes have varying degrees of ownership across different industries (Brouthers & Brouthers, 2003; Zhao et al., 2004).
4.6 Method
Originally the dataset consisted of 117 cases. When checking the degree of ownership for normality, it turned out that it did not meet the assumptions for parametric testing. Four outliers were deleted from the dataset which resulted in 113 cases remaining. 10 cases did not have enough data in order to be included in the research. The absence of important data such as Net Profit was the most reoccurring problem. As a result, 103 cases were left. Consequently, the natural logarithm of the dependent variable was chosen in order for insignificance of the Test of Normality to be met, hereby meeting the requirements for parametric testing.
Once parametric assumptions were met, a correlation matrix was executed followed by a multicolinearity test. A hierarchical regression model was executed to test the hypotheses, where GDP and GCI were included as moderator variables. In this model the control variables were measured first, followed by the independent variables, and finally the interaction effects, leading to the following regression model:
Degree of Ownership= b0 + b1 * Industry + b2 * Target Size + b3* Target ROA + b4 * Initial Stake + b5 * Power Distance + b6 * Individualism + b7 * Masculinity + b8 * Uncertainty Avoidance + b9 * Governance Quality + b10 * GDP + b11 * GCI + b12 * (PDI*GDP) + b13 * (IDV*GDP) + b14 * (MAS*GDP) + b15 * (UAV*GDP) + b16 * (GQ*GDP) + b17 * (PDI*GCI) + b18 * (IDV*GCI) + b19 * (MAS*GCI) + b20 * (UAV*GCI) + b21 * (GQ*GCI) + Ɛ
5. Results and Analysis
Descriptive Analysis
Of the 103 acquisitions 20 were made by Brazil, 39 from China, 22 from India, and 22 from Russia. This means China formed the majority of the data with 37.9% of the acquisitions. Of the foreign acquired companies 20.4% were Australian (N=21), 15.5% were American (N=16), 8.7% were Canadian and British (N=9), 6.8% were from Hong Kong (N=7), while the other foreign firms acquired were from 25 other countries.
