A “strategy tripod” perspective on board globalization and MNE firm performance

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A “strategy tripod” perspective on board globalization and

MNE firm performance

Academic Year 2010-2011

Research Master Thesis IE&B (30ECT)

Yingdan CAI (s1944193)

Supervisor: Dr. Kees van Veen

SOM Graduate School

Department of Global Economics and Management (GEM)

Faculty of Economics and Business

Rijksuniversiteit Groningen (University of Groningen)

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Abstract

In this master thesis, we integrate the resource-, institutions-based and industry-based view (“strategy tripod”) to study board globalization. We argue that board globalization can be conceptualized as a dynamic capability of firm internationalization and has direct effects on MNE firm profitability. We empirically test a three stage model. In the first stage, we test the direct link between a firm’s board globalization and its performance. In the second stage, we include the contextual effects of strategy tripod. In the third stage, we test whether the strategy tripod determines level of board globalization. Based on a sample of European public listed MNE firms, we find that the “strategy tripod” determines the level of board nationality diversity. However, surprisingly, the results of panel data analysis indicate that the level of board globalization has significantly negative effects on ROA ratio of MNEs even when taking into account contextual factors of the strategy tripod. We call for future contextualized study of the board globalization and performance nexus.

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1. Introduction

Board globalization (i.e. Board nationality diversity), compared with other dimensions of board diversity, receives little attention. It is not until recently that several studies have begun to examine the level of nationality diversity in corporate boards of Multinational Enterprises (Heijltjes, Olie & Glunk, 2003; Staples, 2007; Ruigrok & Greve, 2008) and the antecedents of board globalization (Van Veen & Marsman, 2007; Van Veen & Elbertsen, 2008). The level of board globalization is increasing (Heijletjes et al, 2003). Yet, little is known about its effects on company’s financial performance. This represents a promising research gap in the structure, function and performance implications of corporate boards (Certo, Lester, Dalton & Dalton, 2006; Williams & O’Reilly, 1998 for reviews) because board globalization represents an important dimension on international diversification of MNEs (van Veen & Marsman, 2007).

The few empirical studies on board globalization-performance nexus so far have focused on the benefits-and-conflict tradeoff of diversity and performance outcomes. The main theories they apply are based on sociology and psychology tradition: whether heterogeneous groups lead to more benefits or conflicts. This represents a large gap between the theories of Multinational Enterprises (MNEs) in international business (IB) and empirical studies of upper echelon tradition of organizational diversity in corporate governance and corporate finance literature because the internationalization level of organizations should be reflected within firm boards. According to Sander & Capenter (1998), a critical element of a firm’s ability to successfully deal with complexity of internationalization is its governance structure and composition of top management teams.

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capabilities, a firm’s performance depends on the monitoring and strategic decision-making undertaken by its board of directors and top managers (Shleifer & Vishny, 1997) to a large extent. Following upper echelon theory, we conceptualize the dynamic capabilities of the firm as demographic characteristics of the board of directors of the firm. The TMT diversity-performance nexus is placed in our framework as the contribution of dynamic capabilities of board internationalization to MNEs’ performance differentials. To obtain competitive advantage, firm’s resources need to be managed effectively and strategically (Sirmon, Hitt & Ireland, 2007) and other contextual factors of industry and institutions should be leveraged to create sustained competitive advantage (Barney, 1991).

By adopting the framework of Peng (2006) and Peng, Wang & Jiang (2008)’s “strategy tripod”, we contribute to the literature of board globalization by integrating the industry-based, resource-based and institutions-based views by studying contextual factors of board composition and firm performance. Our intention here is not on a single specific strategic decision per se but on the overall performance implications of one dimension of board composition. From a resource-based view, a firm’s resource consists of both static and dynamic resources. Static resources could be internalized (I) and provide economies of scale for international exploitation. From an industry-based view, the resource structure of a firm depends largely on the industry structure (Porter, 1980; Scherer & Ross, 1990). Following North (1990)’s distinction between organization and institutions, all lines of work associated with the external environment of the firm are labeled an “institutions-based view” (Peng, 2002). From an institution-based view of governance regime, institutions significantly shape firms’ strategy and behaviors (Peng et al., 2008).

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the firm. However, the decision to choose between extending through the market or hierarchy is becoming more and more complex in the global world for MNEs. Thus, we extend this framework with dynamic capabilities of the firm, which has direct influence on firm performance. We suggest that board globalization represents an important dimension of international diversification of MNEs (Van Veen & Marsman, 2007) to leverage Firm Specific Advantages and Country Specific Advantages (FSAs and CSAs). In order to operate in a foreign country, MNEs need to bundle two sets of assets, their firm specific advantages (FSA), or ownership advantages (O) on the one hand, and country specific advantages (CSA)or called location-specific advantages (L) on the other. In between is the internalization decision (I), in which multinationals choose hierarchies rather than market to organize and coordinate related value-added activities across national boundaries (Dunning & Lundan, 2008; Rugman & Verbeke, 1992; Williamson, 1975). Both the OLI (Eclectic) paradigm and the country-specific advantages/firm-specific advantages (hereinafter referred to as CSA/FSA framework) played influential roles in shaping the way IB scholars understand how a multinational enterprise (MNE) chooses its boundaries (for a review of the boundaries of the firm, cf. Brouthers & Hennart, 2007).

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The primary purpose of the thesis is to investigate both performance outcome and antecedents of board globalization. We conduct this equiry in a three stage model. Firstly, we test the direct link between board globalization in continental European countries and performance implications of board globalization. Additionally, we also combine resource-, institutions- and industry-based views to explore whether the tripod influences the nexus in Stage 2. In Stage 3, we examine whether the strategy tripod determines board nationality diversity. So the specific research question of the research master thesis is

(1) Is there a direct link between board globalization and MNE firm performance?

(2) Do the contextual factors from the strategy tripod (institutions-, resource-and industry-) perspective modifies the board globalization-performance nexus?

(3) Do strategy tripod factors determine the level of board globalization?

Additionally, we respond to the call for more European studies in performance literature (Harzing &Sorge, 2003) and choose Europe as the research context because Europe is an interesting case for study top management team. Palmer & Varner (2007) explored the nationality composition of the largest Multinational Corporations in Europe, Asia and the U.S. and found that the most international top management teams are in Europe. This is not surprising that the geographical distance between EU countries is small and the establishment of EU makes it easier for EU citizens to live, travel and work in other EU countries. Previous studies on board globalization mainly focus on the gender diversity and ethnic diversity from U.S. context.

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2. Theoretical background & hypotheses development

2.1 What are dynamic capabilities

The dynamic capabilities view of the firm (Teece, Pisano & Shuen, 1997: p.516) concerns “the firm’s ability to integrate, build and reconfigure internal and external competences to address rapidly changing environments”. The distinction between resources and capabilities is made because firms do not necessarily have to own, to develop or to buy resources in order to secure their use. Firms may find resources from the external market and acquire them. MNEs need to leverage home country specific advantages and host country specific advantages, which is the primary reason firms go abroad. Thus, dynamic capabilities seem important when considering enter a new market and might have profound implications for MNEs in particular. To derive economic rent and sustain competitive advantage, MNEs need to build appropriate capabilities to locate and to marshal internal and external resources across national boundary.

The dynamic capabilities framework was first suggested as an approach for building competitive advantage in a dynamic environment, a regime of rapid changes (Teece et al. 1997; Madhok, 2002). It assumes bounded rationality of managers and resembles evolutionary theory of the firm (e.g., Cyert and March, 1963; Nelson and Winter, 1982). The accumulation of firm capabilities is regarded as a dynamic process in which the ability of the firm to acquire, evaluate, diffuse, deploy and exploit knowledge is critical (Madhok, 1997).

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However, the state of art of dynamic capabilities research in strategy has not considered the international dimension of opportunities. Top Management Team (TMT) studies implicitly view international experience as a key source of TMT capabilities in a firm internationalization context (Greve et al., 2009). Board nationality diversity provides human capital to decision making. Auh & Manguc (2006) draws attention to human capital particularly concerning TMT diversity as it “represents an intangible resource that is expected to contribute to greater organizational performance”. Carson et al. (2004) takes this further by stating “demographic diversity has the potential to result in decision-making improvements, greater creativity, more innovation, and the ability to reach more and different types of customers”. In this research master thesis, we conceptualize board globalization as the dynamic capabilities of firm internationalization process. In next section, we examine this in more detail from the upper echelon tradition.

2.2 Board nationality diversity and firm performance: an upper

echelon perspective

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in creating and mobilizing FSAs into different locations, as well as creating strategic opportunities for the firm partly through successful relationships or negotiations with external parties.

Since the publication of Hambrick and Mason (1984), a large literature has emerged on studying Top Management Teams (Hereinafter referred to as TMT), the Upper Echelons (UE) and their influence on strategic decision making and firm performance. A large body of empirical research confirms the intriguing possibility that demographic composition of TMTs has consequences for organizational strategy and performance (cf. Finkelstein & Hambrick, 1990 and Williams & O’Reilly, 1998 for reviews). Due to the complexity and high information processing demands in internationalization (Rivas, 2011), diversity in boards and TMT’s increases their socio-cognitive complexity (Wiersema & Bantel, 1992). Teams that are socio-cognitively complex may be better equipped to make sense of changing international market opportunities and to ‘‘reconcile the conflicts and paradoxes’’ presented by internationalization (Murtha, Lenway, &Bagozzi, 1998).

TMT diversity-Performance

In Upper Echelon research, individual characteristics of managers are used to explain different aspects of company performance (i.e., Hambrick and Mason, 1984). A considerable stream of the literature analyzes the relationship between demographic characteristics of TMTs and company performance. The Upper Echelon theory posits a linear combination in which managerial characteristics such as nationality, gender, age, tenure heterogeneity and cognitive base have a direct impact on the decision making process of TMTs, which subsequently affects corporate performance (Carpenter, et al., 2004).

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marketplace, creativity and innovation, effective problem-solving, effectiveness of corporate leadership, and effective global relationships (Carter, Simkins& Simpson, 2003). This benefit of diversity should more relevant in the global context that led to increasing diversity of ownership structure of firm and human capital within firms. However, the empirical results concerning board composition and firm performance are still mixed at best. In spite of the general conviction regarding the positive impact of TMT diversity on company performance, there are some studies which found contrasting evidence (Ancona and Caldwell, 1992; West & Schwenk, 1996).Williams & O’Reilly (1998) reviews forty years of diversity research and concluded that there are no consistent main effects of diversity of management on organizational performance.

Neilson (2010) contends that the question of whether diversity in managerial backgrounds is advantageous for companies still remains open- the results, concerning firm performance, “range from positive, through non-significant to negative”. Within prior research, only a small number of countries or industries are investigated, and the effects on corporate performance are not fully realized.

The reason for these mixed results, we argue, is that the relationship is more complex than has been theoretically argued and empirically tested. Previous literature on board globalization only adopts the socio-cognitive lens of “benefits of diversity”. The benefits of diversity should be contextualized depending on the differences of the firm, the industry and the institutional environment. An understanding of the drivers behind TMT diversity is essential for building a comprehensive theory of top executives and their effects (Hambrick, 2007). We bring together the research in board diversity and the theory of MNEs and focus on one dimension of board diversity: board globalization.

Board globalization

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up study to a research undertaken by Gillies and Dickinson (1999), into the board globalization in the world’s largest TNCs over a 12-year period. While Gillies and Dickinson found that 36% of companies researched had at least one non-national TMT member; Staples found that in 2007 this figure had risen to 75%. Although this is a tremendous improvement, the overall percentage of foreigners on board is still low. Staples also highlights the fact that “while this trend has certainly become more widespread, it is not yet very deep; on average, only 25% of these boards consisted of non-nationals, while non-nationals made up a majority of the board in only 10% of these cases” (Staples, 2007).

From these sketches, it is clear that the boards are not as globalized as we expect in the 21st century. Using the proxy of national diversity on corporate boards of directors and supervisory boards, the level of board diversity is still low with very few firms have attempted to neutralize nationally biases decision making by bringing foreign nationals onto their boards. What we know about this issue is even less despite the importance of the topic. When growing cross borders, MNEs are confronted with the question of how to fill company boards.

A number of studies have been undertaken looking at the impacts of diversity within TMTs, focusing on certain aspects including strategic direction, corporate governance, firm internationalization and performance. Greve, Nielson & Ruigrok (2009) noted that “firms tend to match top executive profiles to their strategies”.

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problems, formed by its propensity to sense opportunities and threats, to make timely and market-oriented decisions and to change its resource base”. Following this conceptualization, we make a distinction between two possible mechanisms: propensity of board globalization (whether there is a foreigner on board or not) and intensity of board globalization (proportion of foreigners as percentage of total board members).

(1) Signaling effects (Propensity of board nationality diversity): Including a foreign on board could have direct influence in a firm performance for three reasons. First of all, to include a foreigner on board, the working language and conferences often have to switch to English, which presents shareholders international commitment of the MNEs and makes potential global shareholders more access to company information. Secondly, in line with the subsidiary initiative in IB, a foreigner in the board has positive effects on larger stakeholders such as employees in the foreign subsidiary. Kim & Mauborgne (1993) argues that diversity can build trust and perceptions of procedural justice among a firms’ product and geographic unit managers by signaling that a TMT or board takes competing interests into account when allocating resources internationally. Thirdly, a similar argument is signaling effects of better commitment to more strict corporate governance regime when including a foreign board member. Oxelheim & Randøy (2003) finds that international board members facilitate transfer of value enhancing corporate governance practices and thus globalization of boards of public traded firms enhances firm performance.

Hypothesis 1 (signaling) Propensity of board globalization: Including a foreigner on the board has direct positive influence on firm performance.

(2) TMT nationality diversity as dynamic capabilities (Intensity of board nationality diversity): We argue that dynamic learning capabilities are also of vital importance when considering enter a new market and have profound implications for an MNE.

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(e.g., Bartlett and Ghoshal 1987). Vermeulen and Barkema (2002) shows that the ideal combination of speed, dispersion and regularity in the internationalization process is determined by the information-processing capabilities at corporate headquarters. North (1990) suggests that in order to be competitive, organizations need many skills, mostly acquired through a learning-by-doing manner. Firms develop these organizational skills and routines from their own experience, as well as interactions with other firms and social institutions. Including a foreigner in the board of directors contributes to the learning by doing process, thus has positive influence on firm performance. TMT diversity is a tacit knowledge (Auh & Menguc, 2006) of the organization. Foreign TMT’s international knowledge and experience is firm specific tacit knowledge that is difficult for rivals to imitate (Barney, 2001). International knowledge and understanding of foreign markets is key to overcome liability of foreignness (Zaheer, 1995) to leverage different FSAs and CSAs and explore the location bounded CSA advantages such as capital, labor, and land in different (Porter, 1980). The Uppsala internationalization process model (Johanson and Valne 1977) also emphasizes the use of experiential knowledge in expanding and managing firm international operations. As posited in the Uppsala model, firms with more international knowledge are more likely to develop organizational capabilities in foreign markets (Johanson & Vahlne, 1977). We suggest that an MNE’s financial performance is affected by the nationality diversity of the board.

Therefore, we predict that:

Hypothesis 2 (dynamic capabilities) Intensity of board globalization: Board nationality diversity can be conceptualized as dynamic capabilities of the MNE and thus board globalization has a direct influence on firm performance.

2.3 Determinants of board globalization

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are affected by industry specific conditions, whereas the resource-based view highlights how firm specific characteristics determine strategy and competitive advantage of firms. However, as Peng, Wang & Jiang (2008) argue that “both perspectives fall short of the crucial influence of institutions on firms’ strategic posture”. We first discuss the RBV of internal resources and then we explore the contextual effects of industry and institutions. We argue that these contextual factors not only remain as “background” (Peng et al., 2008) as mediators or moderators. They are the drivers of cross country differences in board nationality diversity. Our focus here is more on the institutions and corporate governance regime of home country and how this influences board globalization.

The theoretical framework of the thesis is presented in Figure 1.

Figure 1: Theoretical framework: A “strategy tripod” perspective

Table 1 Hypotheses

2.3.1 Resource-based View of MNEs

The important role played by the Resource-Based View (RBV) in explaining IB activities has been highlighted by the Eclectic Paradigm (Dunning & Lundan, 2008). In general, resources can be defined as any tangible or intangible entity available to a firm for operations over a specific period of time (Wernerfelt, 1984/1995; Eisenhardt and Schoonhoven, 1996).The RBV suggests that firm-specific resources can be seen as a bundle of factors that provide sustainable competitive advantages and the nature of the firm is thus viewed as a collection of resources (Wernerfelt, 1984; Barney, 1991). A firm, in this sense, is a combination of heterogeneous and imperfectly mobile resources. Heterogeneous resources may include a firm’s knowledge base about markets and

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specific expertise whereas imperfectly mobile resources are those that can be traded but are of more value within the firm. In order to contribute to competitive advantage, firms use unique resources to develop firm-specific valuable resources (Barney, 1991). These unique, imperfectly imitable, nontransferable resources aim to improve the productivity of the organization independently or through a process of interacting with other elements (Makadok, 2003).

An important resource source for an MNE is the ability to leverage resource base from home and host country. Firms either develop unique resources that they can exploit in foreign markets or they use foreign markets as a source for acquiring or developing new resource-based advantages (Luo, 2002; Madhok, 1997). Penrose (1959) suggests that key and enduring firm specific assets form FSAs that might support firm internationalization. MNEs follow global strategies because their investments in intangibles, both knowledge and reputation, are subject to economies of scale, and need to be amortized through a high volume of internationally homogenous output (Hennart, 2009).The IB strategy literature concerns the relationship between geographic scope (i.e. MNE international diversification) and corporate performance (Goerzen & Beamish, 2003). Firms with more international knowledge tend to have more globalized boards. A few studies examined the extent to which firm internationalization process are antecedents to TMT composition. Greve et al.(2009) argues that firms pursuing more geographically expansive internationalization strategies face greater information-processing demands at corporate headquarters and therefore require more international capacity within the TMT.

Hypothesis 3: Ceteris paribus, high level of internationalization is positively related with MNE board globalization.

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array of unique characteristics: their development is capital-, human- and time-resource intensive, they can be applied in new markets at a proportionally smaller cost due to economies of scope, and their home market value are not diminished by international exploitation (Morck & Yeung, 1998). These intangible assets such as technological know-how, patents, management skills, brand names and best practices are information-intensive. Transactions with such assets are subject to market failures. Therefore, intangible resources are more crucial for firms because they are rare, socially complex and difficult to imitate (Barney, 1991) and the internalization or these intangible assets becomes critical for their efficient exploitation (Lu & Beamish, 2004). Peng (2001) takes this perspective a step further and argues that MNEs exist because of their capability in transferring and exploiting knowledge more effectively in the intra-firm subsidiaries than through external market. MNEs have ownership advantage in rent appropriation

Due to the fact that the quality of intangible assets is more difficult to measure than tangible assets, market failure and asymmetric information lead firms to prefer wholly owned projects to exploit proprietary technology abroad. Accordingly, we expect the intangible assets an MNE possess are positively associated with better performance. The internalization of intangible assets in global expansion should be beneficial, resulting in economies of scale of the intangible assets. Innovative firms tend to support new ideas, invest in novelty and creative processes (Lumpkin & Dess, 1996). So we expect a positive relationship between level of innovation and the level of board globalization.

Hypothesis 4: Ceteris paribus, high level of intangible assets is positively related with board globalization

2.3.2 Industry-based view

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performance and long-term profitability (Scherer & Ross, 1990). Industry structure represents a firm’s resources and capabilities and is the primary determinants of firm performance (Chan, Isobe &Makino, 2008). This structure predicts that a variation in business unit performance is greater between, rather than within, industries (Makino, Isobe & Chan, 2004).

The most important market imperfections arise out of the collective circumstances and behavior of firms (Rumelt, 1991). For MNEs, previous literature suggests that firms pursue follow-the-leader strategies in locating foreign investments (Knickerbocker, 1973) and Martin, Swaminanthan & Mitchell (1998) confirms this in the international expansion behavior of automotive components suppliers. So we expect that both board composition and performance of firms are determined by industry structure, hence

Hypothesis 5: Due to differences in industry structure, there are considerable differences in level of board globalization.

2.3.3 Institution-based theory& corporate governance of home

country

From institution-based view and corporate governance literature, we test different levels of country level variables that could potentially influence board globalization and firm performance. In this thesis, we explore some of the cross country differences in West European institutions and corporate governance regimes. These differences influence the corporate governance regime of the home country of the MNEs and have potential implications on firms.

Institution-based theory

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institution-based view of business strategy could explain “why strategies of firms from different countries and regions differ”. Institutions refer to both formal and informal rules and standards that provide order and structure in society (North, 1990; Scott, 1995). Scott (1995: 33) define institutions as “cognitive, normative, and regulative structures and activities that provide stability and meaning to social behavior”. As such, they shape the behaviour and performance of individuals and organizations (DiMaggio & Powell, 1983). North (1990: p.3) demonstrates that institutions matter because they provide “the rules of the game in a society”, or more formally, constrain human interaction and provide incentives for individuals and organizations.

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Hypothesis 6: Due to differences in home country institutional environment, there are considerable differences between MNEs board globalization across countries.

Previous studies of the same data set have examined some country effects of home EU countries. For example, Van Veen & Marsman (2007) have suggested that length of EU membership and the degree to which a country can be classified as a Coordinated Market Economy (CME) or Liberal Market Economy (LME) are among the country specific characteristics that determine board nationality diversity. Van Veen & Elbertsen (2007) also describes how differences and similarities in law, codes of corporate governance, formal structure has an impact on the recruitment process of TMT in Germany, U.K. and Netherlands. But both studies have not examined the performance implications of TMT globalization. We contribute to the literature by study more fine grained country effects of institutional governance quality as external environment and corporate governance as more specific to business.

Institutions determine transaction costs and production costs and therefore the profitability of agents in economic activities (North, 1990). Institutional prescriptions and norms shape the nature of economic activity (North, 1990), motivate and regulate the behaviour of actors in a given environment (Scott, 1995). Thus, they play an essential role in a market economy to support the functioning of market mechanism for transactions without incurring undue costs or risks (Meyer et al., 2009). Without market creating institutions such as property rights and contract enforce regulations to provide order and structure, market exchange cannot occur.

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Hypothesis 7: Ceteris Paribas, higher total institutional quality of the home country is positively related with MNE board globalization.

The globalization of equity markets offers MNEs more opportunity and greater financial flexibility, which in turn provides them chance to cut down cost of capital (Oxelheim & Randøy, 2003). Larger domestic financial market are more developed and regulated, can prevent segmented market and have more shareholders, which is more efficient in dealing with information asymmetries. Shareholders and their representatives tend to create value for the investor, supervise top management and make sure of the transparency of the information gained.

Hypothesis 8: Ceteris Paribas, better capital markets of the home country are positively higher level of board globalization

Corporate governance regime across countries

Stulz (1999) points out that a firm’s cost of capital will depend largely on its corporate governance regime. Due to the broad focus of institutions, we explore here the corporate governance regime in different countries that is more relevant to the firm.

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explain the national law on creditors, the rights concerning shareholders and private property, the country’s level of banking sector and stock market development.

La Porta et al. (1997) uses the historical origin of legal system to justify the differences in investor protection. They argue that there are historical reasons for divergence in corporate governance regimes. They categorize legal systems into four categories: English common law system, French civil law, German civil law and Scandinavian civil law countries. Legal families shape the legal rules, which in turn shape the financial markets (La Porta et al, 2000). Conform to the literature, we posit that: Countries with common law tradition perform better in investor protection and has higher firm valuation.

Hypotheses 9: Legal origin has an influence on board globalization.

The boards of directors play a major role in the corporate governance system. The literature on corporate governance research has identified both internal mechanisms, such as board of directors, ownership of managers and external mechanisms such as market for corporate control, institutional ownership and the level of debt financing to increase firm valuation (Barnhart & Rosenstein, 1998). According to Cadbury (1999), boards of directors serve as a bridge between shareholders, who provide capital, and management in charge of the company. Great emphasis was put on issues such as board independence, board leadership structure, board size (Van den Berghe & de Ridder, 1999). These structural measures are assumed to be important mechanisms to enhance the power of the board, protect shareholders’ interest and increase shareholder value (Vecht et al, 2002; Westphal, 1998).

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anti-director rights measures. We argue that anti-director index is a link between country-level investor regulation and firm-country-level performance outcomes. A higher anti-director score increases the level of country level corporate governance regime and leads to better firm performance.

Hypothesis 10: Ceteris Paribas, higher Anti-director rights total of the home country is positively related with higher level of board globalization

The hypotheses regarding antecedents of board globalization and performance implications are summarized in Table 1.

Table1: Summary of hypotheses

Hypotheses Expected

sign

contents

H1 +/- Propensity of board globalization on performance

H2 +/- Intensity of board globalization on performance

H3 Firm + Level of internationalization

H4 Firm + Intangible assets, innovation

H5 Industry Industry

H6 Country Home country

H7 Country + institutional environment

H8 Country + Stock market

H9 Country Legal origin

H10 Country

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3 Methodology

3.1 Data collection and sample

Sample

The sample consists of the largest firms in the fifteen countries that first joined the European Union, including Belgium, Denmark, Germany, Finland, France, Ireland, Luxembourg, the Netherlands, Austria, Portugal and Sweden. We choose listed firms on the major index in the domestic stock exchange. These companies are primarily recognized as “Blue chip” companies, suggesting a relative long history, strong financial track record and relatively more stable than their smaller counterparts. The list of companies in the final dataset is included in Appendix.

For each of the firm, we collected our data from annual reports and several secondary sources. The main source of information is annual reports of each country of the years 2007-2010. When the source provided incomplete information, other websites, such as “Google Finance”, “Zoom Info” and “Top Management” were used. Financial information was derived from Orbis. Orbis provides detailed information on a firm’s identification, balance sheets, financial performance, board of directors, ownership structure, and subsidiary information among others.

The starting point of the data set consists of a total of 363 companies that are listed on their respective national stock exchange. The delisted firms and firms without financial information in Orbis are taken out. This leaves us a total of 758 firm-year observation. A list of companies can be found in Table 2 of the Appendix. More specific information on the distribution of companies per country is discussed in the first part of results section.

3.2 Variables and measures

3.2.1 Dependent Variables

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effect of performance on measured discretionary accruals. Barber & Lyon (1996) also finds that matching on an operating performance measure similar to the ROA tends to be better than matching on other variables. We will use earnings before interest, taxes, depreciation, and amortization divided by total revenue (EBITDA margin) as a robustness check.

3.3.2 Independent variables

Board nationality diversity is measured in several dimensions.

We measured both propensity and intensity of board globalization. Board globalization propensity is a dummy variable indicating whether there is a foreign on the board. It equals 1 if there is a foreigner on board and 0 otherwise. Board globalization intensity equals the ratio of foreigners on board.

Resource-based variables (H3-H4) Firm specific resources

Number of countries active in (H3) is the total number of countries the MNE is active in indicated by various source such as annual report and business media.

Innovation level (H4). The proxy for innovation level is R&D intensity. The level of resource and development expenditure is calculated from Orbis Database. Following the resource based view of the firm, R&D intensity is critical to the long-term performance of the firm.

Industry-based variables (H5)

We include two types of industry variables.

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Country-based variables (H6-H10)

First of all, we include country dummies (H6) for each observation. The country of origin of a corporation has been classified as the country where its headquarter is located. Secondly, to discompose the country effects, we include two variables for institutions and corporate governance. Makino et al. (2004) found that studies have focused almost exclusively on examining performance differences within a single country, thus treating country effects as external to business unit performance. A recent study of van Veen & Marsman (2007) on board globalization from the same original dataset indicates that country dummies changes the level of explained variance by the model.

Institutions-based variables (H7-H8)

Institutional environment variables (H7). World Bank Governance Dataset is extensively used in the IB literature to generate governance indicators. This dataset provides estimates of six dimensions of governance covering 209 countries and territories for each year. Each of these dimensions capture different aspects of governance: (1)Voice and Accountability; (2) Political Stability and Absence of Violence; (3) Government Effectiveness; (4) Regulatory Quality; (5) Rule of Law; (6) Control of Corruption. Higher levels indicate better regulation in a country or less uncertainty in the business environment. Our data covers year 2000-2009.

Total market capitalization of the stock market (H8). We take into account the Market Capitalization (MKTCAP) of stock markets. MKTCAP of each country is calculated by logarithm of the market value of all listed shares over GDP and is taken from World development indicators from World Bank.

Corporate governance variables (H9-H10)

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Anti-director index (H10). We include anti-director index, which is also referred to as shareholder rights index from La Porta et al. (1998). Shareholder rights encourage the development of equity markets, as measured by the valuation of firms, the number of listed firms and the rate at which firms go public (La Porta, 2008). It is a composite of five items and the total score ranges from 0 to 5, where a country such as Belgium scores 0 and U.S. scores 5.

3.2.3 Control variables

Several variables of board characteristics are measured on a company basis. We include several control variables conforming to the literature and previous studies.

First of all, we control for firm size, which is measured by the natural logarithm of book value of total assets in 2005. Firm size has previously been found to correlate with both the international experience and nationality diversity of top management teams (Heijltjes et al., 2003). Furthermore, firm size is assumed to have a direct effect on firm performance because of economies of scale and market power at the corporate level (Orlando, 2000). From corporate financing point of view, large firms may find it easier both generate funds internally and to access external capital market. Besides, managerial holding is larger in small firms. Secondly, we measure board size. Previous research has indicated that smaller boards are more effective in monitoring management and creating value (Yermack, 1996). Thirdly, several variables that are potentially relevant to performance (H9) are taken into account. Firm leverage ratio (leverage) is assumed to affect performance in the literature (Postma et al., 1998).The capital structure is operationalized as the ratio of debt to assets, which is calculated by:

Leverage = (total assets-shareholders’ equity)/total assets

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obligations. It provides a measurement of how likely a company will be to continue meeting its debt obligations. The measure is usually calculated as follows:

3.3 Empirical models

3.3.1 Performance outcome

We use the following regression models to test our hypotheses.

Firm performance is estimated by a four year panel (2007-2010) with random effects. Because our main independent variable (board globalization propensity and intensity are time-invariant), we can’t use fixed effects model. The main model for panel data with random effects is:

.

In Model 1 and Model 2, we estimate the model with board globalization propensity and intensity respectively. In Model 3-5, we test whether there is a link between the “strategy tripod” and firm performance. Industry dummies (Model 3), country dummies (Model 4) and firm specific variables (Model 5) are tested respectively. Board globalization propensity is estimated by a logit model. Board globalization intensity is an OLS regression with robustness results.

3.3.2 Antecedents of board globalization

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4. Empirical results

4.1 Descriptive statistics

Table 2 provides a summary of descriptive statistics and correlation table. We have a number of 758 observations across four years. The average ROA ratio is 5.26. However, there are considerable differences across firms. The ROA ranges from -19.63 to 24.54. The level of board foreign intensity (proportion of foreigners on board) varies from 0 to 73.9%, with the average being 20%. Generally speaking, one out of five board members is a foreigner.

Table 2a: Descriptive statistics

Variable Obs Mean Std. Dev. Min Max

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Table 2b provides correlation matrix. The correlation indicates that the highest

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Table 2b: Correlation matrix

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Table 3 provides a cross-tabulation descriptive statistics of board globalization level by industry and country. In Table 3a, the distribution of industries is highly skewed. The average level of board globalization ranges from 0.05 in industry 1(Basic) to 0.34 in industry 2 (Financial services& capital goods). Construction firms also has relative low levels of board nationality diversity (0.07), being the second lowest number. Industry 4 (Consumer durables) and industry 9 (textiles & trade) dominates the sample. It’s interesting that the financial service sector has the lowest level of board globalization. Considering the high local responsiveness of service industry, we expect to have higher levels of foreigners on board for service industry.

Table 3a: Summary of proportion of foreigners in

the board by industry

industry Mean Std. Dev. Freq. 1 .34227994 .21723316 12 2 .05247315 .05282148 36 3 .07878788 .10093565 20 4 .21965944 .1793199 329 5 .18560578 .12643409 39 6 .19629786 .11068495 35 7 .23041497 .22625078 41 8 .22851269 .20664332 81 9 .1596491 .13940812 109 10 .23442244 .22812219 43 11 .21541082 .08821164 9 Total .20069802 .17846132 754

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Table 3b: Summary of proportion of

foreigners in the board by country

Country Mean Std. Dev. Freq. AT .12137148 .08082311 56 BE .30483457 .19873214 63 DE .12901626 .07346358 95 DK .10353721 .13056945 77 FI .1777591 .16137309 79 FR .22027603 .1430188 128 IE .22457899 .15093779 55 LU .53344626 .21549447 15 NL .59070929 .09772793 26 PT .1032183 .16411393 71 SE .22266561 .15194466 89 Total .20069802 .17846132 754

4.2 Step 1: Board globalization-performance nexus: results of

panel data

In model 1 and 2, we test the direct link between board foreign propensity and board foreign intensity (Hypothesis 1 and Hypothesis 2). We then test the board globalization-performance nexus by including the strategy tripod perspective.

Table 4: board diversity –firm performance

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VARIABLES roa roa

for_propensity -1.800*

(0.965)

for_proportion -6.452***

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37 Age 0.00383 0.00244 (0.00690) (0.00672) boardsize -0.0146 -0.0511 (0.0625) (0.0613) Size 0.276 0.329 (0.265) (0.259) year2007 2.161*** 2.159*** (0.431) (0.431) year2008 -0.0958 -0.0984 (0.442) (0.442) year2009 -1.920*** -1.918*** (0.427) (0.428) solvency_ratio 0.156*** 0.156*** (0.0217) (0.0213) liquidity_ratio -0.330*** -0.332*** (0.123) (0.121) Constant -2.133 -2.395 (3.939) (3.860) Observations 624 624 Number of companies 160 160

Standard errors in parentheses *** p<0.01, ** p<0.05, * p<0.1

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a foreigner on board has a marginal significant (at the level of 0.1) effect on lower ROA ratio whereas the proportion of foreigners is highly significant (0.01) correlated with lower performance outcome as measured by ROA.

The signs of all control variables are as expected. Age and firm size has slightly positive effect on performance. Older and larger firms typically have more resources. Board size has negative effects on performance. This is consistent with prior finding of lower firm valuation of larger boards (Dalton, Daily, Johnson & Ellstrand, 1999). Two firm operational measures the liquidity ratio and solvency ratio are significantly positively correlated with higher ROA ratio. The year dummy of 2007 is significantly higher. Due to the influence of global financial crises, 2008 & 2009 has lower firm performance.

However, the negative effect of board nationality diversity on performance deserves more examination in detail. In the robustness check, we also estimate alternative model specifications. We estimate the model using subsample of firms with foreigners on board (Model 14). As an alternative to proportion of foreigners on board, we use the number of foreign board members (Model 15). The model is significant in both cases. Only when we use EBITDA margin as the dependent variable, the sign of board foreign proportions turns to be positive but it is still not significant.

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To have a better picture of the relationship, we graph a scatter plot for the relationship between the Residual in Model 2 and proportion of board globalization. Figure 2 indicated that when the proportion of foreigners is larger than 0.6, the residue becomes negative. When we look at several dots with highest level of board foreign proportion, these dots all contribute considerably to below average estimate. We argue that the negative contribution of board globalization to firm performance may result from the over-globalized board of several firms. Diversity needs to be carefully managed to deliver its productive potential. If not, it is possible that high level of diversity will increase conflict and inertia.

Figure 2: Residue Plot

4.3 Step 2: Board globalization and firm performance: the

contextual effects of strategy tripod

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Table 5a: A strategy tripod perspective on firm performance

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VARIABLES roa roa roa roa

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41 (0.212) Industry*country -0.0246 (0.0362) Countriesactive 0.00912 (0.00932) Innovation 1.442 (12.85) Constant -4.060 0.605 -5.057 -1.432 (4.697) (5.098) (4.935) (5.390)

Industry dummies no yes no No

Country dummies no no yes No

Observations 624 624 624 482

Number of companies 160 160 160 123

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Table 5b: industry and country dummies industry dummies country dummies D1 2.838 AT -2.092 -3.907 -1.733 D2 -1.989 BE -0.757 -3.234 -1.786 D3 -1.357 DE -2.865* -3.518 -1.546 D4 -2.235 DK 1.218 -2.864 -1.774 D5 -2.041 FI -1.707 -3.191 -1.539 D6 -1.166 FR -2.665* -3.263 -1.565 D7 -1.676 IE -2.182 -3.177 -1.819 D8 -1.37 LU 5.169* -2.989 -2.797 D9 -3.451 NL 0.499 -3.654 -2.367 D10 -1.732 PT -2.114 -3.171 -2.035

Let us take a further look at the country and industry dummies. From Table 5b, none of the industry is significant. Only several country dummies are marginally significant with regards to firm performance. Germany and France has negative effects on firm performance whereas Luxemburg yields higher performance. This could be due to the fact that our sample is not balanced across countries. Firms from Germany and France represent most of the sample whereas Luxemburg has the lowest number of observations. Model 6 tests the indirect link between firm level variables and performance outcome. We find that the firm variables are not directly determine firm performance.

4.4 Step 3: A strategy tripod perspective of determinants of

board globalization

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we conceptualize it as the ability to leverage firm-specific resources, industry structure (industrial diversification) and country level differences (international diversification). One possible explanation is the level of board globalization is determined by these mechanisms. MNEs make decisions to include foreigner board members not with the direct aim of achieving superior performance. Globalized boards are the outcome of all three legs, which determine the level of board globalization across firms, industries and countries. It is possible that there is no optimal level of board globalization. It’s the right choice not to over- or under- globalized that lead to performance implication. We test this in the following part. Model 7 in Table 6 is the model with only control variables. We then include main variables regarding firm specific variables (Table 6), industry factors (Table 7), country factors (Table 8), and full model of antecedents of board globalization (Table 9) respectively.

Table 6: Controls model, RBV and board globalization

(7) controls (8)RBV

VARIABLES board_foreign_prop board_foreign_prop

age 4.07e-05 -7.38e-05

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Observations 719 569

R-squared 0.030 0.098

Robust standard errors in parentheses *** p<0.01, ** p<0.05, * p<0.1

From Table 6, both the number of countries the MNE is active in and the level of innovation are significantly correlated with higher level of board nationality diversity. However, the economic significance of number of countries active in is not very high. Better measurement of Degree of internationalization (DOI) could be used in the future to improve this. Base on Model 7 and Model 8, hypotheses 3 and 4 are supported.

Table 7: Industry-based view and board globalization

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age 2.55e-05 -1.64e-06

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45 D3 -0.172*** (0.0355) D4 -0.00413 (0.0282) D5 -0.0490 (0.0342) D6 -0.0718** (0.0348) D7 0.00375 (0.0450) D8 -0.0153 (0.0337) D9 -0.0606** (0.0294) D10 0.0225 (0.0458) industrydummy 0.0475*** (0.0131) Constant -0.0491 -0.0143 (0.0759) (0.0629) Observations 719 719 R-squared 0.122 0.047

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*** p<0.01, ** p<0.05, * p<0.1

In Table 7, we examine the industry effects. In Model 9, we include 10 industry dummies. Two dummies D2(capital goods) and D3(construction) are negatively significant at 0.01 level. D6 (Leisure) & D9 (Petro) are negative significant at 0.05 level. In Model 10, we estimate the model with a dummy for manufacturing (1)/service. Manufacturing firms has higher level of board globalization. Hypothesis 5 regarding the differences of board nationality diversity from industry structure is supported.

Table 8 estimates two models regarding country level institutions and corporate governance. Model 11 includes country dummies whereas model 12 tests the institutions and corporate governance variables.

Table 8: Institutions-based view and board globalization

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Observations 719 541

R-squared 0.416 0.134

In Model 11, we find that there are considerable country-level contributions to board globalization. We find that seven dummies (AT, BE, DE, DK, LU, NL, PT) are significant. This is in line with previous studies of the same European Top Management Project. Van Veen & Marsman (2008) also find that country dummies are significantly related to the level of board globalization across European countries. Thus, Hypothesis 6 regarding country level difference is supported.

In Model 12, we explore the institutions and corporate governance variables. The factor of institutions positively contribute to higher level of board nationality diversity, thus Hypotheses 7 is supported. Market capitalization as percentage of GDP is an indicator of the development of stock market. The results show that better developed financial markets lead to higher level of board nationality diversity. The categorical variable of legal origin is also significant at 0.01 level. This is in line with previous legal origin research by La Porta and his coauthors. Hypothesis 9 is supported. However, we find that anti-director index is significantly related with lower level of board globalization. A possible explanation is that higher anti-director index means the board process is under more scrutiny, which is less likely to introduce foreigners on board. Hypothesis 10 is not supported.

To summarize, the main findings from multivariate analysis are the followings:

Table 9: Full model strategy tripod of board globalization

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Observations 428

R-squared 0.193

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5. Robustness check

We test whether our empirical results are robust to the use of alternative proxies for MNE performance and regression methods.

First, we only use the sample with foreigners on board (foreign propensity=1). We also use the number of foreigners on board as an alternative to proportion of foreigners on board to estimate the ROA model. Secondly, we use EBITDA margin as the dependent variable for performance outcome.

Table 10: Robustness check

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VARIABLES Roa with

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52 year2007 1.998*** 2.155*** 1.099*** (0.442) (0.431) (0.399) year2008 -0.409 -0.108 -0.230 (0.455) (0.442) (0.423) year2009 -2.092*** -1.921*** -1.146*** (0.439) (0.428) (0.397) solvency_ratio 0.177*** 0.154*** 0.0996*** (0.0239) (0.0215) (0.0316) liquidity_ratio -0.393*** -0.344*** -1.562*** (0.119) (0.122) (0.300) Constant -1.262 -2.393 19.98* (5.196) (3.919) (11.57) Observations 502 624 612 Number of companies 128 160 160

Model 14 & Model 15 show that when only considering the subsample with board globalization, the results of proportion of foreigners on board is still significantly negative correlated with ROA ratio of the firm. The results are robust when we use number of foreigners on board.

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6. Contributions

We contribute to the theory building of antecedents of board globalization and the empirical analysis of board globalization-firm performance nexus and antecedent of board globalization. This study has profound contribute to several fields of literature.

First of all, in the field of IB, we are the first to conceptualize board globalization as dynamic capabilities of MNEs. By using the strategy tripod, we provide evidence that all three legs: industry-, firm-, and institutional- factors explained board globalization and subsequent performance implications. We document that there is a positive significant correlation between internationalization of the company and internationalization of the board. Referring to the upper echelon research (H&M, 1984), the top decision makers (the board of directors) does indeed provide a clear picture of the organizations and direct performance implications.

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internal managerial issue, but contextual factors such as industry and institutional environment that affect the composition of the board and firm performance.

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7. Conclusion, limitations and future directions

In this research master thesis, we conceptualize board nationality diversity as dynamic capabilities of MNE internationalization process. We test a (1) direct link between board internationalization and performance outcome, (2) indirect link between strategy tripod and board internationalization as well as (3) antecedents of board globalization. We find that board globalization is significantly negatively correlated with the ROA ratio of our sample MNEs. After including the level of board nationality diversity, the strategy tripod does not provide satisfactory estimation of firm performance. We also find that the strategy tripod provides synthesis of the level of board globalization. We argue that it is the antecedents of firm-factors, industry-factors and country factors that determine board globalization. We call for future study to examine the level of board globalization and relevant performance outcome in more detail.

We conformed to the original literature of Hambrick and Mason (1984) and studied the link between board globalization and performance implications for blue chip companies in Western European countries. Despite the contributions, our study has several limitations which provide fruitful area of future investigation.

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of the boards.

Second, we focus on nationality as identified by “passports” and percentage of foreigners. What about somebody joining another country after staying there for a long time and developing a career in that country? What about someone who receives higher education in the foreign country and builds up a career only in that particular market? Being a foreigner in this case does not necessarily contribute much to the understanding of foreign market. Future research can combine this steam of literature on board globalization with strategic decision making and analyze how executive cognitions, values, and perceptions influence the process of strategic choice and resultant performance outcomes. (Carpenter et al., 2004). A closely related shortcoming is that we only used percentage. following Caligiuri et al. (2004) and previous studies of Dr. van Veen and co-authors, our indicator for board globalization is number of foreign nationals to the total number. In one scenario, the foreigners can from the same country (being an adjacent country, with similar language or historical roots). While the hypothetical companies have the same top management ratio, it is clear that the actual diversity in the the company is not the same as a company with a Chinese, an Indian, a Norwegian & a German (Caligiuri et al, 2004).”

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Fourth, regarding the external validity of the study. Firstly, we only studied continental European firms. The creation of European Union and open European job market could facilitate transfer of labor and lead to a more diverse workforce and a European executive market. When we mean globalization, it could be more of regionalization (the foreigners are from other EU countries) than truly global. Secondly, companies in U.K. are not studied in this thesis. According to La Porta et. al, countries British legal origin have better investor protection systems. Oxelheim & Randoy (2003) also documents that including Anglo-American yields to better firm performance. If this is true, for British firms, does including a non-British-non-American TMT member yields the same benefit? It will be intriguing to study how MNEs from U.K. is different from MNEs from continental EU.

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A “strategy tripod” perspective on board globalization and MNE firm performance