Reassessing the Internationalization of the Firm (Advances in International Marketing)

LIST OF CONTRIBUTORS Arild Aspelund Norwegian University of Science and Technology, Trondheim, Norway Catherine N. Ax...

Author: Catherine Nancy Axinn | Paul Matthyssens

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LIST OF CONTRIBUTORS Arild Aspelund

Norwegian University of Science and Technology, Trondheim, Norway

Catherine N. Axinn

Department of Marketing, Ohio University, USA

Antonio Barretto

BNDES, Av. Republica do Chile, Brazil

Mark V. Cannice

School of Business, University of San Francisco, USA

Roger (Rongxin) Chen

School of Business, University of San Francisco, USA

John D. Daniels

School of Business Administration University of Miami, USA

Angela da Rocha

COPPEAD, Uni. De Fed. Do Rio de Janeiro, Brazil

Jan Moiler Jensen

University of Southern Denmark, Odense, Denmark

Mingfang Li

Department of Mangement California State University, USA

Paul Matthyssens

Limburgs Universitair Centrum, Belgium

¢~ystein Moen

Norwegian University of Science and Technology, Trondheim, Norway vii

viii Pieter Pauwels

University of Maastricht, The Netherlands

Alex Rialp

Autonomous University of Barcelona, Spain

Josep Rialp

Autonomous University of Barcelona, Spain

Philip M. Rosenzweig

International Institute for Management Development, Lausanne, Switzerland

Per Servais

University of Southern Denmark, Odense, Denmark

Janet Shaner

International Institute for Management Development, Lausanne, Switzerland

Christine J. Weisfelder

Great Lakes Consortium for International Training and Development, Ohio, USA

PREFACE

This special volume of Advances in International Marketing is devoted to exploring new perspectives on the internationalization of firms. It is guest edited by Catherine N. Axinn of Ohio University and by Paul Matthyssens of Limburgs Universitair Centrum, Diepenbeek, Belgium and Erasmus Universiteit, Rotterdam, The Netherlands. While the idea for devoting a whole issue to exploring this topic arose at a symposium of the Consortium for International Marketing Research (CIMaR) held at Tennessee State University in 1999, a call for papers was widely distributed and as a result the contributions to this volume come partly from CIMaR members and partly from other scholars. Thus the papers here draw from a wide variety of perspectives - all of which push the envelope of traditional theory. Our thanks to Dr. Axinn and Dr. Matthyssens for their collaborative efforts in creating this volume. Finally, we express our appreciation to the staff at JAI/Elsevier Science who saw the volume through the production process. S. Tamer Cavusgil Series Editor

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REFRAMING INTERNATIONALIZATION THEORY: AN INTRODUCTION Catherine N. Axinn and Paul Matthyssens

WHY

REASSESS

THE INTERNATIONALIZATION OF THE FIRM?

Firms are internationalizing in greater numbers than ever before; they are internationalizing faster than ever before. Therefore, internationalization theories are more critical than ever before. However, companies are internationalizing in more different ways than ever before, often using combinations of entry strategies. Smaller, often high tech companies practice advanced entry modes from their outset. Services and know-how are traded across the globe. In Europe, deregulation has provoked the expansion of previously nation-bound utilities and government agencies into neighboring countries. Emerging and transitional economies are opening up at an unprecedented pace and companies from these countries are entering international business. This volume is conceived as an exploration of the evolving nature of internationalization in the context of shifting environmental forces. The articles that follow this introduction will both answer some key questions and raise new ones. Our hope is to stimulate continuing theoretical development and an ongoing discussion on the foundations of the internationalization phenomenon. So, why are more firms internationalizing faster than ever before? Well, we have some ideas; but none of our traditional theories fully explain observed

Reassessing the Internationalization of the Firm, Volume 11, pages 3-11. 2001 by Elsevier Science Ltd. ISBN: 0-7623-0795-1

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CATHERINE N. AXINN AND PAUL MAIqT-IYSSENS

behavior. In fact, the more we research emerging phenomena, the clearer it becomes that our existing theories neither explain nor predict the behavior that we are observing in firms today. Why not? Has the behavior changed so much? Perhaps it has. ENVIRONMENTAL

CHANGES

The context within which the firm acts has changed considerably over the past 40 to 50 years and firms have had to change their behavior to survive and prosper in their changing, hyper-competitive, global environment. Therefore, theories also have to evolve to account for the new behaviors. In order to ascertain the direction that new theories will have to go, it is necessary to identify and understand the nature of the contextual changes that have stimulated or even forced firms to change market approaches. We note particularly the birth and adolescence of the global economy, the new economy, the service economy, high technology markets and the network economy.

Global Economy Of course, the dominant change in the world economy over recent decades is the globalization of markets (Levitt, 1984; Yip, 1992; Bartlett & Ghoshal, 2000). This phenomenon is the result of the convergence of numerous other changes that individually might not have been as potent as they are collectively. From the domain of technology we've gained: (1) advances in telecommunications, enabling speedier and more effective communication within and between firms; (2) advances in transport (containers, air travel, super-tankers) - facilitating speedier and more efficient movement of goods and people within and between continents; and (3) production process advances (such as flexible production systems) - facilitating cost-effective product adaptation. Simultaneously we've experienced a significant reduction in trade barriers through the creation of market agreements like NAFTA and MERCOSUR (building on the experience of the EU) and through continued tariff reductions negotiated via the GATT and more recently the WTO. Also, authors have pinpointed the internationalization of life styles as a globalization driver (Douglas & Craig, 1995). The economic developments - in general - have been opening up global trade as well, with the birth of the EURO, the opening up of Central and Eastern European economies, and the economic boom of the last five years (with one notable exception, i.e. the recession in Asia).

ReframingInternationalizationTheory

5

As a result, we have increasing global mergers and acquisitions, increasing investment activity, and increasing trade within and between trading regions. The value of annual merger and acquisition activity has risen from $72.8 billion in 1981 to $141.9 billion in 1991 to over $1.4 trillion in 1999 (A 35-Year Profile of M&A, 2000). Simultaneously, global merchandise exports rose from $1.9 trillion in 1980 to nearly 5.4 trillion in 1998 (Structure of Merchandise Exports, 2000). We also have increasing information availability; increasing technological availability (through technology development and technology transfer); increasing financial availability and flexibility, and increasing worldwide competition.

New Economy Regardless of the recent shakeout, E-business is changing the shape of marketing and managing. It seems apparent that the revolution in information technology calls into question the basic tenets of many marketing, management and internationalization theories. Hamill (1997) has pleaded for 'a fundamental reassessment of the results of past research' and for the development of new international marketing paradigms. The Internet allows international marketers to achieve cost savings, faster market penetration, and product/service transformation and improvement (Hamill, 1997; Bishop, 1999). Further, marketers can now gain access to actual customer databases and market research information and connect with available trading partners more easily. With these tools many SMEs might overcome traditional barriers to export or to advanced international business participation (e.g. global business).

Service Economy Services take a huge share of the Gross Domestic Product of developed nations (over 70% for the USA) and of world trade (over 30%). The growing practice of international trade in services, however, stands in contrast to its relative conceptual and empirical neglect in the international business/marketing literature. Patterson and Cicic (1995) argue for a classification of services along two dimensions: degree of intangibility and need for face-to-face contact in order to understand internationalization paths. Their research shows differences along the categories of their classification scheme, but it also allows for the generation of general conclusions. First, managerial commitment to the internationalization of service providers is moderate to high. Second, client 'chasing' and unsolicited

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CATHERINE N. AXINN AND PAUL MAq'THYSSENS

orders are hardly considered as key drivers. Third, the costs of internationalization are considered low relative to the perceived benefits. Fourth, diverse entry modes are used, such as direct representation, local branches and agency relations. Finally, all service providers foresee further internationalization.

High Technology and the Connected Knowledge~Network Economy Technology is a driving force of economic progress. According to the Committee on Civilian Industrial Technology high tech markets grow much faster than the growth rate of the U.S. economy in general (Technology in the National Interest, 1996). High technology markets are characterized by substantial levels of scientific and technological know-how, complexity and speed of change, market and 'advances' uncertainties, demand-side increasing returns, network compatibility issues, tradability problems and so on (John et al., 1999; M611er & Rajala, 1999). These characteristics challenge traditional marketing approaches and concepts in the following ways. The knowledge intensity leads to the creation of complex knowledge networks among global suppliers, customers, universities and internal knowledge workers. Flexible product/process architectures and increased speed to market (Sanchez, 1999) necessitate an intensified dialogue with innovative national and international customers. High-tech companies must also assist their customers in migrating from 'old' to 'new' product types (John et al., 1999), which necessitates careful planning and service assistance in an international context. Finally, in such industries, smaller pioneering companies will often face the challenge of quickly building scale and seeking returns on their creativity and R&D investments as product life cycles are short and domestic markets are often limited in size. Research on the internationalization paths of such companies is rather limited. Based on case-study research, Crick and Jones (2000) argue that, although the internationalization paths of such high tech SMEs differ somewhat among each other, in general they all feel an urgent need to internationalize quickly. Hence, they argue the Calof and Beamish (1995) model has to be adapted to accommodate a more dynamic model of internationalization in which entrepreneurial (key decision maker's profile and experience), internal (company) and external (market and industry) factors influence the internationalization pattern and process simultaneously. Existing, linear theories are inadequate. Further, internationalization was much more planned and deliberate (with global vision) than traditional theories suggest for small and medium-sized players.

Reframing Internationalization Theory

7

A LOOK AT TRADITIONAL THEORIES In addition to the challenges offered by these significant environmental changes, it is also possible that the traditional theories have always been burdened with significant limitations. Let us consider this possibility briefly: Whose behavior were the traditional theories designed to explain? MNCs? SMEs? Developed country firms? Manufacturing firms? All firms? Clearly, several key theories have been applied to the internationalization process primarily to explain the international production operations of MNCs, e.g. Industrial-Organization Theory (Hymer, 1960; Kindleberger, 1969; Caves, 1971; Agmon & Lessard, 1977), Internalization Theory (Coase, 1937; Penrose, 1959; Buckley & Casson, 1976; Rugman, 1981), Transaction Cost Theory (Williamson, 1970, 1975; Hennart, 1982). Going a step further, Dunning's Eclectic Theory expanded its scope to incorporate consideration of trade as an alternative to investment in reaching foreign markets (Dunning, 1977, 1979). In the preceding theories, the environment is taken as a given. In the Nordic theories, it is seen as an important determinant of behavior. The Nordic School has provided both the Uppsala Model of Internationalization (Johanson & Vahlne, 1977, 1990; Johanson & Weidersheim-Paul, 1975) and Network Theory (Penrose, 1959; Johanson & Mattsson, 1988). Both were built on observations of Nordic multinationals, but have been applied widely (and rather successfully) to explain the behavior of SMEs in many other regions as well. In retrospect, it appears that these theories focus on explaining the international behavior of large manufacturing firms from developed countries that expand internationally on a gradual basis from psychologically close to psychologically more distant countries. The fact that each theory, in some circumstances, can be meaningfully used to explain the international behavior of small firms or service firms or firms from developing countries is more often an unexpected (and somewhat unintended) consequence than a planned one. Each theory was developed within a specific environmental context to explain a fairly specific set of observed firm behaviors. Each, within its context, may be fairly adequate at explaining those behaviors. But the context has changed, and the ability of each theory to explain behaviors observed today is considerably diminished. The basic premises and tenets of each theory have to be evaluated in the face of the new economic realities described in the preceding section. In Table 1 some preliminary thoughts have been formulated regarding some major theories. However the table is not meant to be exhaustive. We consider the stages models (Johanson & Vahlne, 1977; Cavusgil, 1980), the core theory of international business (Buckley, 1990) and the eclectic theory of the firm

8

C A T H E R I N E N. A X I N N A N D P A U L M A T T H Y S S E N S T a M e 1.

S o m e T r a d i t i o n a l T h e o r i e s vs. t h e N e w R e a l i t i e s . 'Environmental' challenges

Internationalization theory (selection)

Global economy

Stages models

• psychic distance • linear, gradual • diversity of entry • firm specific less important in process cannot modes vs. view, no network global world experience be 'upheld' in perspective • life cycle model focuses on e-world thinking outdated. psychic distance export which is • not relevant in not possible: and market highly internaneed for higher knowledge tionalized order entry mode irrelevant industries not considered here • role of theory too static • cost of • theory too static management • not relevant to international• not relevant to underestimated SMEs which ization SMEs which rely • not enough rely on cooperaon cooperative attention to tive agreements agreements resources leading • firm specific to global view, no network competitive perspective advantage • marketing and R&D costs not integrated • role of management underestimated

Core theory

Eclectic theory

• narrow conception of FDI

New economy

Service economy High tech, network economy

• discusses use of • theory too static • 'production' advantages, not oriented theory sale through (intangibles not contractual accounted for) arrangement • firm-specific view, not network

( D u n n i n g , 1988). I n this p r e l i m i n a r y e n d e a v o r w e b u i l d p a r t l y o n M a t t h y s s e n s and Pauwels (1998). The table shows how the three theories considered here a r e c h a l l e n g e d b y t h e f o u r t e n d e n c i e s d i s c u s s e d p r e v i o u s l y . I n g e n e r a l this b r i e f and preliminary assessment illustrates that of the three traditional theories c o n s i d e r e d , n o n e c a n a c c o m m o d a t e t h e n e w r e a l i t i e s fully. T h e r e f o r e , i n t e r n a t i o n a l i z a t i o n t h e o r y h a s to b e r e f r a m e d . T h i s s p e c i a l i s s u e o f Advances in International Marketing is a n e f f o r t in this d i r e c t i o n .

Refraining Internationalization Theory

9

CONTRIBUTIONS TO THEORY DEVELOPMENT AND REFRAMING The following articles aim at contributing to revitalizing internationalization theories. Weisfelder's paper examines fifty years of international theory development. Using Laudan's criteria, it evaluates the status of the theories. This critical analysis is more than a review and synthesis. It is also an invitation to 'improve' theories. Rialp and Rialp offer a holistic perspective in order to accommodate the explanation of internationalization by SMEs while integrating mode of entry concepts. Barretto and da Rocha focus on entry strategies of companies from an emerging player in the global economy. Their rich cases lead to a proposed integrative framework. Chen et al focus on the link between market entry and technology transfer by high tech firms operating in the Pacific Rim. Their findings challenge the traditional theories on many fronts. Rosenzweig and Shaner highlight the differences between the conventional view of internationalization and the so-called contemporary view that is characterized by versatility of entry modes, short windows of opportunity and the participation in international trade by SMEs with limited resources. They highlight the drivers and suggest new motivations for foreign investment. The connection between degree of internationalization and performance is studied in Li's paper. Is the relationship linear or curvilinear? This study indicates that Chinese firms need to reach a threshold in order to benefit fully from positive effects on performance. Incremental gains cannot always be expected from the outset. One of the major challenges to the traditional theories comes as a result of the speed with which some firms - even and especially newly-formed firms are internationalizing. Thus we have a series of studies recently on what has come to be called the born-global firm, A born-global is "[a] company which, from or near its founding, seeks to derive a substantial portion of its revenues from the sale of its products in international markets" (Knight, 1997, 1). It has a strong international vision from the start and appears to internationalize in a manner that seems contrary to established internationalization theories stated above. The Aspelund and Moen paper identifies 'key success factors' for such endeavors and illustrates that there are types ("generations") of firms with different characteristics. Servais and Jensen stimulate theory development in a neglected area: industrial procurement. Their paper draws attention to the high level of involvement in international sourcing by SMEs. Inward internationalization and its link to outward internationalization deserves future research attention.

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CATHERINE N. AXINN AND PAUL MATTHYSSENS

In the final paper, Pauwels and Matthyssens use the international market withdrawal decision as a stepping-stone to illustrate the inherent lack of dynamic qualities in traditional internationalization theories. And although it struggles with inherent paradigmatic incompatibilities, the global strategy framework is deemed most promising for explaining international business in its modern,

dynamic context. With this volume, we are confident of offering a stimulating mix of papers that address internationalization theory in the new environment. We hope and trust that the ideas presented here will stimulate significant further development of internationalization theories that can capture the impact and nuances of the dynamic global business environment of the twenty-first century. REFERENCES A 35-Year Profile of M & A. (2000). Mergers & Acquisitions. September, 31. Agmon, T., & Lessard, D. R. (1977). Investor Recognition of Corporate International Diversification. Journal of Finance, 32(September), 1049-1055. Bartlett, C. A., & Ghoshal, S. (2000). Transnational Management. Boston: Irwin McGraw Hill. Bishop, B. (1999). Global Marketing for the Digital Age. Chicago: NTC Business Books. Buckley, P. (1990). Problems and Developments in the Core Theory of International Business. Journal of lnternational Business Studies, 21(Fourth Quarter), 657-665. Buckley, P., & Casson, M. (1976). The Future of Multinational Enterprise. London: Macmillan. Calof, J. L., & Beamish, P. W. (1995). Adapting to Foreign Markets: Explaining Internationalization. International Business Review, 4(2), 115-131. Caves, R. E. (1971). International Corporations: The Industrial Economics of Foreign Investment. Economica, 38(February), 1-27. Cavusgil, S. T. (1980). On the International Process of the Firm. European Research, 8(6), 273-281. Coase, R. H. (1937). The Nature of the Firm. Economica, 4(November), 386--405. Crick, D., & Jones, M. V. (2000). Small High-Technology Firms and International High-Technology Markets. Journal of lnternational Marketing, 8(2), 63-85. Douglas, S., & Craig M. (1995). Global Marketing Strategy. New York: McGraw-Hill, Inc. Dunning, J. H. (1977). Trade, Location of Economic Activity and the Multinational Enterprise: a Search for an Eclectic Approach. In: B. Ohlin, P. O. Hesselborn & P. J. Wijkman (Eds), The International Allocation of Economic Activity. London: Macmillan. Dunning, J. H. (1979). Explaining Changing Patterns of International Production: In Defense of Eclectic Theory. Oxford Bulletin of Economics and Statistics, 41(4), 269-296. Dunning, J. H. (1988). The Eclectic Paradigm of International Production: A Restatement and Some Possible Extensions. Journal of International Business Studies, 19(Spring), 1-31. Hamill, J. (1997). The Internet and International Marketing. International Marketing Review, 14(5), 300-323. Hennart, J-F. (1982). A Theory of Multinational Enterprise. Ann Arbor: University of Michigan Press. Hymer, S. A. (1960). The International Operations of National Firms: A Study of Foreign Direct Investment. Ph.D. Dissertation, Department of Economics, Massachusetts Institute of Technology, 1960. Published in 1976 by MIT Press.

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Johanson, J., & Mattsson, L-G. (1988). Internationalization in Industrial Systems-A Network Approach. In: N. Hood & J.-E. Vahlne (Eds), Strategies in Global Competition (pp. 287-314). New York: Croom Helm. Johanson, J., & Vahlne, J. E. (1977). The Internationalization Process of the Firm - A Model of Knowledge Development and Increasing Foreign Market Commitment. Journal of International Business Studies, 8(1), 23-32. Johanson, J., & Wiedersheim-Paul, F. (1975). The Internationalization of the Firm-Four Swedish Case Studies. The Journal of Management Studies, •2(3). John, G., Weiss, A .M., & Dutta, S. (1999). Marketing in Technology-Intensive Markets: Toward A Conceptual Framework. Journal of Marketing, 63(special issue), 78-91. Kindleberger, C. P. (1969). American Business Abroad: Six Essays on Direct Investment (pp. 1-36). New Haven, CT: Yale University Press. Knight, G. A. (1997), Emerging Paradigm for International Marketing: The Born Global Firm. Ph.D. Dissertation, Department of Marketing and Supply Chain Management, Michigan State University. Levitt, T. (1984). The Globalization of Markets. Harvard Business Review, 6•(3), 92-102. Matthyssens, P., & Pauwels, P. (1998). Dogmas and Paradoxes in Internationalization and Globalisation Theories: A Portfolio Perspective. ITEO Research Paper 98/01, Limburg University (Belgium). Moiler, K., & Rajala, A. (1999). Organizing Marketing in Industrial High-Tech Firms: The Role of Internal Marketing Relationships. Industrial Marketing Management, 28(5), 521-535. Patterson, P. G., & Cicic, M. (1995). A Typology of Service Firms in International Markets: An Empirical Investigation. Journal of International Marketing, 3(4), 57-83. Penrose, E. (1959). The Theory of the Growth of the Firm (lst ed.). London: Basil Blackwell. Rugman, A. M. (1981). Inside the Multinationals: The Economics of Internal Markets. New York: Columbia University Press. Sanchez, R. (1999). Modular Architectures in the Marketing Process. Journal of Marketing, 63(special issue), 92-111. Structure of Merchandise Exports (2000). 2000 World Development Indicators. Washington D.C.: World Bank, 200. Technology in the National Interest (1996). Washington D.C.: NSTC Committee on Civilian Industrial Technology. Williamson, O. (1971). The Vertical Integration of Production: Market Failure Considerations. American Economic Review, 61(May). Williamson, O. (1975). The Economics of Internal Organization: Exit and Voice in Relation to Markets and Hierarchies. American Economic Review: Papers and Proceedings, 66(May). Yip, G. S. (1992), Total Global Strategy. Englewood Cliffs: Prentice Hall.

INTERNATIONALIZATION A N D THE MULTINATIONAL ENTERPRISE: D E V E L O P M E N T OF A R E S E A R C H TRADITION 1 Christine J. Weisfelder

ABSTRACT This paper analyzes theory development over the last fifty years. It identifies strands of research, the origins of theories and the ways in which theories complement and conflict with each other. Using the framework of Larry Laudan's model of scientific method, it questions to what extent this theory development process is rational and has led to scientific progress. It concludes that, since the research tradition has enabled scientists to find solutions to problems, there has indeed been progress. Thus, according to Laudan's criteria, this construction of a foundation of solved problems is a rational process.

INTRODUCTION International trade and investment have grown tremendously in the last fifty years. As a consequence, the multinational enterprise (or firm) has taken on an important role in international business. 2 The importance of the multinational

Reassessing the Internationalization of the Firm, Volume 11, pages 13--46. Copyright © 2001 by Elsevier Science Ltd. All rights of reproduction in any form reserved. ISBN: 0-7623-0795-1

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CHRISTINE J. WEISFELDER

enterprise has led to much theorizing about its existence and growth. To this day, these theories have not been fully reconciled nor integrated. The purpose of this paper is to analyze this postwar research tradition in order to answer the following questions: (1) What are the various strands within the international business research tradition and where do these strands come from? (2) How do they clash with and/or complement each other? (3) Has the process of research led to scientific progress and has it been rational? This paper will contribute to the literature on international business by analyzing the process of theory development and contrasting various strands of research; it will enrich the theory of scientific progress and rationality by providing a case study of theory development within a particular research tradition. The conceptual framework for this study comes from the work of Laudan (1977, pp. 78-80, 105, and 199) who has developed a model of scientific progress and rationality that can be applied to social as well as natural sciences. 3 International business clearly belongs to the social sciences. In contrast to a natural science, such as physics, the study of foreign production and of the international enterprises that engage in foreign direct investment cannot occur in laboratories with controlled experiments. International business needs to be viewed from a perspective that acknowledges this reality.

E L E M E N T S OF L A U D A N ' S M O D E L OF SCIENTIFIC P R O G R E S S AND R A T I O N A L I L T Y 4 Laudan (1977, p. 12) views science as a system that evolves through the resolution of problems. This model of scientific progress and rationality can be used to analyze the flow of groundbreaking research in international business. This section presents and defines the key elements of Laudan's model: problem and anomaly, theory and research tradition, progress and rationality. According to Laudan (1977, pp. 13-18), problems are the focal points of scientific thought. An empirical problem is anything that strikes the scientist as in need of an explanation within the context of the theories that he or she employs. An empirical problem may not be a concern for scholars working within a research tradition until rival scholars in the same research tradition have found a solution to it (and thereby created an empirical anomaly). The existence of an empirical anomaly counts against any theory in the research tradition that has not solved it. A theory is a proposed solution to an empirical problem. In conjunction with other theories, it offers empirically testable predictions about how objects in the domain behave. According to Laudan (1977, pp. 5 and 13-14), a theory's

Internationalization and the Multinational Enterprise

15

job is to "resolve ambiguity, reduce irregularity to uniformity, and to show that what happens is somehow intelligible and predictable." A conceptual problem is a "higher-order question about the well-foundedness of the conceptual structures" of the theory (that solves the empirical problem). The classification of problems as empirical or conceptual is somewhat arbitrary; many issues appear to lie somewhere in what Laudan (1977, p. 48) calls the "continuous shading" between empirical and conceptual problems. Conceptual problems are particularly important because they present obstacles to the synthesis of theories and they make it difficult for scholars who work in different theoretical frameworks to communicate with each other. Theories exist in networks which Laudan (1977, pp. 97-98) calls research traditions. Rather than predict or explain, the research tradition provides the context (or framework) for theories. A research tradition has room for mutually inconsistent theories; and a theory can be part of more than one research tradition. While theories are often short-lived, research traditions have a history of evolving through different (and perhaps contradictory) formulations. This evolution occurs through "modifications of boundary conditions, revisions of constants of proportionality, minor refinements in terminology and expansion of the classificatory network of a theory to encompass newly discovered processes or entities." These are the elements of Laudan's model of scientific progress and rationality. The core questions are "how does the scientist evaluate cognitive progress and is science a rational process?" Solved empirical problems are the basic unit of progress with respect to the intellectual goals of science. Progress occurs through the expansion of the domain of solved empirical problems and through the modification of theory in order to eliminate empirical anomalies and/or resolve conceptual problems. Problems are solved when, by means of a theory, scientists believe they understand why the situation put forward by a problem is the way that it is. The inadequate confirmation of theories and the eventual truth or falsity of theories are irrelevant as long as scientists believe they have the answer to the question. However, solutions are not permanent, and the threshold for an acceptable solution becomes higher over time (Laudan, 1977, pp. 22-26). At the heart of the concept of rationality is the idea of choice among competing theories. According to Laudan (1977, pp. 6 and 108), a scientist is rational when he or she makes "progressive" theory choices, that is, chooses the theory with the better record of solving problems (or the more impressive rate of progress in solving problems) and applies it as if it were true. 5 In summary, an analysis of a research tradition must begin by examining the theories that solve empirical problems in its domain and are the source of

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conceptual problems. These steps lay the foundation for evaluating the progress and rationality of the process of theory development. This task will begin with examining strands of research in a rough chronological order. They include: (1) industrial-organization theory, (2) internalization theory, (3) the eclectic theory of international production, (4) transaction-cost theory, and (5) the internalization model and network theory of Nordic research. 6 The emphasis here is on the process of theory development in international business, because Dunning (1993 and 1998) and others have covered the content of that research. 7 Later this research process will be evaluated in the context of Laudan's model.

INDUSTRIAL-ORGANIZATION THEORY Barriers to competition and their effect on the structure of competition within an industry lie at the core of industrial-organization theory. Where barriers to competition are important, neoclassical economic assumptions of perfect markets no longer hold because new firms cannot enter the market at low cost. Firms with capabilities that rivals cannot duplicate at low cost derive market power from the lack of competition. In the neoclassical tradition of the late 1950s, the movement of all capital was explained as a response to interest rate differentials caused by temporary market segmentation. Foreign direct investment was viewed as an equilibrating capital flow, as well as a transitory phenomenon that would cease when returns to a given level of risk were again the same (Calvet, 1981, pp. 13 and 45). The empirical problem was that the theory was inadequate; it could not explain the observed behavior of some firms headquartered in the United States (Dunning, 1958). These finns borrowed overseas to finance the foreign investment (Hymer, 1960, pp. 12-13) and forsook simple exporting to invest in foreign sales or operating subsidiaries for motives that did not include taking advantage of interest rate differentials (Southard, 1931, pp. 113-132). Hymer's (1960, p. 1) solution was to demonstrate why control (which he defined as a percentage of ownership) over the foreign assets was important for some investors. For that purpose, Hymer applied Bain's (1956) industrialorganization theory of domestic barriers to competition to the international investments of firms. Control over foreign assets would allow the foreign investor to change the competitive environment in his favor, because he could now fully exploit the return on his skills and abilities to offset the inherent disadvantages of operating in a foreign market (an important implicit assumption in his theory). Hymer's (1960) challenge to the inner core of the research tradition of capital movements changed it so fundamentally that one could say that his work brought


17

a new research tradition into being, one based on the distinction between the behavior of foreign direct and portfolio investors (Fig. 1). 8 In abandoning the neoclassical assumption of perfect markets and demonstrating how foreign direct investment flourished in imperfect markets, Hymer made the problem of "why investors want to control foreign affiliates" so important that any other theory of foreign direct investment now had to provide an answer to that question or be weakened by an important empirical anomaly. Hymer's dissertation was not published until 1976 - over 15 years after its writing. Thus Hymer's ideas reached many in the academic community through the work of other scholars, such as Kindleberger (1969), Johnson (1970), Aliber (1970), Ragazzi (1973) Agmon and Lessard (1977) and Caves (1971). The common thread is the search for means by which an international firm could create and exploit barriers to entry and thus compensate for the higher costs of operating in a foreign environment. Kindleberger (1969, pp. 23-26) identified specific intangible assets which create a monopolistic advantage, particularly in the markets for knowledge and capital (Dunning, 1993, p. 71). The effect was to improve the clarity of Hymer's theory and thus reduce conceptual problems. Johnson (1970, pp. 35-39) argued that imperfections in factor markets for knowledge or capital could explain the foreign direct investment process. In the context of a firm's controlling its technology and thereby being able to price as a discriminating monopolist, he brought the concept of market failure into the literature. However, he used the concept to explain a firm's pricing strategy when it has market power (an industrial-organization perspective) rather than when it is efficient relative to other forms of economic organization (a transaction-cost perspective). Aliber (1970), Ragazzi (1973) and Agmon and Lessard (1977) analyzed capital markets as potential sources of monopolistic advantage due to market imperfections in pricing and information available to the investor. Aliber (1970, pp. 15-17) argued that this price discrepancy could explain the pattern of foreign direct investment within a restrictive environment of time and nationality. Ragazzi (1973, p. 33) explained how portfolio and direct investments might be substitutes for each other. Agmon and Lessard (1977) contributed to theoretical development by integrating the economic theory of industrial organization and the finance theory of investor portfolio diversification and anticipated the direction of future research by emphasizing the multinational firm. Caves (1971, pp. 6-7) went beyond factor inputs to analyze product market imperfections. Drawing upon Johnson's work, he considered knowledge to be a public good that could be "transferred to other national markets at little or no cost" and would enable the firm with a differentiated product to earn excess

18


Southard (1931) (motivesforoverseasdirectInvemmt)

Bain (1956)

(do,...tlcb.,d.mmco~) Dunning Hymer

(1960) (tMmaUomdIwrim to compeU~m) v Kindleberger (1969) (daniflca~. of n..t~ impedVctions, rentst h n ~ ama pomr)

j

AJiber (1970) ~ (k)reign~d.mgo ml c~tal ~ U

(1958) (foreigndirKt ImiMmit j in Europe)

inmmlVcU~)

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1 Agmon & Leuard 11977) (r~kdlv,rsm~tio.) Industrial-Organization Theory. Sources: The literature shown in this figure. Fig. 1.

profits. Caves' theoretical analysis extended the domain of the research tradition to include the multinational firm's use of its product-knowledge asset in foreign markets and to view explicitly foreign direct investment as an alternative to exporting and licensing.


19

To summarize, industrial-organization theory is based on the assumption that operating overseas is more costly than doing business at home. To be successful, the multinational enterprise operating overseas through direct investment has to create offsetting advantages for itself. Imperfections in factor (knowledge and capital) and product markets are offered as partial explanations of why firms are able to exploit market power in order to own affiliates overseas. Industrialorganization theory explains success in foreign markets, but not necessarily why the firm should attain that success through foreign direct investment (Lizondo, 1991, p. 139). While the domain of this early phase of the research tradition was the decision of firms based in the United States to invest (or not invest) in foreign subsidiaries, the research contained the seeds of a shift in focus from the investment decision to the firm making the decision. Foreign direct investment was also coming to be seen not only as an alternative to portfolio investment but also to other means of entering foreign markets (such as exporting or licensing). The common foundation of the transaction-cost theories that followed Hymer and Kindleberger's industrialorganization based theories has been Coase's (1937, pp. 386-387) observation that economists and people in the "real world" use the term "finn" differently. In an effort to bring these two groups into congruence, he concluded that firms exist because there are costs to using the price mechanism to allocate resources. When the costs of discovering the price and negotiating the contract are too high, the transaction is brought into the firm. THEORIES

DEVELOPED IN THE LATE E A R L Y 1980s

1970s AND

The eclectic theory (or paradigm) of international production and internalization theory were both developed at The University of Reading in the later 1970s. The two share many of the same theoretical antecedents in the literatures of industrial organization, international trade, and market imperfections and failure. Internalization theory will be discussed first, because Buckley and Casson (1976) preceded the formal introduction of Dunning's (1977, 1979) eclectic theory of international production. However, Casson (1979) and Rugman (1981) clarified and focused the initial presentation of internalization theory, so that one can argue that the two theories developed interdependently at much the same time. Internalization Theory Internalization theory is rooted in the general equilibrium theory of classical economics. More specifically, it is a product of tensions of the 1930s when Hayek

20


(1937), Lange, and Taylor debated whether economic activity should be organized in the public or private sector (central•planning versus markets) (Casson, correspondence, 22 and 28 October, 1998). A central concern in internalization theory literature is the conditions when it is more efficient to organize economic activity in an internal market (central planning within a firm) or in an external market (trade among autonomous entities) (Casson, 1979, Ch. 3). Robinson (1931), Kaldor (1934), Coase (1937), and Penrose (1959) provide the theoretical foundation for internalization theory (Buckley & Casson, 1976, pp. 36-37; Casson, 1985, p. 1) (Fig. 2). Robinson (1931, pp. 36-37 quoted in Casson, 1983, pp. 4--5) asserted that the function of management is to restore an organization toward an equilibrium at times of change; an increase in the pace of change creates the need for more managers to maintain the stability of the system. Coordination of decisions is required when demand conditions in product markets and supply conditions in factor markets change frequently, unpredictably and by large amounts, but coordination must pass through one brain; it is a fixed, indivisible and dynamic factor (Kaldor, 1934, p. 75, quoted in Casson, 1983, p. 4). Firms can coordinate economic activity through use of administrative fiat to set internal prices, but there are costs (Coase, 1937). The objective of Buckley and Casson (1976, p. 2) was to provide a theory that would predict conditions of multinational firm growth. In her theory of growth, Penrose (1959) demonstrated that a firm's boundaries are determined by the 'area of administrative coordination' (Penrose, 1995, p. xi). The fundamental question of internalization theory is "under what conditions should the interdependent activities be coordinated by the management of a firm rather than externally by market forces?" (Buckley & Casson, 1976, p. 36). Coordination through external market forces depends on assumptions of profit maximization and perfect competition. Buckley and Casson (1976, pp. 32-33) maintained the assumption of profit maximization but relaxed assumptions of perfect competition (that trade occurs among many buyers and sellers all of whom have complete knowledge of prices). This allowed them to analyze imperfect competition in markets for intermediate products (semi-processed goods and knowledge embodied in patents and human capital). In imperfect markets, tradeoffs in relative (measurable) costs explain whether a multinational enterprise services a foreign market through exports, licensing or foreign direct investment. Trade in the external market occurs up to the margin where the gains from additional trade are less than the transaction costs incurred. At that point, economic agents have a mutual interest in reducing transaction costs by means of employment contracts, ownership of real assets and common ownership of complementary assets which are linked by means of flows of intermediate products (Casson in Rugman, 1981, p. 15).


21

Kaldor (t934) {cooRIim~ a Ilxmlandbe~rlsil~favor)

Robinson {t931) (minim m oq,mbdm)

I I.laytk (1937) (wl~ vas~ um,I planninll)

. Coue (t937) ( m ol fmmtlm m momdUdut Um raRIms)

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/~lanmamn1197661 (lxt~ fdlm I..wlm~ Informtlona . ~ good)

• lchlan & Damml2/t 9"/21 ---(~,~/dglm-"-----) . . . . . .

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,, Bucldey & Canon (1978) (Internalization of marklD for knowledge & Intwmedlllte products)

/

/

(Intm'mdlzatlon)

l

Rugman 11981) (Internalization within the MNE)

Fig. 2.

Internationalization Theory of the Multinational Enterprise.

Sources: Bucldey and Casson (1976, Ch. 2, Fn. 2); Casson 0979, Ch. 3, Fn. 1); Casson (1983, pp. 2-8) and Casson 0998).

In time, the internalization process represents the multinational firm's attempt to perfect an imperfect market as well as a reaction to market imperfections in final goods markets through the exploitation of rent-seeking opportunities (Buckley, correspondence, 9 November, 1998). Thus, internalization is "the process of making a market within the firm" (Rugman, 1981, pp. 28, 50-51). A multinational firm is the consequence of internalization across national boundaries.

22


Eclectic Paradigm of International Production Dunning's research has woven together an eclectic (that is, carefully selected yet diverse) collection of economic theories. He took on the problem of explaining why firms produce overseas. 9 At the heart of Dunning's work is the analysis of the competitive advantages of countries and firms in terms of two determinants, locational and ownership advantages. Influenced by the work of Buckley and Casson (1976), Dunning extended his theory to explain the use of locationai and ownership advantages within the firm (as contrasted to selling them in their own right to foreign firms). This third determinant which he called internalization advantages was intended to complement the location and ownership determinants (Dunning, 1991, pp. 122-123). Dunning's contribution was not to refute a previous theory, but rather to synthesize what others had done, based on his own extensive first-hand understanding of multinational firms (for instance, Dunning, 1958 and 1973). Industrial-organization theory, theory of the firm (Coase, 1937) and neoclassical theories of trade (Heckscher, 1919; Ohlin, 1933; Samuelson, 1948; Mundell, 1957) are at the foundation of Dunning's work (Fig. 3). Vernon's (1966) product cycle and Hirsch's (1976) model influenced Dunning and others through their recognition of trade and investment as alternative ways of reaching foreign markets. Vernon recognized the importance of technological capacity in the form of the ability to upgrade natural endowments and human resources in a differentiated product. A decade later Hirsh analyzed the relative costs of exports and foreign investment to explain the timing of a firm's entry into a foreign market and the conditions that would govern the choice of exports versus direct investment (or the location of investment). Horst's (1972) finding that size of firm explained both trade and trade plus investment was an antecedent that never integrated both concepts into a single theory as Dunning has done (Dunning, 1977, p. 398). Consideration of trade and investment as alternative ways of reaching foreign markets is at the core of Dunning's work in determinants of locational advantage. The capability for foreign production, such as size, monopoly power, and better ability to obtain and use resources, determine which firms have advantages over other firms producing in the same location (Dunning, 1977, p. 401). These ownership advantages were taken from industrial-organization theory (see Fig. 1). Internalization advantages explain the desire and ability of enterprises to allocate resources through their own control procedures (rather than through market mechanisms). Building on the theory of the firm (Coase, 1937), Dunning (1977, p. 402) argued that firms internalize activities in order "to avoid disadvantages

23

Internationalization and the Multinational Enterprise Iniiltutloln llddno Invlitmlint

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Fig. 3.

Eclectic Theory o f International Production.

Sources: Dunning (1977, pp. 3 9 6 - 4 0 2 ; 1979, pp. 2 7 0 - 2 7 4 ) .

or capitalize on the advantages of imperfections in external mechanisms of resource allocation." In common with internalization theory and transactioncost theory (to be discussed below), Dunning relied on the work of Williamson (1971 and 1975a) and McManus (1972) to analyze the relative costs and benefits of internal mechanisms. The implications of failure in the market for knowledge influenced Dunning's theory through Magee (1977) who related the observed behavior of multinational firms to research on property fights and the 'appropriability' of private

24


returns from investment in information (Arrow, 1962, 1969; Demsetz, 1969; Johnson, 1970; Alchian & Demsetz, 1972). Magee attributed the success of multinational enterprises to their ability to obtain for themselves the return representing the value of their technology to society. Buckley, Casson and Dunning worked in close proximity at The University of Reading and influenced each other. For example, Buckley and Casson's (1976) work on internal versus external markets took Dunning (1977) beyond trade and industrial-organization theory, and Casson's (1979) refinement of internalization theory incorporated the insights of Arrow (1969 and 1975), Alchian and Demsetz (1972) and Williamson (1975b) which Dunning had used. In contrast, while transaction-cost theory shares many theoretical antecedents with the internalization and eclectic theories, it was developed independently of The Reading School.

Transaction-cost Theory With transaction-cost theory, the emphasis shifted from why firms grow (by exploiting a monopolistic advantage in foreign markets or by bringing an imperfect market into the firm) to the choice of using spot markets (contracts) or hierarchy (firms) to organize economic activity in foreign markets. At the heart of transaction-cost theory is the institutional organization of economic activities, especially the choice between markets and firms. An underlying assumption is that this choice is based on the relative costs of organizing economic activity within the two forms. Transaction-cost theory predicts when firms will exist through identification of the kinds of transactions in which firms are more efficient institutions (in terms of net costs) than markets (trade and licensing) (Hennart, 1982, p. 5). By implication, transaction-cost theory also predicts when markets, franchising or long-term contracts are more efficient forms of "enterprise" than firms (Hennart, correspondence, 1 June 1998). In common with scholars at The University of Reading, Hennart's work is based on Coase (1937), Arrow (1962), Alchian (1969), Williamson (1970 and 1975b), McManus (1972), Alchian and Demsetz (1972), and Arrow (1974). However, these insights into institutional governance, interdependence, property fights, and market failure have been applied to a framework of social organization (Fig. 4). Hennart's (1982) emphasis on the importance of contractual relationships is taken from Williamson (1970, 1975b) who integrated contract-law theory with Coase's (1937) groundwork on transactional costs. Williamson analyzed the relationships among forms of institutional governance and conditions of uncertainty and dissemination. He concluded that firms are more efficient than markets under certain conditions: (1) a large volume of


25

co=== (t ~7) (==iNN¢=~ tl~t sm

Hennmri (1982)

(tmnuctlon-co~theory) Fig. 4. Transaction-CostTheory. Sources: Hannart (1982, p. 28).

information, (2) a small number of engaged parties, (3) recurrent long-term exchanges, and (4) conditions of uncertainty (especially when significant dedicated assets needed to be acquired). McManus' (1972, pp. 90--91) argument that there are economic reasons to internalize the activity within the firm when producers have the ability to impose uncompensated losses or benefits on other producers brought interdependence into transaction costtheory. ~° However, property rights must be honored if firms are to be efficient (Alchian & Demsetz, 1972). Arrow's (1974, p. 20) analysis of failure in the

26


market for information was also incorporated into transaction-cost theory. 11 Market prices are used as the basis of decisions only for goods that are traded frequently enough to justify high startup costs. Characteristics of the goods and services traded will determine whether markets or firms are the more efficient institution (Hennart, 1982, p. 36). Hennart's contribution has been to bring these insights together into a unified international framework. His theory now explained the vertical as well as horizontal expansion of multinational finns and the decision of firms to acquire their own production facilities overseas rather than have licensees or foreign imitators produce for them (Hennart, 1982, pp. 21-22). In summary, transaction-cost theory is a predictor of institutional choice that views firms and markets as alternative means of organizing economic activities. It rests on an assumption that social organization is needed because the interests of the individual and society may diverge. The organization of society requires communication, a means of curbing bargaining and methods to reward individuals, but these activities impose costs. The relative costs of these activities in differing environments determine the institutional choice (Hennart, 1982, pp. 28-30). Internalization theory also addresses the problem of where to draw the line between markets and firms, but its emphasis is on the need to replace an inefficient external market with an internal market - the firm. By the late 1970s, the core of the international business research tradition had shifted away from industrial-organization theory. The eclectic paradigm, internalization theory and transaction-cost theory were competitors in explaining international business activity. Transaction-cost theory was developed independently but in response to similar perceived empirical problems, notably the inability of industrial-organization theory to explain the existence and growth of multinational enterprises. ~2 These new approaches were demonstrating a greater rate of progress by predicting the conditions for the existence of multinational enterprises as well as explaining the effects of market imperfections (a solved problem, for the time being at least). Nordic School

Some research traditions grow by extending into the domain of competing theories. An example is the explicit recognition that theories of foreign production and the multinational enterprise must address problems of strategic behavior if they are to be dynamic. The Nordic school has looked for solutions not to problems of why firms go overseas but rather to problems of how foreign direct investment takes place in terms of the underlying forces of a process. (Dunning, of course, also addressed the why, where and how - but differently.) The Nordic

27


research tradition questions some of the basic assumptions of the particular theories presented above - for example, that the multinational enterprise is efficient and that production is the most important activity (Bjtirkman & Forsgren, 1997, pp. 16-17). The historical antecedents of Nordic research emphasize sequential growth, behavior and the context of decisions (Fig. 5). At the foundation of this work is Sune Carlson's observation that "it is against human nature to do international business" because operating overseas involves tentative steps into unknown ¢mbon (1951,1914)

Aharon1119e6)~~ ( - , . , w ~ d,d,~ m.~)

\

\ Johanson& Wekkwzhdm,Paul (I~S) For~ren & Johanson (lm) (w~dhmw c ~ . )

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1

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( ~

lat~lqmd~n~)

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pnmma~kal ~

~

avoidam~)

Nordic Research. Sources: Johanson and Vahlne (1977), Johanson and Mattsson (1988), Forsgren (1989), BjOrkman and Forsgren (1997), Petersen and Pedersen (1997). Fig. 5.

28


territory rather than a preliminary rational choice based on economic analysis (Bj0rkman & Forsgren, 1997, p, 12). Penrose's (1959) theory of knowledge and change in organizations established the assumption that only direct experience provides knowledge of foreign operations (Bj6rkman & Forsgren, 1997, p. 13). Cyert and March (1963) introduced concepts to define the firm as a behavioral (rather than economic) entity, namely, bounded rationality, uncertainty avoidance, organizational learning, quasi-resolution of conflict and sequential attention to goals in its domain (Bj0rkman & Forsgren, 1997, p. 13)) 3 The work of Aharoni (1966) pointed to the relevance of behavioral research in international business through his observations of how decisions to go international were actually made. Pfeffer and Salancik (1978) placed explanations of a firm's behavior into a framework where organizational effectiveness is the consequence of meeting an external standard (rather than meeting standards of internal efficiency) - a resource-dependence approach. The organization's environment (or context) is an important determinant of behavior because it is the source of constraints. This approach contrasts with theories presented above where the firm's environment is taken as a given rather than brought into the model. The initial methodology involved case studies (often of Swedish firms) at the level of subsidiaries as well as headquarters (Carlson, 1951, 1974). For this reason, the perspective of Nordic scholars tended to shift to lower management (instead of top executives) and to affiliates at the periphery (instead of headquarters) (Bj6rkman & Forsgren, 1997, p. 14). The Nordic tradition has two, closely related, branches - the Uppsala internationalization model and network theory. The theoretical antecedents discussed above are common to both approaches. The differences come from the assumed characteristics of firms engaged in the internationalization process. In the Uppsala model, the firm is small (or medium-sized) and lacks experience in foreign markets; in network theory, either the firm or its markets (or both) are internationalized (Johanson & Mattsson, 1988, pp. 475--484).

The Uppsala Internationalization Model The Uppsala School emphasizes that market knowledge acquired through experience is the driving force of international investment. At its core are assumptions of psychic distance (Johanson & Wiedersheim-Paul, 1975) and establishment chains (Forsgren & Johanson, 1975). Psychic distance refers to factors that disturb the flow of information between a firm and its market, such as differences in language, culture and political systems (Johanson & Vahlne, 1977, p. 24). Establishment chains were observed in case studies where firms over time made successively greater commitments to a foreign market, beginning with occasional export and sometimes arriving at sales and/or production


29

subsidiaries (Johanson & Vahlne, 1977, p. 24). Investment decisions are viewed as an incremental process wherein commitment to a foreign market increases with reduction in psychic distance over time. Managers are characterized as risk avoiders rather than risk takers, and knowledge is perceived as an asset acquired through individual action rather than as an abstract resource (Bj6rkman & Forsgren, 1997, pp. 12-13). Network Theory While network theory and the Uppsala internationalization model share common theoretical antecedents, the former emphasizes the firm as a coalition of interest groups using a "loose coupling" image (Cyert & March, 1963). The multinational enterprise is assumed to have a history of specific relationships with other companies and, as a consequence, a position in a network of interdependencies in the exchange of resources. As an organization, the multinational enterprise needs resources that are often controlled by other institutions; its survival is dependent on outsiders (Pfeffer & Salancik, 1978, pp. 2-5). This view of the multinational enterprise requires that "market" be defined in a different way. No longer is it the external and autonomous "market" of economics; instead, it is an environment where parties are mutually dependent upon each other. In network theory, investments in relationships are valuable assets because the resources controlled by one company differ from those created by any other company, even another company in the same industry. Thus, links with suppliers, customers, and competitors are emphasized, because collectively they determine the strength of the network (Forsgren, 1989, pp. 34-35). A firm's position in the network defines its opportunities (and restrictions) for future strategic development; it is an intangible "market asset" partially controlled by the firm (Johanson & Mattsson, 1988, p. 474). The theory's emphasis on linkages as assets reflects its roots in industrial marketing, purchasing and distribution, where long-term customer-supplier relationships are critical. The assumption is that suppliers and customers need to know each other well if they are to carry on significant business with each other (Johanson & Mattsson, 1988, pp. 469--471). The sharp "market-versus-firm" distinction of internalization and transactioncost theory is now challenged by a model of a network of organizations linked by reciprocal transactions and relations (trust). The distinction between "firms" and "markets" has become blurry - that is, relationships within the coalition might be more "market-like" than assumed in transaction-cost theory, and relationships with the external economic environment might be less "market-like" (Bj6rkman & Forsgren, 1997, pp. 15-16).

30


The realization in network theory that the competitive advantage of a multinational firm comes from the governance of a network of units has tied this research tradition to Dunning (1988), but the process has been viewed through another lens. In network theory, foreign investment (by means of acquisitions) can be made to enhance a firm-specific advantage, such as the firm's ability to cope with interdependencies within the network. It might not be a form of market entry but rather a means for subsidiaries to enhance their operations in local markets. In fact, it might be initiated and carded out at the subsidiary level even if the official recording is made on the books of the parent company (Forsgren, 1989, pp. 4-5; and correspondence, 14 October, 1998). TO WHAT EXTENT DOES THE RESEARCH TRADITION OF INTERNATIONAL BUSINESS CONFORM TO LAUDAN'S MODEL? Laudan's (1977) model analyzes the process of scientific inquiry through examination of the empirical and conceptual problems and theories of a research tradition. He uses domain and methodology to define the boundaries of a research tradition. The methodology of how a theory is formulated and proven determines in part whether proposed theories are taken seriously by other scholars in the research tradition. Empirical Problems and Domain As the multinational enterprise evolved, the empirical problems to be solved changed over time. In an introspective discussion of his research Dunning (1991, pp. 118-1120) notes how the questions addressed by earIy theories have differed. In the Hymer-Kindleberger tradition, the initial act of investment is the focus of research to understand the growth of foreign direct investment from the United States into Canada and Europe. Industrial-organization theory explains why some key factors of production are transferred overseas (as an alternative to trade) and emphasizes the critical role of control through ownership of assets overseas. Hymer's production is foreign production wherein part of a country's GDP is under the ownership (and control) of foreigners. Through the concept of ownership advantages, the eclectic paradigm of international production has incorporated this insight and gone on to explain the level and pattern of foreign-value activities of firms and/or countries. With internalization theory showing why firms choose to extend their boundaries across borders instead of relying on cross-border markets, the focus has shifted to the institution engaging in foreign direct investment. Later theories also ask different


31

questions. Hennart (1994b, p. 193) examined institutional choice by means of mechanisms that minimize organizing costs. In the Nordic school, a small firm's initial decision to enter foreign markets and the firm's role in a web of relationships have been the focus of interest. Today, a firm can be a multinational enterprise without owning assets overseas (Wilson & Dobrzynski, 1986). Throughout this process, the United Nation's (1982, 9) definition of a multinational enterprise has held: "an enterprise . . . in which the entities are so linked, by ownership or otherwise, that one or more of them may be able to exercise a significant influence over the activities of o t h e r s . . . " Current empirical problems (and thus also the domain) of the research tradition have shifted to understanding more fully non-equity forms of international business acknowledged by this definition. The boundaries of the domain are not consistently defined among those who work in the research tradition, and the actual domain of the research tradition is determined at the level where theories are tested empirically. Historical antecedents, such as the roots of internalization theory in the debate of central planning versus markets, shape the limits. The internalization perspective holds that: (1) private enterprise (rather than the state) should decide where the boundaries between firms and markets should be drawn, and (2) competition (through entry and exit) will select the more efficient scale and scope of the firm within a given environment. The domain of internalization theory includes both central planning (within the firm) and market-based prices (between firms), It is larger than that of the other theories presented in this paper; because it includes the organization of all economic activity - not just that of multinational enterprises (Casson correspondence, 22 and 28 October, 1998). Casson (correspondence, 19 June, 1998) has noted that he (and possibly Buckley) view international business as a field of applied economics (that would include public-sector institutions), while Dunning and Rugman view international business as a legitimate self-contained field. The range of empirical problems addressed in the research tradition is wide, but hypotheses have been tested in the context of smaller special theories nested in the theories of industrial organization, international production, internalization, transaction costs, internationalization and/or networks. In the special theories, restrictions are imposed through careful specification of the variables. Because each general theory explains the existence of foreign production and multinational enterprises somewhat differently, each test of a special theory within it solves different empirical problems. Indeed, the general theories have been like small research traditions within a larger one. As the scope of empirical problems grew, the boundaries of the research tradition's domain have grown as well, a consequence of the changing characteristics

32


of international institutions and of the generalization of theories to include problems that have been addressed by rivals. Shifts in the core have occurred not through revolution but rather through the combination of existing theories in new ways. The implication is that social scientists who want to break new ground benefit from understanding the work done outside their immediate research traditions, and that international business, at least, has a diverse set of interdisciplinary roots. The eclectic theory illustrates this process of boundary growth. Although Dunning called his work a "theory" at its formal introduction in 1977, his explanation resembles a complex of theories or a conceptual framework at several levels of analysis (both macro and micro). While the constituent parts have been subjected to empirical tests (e.g. Dunning, 1993, Ch. 6), the framework itself has been too complex to test as a whole. The implication is that the solved problems, empirical anomalies and conceptual problems of Dunning's work exist at the level of the constituent theories. Over the span of his research, Dunning's (1993, pp. 67-68) work has moved from a theory to a paradigm that strives to set "out a conceptual framework a n d . . , identify clusters of variables relevant to an explanation of all kinds [emphasis added] of foreign-owned output" (Dunning, 1993, pp. 67-68). This shift is significant because it acknowledges that theories in the domain must address the existence and growth of post-industrial multinational firms, whose activities span borders by means of contracts rather than ownership (Penrose, 1995, pp. xviii-xx; and Wilson & Dobrzynski, 1986).

Conceptual Problems Within theories, lack of conceptual clarity is a symptom of conceptual problems often caused by generality and imprecisely defined terms. Among theories, external conceptual problems often reflect the differing historical antecedents.

Generality and Imprecisely Defined Terms To the extent that a theory is too general to be tested, it presents a conceptual problem. Internalization theory and the eclectic paradigm have been attacked on these grounds. Internalization theory has been criticized for lacking enough restrictions to say anything incontrovertible (Buckley, 1983, p. 42). Dunning (1988, pp. 5-6; and 1991, p. 125) has noted that the eclectic paradigm lacks a consistent level of analysis and is accused of being a "shopping list" of variables. For both the solution has been an acknowledgement that the models are general theories and that only partial or special theories (under the general theory) can to be tested with specific restrictions (Dunning, 1991, p. 125;


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Buckley, 1991, pp. 16--18). Theories of differing levels of generality co-exist in a research tradition. Tautological definitions are a source of imprecisely defined terms. One example is Dunning's use of the term "internalization advantages." If multinational enterprises "internalize because they have internalization advantages, and they have internalization advantages because they internalize!" one has used a circular definition (Hennart, correspondence, 1 June 1998). Unmeasured determinants are also imprecisely defined terms. Transactioncost theory has been criticized for having unmeasured determinants since no one has quantified the importance of information, bargaining, enforcement and governance costs relative to transportation, production, marketing or distribution costs (Buckley, 1988a, p. 184). Thus, the term "transaction cost" as used in transaction-cost theory cannot be compared with "transaction costs" that determine the Pareto-efficient allocation of resources in the internalization model.

Inconsistent Definitions of Terms A source of confusion in comparing theories of international business is encountering common terminology but finding that words have been defined in different ways. Each definition reflects the underlying assumptions that a particular scientist brings to his or her research. "Transaction cost" (discussed above) is one example of a term that changes meaning from one theory to another. Another example is "firm." In orthodox neoclassical economic theory, the firm is a "black box" that transforms inputs into outputs of greater economic value. In Dunning's work, the firm is the entity that engages in foreign value-added activities; in his early research the activity was production (Dunning, 1988, p. 25, endnote 1; 1991, p. 117). Buckley and Casson (1976, p. 1) define the firm as "an enterprise which owns and controls activities in different countries," an approach that has been consistent in their work (Casson 1998, p. 1). Rugman (1981, p. 28) defines the firm as an institution that replaces the missing external market with an internal one. This is consistent with Buckley and Casson's (1976, pp. 36-37) view that the internal organization of a multinational firm is an approximation to a perfect market. In contrast, Hennart (1982, p. 28) views firms (and markets) as organizations that attempt to organize economic activities and defines the firm as a "set of [internal] contractual relationships" (1985, p. 794). Nordic research also deviates from traditional economic theory in its characterization of the firm as a learning organization. It is a heterogeneous unit where affiliates control different portfolios of resources and represent different interests that exert influence on strategy (Bjtrkman & Forsgren, 1997, pp. 12-13). In the Uppsala model, the firm develops its collective knowledge as it

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gains experience in international markets (Johanson & Mattsson 1988, p. 483). In network theory, a firm is a counterpart in a network that coordinates complementary interaction among all counterparts. Coordination does not occur through a central plan or the price mechanism of the traditional market model (although price can be an influence) (Johanson & Mattsson, 1988, pp. 470-471). The market surrounding the firm is as important as the firm itself to the analysis (Bj6rkman & Forsgren, 1997, p. 15). A last example of a term whose meaning changes across theories is the "rationality" of those who make decisions. In neoclassical economics, rational decisions are purposive in the sense that the firm (as the decider) always pursues the most efficient course of action (Mazzolini, 1981, pp. 85-86). In internal markets, a central shadow pricing system alters incentives to individuals (Bucldey, 1988b, p. 130). The public-good nature of information is a determinant of international expansion (Buckley, correspondence, 3 June, 1998). This purposive rationality is assumed in the theories with the strongest ties to neo-classical economics - industrial-organization theory, the eclectic paradigm, and internalization theory. In transaction-cost theory and Nordic research, the purposive rationality of neoclassical economics is set aside; decisions are made by agents who have the human attribute of bounded rationality - but for different reasons. In transaction-cost theory, decisions are made in the absence of complete information because the value of goods and services can never be measured perfectly. In such an environment, a tendency to opportunism can tempt agents to alter the terms of trade to their advantage. Since bargaining can be profitable for agents when prices are determined outside the market, activity is organized within a firm in order to protect it from such opportunistic behavior. Now incentives to individuals are altered by means of directives that supercede flawed market prices (Hennart, 1991, pp. 83-84). In Nordic research, those who make decisions work in an environment where knowledge about foreign markets and the alternatives available to them is incomplete. People in subsidiaries (as well as headquarters) are presumed to decide on the basis of psychic distance, risk aversion, and the impact of the decision on the exchange of resources among organizations in the network (Bj6rkman & Forsgren, 1997, pp. 12-13). Thus, bounded rationality motivates decision-makers to protect the network from the risks inherent in an unknown environment. Disagreement over Determinants

Although Dunning, Buckley, Casson and Rugman shared a common association with The University of Reading in the 1970s, the historical antecedents


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of their theories differ. Their disagreements enlivened the literature of the 1980s, both sides benefiting from critiques of their ideas. Points of contention centered on ownership and location advantages and the role of structural and transactional market distortions. 14 Dunning's work is rooted in traditional trade theory which (as noted above): (1) views the firm as merely a production unit that transforms inputs into more valuable outputs, and (2) predicts trade patterns by observing locational factors exogenous to firms. Drawing on industrial-organization theory, foreign firms are assumed to have ownership advantages (not possessed by indigenous firms) which existed before foreign investment was made. The creation of ownership advantages is not part of the theory. The firm's use of its advantages (the internalization or firm-specific advantage) came into the theory later as a consequence of Buckley and Casson's influence (Dunning, 1991, pp. 120-123). Rugman (1981, pp. 68-69) fueled the debate by asserting that the sources of Dunning's ownership assets were given (or exogenous) market imperfections that caused the internal market to develop in the first place. Moreover, he contended that in Dunning's work the firm-specific advantage had become locked into the multinational firm (or endogenized) in the form of an asset and a barrier to entry. He concluded that because an ownership asset is merely an endogenized firm-specific asset, internalization theory is more general than Dunning' s theory. Rugman's arguments forced Dunning to improve the conceptual clarity of his work and to argue for the importance of ownership advantages. Dunning (1980, pp. 9-10) began by distinguishing between inputs that all firms at a given location could use (such as natural resources, labor, market structure and government policies) and inputs that the enterprise created or purchased for itself only (such as technology and organizational skills - proprietary assets that could be used at different locations to create additional proprietary assets). Conceptually, Dunning found a relationship between location and ownership advantages, and because they are interdependent, he argued that one could not analyze one without considering the ramifications on the other. This conceptual progress also made the theory dynamic, since a firm's current ownership advantages are a reflection of previous location advantages of the countries where local production had taken place. This dynamic view foreshadowed the importance of networks. Later in the ongoing debate, Dunning (1988, pp. 2-5) responded to critics by distinguishing explicitly between: (1) ownership assets (Oa) derived from the proprietary ownership of specific intangible income generating assets in an environment of structural market distortions, and (2) ownership assets (Ot) used to capture transactional benefits (or lessen their costs) from the common

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governance of a network of assets at different locations in an environment of transactional market distortions. In a dynamic situation, Dunning argued that Oa and Ot are interrelated, and that successful multinational enterprises are often able to develop both. Furthermore, the capability of a multinational enterprise to use internal markets is distinct from its willingness to do so, and both aspects need to be a part of any explanation of their existence. Dunning's (1988, pp. 2-5) analysis demonstrated that both structural and transactional market distortions can be country specific, and thereby determine location. Multinational enterprises can gain by locating production in different countries in the absence of structural market distortions, but the characteristics of the countries themselves are not as important as the benefits obtained through risk diversification and transfer-pricing opportunities. The implication is that governments (through their political and economic policies) have a role in determining the pattern of international production. 15 After at least a decade of debate on ownership advantages, Dunning (1991, p. 117) stated clearly that the intent of his model is to explain the level and pattern of the foreign value-added activities of firms and/or countries. It was never intended to be an explanation of the multinational enterprise. Thus, variables that are exogenous in one model may be endogenous in others. Theories, as well as research traditions, have domains whose boundaries change; theories that appear to be similar may in fact be different but complementary. Over time, a theory that becomes more general through the absorption of other theories may evolve into a research tradition. The existence of a history and the establishment of a context for specific theories with testable propositions distinguish a research tradition from a theory, but the demarcation between these concepts may be less precise than Laudan's work would suggest.

Synthesis of Theories One goal of scholars has been to synthesize theoretical approaches by arguing for the generality of their own theoretical approaches and the categorization of a competitor's theory as less general (and thereby a special case of the general theory). Hennart (1994a, p. 193) has changed the name for his ideas to the "theory of institutional choice" to emphasize its core idea of minimizing organizing costs. He also has synthesized his work with strategic management literature to include explanations of hybrid institutional forms of organization within the framework of his approach (Hennart, 1991, 1994a). Casson (1998, pp. 27-28) has extended his analysis of the boundaries of firms to consider alternative institutional arrangements for the coordination of linkages. The growing importance of the Nordic school means that scholars have had to reconcile Scandinavian theory with their own ideas, and vice versa. Buckley


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(1988b, pp. 129-138) reconciled the internalization approach with markets and hierarchies and the Uppsala internationalization model. For the former, he noted how they complement each other in their emphasis on minimization of transaction costs. For the latter, he noted the limitations in its scope that applied to smaller companies investing abroad for the first time. In the same year, Johanson and Mattsson (1988, pp. 481-484) reconciled network theory with internalization theory and the Uppsala internationalization model by means of a system that classified situations according to the degree of internationalization of: (1) the firm, and (2) the market environment of the firm. They concluded that both internalization and internationalization theories leave out characteristics of the firm and market that are important and can be explained by networks. Casson (1994, pp. 16 and 40-42) evaluated the Scandinavian approach through analyzing the distinction between sequential and simultaneous market entry, defined in terms of exploiting economies of scope in knowledge and exploiting profitable market opportunities without delay, respectively. He reconciled the theories by adjusting for subjective beliefs about the similarity (or dissimilarity) of foreign markets. Experience that has value (when one can apply what is learned in one market to investments in another market) is emphasized in the internalization model. Experience overseas has less value when one assumes that foreign markets are dissimilar. Pre-empting competitors before technological knowledge leaks or expires is also supported by the internalization approach. Casson's analysis shows the importance of understanding a theory's underlying assumptions about the environment and goals of those who make decisions. On a more ambitious scale, Dunning (1998, especially pp. 1 and 27-31) has synthesized international business literature into his paradigm, now called the "dominant analytical framework for accommodating a variety of operationally testable economic theories of the determinants for foreign investment . . . and the foreign activities of multinational enterprises." He has argued that: (1) the content of most theories can be organized and interpreted by means of his eclectic paradigm, (2) the components complement each other, and (3) they are also context specific. Dunning's taxonomy is drawn from the determinants of international production - location, ownership and internalization advantages defined early in his work. Throughout, scientists appear to be locked into theoretical commitments made at early stages of their careers. While they stretch their theories to accommodate the findings of other scholars, they remain rooted in their earlier work and their historical antecedents (e.g. Dunning, 1998; Casson, 1994; and Hennart, 1991). They explain theoretical differences in terms of the goals and context of the research supporting competing theories - rather than show competing theories to be false - and they appear to accept these differences. After stating

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for the record the strengths of their positions (and the weaknesses of their competitors), they get on with other work.

Progress and Rationality of Science Has this research tradition of international business been rational in the sense of making progressive theory choices? For Landan, this is the bottom line. If choices among competing theories are made irrationally, how can one talk about progress or accept the solutions offered by scientific theories? According to Landan (1977, Ch. 1), the goal of the scientific process is to solve empirical and conceptual problems. The outcome of this process is theory that resolves ambiguity, reduces irregularity to uniformity and shows that events follow a somewhat predictable path. The research analyzed above appears to constitute a problem-solving activity. Over the years, the dominant questions have shifted from the foreign investment decision to the conditions conducive to the existence and growth of multinational firms and finally to the firm's role in a network of interdependent entities. The perceived greater rate of progress in solving problems, rather than the demonstrated falsification of theories, has induced researchers to abandon one question and take on another. Refutation of a theory would be difficult, since a theory is really a composite product of many solutions that have been taken as true in the past (Landan, 1977, pp. 27, 41). To the extent that a core of general theories, methodologies and a domain of research are now accepted as the basis for empirical research into more specific questions (Buckley, 1997, p. 221), there has been cognitive progress. According to Landan's (1977, p. 6) definition of rationality as the choosing of theories that provide solutions to problems, this has been a rational process. However, in fairness to Kuhn (1970), who argued that scientific decisions are irrational (or at least not fully rational) since they are strongly influenced by external factors (such as politics and propaganda), sociological and psychological factors have also played a role in theory choice. Laudan's view understates the importance of networking and personal relationships in theory development. For instance, the networking center of international business research was at Harvard University until the mid-1960s when it moved to The University of Reading where Dunning, Buckley, Casson and Rugman were all working. The "Reading School" became the academic equivalent of a brand name. Hennart's different approach to theory development is a consequence of working outside this group, and he has had to market his ideas to the academic community forcefully - in effect, develop his own brand. 16


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Without such a brand, important contributions to the literature can be overlooked. One can take the work of Coase (1937) or McManus (1972) as examples of ideas that were not fully recognized at the time they were published. Even with a brand, the seeds of important ideas can be seen in the work of scholars (such as Dunning), but credit has gone elsewhere because the idea was not developed at the time. Furthermore, relative status and power have been important in theory choice. The junior status of Buckley and Casson made their theory a challenge to the establishment at The University of Reading. To gain support of the "Reading School," some incisive (but provocative) insights o f internalization theory had to be muted. On the other hand, the theory benefited from Dunning's synthesizing efforts, and controversy in the early years did much to create interest in both internalization theory and the eclectic paradigm (Casson, correspondence, 19 June, 1998). Yet, the traditional rational model holds, at least on the surface. As a consequence of the blind review of research for inclusion in journals and conferences, work appears to be evaluated on the theory itself and the evidence supporting it (internal factors). Theories build on each other rather than supplant each other, as a non-rationalist model of scientific process would predict. Still, rationality (and non-rationality), as defined by the relative use of internal and external factors in making scientific choices, may be a matter of degree rather than an "either-or" concept. By making rationality contingent on progress rather than the decision process, Laudan turns the definition of rationality around and avoids this dilemma. CONCLUSIONS In both the philosophy of science and in intemational business, the process of decision making is a central problem. In the former, the decision is made in the context of developing a research agenda; in the latter it is made in the context of acquiring and managing resources for an organization. In both fields, underlying assumptions about the rationality of this process have been challenged (Laudan, 1977, p. 3; Aharoni, 1966, pp. 30-31). However, in both areas of inquiry, the traditional model of decision making seems to miss the point. In organizations, decisions are not made by perfectly informed, value-maximizing managers (or teams of managers) who can speak for the "central mind" (Mazzolini, 1981, p. 86). Rather, an entrepreneur, defined as "behavioral man," must decide with restricted information and limited individual (or group) talent in an environment where alternatives are not neatly laid out. He or she must deal with multidimensional goals and sell the

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decision to the organization. The weapon of survival is the ability to "satisfice" or settle for an acceptable alternative instead of maximizing the goal; and the maker of the decision tries to avoid (or at least minimize) uncertainty (Aharoni, 1966, pp. 30--31). In the same spirit, international-business scholars appear to gather evidence rather than strive to refute theories. In fact, no theories have been abandoned because they were proven to be f a l s e . 17 Neither scholars nor entrepreneurs make decisions in a vacuum. The perceived problems, potential courses of action and likely consequences of decisions are all products of the social system in which the decision maker operates. One implication is that analysis of decisions cannot be divorced from the history of the theory (or organization), from the personalities and roles of the participants in the system, nor from the continuous stream of activities that provide feedback to the decision maker and redefine problems (Aharoni, 1966, p. 45). At the end of the day, it may not matter whether internal or external factors determined the choice among competing theories as long as the choice is progressive. If the choice has provided a solution without creating undue new empirical or conceptual problems, then it is rational. Thus, what is rational may be contingent on time, place and context. These insights have other implications for scholars engaged in international business research. The first is that the goal of their research endeavors will continue to be solving problems rather than searching for an absolute truth, because the environment of what is studied is unstable and because one can never prove that a theory is true, only that some part of it is false. Another implication is that the distinction between a research tradition and a theory will remain blurred as advocates synthesize the insights of other disciplines and argue that other theories are merely special cases of their more general approach. The challenge continues to be to develop theories that are general enough to explain new forms of post-industrial organization made possible by technological advances. It is remarkable that the insights of Robinson (1931), Kaldor (1934) and Coase (1937), who analyzed the implications of the changing environment of the 1930s, continue to hold today when change takes place at an even more rapid pace. Today's research is progressive in the sense that it builds upon a foundation of solutions constructed by those who came before.

NOTES 1. Actually, according to the United Nations definition of a transnational corporation, the multinational enterprise needs not engage in foreign production but rather be "an enterprise, comprising activities in two or more locations, regardless of the legal form and fields of activity of these entities, which operates under a system of decision making,


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permitting coherent policies and a common strategy through one or more decisionmaking centres, in which the entities are so linked, by ownership or otherwise, that one or more of them may be able to exercise a significant influence over the activities of others, and, in particular, to share knowledge, resources and responsibilities with the others." This key theoretical distinction of "linked by ownership or otherwise" will be discussed later in the text (United Nations Economic & Social Council, E/C 10/1982/6. 5 June 1982, p 9). 2. For the purposes of this paper, intemational business is defined as investment that crosses international borders. 3. There is some indication in the literature that scholars were thinking explicitly about the elements discussed above when they derived solutions to problems. Work that considers explicitly problems of scientific method include Casson's introduction in Rugman (1981, pp. 15-17), Grosse (1986), Buckley (1988a and 1990) as well as the debate about whether internalization theory is a general or predictive theory (Buckley, 1983, p. 42; Casson, 1982, p. 26). 4. Evaluating Laudan's model is outside the scope of this paper, but a thoughtful critique can be found in Newton-Smith (1981, pp. 185-195). Laudan's critics attack the weaknesses of his critical assumptions that: (1) one can judge the problem-solving capacity of a theory without making a judgment about its truth (or degree of verisimilitude), and (2) the problem-solving effectiveness of a theory can be assessed by weighing the empirical problems solved by the theory against the anomalies and conceptual problems generated by the theory. 5. Laudan's approach parts ways with other rationalists (such as Popper & Lakatos) and non-rationalists (such as Kuhn & Feyerabend) in two ways. First, the goals of the scientific process differ. According to Laudan (1977, p. 18) the goal is to transform anomalous and unsolved problems into solved ones. According to other rationalists, the goal is to approximate the truth. According to non-rationalists, the effect is merely to supplant one theory with another one. Second, the principles of comparison differ. In Laudan's framework, theories are evaluated rationally when allegiance to them leads to solutions to scientific problems; a rational process is the consequence of choosing over time the theories with better records of solving problems. In contrast, other rationalists make progress contingent upon rational choice; when theories are evaluated according to internal factors that relate solely to the theory in question and its relationship to available evidence, this rational choice leads to progress. For their part, non-rationalists argue that sociological and psychological factors external to the theory play such an important role in theory choice that the process cannot be rational (Newton-Smith, 1981, Ch. 1). 6. To accomplish this objective, the domain of the research tradition had to be restricted. While the five strands of theory presented in this paper are representative of work in international business, they are by no means a complete presentation of research in international business. As a consequence, the contributions of some important scholars, such as those of Jean Boddewyn, Gunnar Hedlund, F. T. Knickerbocker, Bruce Kogut, Kiyoshi Kojima and David Teece, have received less attention than they deserve. 7. Some recent work includes Cantwell (1991), Lizondo (1991), Corley (1992), and Caves (1996). 8. Buckley (correspondence, 3 June 1998) has pointed out that before 1960, many isolated pieces of work contained the germs of this insight. An example is Dunning (1958, pp. 285-381).

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9. Dunning defined international production as "that financed by foreign direct investment " (Dunning, 1988, p. 25, endnote 1). Following Hymer (1960, p. 1), foreign direct investment is investment overseas made for the purposes of control. A multinational enterprise is "a multi-activity firm that engages in direct investment" (Dunning, 1993, p. 66). Multinational finns own and control foreign production facilities (and may trade with them). The term "eclectic paradigm" came into Dunning's work in the late 1980s (Dunning, 1988, p. 1). 10. This notion of interdependency foreshadows network theory (Forsgren, 1989) which will be discussed later. 11. In Johnson (1970, pp. 36-39) market failure is the consequence of the public good characteristics of knowledge assets, in the sense that its use by one party does not preclude its use by someone else. Yet this process of dissemination discourages the development of more technology because the developer reaps no reward unless he becomes a temporary monopolist. In transaction-cost and internalization theory market failure explains a firm's exploitation of a knowledge asset within its own organization rather than within a market, where prices do not reflect marginal income. These divergent perspectives raise the question of whether foreign direct investment restrains competition or enhances efficiency (Forsgren, 1989, pp. 20-25). 12. Both Casson (correspondence, 19 June 1998) and Hennart (correspondence, 1 June 1998) emphasize the development of transaction-cost theory outside The University of Reading network. 13. Kogut's (1983, pp. 38--44) analysis of foreign direct investment as a sequence of decisions provided a bridge between network theory, international financialdiversification theory, and the eclectic theory of foreign production. His focus on flexibility to transfer resources as the primary advantage of the multinational firm fits in with the emphasis on the value of links within the network. This flexibility would allow the multinational firm to arbitrage institutional restrictions such as those imposed by tax codes, overcome informational (or learning cost) externalities by having experienced personnel, and achieve joint production economies in global manufacturing and marketing. 14. Had internalization theory and Dunning's eclectic paradigm been completely incommensurable, this debate could not have taken place. Instead, Rugman and Dunning would have talked past each other without conflicting because the meanings of their words would have shifted to the point where they were not talking about the same thing. (For a fuller discussion of the incommensurability of theories, see Newton-Smith, 1981, pp. 9-13.) 15. See Boddewyn (1988) for an elaboration of this argument. 16. This insight came from Mark Casson. 17. Buckley (1988a, pp. 186--187) has listed ways that a theory of multinational activity could be refuted: a random pattern of multinational activity, a pattern of foreign direct investment that is contrary to expectations, a macro explanation, perfect diversification and risk avoidance, and a pattern of foreign market entry contrary to prediction.

ACKNOWLEDGMENTS I want to thank Jean B o d d e w y n for his encouragement and constructive comments. I also appreciate the suggestions made by Peter Buckley, Mark


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Casson, Mats Forsgren, Jean-Frangois Hennart, Jorma Larimo, Conti Meehan, D i c k W e i s f e l d e r , D a v i d W i l s o n a n d several a n o n y m o u s r e v i e w e r s .

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Dunning, J. H. (1993). Multinational Enterprise in the Global Economy. Wokingham, England: Addison-Wesley Publishing Company. Dunning, J. H. (1998). The Eclectic Paradigm as an Envelope for Economic and Business Theories of MNE Activity. Working Paper, Rutgers and Reading Universities, August. Forsgren, M. (1989). Managing the Internationalization Process. New York: Routledge. Forsgren, M., & Johanson, J. (1975). Internationell Fi~retagsekonomi. Stockholm: Norstedts. Grosse, R. (1986). On International Business as a Social Science Discipline. Working Paper Number 86-9, The University of Miami International Business & Banking Institute (October). Published later in Robert Grosse and Jack N. Behrman, Transnational Corporations, 1 (1 February, 1992), 93-126. Hayek, F. A. von. (1937). Economics and Knowledge. Economica, 4, 33-54. Reprinted In: F. A. yon Hayek (1949). Individualism and Rconomic Order. London: Routledge and Kegan Paul. Heckscher, E. F. (1919). The Effect of Foreign Trade on the Distribution of Income. Ekonomisk Tidskrift, 21. Hennart, J.-F. (1982). A Theory of Multinational Enterprise. Ann Arbor: University of Michigan Press. Hennart, J.-F. (1991). The Transaction Cost Theory of the Multinational Enterprise. In: C. N. Pitelis & R. Sugden (Eds), The Nature of the Transnational Firm (pp. 81-116). London and New York: Routledge. Hennart, J.-F. (1994a). International Financial Capital Transfers: A Transaction Cost Framework. Business History, 36(1 January), 51-70. Hennart, J.-F. (1994b). The Comparative Institutional Theory of the Firm: Some Implications for Corporate Strategy. Journal of Management Studies, (Spring), 193-207. Horst. T. (1972). Firm and Industry Determinants of the Decision to Invest Abroad: An Empirical Study. Review of Economics and Statistics, 54(August). Hirsch, Seev. (1976). An International Trade and Investment Theory of the Firm. Oxford Economic Papers, (July), 258-270. Hymer, S. A. (1960). The International Operations of National Firms: A Study of Foreign Direct Investment. Ph.D. Dissertation, Department of Economics, Massachusetts Institute of Technology. Published in 1976 by MIT Press. Johanson, J. & Vahlne, J.-E. (1977). The Internationalization Process of the Firm - A Model of Knowledge Development and Increasing Foreign Market Commitments. Journal of International Business Studies, 8(1), 23-32. Johanson, J. & Vahlne, J.-E. (1990). The Mechanism of Internationalization. International Marketing Review, 7(4), 11-24. Johanson, J. & Mattsson, L.-G. (1988). Internationalization in Industrial Systems - A Network Approach. In: N. Hood & J.-E. Vahlne (Eds), Strategies in Global Competition. (pp. 287-314). New York: Croom Helm. Johanson, J. & Wiedersheim-Paul, F. (1975). The Internationalization of the Firm - Four Swedish Case Studies. The Journal of Management Studies, •2(3). Johnson, H. G. (1970). Efficiency and Welfare Implications of the International Corporation. In: C. P. Kindleberger (Ed.), The International Corporation (Ch. 2. pp. 35-56). Cambridge, MA: MIT Press. Kaldor, N. (1934). The Equilibrium of the Firm. Economic Journal, 44(March), 60-76. Kindleberger, C. P. (1969). American Business Abroad: Six Essays on Direct Investment (pp. 1-36). New Haven, CT: Yale University Press. Kogut, B. (1983). Foreign Direct Investment as a Sequential Process. In: C. P. Kindleberger & D. B. Audretsch (Eds), The Multinational Corporation in the 1980s (pp. 38-56). Cambridge, MA: MIT Press,

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Kulm, T. S. (1970). The Structure of Scientific Revolutions (2nd ed.). International Encyclopedia of Unified Science, 2(2). Chicago: The University of Chicago Press. Laudan, L. (1977). Progress and its Problems: Towards a Theory of Scientific Growth. Berkeley, CA: University of California Press. Lizondo, J. S. (1991). Foreign Direct Investment. In: Determinants and Systemic Consequences of International Capital Flows (pp. 68-82). Washington DC: International Monetary Fund. Magee, S. P. (1977). An Appropriability Theory of Foreign Direct Investment. In: J. S. Bhagwati (Ed.), The New International Economic Order. Cambridge, MA: MIT Press. Mazzolini, R. (1981). How Strategic Decisions are Made. Long-Range Planning, (June), 85-96. McManus, J. (1972). The Theory of the Multinational Firm. In: G. Pacquet (Ed.), The Multinational Firm and the Nation State. Don Mills, Ontario: Collier-Macmillan Canada. Mundell, R. A. (1957). International Trade and Factor Mobility. American Economic Review, 47(June), 321-325. Newton-Smith, W. H. (1981). The Rationality of Science. Boston, London and Henley: Routledge & Kegan Paul. Ohlin, B. (1933). Interregional and International Trade. Cambridge, MA: Harvard University Press. Pertrose, E. (1959). The Theory of the Growth of the Firm (lst ed.). London: Basil Blackwell. Penrose, E. (1995), The Theory of the Growth of the Firm (3rd ed.). Oxford and New York: Oxford University Press. Petersen, B. & Pedersen, T. (1997). Twenty Years After - Support and Critique of the Uppsala Internationalisation Model. In: I. Bjtrkman & M. Forsgren (Eds), The Nature of the International Firm (Ch. 6). Copenhagen Studies in Economics and Management, No. 11. Copenhagen: Handelshojskolens Forlag. Pfeffer, J., & Salancik, G. (1978). The External Control of Organization: A Resource Dependence Perspective. New York: Harper and Row. Ragazzi, G. (1973). Theories of the Determinants of Direct Foreign Investment. IMF Staff Papers, (July), 471-498. Robinson, E. A. G. 1931. The Structure of Competitive Industry. London: Nisbet. Rugman, A. M. (1981). Inside the Mmultinationals: The Economics of Internal Markets. New York: Columbia University Press. Samuelson, P. (1948). International trade and equalization of factor prices. Economic Journal, 58. Southard, F. A. (1931). American Industry in Europe. Boston: Houghton Mifflin Company. Vernon, R. (1966). International Investment and International Trade in the Product Cycle. Quarterly Journal of Economics, 80(May), 190-207. United Nations. Economic and Social Council. E/C 10/1982/6. (June 1982), 9. Williamson, O. (1970). Corporate Control and Business Behavior. Englewood Cliffs, NJ: PrenticeHall. Williamson, O. (1971). The Vertical Integration of Production: Market Failure Considerations. American Economic Review, 61(May). Williamson, O. (1975a). The Economics of Internal Organization: Exit and Voice in Relation to Markets and Hierarchies. American Economic Review: Papers and Proceedings, 66(May). Williamson, O. (1975b). Markets and Hierarchies: Analysis and Antitrust Implications. New York: Free Press. Wilson, J. W. & Dobrzynski, J. H. (1986). And Now, the Post-industrial Corporation. Business Week, (March 3), 64-71. Boddewyn, Jean J. and Gopalkrsrishoan Iyer. Forthcoming in mid-1999. International-business Research: Beyond Ddjt~ vu. Management International Review.

CONCEPTUAL FRAMEWORKS ON SMEs' INTERNATIONALIZATION: PAST, PRESENT AND FUTURE TRENDS OF RESEARCH Alex Rialp and Josep Rialp

ABSTRACT This study attempts to facilitate the future development of a more general theory relative to the nature of small business internationalization and provides a step toward a more holistic understanding of this process. More concretely, its general goal is to draw attention to this potential: the possibility of better examining this process - and developing a more accurate explanation of it - by encouraging future writers to consider the consolidated contributions of four major streams of research in the international business literature: FDI theories, the stage models, entry-mode research and the network approach. Some relevant conclusions and implications are derived from this holistic approach.

Reassessing the Internationalization of the Firm, Volume 11, pages 49-78. Copyright © 2001 by Elsevier Science Ltd. All rights of reproduction in any form reserved. ISBN: 0-7623-0795-1

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ALEX R/ALP AND JOSEP RIALP INTRODUCTION: THE INTERNATIONALIZATION PHENOMENON AND SMEs

Business internationalization is a very complex issue to conceptualize. So far, there is not even a general agreement on its definition beyond one indicating the growing involvement of a firm in a variety of operations of international character (Turnbull, 1987; Welch & Loustarinen, 1988; Andersen, 1993). Thus, a single, universally accepted definition of the term "internationalization" remains elusive. This fact has logically led to a number of alternative interpretations of this concept being found in the literature. For instance, several researchers have conceived of internationalization as a pattern of investment in foreign markets basically explained by rational economic analysis (Buckley & Casson, 1993; Dunning, 1988). A second traditional perspective seems to consider this phenomenon as an on-going process of evolution whereby the firm increases its international involvement as a function of increased knowledge and market commitment (Bilkey & Tesar, 1977; Johanson & Vahlne, 1977; Cavusgil, 1980): this is a sequential learning process of increased international involvement and gradual resource commitment. Still more recently, another [strategic] process-based view of internationalization has emerged (Melin, 1992; Root, 1994), which sees this process of increasing involvement in international operations not necessarily as a "smooth, immutable path of development," and including both "outward" and "inward" patterns of international expansion (Welch & Loustarinen, 1988, 1993). In this context, Calof and Beamish (1995, 116) have suggested the following definition of internationalization: "the process of adapting firm's operations (strategy, structure, resources, etc,) to international environments." In the same line, Andersen (1997, 29) conceptualizes it as "the process of adapting exchange transaction modality to international market (characteristics)." In our opinion, any accurate definition of internationalization should be wide and specific enough to simultaneously focus on complex decision-making processes that can be empirically observable. Consequently, it is worthwhile at the outset of this paper to indicate that, business internationalization is here to be understood as a set of operations that facilitate the establishment of more stable relationships between a firm and the international markets throughout a learning process of growing international involvement and patterns of development that may be simultaneously inward and outward. It is, then, a highly complex process that continuously redefines the degree of international involvement and commitment adopted by an organization (Welch & Loustarinen, 1988; Root, 1994).

Conceptual Frameworks on SMEs' Internationalization

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Our conceptualization of the internationalization issue can be considered to be holistic in the following sense. First, it integrates the behavioral, learningbased issues in play with the economic components affecting any large or small organization. Second, this process-based definition of internationalization is intrinsically dynamic and evolutionary in nature, i.e. a time-dependent process. Third, it admits both inward and outward patterns of activities abroad; and fourth, this definition also implies that relationships established through international transactions might influence the firm's growth and expansion to other countries. In spite of this general view of the internationalization phenomenon, it is not very difficult to see that much literature in this field has tended to rely basically on the large multinational firm as the traditional unit of (economic) analysis. However, one can also easily observe that Small and Medium-sized Enterprises (SMEs) are increasingly active in international markets, due mostly to the recent but unstoppable effects of globalization. In other authors' opinion (Coviello & McAuley, 1999), this historical emphasis on larger firms is of additional concern given the argument that smaller firms seem to differ from larger ones in terms of their managerial style independence, ownership structure and scale/scope of operations. Consequently, their structures and processes are generally seen to be less rigid, sophisticated and complex compared to those typically existing in larger firms. Although in the context of internationalization size issues do not seem to be so a relevant barrier after all (Bonaccorsi, 1992; Calof, 1994), it has been generally argued that SMEs usually face internal and external constraints when pursuing international development. This could be due, among other factors, to their more limited capital and management system, lack of time, experience, and information resources, some environmental restrictions, and so on, which lead one to expect that the internationalization phenomenon of SMEs would differ from that of larger firms. Many of these aspects have been particularly stressed in the extensive SME export literature. This really vast stream of research encompasses general and specific studies focusing basically on the behavior and strategies associated with exporting, on the relationship existing between size and export behavior, and on the organizational and managerial determinants of exporting (Leonidou, 1998; Leonidou et al., 1998). However, the concept of internationalization is not necessarily synonymous with export activity, and beyond this extremely dispersed amount of export-related literature, the analysis of internationalization among SMEs, as a wider and intrinsically meaningful stream of research, has only begun to emerge. Consequently, a rather limited number of papers are available that provide a systematic consolidation of the increasing body of literature in this area. 2

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ALEX RIALP AND JOSEP RIALP

Thus, this paper presents a more integrated framework from which to study the phenomenon of internationalization mainly, but not exclusively, among SMEs. The main purpose of this paper is therefore to identify the evolutionary trends of theoretical research focused on small business internationalization in recent decades in order to consolidate the extant literature and identify further research avenues. In this sense, the state of the art will be widely examined by means of a systematic review and objective assessment of the most traditional as well as contemporary conceptual frameworks that have successively emerged in this field. After this brief discussion of the internationalization concept in the context of SMEs, this paper proceeds as follows: a brief theoretical description of the two most orthodox schools of internationalization research: the multinationalrelated and economic approach labeled as Foreign Direct Investment (FDI) theory (e.g. Hymer, 1976; Buckley, 1990; Dunning, 1979), and the behavioral school of the stage models of the internationalization process or "gradualist approach" (e.g. Johanson & Valhne, 1977; Cavusgil & Godiwalla, 1982, among others). Then other contemporary contributions resulting from the increasing foreign entry modes literature (e.g. Anderson & Gatignon, 1986; Root, 1994) and the relationship school of the international network perspective (Johanson & Mattsen, 1988) are also taken into account. Finally, as a result of our review and assessment, a more integrative and synthethic approach to the nature of SME internationalization is presented, leading to a further discussion of future research issues as well as to some managerial implications.

TRADITIONAL EXPLANATIONS OF FOREIGN DIRECT INVESTMENT The predominant branch of interest in the literature on the international finn has traditionally focused on the analysis of the foreign operations of the socalled multinational corporations (MNCs) and, more specifically, their direct investment activities abroad. Thus, the main explanations of these direct investments and/or of the existence itself of the multinational finn constitute a set of interpretations notably overlapping among themselves without yet being able to constitute a single theoretical approach in this field (Calvet, 1981; McDougall et al., 1994). Such explanations analyze foreign direct investment (FDI) from the perspective of the theory of the firm and industrial organization theory, both sharing the same initial assumption: the potential investment capacity of a business abroad is based upon its control or possession of some type of asset and/or finn-specific advantage, generally of an intangible character. Such firm-specific


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advantages would tend to compensate the firm for possible disadvantages of a localized nature resulting from the greater knowledge that local firms have regarding the conditions of their own markets, allowing the multinational to exploit its own advantage in other markets outside its home market. The following discussion presents some recent contributions that have been developed in two different directions: one that is more tied to the effect of market imperfections, and the other, more related to the analysis (though of a static character) of transaction costs. Thus, according to monopolistic advantage theory, associated with interpretations of the emergence of multinationals proposed by Kindleberger (1969) and Hymer (1976), the existence of such companies is due to the fact that they have some type of knowledge or competitive advantage (of a productive, technological, organizational, managerial and/or commercial origin) whose nearly monopolistic nature permits them to compete with the local finns which, in spite of being better established and having a greater familiarity with their own markets, would become obliged to assume the cost of developing this advantage, so they cannot really compete with the foreign firm. Furthermore, so that such advantages do in fact lead to a direct investment decision, they should truly be specific to the investing firm, as well as easily transferable across national borders and/or of sufficient magnitude and durability so as to withstand the competitive erosion coming from rival firms. In this way, Kindleberger and Hymer describe the specific advantages of the firm as a manifestation of the structural imperfections of the market and of the existence of oligopolistic profits. Hence, the motive for the establishment of FDI appears related to the capacity of the multinational company to take advantage of certain market imperfections of an endogenous nature, reinforcing the already existing levels of inefficiency: the specific advantages of the multinational finn are related to the exercise of market power, revealing the characteristics of a quasi-monopolistic advantage (Alonso, 1993b). Nevertheless, this oligopolistic concept of direct investments is not able to completely explain why firms choose FDI as the mechanism of operation abroad. Why not pursue a strategy of licensing? In this way (by means of a license) the licensor can provide the technical know-how, while the licensee provides the market knowledge. Theorists focusing on "internalization advantages" address this issue. The possession of quasi-monopolistic advantage based upon structural imperfections of the market might not be enough to explain the existence of multinationals. MNCs could also emerge from the frequent "market failures," or imperfections of a more natural character, related to the market's relative incapacity to monitor some transactions, with the MNC then becoming an

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alternative and more efficient mechanism for serving the marketplace. Although the idea that the market could show itself to be inefficient in carrying out determinate transactions was initially proposed to explain the origin of the integrated firm with multiple plants (Coase, 1937; Williamson, 1975, 1985), it also appears to fit pretty well in the case of the multinational. It is toward the analysis of this type of imperfection that a new approach emerges, conferring a significant role to the transaction costs derived from the mobilization of intangible assets beyond national borders. Following this line of thought we have the theory of internalization and the eclectic paradigm. According to the approach known as internalization theory (Buckley & Casson, 1976, 1985; Rugman, 1981, 1986; Caves, 1982; Hennart, 1982; Buckley, 1988, 1990; or Casson, 1986, 1992), the internationalization of the firm is based upon two basic axioms: "in the first place, the firm locates its activities wherever costs are fewer (locality advantages); second, the firm grows by internalizing markets to the point in which the profits from such internalization compensate its costs (internalization advantages)" (Buckley, 1988, 181-182). Hence, this theory emphasizes the importance of market failures in the transactions of certain intangible and specific assets before the presence of high transaction costs inherent in the use of the market mechanism. In order to avoid them, the firm should exploit those assets under its control if it intends to keep their value, at least as long as the transaction costs of the market overcome the administrative costs associated with the organizational form itself. These cases would tend to occur more, the more intensive the knowledge and the more specific the assets of the company were. 3 This would not depend, in principle, upon whether the market in which this asset was exploited was domestic or foreign. However, if the market were foreign, then the existence of transportation costs and other commercial barriers would encourage FDI. Therefore, it appears that the internalization approach was developed with the aim of becoming a general theory of the multinational although, given its own theoretical generalness, it ends up operating at a very high conceptual level, which makes giving it greater empirical content difficult (Buckley, 1990). The eclectic paradigm (Dunning, 1979, 1980, 1988)attributes to firm-specific advantages, as well as to location and internalization advantages, the explanation of the capacity and willingness of the firm to internationalize its activities of production in the form of FDI. Thus, the firm should possess, in the first place, a specific advantage associated with some intangible asset, which was as least temporarily inaccessible for local competitors. With such advantage being supposed, the firm should decide whether to opt for internalizing it in foreign markets, by means of the mechanism of export and/or investment, or


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decide whether it cedes such advantage to another firm by contract or license. When preferring the investment formula, it should be more profitable to exploit such advantage together with some other location factor unique to the target market; otherwise the company would prefer to export instead of investing. As its own name indicates, this last paradigm attempts to link, in one single proposal, the specific firm-based advantages with those of internalization and those derived from the cost conditions of the market receiving the investment. Although it has been used as a reference framework in several empirical studies on the choice among different modes of entry in foreign markets (Agarwal & Ramaswami, 1992; Woodcock et al., 1994), it has not remained free from receiving some criticisms addressed, basically, toward the justification given to some of the distinct types of advantages cited (Buckley, 1988; Itaki, 1991; Piggot & Cook, 1993). In general terms, the several explanations concerning FDI are characterized, principally, by being based upon economic analysis. Hence, they tend to base their main explanatory variables in transaction costs as well as in factor costs, starting from the assumption of rational decision making on behalf of the investing firm abroad. Nevertheless, all of these proposals seem to suffer from a lack of dynamic considerations and from a limited application to SMEs. 4 Moreover, they do not appear to adequately distinguish between firms that initiate their process of internationalization and those others already located in more advanced stages of this process. They have, otherwise, a notoriously static character on investigating the reasons that motivate such direct investments without making special emphasis in the time dimension of the investing phenomenon. Consequently, all of these classical theories focusing on FDI usually focus on firms of very large size and/or considerable presence abroad, typically multinationals, as their only valid empirical reference, without analyzing the evolution followed by SMEs in their internationalizing process, nor investigating the choice of other alternative modes of entry which these specific firms usually use (Welch & Loustarinen, 1988; Forsgren, 1989; Alonso, 1993b, 1994). THE STAGE (PROCESS) MODELS OF INTERNATIONALIZATION: THE "GRADUALIST" APPROACH An alternative and well-known theoretical framework in this field, the internationalization process or stage models, is based upon a purely behaviorist view of the organization (Cyert & March, 1963), thus making several assumptions related to the lack of complete information and the importance of the risk or uncertainty in managerial decision making. This quite traditional explanation,

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more directly related to SMEs, has usually been labeled as the "incrementalist or gradualist approach," as it considers the internationalization of the firm as a learning process based upon a gradual accumulation of experiential (foreign) market knowledge. The highly innovative nature that seems to characterize the first steps of the internationalization process, mainly those which constitute the adoption of the export activity, allows one to assume a more incremental logic in the decision making process and a more gradual pattern in the firm's behavior through time. In this sense, the scarce initial knowledge that SMEs in particular usually have regarding foreign markets, as well as the uncertainties that they associate with the decision of going international, clearly influence the process (Cavusgil & Godiwalla, 1982; Andersen, 1993). A focus on the initial steps of the export process is thus expected to be critical as these steps might form the foundation for all future international activity. In fact, the main reason to focus on the exercise of export activity by SMEs is due to the fact that this mechanism constitutes, in its multiple facets, their first and most frequent mode of operating abroad, principally during the early stages of their internationalization processes (Miesenbrck, 1988). Frequently, the export method is considered as the most favorable mode of entry at the beginning, since it permits the firm to adjust its exporting effort as it achieves more or less positive results abroad. In this way, exporting becomes, generally before any other method, a learning experience in the international arena (Root, 1994). A certain consensus exists when considering export as the basis of an experiential learning process through which the firm gradually increases its level of foreign knowledge, implication and commitment. During the development of export activity through time, this mechanism converts itself into a key determinant factor: the slow, although increasing, accumulation of experience resulting from such performance abroad originates a learning process which augments (market) knowledge as well as the capabilities of the exporting firm (Alonso & Donoso, 1994). In this sense, the abundant empirical research carried out about the exporting behavior of SMEs proposes, basically, to determine how and in which manner they engage in export activities, by identifying the motives and exporting strategies of these firms, their capabilities for exporting and the type of interaction which they establish with their environment (Miesenbtick, 1988; Aaby & Slater, 1989). Although the majority of empirical work related to the decision to export does not explicitly break down the existing stages in the adoption of this international activity, a few studies do conceive of the participation of the finn in export operations as a process of gradual development which takes place in several phases or stages and during a relatively long period of time. Thus, many


57

empirical models have emerged which offer a certain conceptualization (though highly descriptive and partial) of the dynamic nature of the exporting process of small firms. Although the number of proposals developed from this incremental view of the exporting process is certainly considerable, the Uppsala model of the internationalization process (U-Model) stands out as the most significant contribution. In fact, a wide variety of empirical work attempting to establish levels of the firm's exporting development relies on the U-Model as a general framework. So, it should be considered the pioneer model in the interpretation of the internationalizing phenomenon as a process of gradual development over time. In this sense, the U-Model places special emphasis in the sequential nature of the learning obtained by means of a series of steps which reflect a growing commitment to foreign markets. In the Model's original empirical version, authors Johanson and WiedersheimPaul (1975) cited the lack of knowledge and/or resources, and the resulting uncertainty to the firm, as the principal obstacle to internationalization. This problem would be reduced by means of an incremental process of learning and decisions related to foreign markets and operations. Hence, the development of activity abroad would take place through a series of successive stages that represent a greater degree of involvement of the firm in its international operations. This sequence, generally known as the "chain of establishment," was limited for each specific country or market. 5 At the same time, in terms of the international extension of such operations, the proponents of this approach resorted to the concept of "psychic or psychological distance," according to which a firm's entry abroad would tend to occur first for the country psychologically nearest to the firm's home market, given that it would show a lesser degree of uncertainty for it. From there, the organization would gradually proceed extending its foreign activities toward other new markets, each time a little more distant from a psychological point of view. In this way, new foreign markets would slowly be taken on whose psychic distance from the firm's country of origin would be greater and greater. Later, Johanson and Vahlne (1977, 1990) reformulated a dynamic conception of the firm's internationalization process in terms of a more permanent interaction between the development of knowledge about markets and foreign operations, on the one hand, and a growing commitment of resources toward international markets, on the other hand. The basic structure of the U-Model is represented by the distinction made by these authors between the "state aspects" and "change aspects" of the internationalization variables (Fig. 1). They assert that the "current state of internationalization is an important explanatory factor of the course which this will follow in the future" (Johanson & Vahlne, 1977, 26).

58


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So, from the U-Model, business internationalization is considered as a gradual learning process based upon experiential knowledge and capable of generating new opportunities by means of relaxing part of the uncertainty present in foreign markets. 6 Thus, accumulated experience becomes a driving force in the internationalization process. Nevertheless, such experience is, to a great degree, specific for each market in the sense that "it cannot be generalized to other markets or countries easily" (Johanson & Vahlne, 1990, 12). For this reason, as a general rule, additional commitments in the foreign market will develop in the form of small, increasing steps. As the most representative version of such evolutionary-behaviorist approaches, the U-Model constitutes one of the main contributions existing in the analysis of the firm's international activities and, perhaps, the most cited reference from the perspective of the export behavior models. However, results have usually been mixed when trying to empirically validate its two principal assumptions: the concepts of establishment chain and psychological distance (Hedlund & Kverneland, 1985; Turnbull, 1987; Welch & Loustarinen, 1988). In spite of this, the U-Model's focus on gradualism is particularly useful in describing the export behavior of SMEs placed in the initial stages of their internationalization process, as demonstrated through empirical research (Forsgren, 1989; Johanson & Vahlne, 1990; Alonso, 1993a). Thus confirming the importance of the gradual and/or incremental accumulation of experience for explaining the international behavior of the exporting SMEs. Other behavioral models also argue that SME internationalization is incremental, with various stages reflecting changes in the attitudinal and behavioral commitment of managers and the firm resulting international orientation (Bilkey & Tesar, 1977; Reid, 1981; Cavusgil, 1980; Cavusgil & Godiwalla, 1982). These models argue that the perceptions and beliefs of managers both influence and are shaped by incremental involvement in foreign markets. As a consequence, their firms gradually pursue active expansion into more unknown markets and become increasingly committed to international growth. As summarized by Thomas and Araujo (1986) and Andersen (1993), this pattern explains internationalization in terms of the innovation-adoption of export behavior. Thus, according to the different stage models, the internationalization process shows a cumulative character, given that the firm tends to ascend toward greater levels of commitment once it accumulates experience in the previous steps. Hence, this process is supposed to be evolutionary in nature, mostly when it affects SMEs and/or firms with rather limited experience abroad. This is because of the expected effect of the learning process followed by the firm on the reduction of the levels of uncertainty with which it operates in international markets. More concretely, such experiential knowledge, gained through undertaking

60


activities directly in these markets, should mitigate the conditions of uncertainty in which decisions tied to the commitment of resources abroad will be adopted. In summary, this gradualist approach does not seem to conceive of business internationalization as a rational and/or deliberately planned sequence, but rather as a pattern of slow and evolutionary development in time, where the incremental nature of learning becomes a key factor through the course (apparently predetermined) of a sequence of successive stages. The central feature of this approach lies, therefore, in assuming that a large part of the capabilities required by firms for internationalizing their activities are acquired through a process of sequential and accumulative learning, in the form of a series of phases that reflect a higher commitment to foreign markets (Melin, 1992). An additional contribution of this model lies in emphasizing the importance of the perception of opportunities and risks on behalf of the firm's managers and, thus, establishing their leading role in international decision making (Dichtl et al., 1990). However, the excessively descriptive nature of this proposal does not fully explain the decision dynamics that lead the firm to move from one level of international commitment to another. Thus, the U-Model, as well as other related behavioral approaches, describes the path followed by the firm throughout its exporting trajectory, but; collectively, these approaches show themselves to be somewhat weak in identifying the explanatory causes of such a progression along the phases or stages considered. In addition, its "dynamic" view of the process neither reflects the growing proliferation of mixed formulas of a contractual nature (licenses and/or franchises) nor other more recent mechanisms for the international extension of the firm such as international joint ventures. Even in the same area of export activity, some authors, such as Reid (1983, 1984), point out that the structures that are finally adopted are highly specific, basically depending upon the heterogeneity of the transactions performed. Hence, the structural arrangement finally chosen for organizing this activity constitutes a relevant strategic choice, which makes the diversity of the firm's export behavior stand out. Thus, to enhance the explanatory power of the stage process model in the contemporary international business environment, its assumptions must be revised. Greater flexibility is needed, given the apparently indeterminate and eminently selective nature of the firm's strategic options in the international context. Upon freeing it of its excessively deterministic view of the internationalization process, these models could be empowered to explain both the emergence of new, more adaptable, flexible and innovative modes of entry, and simultaneously, the acceleration of the international involvement of firms (Alonso, 1993a, b, 1994).

Conceptual Frameworks on SMEs ' Internationalization

61

CONTEMPORARY MODELS OF INTERNATIONALIZATION: THE FOREIGN ENTRY MODES LITERATURE AND THE NETWORK APPROACH This section's main intention is to present and discuss some current streams of literature: (1) strategic mode of entry choices - firmly based on the transaction cost approach; and (2) the network perspective (as applied to the international context). This review and assessment of several contemporary models of internationalization is intended to better inform our understanding of the strategic decisions and the kind of relationships established by the firm throughout its international projection. Foreign Entry-mode Research Focusing on an extremely critical dimension of the internationalization process, the (foreign) market entry mode issue, several studies facilitate some additional refinement and a more successful accommodation of a variety of earlier frameworks about firm internationalization. Accordingly, a wide range of institutional arrangements or alternative ways of penetration in foreign markets are becoming integrated within this emerging stream of research. 7 These mechanisms are believed to be susceptible to change over time as the firm itself redefines its levels of international presence. Such a recent approach in the field of international business, labeled as the entry-mode literature, also seems to be grounded on the existence of some finnspecific advantage/s (of a productive, technological, organizational, managerial and/or commercial character) capable of being exploited, at least temporarily, in foreign markets by means of a variety of foreign modes of entry and/or generic international trajectories among which firms can strategically choose (Calof, 1993; Albaum et al., 1994; Bradley, 1995). Hence, a firm could serve the foreign markets by means of exporting from its own domestic context, understood as a mechanism of international activity that could be internalized to a greater or lesser degree. Also, it could try to exploit specific advantages by investing directly in foreign markets when some factors (advantages of location, commercial barriers and/or high transport costs) seem to favor such local exploitation, by locating productive capacities abroad by means of the setting up of its own manufacturing subsidiaries (FDI). Additionally, an international firm could co-invest with other firms (international joint ventures). Finally, the possibility also exists of transferring this advantage to another entity (generally, a foreign firm) through a contractual arrangement, in exchange for

62


some type of royalty or economic compensation (international licenses, franchises, etc.). Thus, internationalizing firms are supposed to select among a number of different modes available to penetrate foreign markets that have been usually classified based on the corresponding level of risk, return characteristics, and/or degree of control and resource commitment each mode provides the entrant firm (Anderson & Gatignon, 1986; Kumar & Subramaniam, 1997). These various strategic options, and the different levels of commitment which these alternative entry modes usually imply, can be seen in Fig. 2. The existence of a certain trade-off between the degree of control and operational risk desired in foreign operations and the volume of resources committed by the firm at any specific moment is also shown. We must recognize here that the upper right-hand corner of Fig. 2, the establishment of production facilities abroad, does not necessarily represent the highest level of internationalization. In fact, a finn whose activities were distributed across all nodes should be considered even more internationalized. 8 However, in general terms, moving toward higher levels of internationalization involves obtaining a greater degree of experiential knowledge on an international scale, due to the cumulative learning process followed by the firm throughout its international evolution (Root, 1994; Alonso & Donoso, 1994; Rialp & Rialp, 1996). Each one of these generic, potentially overlapping, paths of international development (export entry mode, contractual agreements, and foreign direct investment), represents a continuum of increasing international involvement with diverse levels of control, risk, flexibility and commitment of assets and resources on behalf of the firm going international. Hypothetically, movement along this "continuum" is expected to be driven by the degree of foreign market knowledge that the firm acquires abroad. However, it is also important to point out the fundamentally strategic nature of the deliberate choice between these alternative trajectories of internationalization, even though such decisions usually come highly conditioned - though not totally predetermined - by the sequence that the firm has created and followed throughout its internationalization. So, one must acknowledge that managers, in making strategic decisions, are continually faced with situations shaped by the specific and dynamic resources and capacities of their firm and its environment. Such a view of the phenomenon of business internationalization describes a process of growing international involvement which admits not only one, but a wide variety of institutional forms or paths of penetration abroad. These forms reflect, in turn, distinct degrees of commitment and, hence, different levels of control and/or operative risk for the firm. Additionally, the process is eminently

63

Conceptual Frameworks on SMEs ' Internationalization

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strategic and dynamic per se, in the sense that such modes of operation vary in time as the firm increases and consolidates its presence in the international arena. Thus, at least theoretically, the choice of foreign market entry mode should be based on several trade-offs between risks and returns, the desirability of control over foreign operations, resource availability and the interrelationship existing among these several factors. Consequently, a number of studies have appeared that try to establish different models and analytical frameworks for investigating the selection among all the available modes of entry abroad (Anderson & Gatignon, 1986; Nicholas, 1986; Hennart, 1989; Hill et al., 1990;

64

ALEX RIALP A N D JOSEP RIALP

Agarwal & Ramaswami, 1992; Erramilli & Rao, 1993; Alonso, 1993b, 1994; Root, 1994; Driscoll, 1995). Each one of these studies introduces strategic selection criteria preceeding the options that the firm is facing at the moment of exploiting its specific advantage/s beyond national borders. Some of the most important contributions in this line of inquiry are summarized and also systematically compared in Table 1. Many of these theoretical and empirical frameworks have been amply reinforced by the abundant literature based upon transaction costs analysis (TCA) (Coase, 1937; Williamson, 1975, 1979, 1981). Also according to Andersen (1997), in the last decade applications of TC approach have become fairly common in the entry-mode research. In fact, this approach contributes to the formulation of the firm's international strategy, and more specifically to predicting entry mode, to the degree that an adequate analytical framework where exploring the relative advantages in terms of the relative costs of the Table 1.

Author/s

Selection models of the foreign mode of entry based on the Transaction Cost Approach. Main objective

Operationalization

Results/conclusion

Anderson & To explain the choice Gatignon (1986) between joint ventures and foreign (production) subsidiaries.

The structure of ownership associated with the exercise of control over each mode of entry is fully determined.

The factors which tend to increase transaction costs are positively associated with the degree of control obtained over the mode of entry.

Nicholas (1986)

To elaborate a dynamic model of the choice of the foreign mode of entry.

Starting from the "structure" or organizational forms for the performance of international transactions and from the "process" or possible changes between them, the firm's transition between such alternative modes in function of the costs they generate is considered.

The variables frequency of transaction, nature of the product - especially if it requires the performance of specific investments - and the presence of scale economies constitute the factors which most determine the cost associated with the distinct alternatives.

Hennart (1989)

To explain the principal traits associated with the distinct types of contractual arrangements, which do not involve property new forms - as opposed to the realization of FDI traditional forms.

Identification of the transaction costs linked to these new and traditional forms for organizing international exchanges.

The new contractual forms can be more efficient than FDI for conducting some of them, but they are seen to be highly inefficient for the acquisition of specific types of technological knowledge and/or access to foreign markets.

Conceptual Frameworks on SMEs' Internationalization Table 1.

65

Continued.

Author/s

Main objective

Operationalization

Hill et al. (1990)

To establish an "eclectic framework" for the choice among foreign entry modes.

To know how the distinct modes differ with respect to resources commitment, the level of control inherent in each mode and the risk that finn-specific advantages (particularly knowledge) disseminate abroad.

The interaction, which is produced between determined variables of a strategic, environmental and transactional nature with the requirement of resources, levels of control and risk of dissemination of the business knowledge attributable to each mode of entry, determines its final selection.

Alonso (1993b, 1994)

To analyze the selection Submitting transaction process among the firm's costs to an evolutionary mode of entry in interna- dynamics in such a way tionai markets by that their perception varies applying a dynamic view depending on previously of transaction costs, accumulated experience by the finn.

The apparentlyindeterminate nature of the diverse concurring forces in the selection process of the paths of penetration abroad necessitates a more detailed analysis of the finn's core competencies and its environment.

Root (1994)

To list the variables that will help managers to decide about the most appropriate mode of entry in each case.

Definition and application of criteria for the identification of relevant factors for the selection of the mode of entry abroad.

The main critical factors seem to be: those of the market, environment and production in the target country; those in the country of origin and those factors related to the product, resources and the finn's degree of commitment.

Driscoll (1995)

To determine the theoreti- The different methods of cally expected impact of entry abroad (FDI, contracthe variables which tual modes and mecharegulate the selection nisms for exporting) are between the desired and defned, characterized and observed levels of the related in terms of the distinct characteristics degree of control, risk, relative to each mode of commitment of resources, entry, strategic flexibility and level of ownership which each one has.

The selection of the most appropriate institutional arrangement for entry in international markets is an extremely critical decision due to its impact on the success or failure of the firm's international operations, mainly in the initial phases of its internationalization.

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66


Moreover, most of the studies on foreign market entry modes have had to introduce some modifications of TC theory to include non-transaction cost benefits derived from increased control or integration, such as coordination strategies in multinational firms (Hill et al., 1990). This rather modified TC approach generally predicts a positive relationship between asset specificity and propensity for high-control entry modes. The strength of this relationship is contingent upon the influence of moderating factors, such as external or internal uncertainty and firm size (Anderson & Gatignon, 1986; Erramilli & Rao, 1993). However, concerning this explanatory framework, at least a couple of problems still limit its possibilities of further empirical testing. First, the unit of analysis should be, according to the TC theory, the transaction in play; while most TCA studies on entry mode decision widely concerned about other issues affecting a firm's decisions have used the firm-level as their unit of empirical interest. Second, too often relevant transaction costs in consideration of entry modes can be only indirectly assessed by means of indicators such as degree of asset specificity and internal or external uncertainty level. Consequently, more efforts should be made in reaching the necessary fit between the theoretical and operational levels in these kinds of studies (Andersen, 1997). International Network-related Research In order to study the internationalization of a firm we need to understand the context in which it operates, such as, environmental conditions and the firm's relationships with other entities (Madsen & Servais, 1997). More concretely, how do firms - especially smaller ones - make use of business networks and/or collaborations when they internationalize? Referred to as the network perspective, an emerging area of SME internationalization research focuses on non-hierarchical systems where firms invest to strengthen and monitor their position in international networks. This contemporary approach draws on theories of social exchange and resource dependence, and focuses on firm behavior in the context of a network of inter-organizational and interpersonal relationships. Moreover, researchers of networking have transposed the social exchange perspective of social networks to business networks. There is "a set of two or more connected business relationships, in which each exchange relation is between business firms that are conceptualized as collective actors" (Chetty & Blankeburg Holm, 2000, 79). Thus, business takes place in a network setting, where different business actors are linked to each other through direct and indirect relationships. Johanson and Mattson's (1988) network approach to internationalization is preferentially chosen here as a relevant theoretical framework because it

Conceptual Frameworks on SMEs" Internationalization

67

includes a dynamic element by focusing on network relationships. This model uses social exchange theory to illustrate and also explain how firms develop networks organically to internationalize. More concretely, these authors consider business networks as the relationships a firm has with its customers, distributors, suppliers, competitors and government, i.e. the actors in a business network. They argue that as the firm internationalizes, the number and strength of the relationships between different parts of the business network increases. By internationalizing, the firm creates, develops and maintains business relationships with counterparts in other countries. This occurs in different ways: first, by forming relationships with counterparts in countries that are new to the firm (international extension). Second, by increasing commitment in already established foreign networks (penetration). Third, by integrating their positions in networks in various countries (international integration). However, internationalization in all of these cases implies "an exploitation of the advantage this network constitutes" (Johanson & Vahlne, 1990, 20). Clearly, the network perspective provides valuable insight into the dynamics of internationalization in that a network-based approach is linked to strategic decision making. More specifically, developing and managing business and social relationships can help reduce the smaller firms' dependence to their own internal resources and, consequently, increase their propensity to internationalize. Thus, by means of these network relationships, SMEs are able to overcome the size-related constraints so often identified as limiting their growth. In this sense, "smallness" (measured in terms of physical resource availability) might be irrelevant when examining internationalization. Also, the generally considered less rigid and more fluid managerial processes in the smaller firm, as compared to larger ones, may be driven very often by the strong influence of the owner/manager of the SME and his/her personal contact network. As we have seen, the activities in the network allow the firm to form relationships, which help it to gain access to resources and markets. An assumption in this model is that a firm requires resources controlled by other firms, which can be obtained through its network positions. Johanson and Mattson also use the term net to specify certain sections of a network. For instance, national net refers to networks in other countries, and production net refers to a firm's relationships that revolve around activities in a specific product area. Furthermore, and precisely depending upon the degree of internationalization of the market (production net) and the degree of internationalization of the firm itself, these authors theoretically identify four categories of international firms (see Table 2): the Early Starter, the Lonely International, the Late Starter and the International Among Others, whose characterization has been largely discussed elsewhere (Johanson & Mattson, 1988; Chetty & Blankenburg Holm, 2000).

68


Tab/e 2.

Johanson and Mattsson's Network Approach to Internationalization. Degree of internationalization of the market

(production net)

Degree of internationalization of the film

Source:

Low

High

Low

The Early Starter

The Late Starter

High

The Lonely International

The International Among Others

Reproduced from Johanson and Mattsson (1988, 298).

Precisely by inquiring what network relationships drove internationalization for the firms in each of these four theoretical categories, Chetty and Blankenburg's (2000) case-based research illustrates the dynamics of how firms interact with their network partners to extend, penetrate and integrate their international markets. In their opinion, networks can help firms expose themselves to new opportunities, obtain knowledge, learn from experiences, and benefit from the synergistic effect of pooled resources. However, they also identify from their findings several weaknesses of this model, the most relevant one being that the cases under analysis illustrated that there are other dimensions to the network - such as customers and governments - that drive firms to internationalize rather than just the production net which Johansson and Mattson emphasized in their model. 9 These flaws should be removed to advance the network related literature.

CONCLUDING REMARKS AND IMPLICATIONS OF INTEGRATING PAST AND CONTEMPORARY CONCEPTUAL FRAMEWOKS This study has attempted to facilitate the future development of knowledge about the nature of small business internationalization and to provide a step toward a more holistic understanding of this process. More concretely, it has been the general goal of this paper to encourage future writers to consider the consolidated contributions of four major streams of research in the international business literature: FDI theories, the stage models, the entry-mode research, and the network approach. Although generally considered in an isolated, non-related way, all of them have been empirically applied in SME internationalization research. However, this segmented approach, using only one theoretical frame-


69

work at a time, does not seem to be the most appropriate research strategy to capture the internationalization issue. Thus, more integrative approaches to the study of internationalization will undoubtedly benefit our understanding of the overall concept. Consequently, this article's main contribution lies in the following general assumption: none of the traditional approaches (FDI's classical explanations and the gradualist approach), individually considered, provides a truly complete explanation of the complex nature of the SME internationalization process. However, it is our belief that by viewing past contributions more integratively, and incorporating new research findings from the growing literature on foreign modes of entry and the network perspective, significant progress can be achieved in terms of theory development in this field. In our opinion, the reviewed theoretical frameworks provide complementary views of the internationalization concept. Hopefully, such a theoretical refinement and better combination of the extant approaches would critically help other researchers, and also managers, to obtain a more advanced comprehension of this highly challenging phenomenon. Figure 3 graphically illustrates the evolutionary pattern of research focusing on internationalization that has been presented in this paper. Also, some future directions for promoting further theory development in light of our review and critical assessment of the literature in this field are also addressed. As discussed previously, the general theory of FDI has developed from neoclassical and industrial trade theory and supports internalization of a firm's activities in international expansion. This view explains internationalization with the argument that firms choose the organizational form and location for which overall transaction costs are minimized. In other words, firms choose their optimal structure to perform foreign production by evaluating the cost of economic transactions. Transactions perceived to be high risk and requiring significant resource commitment are more likely to be internalized as part of a hierarchically structured organization. However, critics of this theory argue that research in this area is used primarily to explain a pattern of investment in terms of its extent, form, and location of international production, something that is rather applicable to already established MNCs, and not a long-term process of international expansion. Contrarily, the several stage models draw on organizational growth, behavior, and learning theory to capture internationalization and are generally argued to be more "dynamic" than FDI theory (Melin, 1992; Johanson & Vahlne, 1990). These models suggest that internationalization activities tend to occur incrementally and are influenced by increased market knowledge and commitment. By emphasizing managerial learning, business internationalization is described

70


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Conceptual F r a m e w o r k s on S M E s ' Internationalization

71

in terms of market selection and the mechanisms used for market entry. Over time and through experience, firms increase their foreign market commitment and this, in turn, enhances market knowledge leading to further commitment in more distant markets. Thus, the finn is eventually expected to internalize its activities by moving over time from purely domestic operations to establishing host country operations, based on a process of managerial learning. This is perhaps the reason why some authors acknowledge that the stage models, in spite of their several limitations, also appear to reflect the essence of FDI (Coviello & McAuley, 1999). On the other hand, the contemporary schools of research also reviewed here stress some relevant issues that have been "forgotten" or remained misunderstood in previous research programs, many of which deal with some factors affecting SME internationalization. Hence, by adopting a more dynamic perspective of the transactions costs in play and the non cost-related issues affecting any firm's international expansion, several entry-mode studies seem to relate them more successfully to the development of more efficient strategies of penetration in foreign markets. Moreover, these strategies become capable, by themselves, of making the sequence followed by any type of organization - either large or small - more flexible than normally assumed in previous theoretical explanations, i.e. FDI theories and the stage models of internationalization. In a similar vein, the international network perspective offers a complementary view to FDI theory because the latter does not account for the role and influence of social relationships in business transactions. Internationalization decisions and activities in the network perspective emerge as patterns of behavior influenced by various network members, while FDI theory merely assumes rational strategic decision making applied by the firm's management system. Also, when compared with the "unilateral" process of internationalization suggested by the stage models, the network approach conveniently introduces a more "multilateral" and interactive view of this phenomenon. Thus the process is not merely intra-organizational but also inter-organizational. In relation to the U-model, it can be assumed that market (i.e. network) knowledge is based on experience obtained from current business activities, or current business interactions. Recent studies of the internationalization issue in the context of exchange networks have found that, although foreign market entry can be considered to be a gradual process (thus partly supporting the stage models), it results basically from interaction, development, and maintenance of lasting business relationships with other business actors or parties over time (Johanson & Vahlne, 1990). Organizational boundaries therefore should incorporate both business (formal) and social (informal) relationships. Such

72


relationships can involve customers, suppliers, competitors, private and public support agencies, family, friends, and so on. Thus, according to our assessment of the theoretical evolution in this field, we can affirm that the internationalization literature, even that one focused on SMEs, has evolved to actually encompass: (1) the analysis of transaction cost and structural market imperfections in the context of FDI; (2) the examination of managerial learning and organizational commitment in the process of international expansion; (3) the consideration of multiple forms of foreign market entry available to the firm; and (4) a more recent approach that recognizes the potential influence of formal and informal networks relationships on internationalization. In other words, by further interrelating all these approaches as Fig. 3 attempts to do - a more holistic view of the process of business internationalization emerges. Its main traits are only being introduced here. Due to its holistic character, this more integrated perspective seems capable of interweaving a certain degree of gradualism, based upon a learning process (absolutely critical during the initial phases), with a highly dynamic conception of the modes of entry abroad in following stages. At the same time, managers are highly influenced by the amount of international experience acquired according to the previously chosen trajectories. In this way, the internationalization process provides an open and quite flexible path due to the wide range of modes of entry available to the firm throughout its international involvement. The strategic selection among all of these possible forms will depend, consequently, upon the already acquired levels of commitment on behalf of the firm, as well as upon the volume and/or quality of the resources and assets that it is willing to move to the target markets at any one moment. However, according to the network view, internationalization also depends on the organization's set of network relationships that result from interaction with other counterparts rather than solely on a firm-specific advantage. Such different networks may be more or less international to the extent that the connections between them in different countries are more or less developed. It also can be expected that the international extension of these networks has strong implications for the internationalization of the firm (Johanson & Vahlne, 1990). Therefore, by integrating these several lines of inquiry, it is possible to derive a more general conceptualization of the internationalization process, a more sophisticated view that becomes relevant to both small and large firms, not a single model which is limited by the size and/or resources of the firm whose behavior it is designed to explain. But, what would the main characteristics of this perspective be? This research question could open an interesting debate theme from an academic perspective in the future. However, any further development of such an integrated and multidisciplinary framework would hold -


73

the potential to mend the rift in international business theory that has arisen de facto from the different starting points of individual researchers whose primary interest has been explaining the behavior of a particular type of firm - that is, MNC-oriented research versus SME-oriented research. Contrarily, future researchers in the general field of international business should focus on improving the integration of these extant views of internationalization, recognizing that no single view may be considered valid, and also that internationalization is a dynamic and longitudinal process, thus it must be empirically investigated in this way too. Moreover, this holistic perspective of internationalization also offers relevant managerial implications as it holds the potential, if examined properly, to enhance the operating performance of any firm. Those managers and decision makers involved in international affairs could benefit from this more consolidated approach which basically stresses the more universal concerns of knowledge-based development, business network relationships, and strategic management, rather than focusing on the obvious differences in internal resources between large and small firms. Certainly, some of the concerns of managers of MNCs firms and SMEs are unique to their structural conditions. However, other issues extensively covered in this paper, such as the access to foreign market knowledge and other external resources, could not depend so much on size and structure dimensions.

NOTES 1. Related bodies of literature referring to the explanatory causes of trade between countries, as well as international competitiveness at a specific country-sector level (Porter, 1990), are conceived of as alternative approaches to the internationalizing phenomenon though of a rather macroeconomic nature. So, they are explicitly excluded from this study, which is directly linked to the (micro) organizational approaches to internationalization. 2. For very useful summaries of theoretical and empirical research examining the smaller firm and export-related issues see Bilkey (1978); Dichtl et al. (1984); Thomas and Araujo (1986); Miesenb6ck (1988); Aaby and Slater (1989); Andersen (1993); Leonidou and Katsikeas (1996); or Rialp (1997). See CovieUo and McAuley (1999) for a study examining how integrative the empirical literature on internationalization of SMEs is. This clearly demonstrates the current regency of the SME internationalization literature. 3. The examples that are typically associated with this internalization process would be the factor markets and/or intermediate goods of a rather more specific and intangible nature, such as technological assets, managerial, marketing or production skills, human capital, etc., due to the "public good" character attributable to such knowledge (Buckley & Casson, 1976). This internalization, nevertheless, cannot be done gratuitously and usually creates problems - and, consequently, costs - of communication, coordination and control.

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4. In terms of SME-related research using this theoretical framework, a rather limited number of studies seem to be available (Newbould et al., 1978; Buckley, 1989). Among the most relevant ones, Newbould et al. (1978) found FDI to be a managerial process. By means of several interviews with managers of UK manufacturing firms, an evolutionary approach to internationalization was indeed suggested, reflecting incremental investment resulting from a process of ongoing managerial learning. 5. Specifically, the following phases are considered: (i) irregular exports; (ii) regular exports via independent agents and/or distributors; (iii) the establishment of foreign sales subsidiaries; and (iv) (eventually) the establishment of production facilities abroad. 6. Penrose (1959) is followed here in the distinction of two types of knowledge: an objective and generic one, which can be codified, acquired and/or transmitted quite easily; and a specific one, which is rather tacit, idiosyncratic and directly linked to experience, which can only be acquired by means of an eminently practical learning process. It would basically be the prominence of this last type of knowledge that would condition the gradual sequence of the process. Later on, Eriksson et al. (1997) have gone into this question in depth, clearly distinguishing between different classes of knowledge based upon experience - i.e. experiential k n o w l e d g e - and establishing their relations with the costs to be perceived during the internationalization process. 7. Given its condition of "frontier research issue" (Hill et al., 1990), it would be simply interminable to try to enumerate and fully discuss here all the conceptual frameworks that have been put forward concerning the foreign entry mode decision making. Thus, within this section the number of perspectives for assessing the mode of entry issue is restricted somewhat. Other recent and quite helpful contributions are available elsewhere (Sarkar & Cavusgil, 1996; Andersen, 1997). 8. The authors gratefully acknowledge this pertinent comment made by one of the reviewers. 9. Other weaknesses of this network model were related to some of the following issues: (i) The criteria used to differentiate each category in the matrix are not distinctive and thus overlap, (ii) The importance of decision-makers' attitudes and firm characteristics in taking up opportunities for international extension, penetration, and integration that emerge from the networks is not fully addressed, (iii) The model does not discuss how the firms overcome the problems experienced in internationalization through their network relationships, (iv) It also excludes the influence of certain external and uncontrollable factors that propel a firm toward internationalization, (v) The network model does not address how firms shift positions in the matrix. And finally, (vi) the model only considers relationships that evolve organically (Chetty & Blankenburg Holm, 2000, 89-90).

ACKNOWLEDGMENTS W e thank Dr. Catherine N. Axinn, from Ohio University, and the anonymous reviewers from A I M for their useful comments to earlier versions of this paper. Also support from the Direcci6n General de Ensefianza Superior (PB-95-0616) is gratefully acknowledged.


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PATTERNS OF INTERNATIONALIZATION OF BRAZILIAN FIRMS AND THE DECISION TO ESTABLISH SUBSIDIARIES ABROAD Antonio Barretto and Angela da Rocha

ABSTRACT The internationalization process of Brazilian firms was examined using the case study method of research, in order to determine whether existing theories could explain the Brazilian experience. Ten in-depth case studies were conducted. All companies studied were involved in foreign direct investment (FDI) at the time of data collection, and, with the exception of one, had started their internationalization by exporting. Motives to internationalize and to establish subsidiaries abroad were investigated. Typical patterns of motives to invest abroad and common sequences of entry modes were identified. The choice of foreign markets for FD1 seemed to be associated with perceived psychic distance as postulated in the literature. The ownership structure, however, did not seem to follow the patterns identified in other studies. The study confirmed the proposition that inspired leaders play a major role in the initial steps of the internationalization process. Following network theory, personal and professional networks were determined to be of paramount importance in this process.Concluding, a framework is proposed for the study of the FDI decision of firms from emerging countries.

Reassessing the Internationalization of the Firm, Volume 11, pages 79-131. 2001 by Elsevier Science Ltd. ISBN: 0-7623-0795-1

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ANTONIO BARRET'I'O AND ANGELA DA ROCHA ~TRODUCTION

Brazilian companies have been late in internationalizing. Except for a small number of very large finns who became active exporters or established subsidiaries abroad, many of them state companies, the majority of Brazilian companies, even large ones, did not enter foreign markets, except through exporting. Even in this case, only a few companies became truly dedicated to the export activity; most of them considered exporting as an alternative to diminishing demand in the domestic market or as an outlet for excess production (Da Rocha, 1987). During the 1990s, however, a different trend emerged, as a number of finns, including small and medium-sized manufacturers, decided to enter the international arena through licensing, franchising or foreign direct investment. New challenges and opportunities precipitated these changes. On one side, the opening of Brazilian markets to foreign products and investments in the early 1990s attracted competitors that were often much more powerful than companies traditionally operating in the domestic market. Declining margins, increased rivalry, and price wars were some of the challenges that local companies had to face. Foreign competitors tended to be a real threat, even to multinational companies already operating in Brazil, since these companies had also been involved in oligopolistic practices such as price agreements among competitors and many of them were not competitive with the new entrants. The threat was increased by the eagerness of local consumers to have access to foreign products, perceived as of superior quality, independently of brands or national origin (De Carvalho, 1993; Chong, 1993; V~izquez, 1994). New entrants thus posed a formidable challenge to the complacent local industry. On the other side, the creation of Mercosur - the Southern Common Market permitted many Brazilian companies to internationalize in an environment that was, to some extent, protected. Because of trade advantages shared by Mercosur members, Brazilian products were competitive in other Mercosur markets, at least until the overvalued Brazilian currency changed the trade balance in favor of other Mercosur partners. A hospitable environment to foreign investments and a successful initial launch through exports encouraged a number of Brazilian companies to establish subsidiaries in other Mercosur countries. The entry of foreign competitors in the Brazilian market seemed, as well, to stimulate domestic companies to go abroad, in search for new opportunities. The globalization of certain industries, such as the automotive industry, also had its effects in promoting company internationalization. In summary, Brazilian companies were both pushed and pulled to international markets by challenges and opportunities presented in the early 1990s. -

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Yet the response of Brazilian companies to the challenges of globalization was not as broad or effective as one would expect. Of a total of US$8.4 billion in foreign investments by Latin American countries within the region from 1995 to 1998, Brazilian companies accounted for only $0.5 billion, compared to Chile, with $3.15 billion (38% of total intra-regional investments) and Argentina, with almost $2 billion (24%). Comparing the size, population, resources and GDP of these countries, one can see that the low Brazilian share in Latin American investments is a symptom of, at the least, a lack of interest in foreign markets. This lack of interest does not describe, however, some leading Brazilian companies. In fact, as the external environment reduced its limitations to Brazilian foreign direct investment, certain companies daringly initiated such a process. This paper reports some research findings on the internationalization of Brazilian firms and their foreign direct investment decisions. It is the initial step of a larger research project financed by the Brazilian government in order to study such processes. The study aimed to answer the following research questions: • What were the companies' motivations to establish subsidiaries abroad? • Which markets and modes of entry were chosen in the internationalization process, in what sequence, and what was the rationale behind such choices? • To what extent do existing models of internationalization apply to the Brazilian case?

METHODOLOGY This exploratory research was based on ten in-depth case studies of Brazilian companies that had established subsidiaries abroad. The case method of research was considered most appropriate for this study because of its adequacy to exploratory studies. In fact, with very few exceptions (e.g. Grael & Da Rocha, 1987; Machado-da-Silva, Casali & Fernandes, 2000), there is almost no relevant research on the recent Brazilian foreign direct investment (FDI) experience. Qualitative research, of which the case study is one methodological approach, is generally considered appropriate to investigate realities, facts and issues that are not well known (Kirk & Miller, 1986). Yin (1989) suggests that the case study is especially appropriate when the research questions are of the type "why" and "how" and when the frontiers between the phenomenon under study and the context are not clearly defined. An initial list of 69 internationalized Brazilian companies was identified, based on research in newspapers and business magazines. Since the case method does not require that specific cases chosen be representative of the universe

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studied (Yin, 1989), case selection was based on how "interesting" a specific case was in terms of wealth of details and experiences. Nine of the companies interviewed were manufacturers and one was a service company. The cases selected did not include commercial firms or producers of commodities. On one side, export commercial finns or trading companies are usually companies that were started with the purpose of operating in a foreign market and had specific legislation to support such activities. Even commercial firms without any tradition of exporting present different characteristics in terms of their internationalization process. On the other side, most producers of commodities have to operate in international markets because of the nature of their products. Both situations present very specific problems and it was decided that they should not be included in this study. All the companies studied were firmly established in foreign markets and committed to internationalization. All of them had a leading position in their industries in Brazil either in terms of market share, product quality or innovative practices and were in the initial stages of establishing subsidiaries abroad. The ten companies selected for the study agreed to participate in the study. Personal interviews were conducted with top executives of each company. The in-depth interview is considered the most important research tool in case studies (Yin, 1989; Fetterman, 1989). In most companies, the chief executive officer was interviewed. Secondary sources were also studied although they did not provide much relevant information on the internationalization of the selected firms. They included company web sites, company reports and articles from newspapers and business magazines. A semi-structured questionnaire was used to conduct the interviews. This questionnaire included a general section on company characteristics and relevant data on their internationalization process such as foreign markets, modes and time of entry. Then specific questions were asked covering the main research topics, such as motivations involved in each step of the internationalization process, reasons associated to the choice of markets and entry modes, intervening events associated with the internationalization process, networking, etc. Interviewees were asked to speak freely about suggested and related topics. Interviews required between one and four hours, depending on how much time the interviewee had available. All interviews were taped and a transcription made of each one. The analysis was divided into two steps. In order to get a better understanding of the sequences involved in the internationalization process of each firm, the first step consisted of the organization of the data into tables, including foreign markets, motives, time of entry, mode of entry, location, type of facilities and ownership. The second step consisted of a more qualitative analysis of the inter-

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views. For each interview, the transcription was divided into parts according to the issues examined and each part was codified. Then, all parts of each interview under the same code were compared and analyzed. LITERATURE

REVIEW

According to Welch and Luostarinen (1988, p. 37), internationalization can be defined as "the process of increasing involvement in international operations." Because of the growing involvement of firms with inward internationalization and the interconnection between inward and outward internationalization, the authors suggest that this definition is broad enough to encompass both sides of international operations. Inward internationalization is seen as the mirror face of outward (Welch & Luostarinen, 1993). An international enterprise is defined as "a firm which services foreign markets (Dunning, 1980, p. 9)." Decision Processes and Motives to Internationalize

What factors are associated with the firm's decision to go abroad? This question has been extensively examined in the literature, although results are by no means convergent. Two types of explanations compete: on one side, "objective" or "rational" motives exist and on the other, the reasons are of a "subjective" or "non-rational" nature. The first set of motivations is strongly supported by economists such as Hymer (1976), who identified three reasons why companies would invest in international production: to neutralize competitors, to exploit unique competitive advantages and to diversify. Transaction-cost theorists also claim that business decisions are rational even if all possible alternatives are not necessarily considered in the decision-making process, which tends to be limited to a certain subset. Such "bounded rationality" would result from cognitive limitations of the decision makers in their information processing and communications capabilities, even if they intended to be fully rational (Williamson, 1975). Transaction-cost analysis sees firms and markets as governance structures, with different transaction costs (Coase, 1937). Investment decisions result from a favorable position in terms of transaction costs when using a firm's own structure. Some scholars in the area of international business have developed theories and models to explain the internationalization process using elements of the transaction-cost framework, such as Buckley and Casson (1993, 1998), Rugman (1981) and Dunning (1980, 1988, 1997). These theories are known in the international business field as internalization theories (or, in the case of Dunning's

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contribution, as the "eclectic paradigm"), suggesting that foreign direct investments occur when the benefits of internalization overcome the costs (Fina & Rugman, 1996). Internalization advantages refer to the ability and desire of a finn to transfer assets to another country using its own hierarchy instead of market mechanisms (Dunning, 1988). Market failures, such as information costs, opportunism and assets specificity, would stimulate decision makers to consider foreign direct investment as a more attractive alternative. A number of empirical studies, however, have indicated that companies do not make foreign investment decisions in a rational and systematic way. Early research (Aharoni, 1966) on foreign direct investment processes found that the FDI decision-making process could not be described by a careful and rational consideration of alternatives but rather as isolated decisions based on whether a given alternative was considered satisfactory. Yet the decision-making process was influenced by a number of elements external to the rationale for the decision but that would strongly impact the outcome. For example, Aharoni proposed that the perspective of profitability did not seem to be enough to move a potential foreign investor from inertia but that "a strong initiating force" was necessary to start the decision-making process and this force was often extraneous to the investment decision itself. The School of Uppsala offered a similar view of the reasons why companies internationalize. According to this view, internationalization was not " . . . the result of a strategy for optimum allocation of resources to different countries . . . " but rather " . . . the consequence of a process of incremental adjustments to changing conditions of the finn and its environment" (Johansson & Vahlne, 1977, p. 26). Managers would consider each problem as unique and make decisions based on the specific problem's context. When faced with a given foreign market opportunity, " . . . commitments to other markets are not explicitly taken into consideration, resource allocations do not compete with each other" (Johansson & Vahlne, 1977, p. 26). The evolutionary model of internationalization proposed by the School of Uppsala and its followers sees internationalization as a gradual process by which a company increases its commitment to foreign markets based on ongoing influences and learning effects, as well as other situational influences (Welch & Luostarinen, 1988). Authors such as Bilkey and Tesar (1977), Cavusgil (1980), Reid (1981) and Czinkota (1985), among others, constitute another stream of research on the internationalization process of the firm. Andersen (1993), in a literature review on internationalization models, classified the contribution of these authors as the "I-Model," because of their common view of internationalization under the perspective of innovation. A common characteristic underlining these models is the belief that internationalization proceeds in stages, starting with uncom-


85

mitted exports to active exporting and, finally, to the establishment of subsidiaries abroad. Kutschker and B~iurle (1997, p. 110) affirmed that " . . . the degree to which internationalization is driven by deliberate elements or by muddling through can vary extremely." In some cases, internationalization would actually follow a plan and be subjected to rigorous analytical assessment; in others, it would be " . . . more incremental and accidental piece-meal engineering" (p. 110). This is supported by Maignan and Kukas (1997) who observed that managers in two international companies " . . . did not rely on sophisticated processes to choose their entry modes in foreign countries; rather, perceptions and past experiences seemed to guide their actions in the international scene (p. 8)." Researchers on decision-making processes, such as Mintzberg, Raisinghani and Thror~t (1976), have also indicated that rarely are decisions made under rigorous rationality, but that events, facts, perceptions, values and affinities of decision makers have much more importance than would otherwise be considered. Furthermore, the study of motivations has inherent difficulties, particularly when such decisions were taken a long time before the moment when they are investigated. Motives can be suppressed, repressed, rationalized or simply forgotten. A positive or negative outcome may also influence the way decisions are perceived ex-post facto. In fact, according to attribution theory (Oliver, 1997), people tend to attribute to their own actions positive outcomes, but to attribute to external causes actions whose outcomes were negative. A more recent approach to internationalization theory is the one that studies the "born global" firms, those that are started already prepared to act in the global market (Knight & Cavusgil, 1995; Madsen & Servais, 1996). These have also been referred in the literature as "global start-ups" or "international new ventures" (Oviatt & McDougall, 1994). This seems to be, in certain European countries, a very common trend, as the European Community increases its integration and companies in every member country in their context of reference take into consideration the European market as a whole. As such, the "born global" phenomenon seems to be associated mostly to the broadening of European managers' cognitive maps from the domestic to the European market. Another important issue in the internationalization process is the question of how firms decide to enter foreign markets. The Uppsala internationalization model proposes that firms will tend to start by choosing markets that are psychologically or culturally closer and as they mature in their internationalization process they will enter more distant markets. Johanson and Vahlne (1977, p. 24), in their classic article on the internationalization process of the firm, defined psychic distance as " . . . the sum of factors preventing the flow of information from and to the market." It has also

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ANTONIO BARREl"TO AND ANGELA DA ROCHA

been defined as "the perceived importance of cultural similarities" (Reid, 1986, p. 18), as "a finn's degree of uncertainty about a foreign market resulting from cultural differences and other business difficulties..." (O'Grady & Lane, 1996, p. 330) and as a "marketing disturbance component" (Halltn & WiederscheimPaul, 1993, p. 293). Nordstr/Sm and Vahlne (1992) pointed out that cultural and psychic distance are different concepts, the second encompassing the first. The following factors responsible for psychic distance have been indicated in the literature: differences in language, education, business practices, culture and industrial development (Johanson & Vahlne, 1977, p. 24); differences in the legal environment (Reid, 1986); differences in the communication infrastructure (Klein & Roth, 1990); differences in administrative systems (Nordstr~m & Vahlne, 1992); differences in business language (Halltn & Wiederscheim-Paul, 1993); and differences in industry structure and competitive environment (O'Grady & Lane, 1996). Although the concept of psychic distance has been supported by a number of studies (Bilkey, 1978; Dichtl et al., 1986; Gripsrud, 1990), others did not find support for the proposed relationship between psychic distance and choice of foreign markets (StiSttinger & Schlegelmilch, 1998) or between psychic distance and performance (Zou & Stan, 1998). Others have questioned its applicability to international market strategy (O'Grady & Lane, 1996).

Modes of Entry in International Markets In a seminal work, Anderson and Gatignon (1986) suggested that choice of entry mode in foreign markets was a "frontier issue in international marketing." Although since then this issue has been the object of many studies, there are still many questions as to why companies choose one entry mode and not another. In entering a foreign market, a company can choose between a greenfield investment and an acquisition, and in terms of ownership structure from a wholly-owned subsidiary to a minority joint venture, a licensing agreement or exporting. The choice of entry modes has been studied in the literature from various perspectives. One such perspective is proposed by the Uppsala internationalization theory and the innovation-model theorists, which defend an incremental pattern where a firm moves from lower-commitment entry modes (such as exporting) to higher-commitment entry modes (for example, a whollyowned production subsidiary) as it acquires more experience in international markets. Others, such as Okoroafo (1997), suggested a non-incremental or zigzag pattern, where a firm would choose the most appropriate pattern according to the specific situation.


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Another perspective is the one that utilizes transaction-cost theory to explain why a company would choose a certain mode instead of another. According to this perspective, environmental uncertainty, unpredictability of the results to be obtained or the difficulty to verify compliance to agreements (Rindfleisch & Heide, 1997) would affect the choice of entry modes. The entry mode decision is seen as involving questions associated to risk, return and control. Higher levels of control imply higher resource commitment and thus higher risk. On the other side, low-control modes can affect return, although they do not require the same resource commitment. Thus, firms have to balance control, risk and return issues when choosing an entry mode (Anderson & Gatignon, 1986). Kumar and Subramaniam (1997) add integration aspects as a factor (besides control, risk and return) in the entry mode decision. Anderson and Gatignon (1986) proposed a framework to analyze the efficiency of entry modes under the perspective of transaction-cost analysis, including four constructs: transaction-specific assets, external uncertainty, internal uncertainty and free-riding potential. These constructs would determine the optimum degree of control in entering a foreign market. Transaction-cost theorists see uncertainty as a major determinant of mode of entry. Two types of uncertainty are recognized: external uncertainty, defined as the "unpredictability of the entrant's external environment" (Anderson & Gatignon, 1986, p. 7), including factors such as political and economy instability, currency fluctuations, lack of adequate infrastructure or labor problems (Mascarenhas, 1992); and internal uncertainty which is characterized by a lack of "market-related knowledge in a particular entry situation" (Erramilli & D'Souza, 1995, p. 50) or "the entrant's inability to determine its agents' performance by observing output measures" (Anderson & Gatignon, 1986, p. 7). Erramilli and D'Souza (1995) empirically tested the impact of uncertainty in the choice of entry modes by service firms. They found that higher external uncertainty seemed to be related to low-control FDI modes when capital intensity was higher and for smaller firms; however, the probability to use high-control entry modes actually increased when external uncertainty increased, with low capital intensity and for very large firms. It was also determined by the study that firms moved to lower-control entry modes responding to increasing internal uncertainty. Hill, Hwang and Kim (1990) and Kim and Hwang (1992) claimed that previous research considered the entry mode decision as isolated from other similar decisions taken by a multinational firm and suggested that global strategic considerations also had an important role as a mediator of a multinational company's entry mode decision. The basis for such a claim was the verification that multinational companies take decisions based on the overall

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well-being of the group and not to optimize the performance of individual subsidiaries. The authors suggested three sets of variables as determinants of the entry mode choice: strategic, environmental and transaction-specific variables. The strategic variables proposed were three: industry concentration, global synergies and global strategic motivations. High levels of concentration in the global industry, the potential for global synergies among business units, and global strategic motivations (such as tight coordination across business units in different countries, the establishment of an outpost for future expansion, or the need to confront a mighty competitor) should play an important role in the choice of higher-control entry modes. Four environmental variables were also identified: country risk, location unfamiliarity, demand uncertainty and intensity of competition. It was proposed that when country risk is low, demand uncertainty is high, locations unfamiliar and the greater the intensity of competition in the host market, multinational firms would tend to choose low-control modes. Finally, the authors proposed two transaction-specific variables. They advanced that the greater the value of firm-specific know-how and the greater the tacit component of such know-how, the higher the probability of choosing higher-control entry modes. All the nine variables tested by Kim and Hwang (1992) were found to have a significant relationship with the choice of entry mode. Other authors, such as Gomes-Casseres (1989), looked at the entry mode decision from a strategic perspective assuming that if managers are free to decide the ownership structure when entering a new international market, their choice "should depend on their strategies for managing the firm's capabilities and geographic scope" (p. 19). Madhoc (1997) combined the transaction-cost approach with the organizational capabilities perspective in order to explain why companies choose one entry mode over another. He proposed that internalization would be preferred when a firm's know-how could be easily copied, and when the probability of the know-how being imitated was perceived as larger than the difficulties to adapt to the host country. Cooperative modes of entry would be preferred if company advantages were country-specific and could not easily be transferred and when the motivation for entry was the development of future capabilities that could be better achieved by combining with a partner. Barkema and Vermeulen (1998), using an organizational learning perspective, investigated whether multinational diversity, that is, the "diversity of the national markets in which the firm operates" (p. 10) and product diversity (breadth of the firm's product line) would affect the choice between start-ups and acquisitions as an entry mode. Results indicated that multinational diversity was associated to more start-ups, while product diversity showed a curvilinear effect


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(inverted U-shape form): both in lower and higher product diversity companies would tend to use fewer start-ups and more acquisitions. Finally, culture seems to be a major determinant of the choice of entry mode. In fact, some studies have established the existence of an association between modes of entry and psychic distance. For example, Kogut and Singh (1988) found that the larger the cultural distance, the higher the probability of choosing a joint-venture instead of a wholly-owned subsidiary as an entry mode; and that the larger the uncertainty avoidance (or risk aversion), the larger the probability of choosing a joint venture or greenfield investments rather than an acquisition. Barkema, Bell and Pennings (1996) determined that when cultural distance was smaller, new entrants tended to remain longer in the market. Morosini, Shane and Singh (1998) indicated that the larger the cultural distance to the acquirer, the better the performance of cross-border acquisitions. Internationalization of Firms in Emergent Markets It appears that foreign direct investment by firms from less developed countries is a new phenomenon and has not been much studied. In fact, very little is known about how companies from emerging economies enter international markets by foreign direct investment since most of the literature comes from developed countries. Dawar and Frost (1999), analyzing survival strategies for local companies in emerging markets, indicated that although multinational companies from developed countries have "a rich body of work to advise them on how to enter emerging markets . . . . managers of local companies in these markets have had little guidance" (p. 120). Drawing their evidence from case studies, the authors argue that if the firm's competitive assets are transferable abroad, a local firm in an emerging market should go international. However, depending on whether the pressures of globalization in their specific industry are low or high, internationalization strategies should be directed towards expanding into similar foreign markets (low pressures) or finding market niches in global scale (high pressures). Bartlett and Ghoshal (2000) have also examined, using case studies, how "aspiring multinationals from peripheral countries" can become global players. Psychological factors could be a major deterrent to internationalization, including inferiority complexes, blindness to the international market or fear of failure. As a company moved away from those "liabilities of origin," it would have to face the choice of a strategy to enter foreign markets. The authors argue that successful firms from emergent economies exploit late-mover advantages, either by finding niches or exploring opportunities deriving from the rigidities of their competitors' business models. It was also found that strong leaders that

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believed in their companies' future in international markets characterized those companies. Machado-da-Silva, Casali and Fernandes (2000), who suggested that the institutional context of reference of a company seemed to have a major impact on the internationalization process and the consequent changes in the organization, also discussed certain "liabilities of origin". Empirical evidence from case studies of Brazilian firms indicated that when managers' cognitive maps prioritized the national environment, the internationalization of the firm did not seem to result in important changes in the organization's philosophy, values or strategy. However, when the firm's management perceived the company as competing in a broader international context, the changes seemed to be quite profound. RESULTS

AND DISCUSSION

The results discussed in this section are based on the ten case studies. Appendix 1 presents some general information about the companies, Appendix 2 lists markets, year and entry modes for each company, and Appendix 3 presents location, type of facilities, and ownership structure of the firms studied. The internationalization process of the ten companies is summarized in Appendix 4. Motivations to Internationalize Brazilian Firms

Multiple motives appear during the internationalization process and they vary according to time, markets and modes of entry. In three cases, the motive to initiate exports was unsolicited foreign orders, but in another six cases exporters themselves initiated the exporting process. Their motives were in some cases opportunistic, such as the desire to sell excess production in other markets, but often proactive, such as a desire to go international or to expand the business. As companies decided to further commit themselves to exporting, other motives appeared such as to increase the firm's competitiveness, to reach new customers, to overcome the saturation of domestic markets, to explore new opportunities or to follow a network to a new market. Finally, when deciding to invest in another country, perceived motives could be to diversify risks, to explore an opportunity, to search for dominance in the regional market, to follow a network and to better serve customers, among others. Such a list suggests that motives to internationalize are contingent on industry, type of business, characteristics of decision makers, stage and degree of internationalization, as well as other factors which, in fact, seems to be the case.


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Despite the variety of motives at different moments of a company's international development, certain dominant patterns of motivations seem to be associated with the foreign direct investment decision. Five patterns of motivations to establish subsidiaries abroad were identified in this study: growth, consolidation, survival, opportunity and strategic intent. Growth This pattern of motivation was found in those companies with high market shares in the domestic market. Four among the ten companies in the study were classified in this category: Company A had market shares between 42% and 60%; Company B between 70 and 80%; Company D varied between 30% and 70% in its three business units and Company H had 60% of its market. The four companies were leaders in their industries and did not perceive much growth opportunity in the domestic market. International expansion was seen therefore by managers as the best way to sustain growth. This motivation usually appears later in the company's history when it arrives to a leadership position in the domestic market. Commonly, the first steps in internationalization are not inspired by a goal of growth, and it is interesting to note that two of these companies started to export because they received unsolicited foreign orders. Following Liang's (1995) insightful analysis, such orders may have been placed by foreign buyers exactly because early in their development these companies already displayed the excellence that would later guarantee their market leadership. Later, however, and often still as exporters, companies actively engaged in the search for new markets for their products. A natural extension of such movements was to establish subsidiaries abroad. Consolidation For some companies, the motivation to FDI seemed to be to better serve customers' needs in certain foreign markets. Three companies were classified in this category: E, G and B. 1 Two of them decided to establish subsidiaries in the U.S. market in order to better serve their customers. Managers believed that the export structure in Brazil was unable to adequately attend the needs of such customers, and the consolidation of these relationships demanded a presence in the U.S. market. For another company, the timing between the receipt of orders and the delivery of products to their European customers was so crucial that FDI became an imperative to consolidate its position in certain foreign markets. Serving customers' needs may be translated in different ways. Sometimes it means assembling or producing in the local market in order to be able to respond to orders just-in-time. Other times it may consist of warehousing, technical

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assistance, or after sale service so as to respond faster to local customers' demands. It is often associated with characteristics of the business. In any case, those companies saw themselves as deepening their relationship with international customers as they moved from exporting to foreign direct investment.

Survival In some cases, to establish a subsidiary abroad is not a choice but a requirement for survival. Two of the companies studied can be classified in this category: C and F. Both supplied the automotive industry, one with parts and another one with paints. Company C had an original technology agreement with a multinational company, who later became a minority shareholder. At the moment of the study, C was part of a global network of companies. All of them were linked to this multinational company, which was one of the two world suppliers of paints to one of the largest automobile producers in the world. Company C's managers believed that the strong position of C in the Brazilian and South American markets was the result of such arrangements. Otherwise, the company would probably not even have continued to exist. The formation of this global network in the automobile paint industry left Company C with two subsidiaries in other South American countries, as South America became a reserved market, within the network, for Company C. Company F started very early in its history to supply one of the largest world car manufacturers established in Brazil, and since then was able to acquire technology and know-how within this customer's network, but was invited to sell part of its capital to the supplier of technology. Company F opened subsidiaries abroad either to be closer to the large customer in its existing markets or to establish itself in a new market where the large customer intended to invest. It is a classical case of dependent internationalization. One characteristic of these companies' internationalization process is that internationalization was not a strategic choice and not even desired. In fact, the imposition to internationalize was resented; they neither wanted to go international nor felt this was at the time the best decision for the company. Yet managers were keenly aware of the rules of the game and knew that refusal to follow the leader of the network meant probable loss of contracts and ultimate failure in the long tenn. In this regard, survival motives differ substantially from consolidation, since in the last case companies have chosen FDI as a natural evolution of their previous strategies.

Opportunity Some companies may be pushed to internationalization by the desire to exploit a given opportunity that is considered attractive. Company I was the only one


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in the sample to fall in this category. The company founder and president strongly established in the company's culture the value of being open to opportunities and to cultivate relationships that could eventually be conducive to new opportunities. The successful implementation of such a business philosophy shaped a large conglomerate in the energy and telecommunications industry. The establishment of the first subsidiary abroad was the result of an opportunity offered to the company's president by some businessmen from another country. By the time of the study, Company I took part in a large number of joint ventures abroad and in Brazil with participation varying from 3% to 90% and had more than 30 strategic alliances and technology agreements with multinational companies from major developed countries such as the U.S., Germany and Japan, and with other leading Brazilian companies.

Strategic Intent Finally, the opening of subsidiaries abroad may be the result of a company's strategic intent or strategic vision. Top management may have a strong desire to internationalize the company even if the opening of subsidiaries abroad is not an imperative for company's growth, consolidation or survival. This was certainly the case of Company J. The firm moved directly from domestic operations to FDI, since its type of product was not easily exported. Early in the 1990s, top management foresaw the domestic market becoming extremely competitive with the massive entry of mighty foreign competitors. Top managers concluded that to become more competitive, the company needed to get international experience and to learn the operational methods of its competitors - in their own market. This was the basis for entering the U.S. market by creating new companies in the state of Nevada and, later, in Texas and Florida. The entry in the U.S. market was also seen as an opportunity to have access to capital markets in the United States. At the same time, it was decided that other Mercosur countries, especially Argentina, presented new opportunities to the company and permitted country risk diversification. Since these were smaller markets, the new entrants in Brazil would not be interested in exploiting them, at least for a certain period of time. Besides, Company J had been extremely successful in applying modem marketing tools to the selling of health care services in Brazil which permitted a very high growth rate during the previous decade. Executives believed that smaller and more conservative firms in Argentina did not have the marketing know-how to compete effectively with them. More important than all other considerations was probably the fact that the president and founder of Company J had long expressed the desire to have his company go international. When the moment came and the company seemed

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ready to move towards internationalization, the company's president and founder became the champion of the process. Such leadership was of paramount importance when the company had to face difficult moments and challenges in certain foreign markets. In this case, there is no question that the desire of the CEO to internationalize the company played a major role in the process. In fact, the competitive challenges foreseen in the beginning of the 90s did happen, but other actions could as well have protected Company J. Internationalization might not have been the best immediate response for increased rivalry and new entrants, since it represented a drain in the company's resources for a number of years. But it was the one that best fitted the strategic vision of top managers. Reflections on Motivations

This analysis of company motivations to move to FDI suggests that although many motives exist during the internationalization process, certain motives seem to be specifically associated to this mode. In fact, the patterns of motivations here examined suggest new issues to be examined. Growth and consolidation were the most common motives to move from exporting to the opening of subsidiaries abroad; six out of the ten companies studied perceived such motives as strongly associated with their decisions to establish subsidiaries abroad. These two motives are also consistent with the stages theories of internationalization. As companies expanded their activities in international markets, the opening of subsidiaries abroad appeared as a natural step with increased commitment to international operations. The other three motivations - survival, opportunity and strategic intent - are however of a very different nature. Survival as a motivation for FDI has not been considered by the theories of internationalization, at least under the form identified in this study. Both companies included in this category did not have a choice of whether they wanted to internationalize or not. As companies developed their ties to a large network in the automotive industry, neither the decision to go international or to open subsidiaries abroad nor the choice of markets was, in a sense, theirs. Refusal to follow the network would most probably imply exclusion from the network, which means, in a global industry, the company's failure. In our study, top managers of the two companies in this category were acutely aware of the potential implications of their decisions but felt there were no other viable alternatives, and they bitterly resented the absence of choice. This is presently occurring in global industries, such as the automotive industry, where suppliers serve very large global customers. As the supplier industries become more concentrated with the reduction in the number of companies serving large assemblers, suppliers are faced with the decision


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of whether to follow their customers and establish subsidiaries in those countries where the assemblers are located or intend to locate. If the supplier decides not to follow the network, the most probable result is its exclusion from the network, which typically means the end of the company. Occasionally, if it is a smaller company, it may be forced to subcontract to other suppliers and descend to the lower tiers of the supply chain. In these industries, therefore, a large domestic supplier, in order to survive, needs to go international. Global customers require their suppliers' presence in foreign markets where they have their assembling facilities. This situation shows a connection between inward and outward internationalization, as proposed by Welch and Luostarinen (1993). As the large assemblers went global, some decades ago, they were often served by domestic suppliers in each of the countries where their production facilities were established. To supply a multinational company in the domestic market implied a need to have access to foreign technology to remain competitive, which opened the door to establishing joint ventures with the licensing company. Globalization and the increased competition in these industries changed the nature of relationships between assemblers and suppliers. As assemblers moved to global platforms, suppliers were required to serve them in a large number of markets. Supplier industries were thus pulled to internationalization by assemblers. Opportunistic behavior2 of firms is another possibility to be explored when studying reasons to internationalize. When a company opens a subsidiary abroad or enters a joint venture because an opportunity appears, the situation looks very similar to the acceptance of unsolicited orders in exporting and probably should not receive further attention. But when a pattern of opportunistic motivation can be identified - when a company systematically considers such opportunities in foreign markets - then a different model emerges and should also be considered as an alternative to the traditional approach to internationalization. A company that is moved by opportunistic considerations may not have considered internationalization as a strategic alternative and may not do so even after moving into it. Yet top managers of such firms must not have cognitive barriers to international markets in order to be able to see such opportunities as deserving consideration. The opportunistic international firm does not see the borders of the domestic market as an impediment to its activities. Managers' perceptions in such a firm might be better described as covering a broader context of reference, which includes opportunities within the limits of the industry or industries where the company operates, rather than the country's borders. It is possible that born global firms share this same characteristic.

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Finally, strategic intent was another pattern of motivation identified. Critics of the Uppsala internationalization model suggest that this theory does not encompass the strategic behavior of companies (e.g. Melin, 1992). Managers of one of the companies in this study clearly saw internationalization as part of a strategy that changed it from a small local company to a large national firm and in a later stage leading to an international company. Its internationalization process was not the result of increased commitment through learning, fortuitous events or chance, but rather an intentional choice where decision makers knew exactly what they wanted for their company and proceeded to implement it as the external conditions seemed appropriate. Sequence of Entry Modes In this study, four sequences of entry modes were identified. Inward internationalization movements seemed to be inextricably linked to outward internationalization in at least one case and were thus included. Sequence: "Exporting ~ F o r e i g n Direct I n v e s t m e n t " - T h e most common sequence of entry modes was found in seven of the ten cases studied (Companies A, B, C, E, G, H, I). Companies started their internationalization process by exporting and later moved to foreign direct investment by establishing production facilities, warehouses or distribution centers abroad. Sequence: "Exporting -* Foreign Direct Investment --* Licensing" - One company (Company D) moved from exporting to FDI and then to licensing. This company saw licensing as a way to introduce its products in one foreign market. As these markets became interesting enough, the company intended to establish production facilities. Sequence: "Inward Internationalization -* Exporting -} Foreign Direct Investment" - One company (Company F) started its internationalization by acquiring technology to serve the domestic market. The licensing company later acquired a stake in the company. The company started to export using the partner's network and finally established subsidiaries abroad under the form of joint venture. Sequence: "Only Foreign Direct Investment" - One company (Company J) made its first international move by foreign direct investment, since its product was not very suitable to exporting. Reflections on Sequence A number of considerations should be made about the sequence of entry modes. First, the decision to invest abroad doesn't usually mean that a company will


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not continue with its export activities but rather that different markets may be served by different modes. As the complexity of international operations increases, companies will employ a variety of modes depending on the market served, its importance to the company, its size, potential, distance and other factors. In some cases, the company may use a subsidiary to export to markets geographically close rather than exporting from the mother company. Second, although different modes may be used simultaneously, the idea of sequential moves from less to more committed entry modes stands for all the companies studied with the exception of Company J. Even in this case, product specificities probably explain why the company did not start by exporting to foreign markets. In all other cases, exporting preceded foreign direct investment and in one case, licensing followed exporting and foreign direct investment. These sequences are predicted in the literature (e.g. Johanson & Vahlne, 1977, 1990; Welch & Luostarinen, 1988; Rugman, 1981). Yet, when considering specific markets, some companies did not follow the sequential approach. For example, without having previously exported to those markets, Company A opened a subsidiary in Argentina, Company B in Germany, Company D in Portugal, and Company H in Chile. This suggests that, at least in the Brazilian experience, the sequential model works in most cases for the company as a whole, but not for each company in every market. Third, the connection between inward and outward internationalization discussed in the literature (Welch & Luostarinen, 1993; Korhonen, Welch & Luostarinen, 1996) proved to exist in two of the cases studied. In both cases inward internationalization paved the path for outward internationalization, although in one case the company was already exporting and had made a first foreign investment. Moreover, most other companies studied were also involved in some sort of international technology transfer and these experiences were very much connected with their internationalization path.

Timing and Entry Modes Another interesting consideration refers to the timing of the move from exporting to foreign direct investment. Table 1 shows the years when the companies studied made these decisions. The foreign direct investment decision was divided in two categories. The first category was called "first FDI" and refers to the first chronological decision to establish a subsidiary abroad. However, a further examination of the data suggested that in a number of cases the companies had made an initial investment in a foreign market because of an unexpected opportunity, but this investment had no sequence or was totally deactivated, while the company

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ANTONIO BARRETrO AND ANGELA DA ROCHA Tab/e 1.

Timing of Initiation of Exports and Foreign Direct Investment.

Company

Year No. of Years

Exporting

First FDI

"Committed" from Exporting to FDI "Committed" FDI

A

1972

1976

1992

20 years

B C D E F G H I J

1969 1950 1961 1979 1983 1989 1965 1972 --

1986 1981 1991 1991 1988 1990 1977 1976 1991

1986 1993 1991 1991 1988 1990 1997 1992 1991

17 years 43 years 30 years 12 years 05 years 01 year 32 years 20 years --

restrained itself from other foreign direct investments until a later time. Because of the opportunistic nature of such investments and their discontinuity, it was decided to look into the time when the company reactivated the desire to establish foreign subsidiaries. The date when FDI was reactivated appears under the title "Committed FDI" in the table. Differences between dates in "First FDI" and "Committed FDI" indicate four cases where companies had an initial investment abroad but discontinued this entry mode for a number of years. Company A, for example, invested in warehousing and technical assistance facilities to support a major export boom to Iraq, Angola and Algeria, but two years later closed these facilities and stopped to export to these countries, because of political problems. It was not until 15 years later that the company decided to open a subsidiary abroad. Company C bought a small company in Uruguay in the early 80s to benefit from certain tax advantages offered by the local government. Little processing was done in the Uruguayan manufacturing plant, only enough to justify exporting products to Argentina under the label "Made in Uruguay." As tariffs changed, the Uruguayan company was not used anymore to export to Argentina but those exports were made again by the parent company. Company C did not divest because it was unable to find buyers for the old plant, but this subsidiary became meaningless to the parent company. Twelve years later the company engaged itself in a more committed effort to internationalize via FDI. Company H acquired a small company in Paraguay in the 70s because of an opportunity offered by local businessmen. There was not much planning or


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systematic analysis of local markets. In fact, the company did not expand its foreign investments during the next 20 years, until it felt that its position in the Brazilian market was solid enough to permit diverting resources to other markets. Finally, in the mid-70s, Company I was asked by a group of Chilean businessmen to participate in a joint venture, where the Brazilian firm would bring technology and local partners would enter with market knowledge. Because of his continuous interest in new opportunities, the president of Company I considered the offer attractive and acquired a stake in the company. Later the company divested and only reinitiated foreign direct investments in the early 1990s, more than 15 years later.

Reflections on Timing The number of years from exporting to "committed" FDI was, for most companies, quite long. Except for companies F, G and J, the number of years between exporting and committed FDI varied from a minimum of 12 to a maximum of 43. Further observation of the table shows that in 8 out of the 10 cases, "committed" foreign direct investment occurred during the 90s. Of the two companies that did not follow this pattern, one was a producer of auto parts, and its internationalization process followed the timing of the automobile industry. Furthermore, six of those companies chose to start their FDI between 1990 and 1992. This concentration of FDI in such a small period of time suggests that the major environmental force to push Brazilian companies towards internationalization was the opening of Brazilian markets to foreign products and investments, starting in 1990, and not the creation of Mercosur, which actually only became effective in 1995, or the economic stabilization that has taken place since 1994. It could be argued that the substantial reduction of tariff barriers to imports in the early 1990s could be seen by management as an early sign of further liberalization and deregulation of the economy, requiring fast changes in their companies' strategies. These results suggest that macro environmental factors play a major role in the decision of companies in emerging economies to internationalize, whatever the mode of entry in a foreign market. The decision to invest in facilities abroad, specifically, seems to be extremely sensitive to the macro environment, as shown in the Brazilian case. Choice of Foreign Markets for FDI and Psychic Distance Appendix 2 shows the location, ownership structure, year of creation and type of facilities of each foreign investment decision made by the companies studied.

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ANTONIO

BARRETTO

AND

ANGELA

DA

ROCHA

These companies made a total of 34 foreign investment decisions, and another five possibilities were under study. Seven of the 34 ventures did not exist anymore at the time of the study. The location of such investments was studied, and interesting patterns were observed that seem to support the concept that psychic distance to foreign markets is an important mediator in the FDI decision, at least during the first steps. Table 2 shows the distribution of FDIs by country and cultural cluster: Latin countries received 23 out of the 34 investments, or almost 70%. Another 24% of the investments went to the United States and Germany. Except for countries of the Latin and the Anglo-Germanic cultural clusters, only three other countries appeared (Iraq, Algeria, and Angola) and in a very specific situation, already discussed in this chapter. All future investments being considered by the companies studied were also in Latin countries. This is further indication of the impact of psychic distance on FDI decisions. A comment seems necessary on the "psychic distance paradox" discussed by O'Grady and Lane (1996) who noted that apparent similarities could obscure critical differences between cultures. Despite the perception of cultural Table 2.

Distribution of FDIs by Country and Cultural Cluster.

Cultures/Countries

Number o f Investments

Investments Under Study

Latin Cultures

23

• Argentina

10

1

• Portugal

3

-

• Chile

3

1

• Venezuela

2

1

• Paraguay

2

-

• Uruguay

1

_

• Mexico

1

1

• Italy

1

-

5

• Colombia

-

1

Anglo-Germanic Cultures

8

-

• U.S.

7

-

• Germany

1

-

Others

3

-

• Iraq

1

-

• Algeria

1

-

• Angola

1

-

Total

34

5


101

proximity, managers would often point out differences between Brazil and Argentina which could jeopardize the firm's efforts to successfully establish a subsidiary in that market.

Ownership Structure of FD1 An analysis of the ownership structure employed by Brazilian firms in foreign markets is quite revealing and shows a strong preference by Brazilian companies for wholly-owned subsidiaries. In fact, 22 of the 34 ventures (or 65% of all FDIs) were wholly-owned subsidiaries, seven were joint ventures where the Brazilian company was the dominant shareholder. The Brazilian company held a minority stake in only five cases. Moreover, four of the 22 wholly-owned subsidiaries started as joint ventures but were converted into wholly-owned subsidiaries at a later time (between two and six years later), and two joint ventures were established with partners that already owned a share of the parent company in Brazil. 3 Furthermore, the five cases where there was a minority participation in a joint venture involved the same company (Company I). This company is an outlier among the firms studied. Because of its opportunistic view of internationalization, Company I was open to new opportunities that would increase its involvement with international markets. "Our vision," said a top executive, "is to operate through joint ventures in every area within the scope of our operations, with regional and intemational partners, mixing global technological cultures with regional cultures." In every other company studied, however, a strong preference among Brazilian companies for higher control modes of entry was found, which is consistent with the research on the equity structure of Brazilian companies (e.g. Valadares, 1998). In fact, the proportion of preferred to common shares in Brazilian firms is much larger than the usual proportion in developed countries. Other research (Da Rocha & Christensen, 1985) indicated that Brazilian companies have often sacrificed growth for control. The founder and president of one of the companies commented on this preference for not sharing power and control as follows: "Up to now we have had 100% control of our foreign investments. But this is not necessarily a preference. We are open to strategic alliances. But we do not want to lose control. I would enter an alliance only if we had the control in our hands. At least this has been all the time in my mind." A related issue concerns the relationship between entry modes and psychic distance. The proposition that the larger the cultural distance, the higher the probability of choosing a joint venture instead of a wholly-owned subsidiary

102


as an entry mode, was not supported by this study's results. The three countries that presented larger psychic distance to Brazil in our study, Germany, Iraq and Algeria, received wholly-owned subsidiaries. The only other non-Latin country in the study, the United States, had six investments in wholly-owned subsidiaries a and one in a joint venture. All investments in joint ventures with a minority stake were in Latin countries, but these, of course, were done by the same company, which has previously been portrayed as an outlier. Other investments in joint ventures with a majority stake were in Portugal, Argentina, Chile, and Venezuela, countries that are considered culturally close to Brazil.

Reflections on Ownership The hypothesized preference for more control over foreign subsidiaries among Brazilian companies does not seem, therefore, to be conducive to choosing joint ventures. It looks like the impact of psychic distance on the choice of ownership structure in international investments of Brazilian firms does not follow the relationship proposed in the literature, that is, when psychic distance is high, companies tend to choose joint ventures instead of wholly-owned subsidiaries. If psychic distance does not explain the choice of higher-control entry modes by Brazilian firms, what other variables might help to understand such a choice? Strategic variables, as those proposed by Kim and Hwang (1992), do not apply to the situation examined, since these companies are not yet multinationals whose choices of entry modes could be mediated by strategic considerations such as global synergies or strategic global motivations. Environmental variables (such as country risk, demand uncertainty and intensity of competition) did not seem to play a role in the decisions studied, since this pattern of choice among Brazilian firms did not seem to be associated to specific countries but rather appeared to be of a more general nature. In one case at least transaction-costs variables seemed to interfere. One company (Company J) indicated that their entry into Argentina with a whollyowned subsidiary was more appropriate since the company had specific marketing know-how that no other potential partner in that country shared and there were no other important capabilities to be acquired from local partners. Yet all other four investments of this company were in the U.S. and all of them were also wholly-owned subsidiaries. It is hypothesized here that the preference for higher-control modes among Brazilian companies might be associated with specific aspects of the Brazilian culture, particularly its relational aspects, since in a relational culture, power and control are not easily shared with strangers. Furthermore, since in such cultures trust is necessary to establish long-term relationships, and trust can only be acquired over a long period of time, it is possible that in relational


103

cultures the relationship between psychic distance and entry modes is inverse: the higher the cultural distance, the higher the probability of choosing a whollyowned subsidiary. Yet, as psychic distance is reduced over time, companies may choose to move to lower-control modes.

Value-Added in Foreign Markets The extent of value added in foreign markets was also examined. Of the 34 foreign investments, 25 were assembly/production/operations facilities, four were distribution facilities, three were warehousing and technical assistance facilities, one was a trading company, and one was in the restaurant business. It is generally considered that a company that invests in production facilities in foreign markets has a higher degree of international involvement than a company that establishes a distribution center or a warehousing operation (Kutschker & Biiurle, 1997). This logic suggests that a full production plant in a foreign market is indicative of a higher degree of involvement than an assembly operation. Of the ten companies studied, eight had invested at least in one foreign market in production facilities and two in assembly facilities.

Leadership in the Internationalization Process The role of top executives in leading a company to international operations has long been discussed in the literature (e.g. Bilkey, 1978; Cavusgil, 1984; Aaby & Slater, 1988; Wood & Robertson, 1997; Zou & Stan, 1998). In the cases studied, the role of the CEO as a leader was a very important factor in the internationalization process. In eight of the ten companies studied, the chief executive had an extremely important role in the international expansion of the firm. These chief executives were described by their subordinates using terms such as "charismatic," "talented," "courageous," "daring," "visionary," or "conqueror," among others. In one company, the premature death of the leader halted the internationalization process for a long period of time. These results support the contention made by Bartlett and Ghoshal (2000) that companies that succeed in internationalization have inspired leaders that believe in their company's future in the global marketplace. There was also some support for the affirmation in the literature that previous international experience of the CEO might influence the choice of foreign markets. Chief executives also tended to give a lot of time to the cultivation of personal relationships that could generate new businesses for the company or create goodwill. Some executive interviewed considered this an important asset for the company's internationalization process. In two cases, such relationships were

104


considered to be of paramount importance to entering foreign markets and for the success of businesses abroad. In fact, one company went so far as to consider deliberate networking as a first step to a successful entry in an international market. In another case, the company's founder entered the U.S. market through a joint venture with a former classmate in a U.S. Executive Program. In yet another case, relationships established in a golf club were determinant in getting rather confidential information that probably made the difference between the company's success or failure. There were, in fact, a very large number of situations reported in the study where personal contacts made the difference in a very important decision for the company during its internationalization process. This evidence suggests that in relational cultures, businessmen give high importance to the establishment of personal relationships even when those relationships are established in an international context. International expansion made more sense when based on a network of relationships.

FINAL CONSIDERATIONS This exploratory study investigated patterns of internationalization among Brazilian companies. Although extensive research has been conducted on the internationalization process of firms, particularly in Scandinavian countries, very few studies have been carried on in emerging economies such as Brazil. 5 The present study intended to help fill this gap by analyzing in depth ten cases of Brazilian companies that have recently established subsidiaries abroad. The study's results support, on general lines, the propositions of the Uppsala internationalization model (Johanson & Vahlne, 1977, 1990), which has been suggested to be more appropriate to describe the first steps of internationalization rather than the behavior of the multinational or global corporation (Young, 1990). The companies studied, although in the process of becoming multinationals, are still regiocentric corporations (Perlmutter, 1969) when it comes to considering the scope of their foreign investments and their location mainly in the Americas. Inward internationalization played a major role in the internationalization process of some of the firms studied. Although inward operations appeared to be determinant to promote outward internationalization only in one case, in most of the other cases these two sides of internationalization were inextricably linked with both processes increasing the probability of further commitment to international operations. Despite the general support for the Uppsala model provided by the study, interesting differences and singularities have been suggested in this research. Some of these specifics are probably associated to the unique characteristics of each country as pointed out by Welch and Luostarinen (1988, p. 163) who


105

noted that " . . . it should be expected that observed patterns of internationalization will vary from country to country and over time, because of environmental differences at the outset, as well as the inevitable changes in the environment" but others could be shared by firms in other emerging economies.

Proposed Framework for the Study of the Foreign Direct Investment Decision of Firms from Emerging Economies The present research results suggest that although firms from developing countries may follow similar patterns in their internationalization processes, some differences exist that deserve to be studied further. Drawing from the findings of this study and, to some extent, from the literature review, 6 Fig. 1 summarizes the factors intervening in the FDI decision of firms from emerging economies. Two patterns of internationalization were identified; one was called strategic internationalization and the other dependent internationalization. Factors were divided into four groups: precipitating factors, cognitive filters, company motivations and accelerating factors. Precipitating factors are characterized by changes in the macro environment, domestic or external, or in the operating environment of the firm (the industry where it operates). Cognitive filters are composed of managers' perceptions and beliefs used to interpret environmental changes and their impact on the firm's future. Cognitive filters interfere with managers' ability to respond to change and thus can have a major impact in the firm's growth and survival. Rational motives express the rational aspects of the FDI decision making process while cognitive filters express the psychological elements involved in the process. Finally, accelerating factors may stimulate (or deter) the final FDI decision.

The Strategic Internationalization Pattern Strategic internationalization occurs when firms elect to go to foreign markets based on their strategic choices. Changes in the macro environment, domestic or international, may precipitate the internationalization decision. The opening of protected markets to foreign competition and deregulation, because of the threats they pose to local firms in emerging economies, can precipitate the decision to invest abroad. The impact on local companies of the opening of emerging markets to foreign competitors has been commented on by Dawar and Frost (1999, p. 120), indicating that because of the superior resources and capabilities of the new entrants, "the very survival of local companies in emerging markets is at stake." Yet, the imposition of globalization on emerging economies is a force that is difficult to resist especially when combined with internal and external pressures to open these economies. The process of

106

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TOWARD A (MORE) DYNAMIC THEORY OF INTERNATIONALIZATION: INTERNATIONAL MARKET WITHDRAWAL AS EMPIRICAL EXTREME Pieter Pauwels and Paul Matthyssens

ABSTRACT Although built to explain an inherently dynamic process, current theories of internationalization are criticized for having limited dynamic qualities. To come to this conclusion, we adopt international market withdrawal as an empirical extreme. We expect dynamic theories of internationalization to be able to accommodate and explain international market withdrawal within the scope of the internationalization process of the firm. An integrated global strategy framework is presented as a promising point of departure toward this aim. To assess this framework' s dynamic qualities, we compare it with the 'stages' models of internationalization and the transaction-cost based international business theory. Although this integrated global strategy framework - and especially the resource-based part of it - seems to outperform these two established theories, the framework is not capable of fully explaining the dynamics in the internationalization process of the

Reassessing the Internationalization of the Firm, Volume 11, pages 255-275. Copyright © 2001 by Elsevier Science Ltd. All rights of reproduction in any form reserved. ISBN: 0-7623-0795-1 255

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PIETER PAUWELS AND PAUL MAITHYSSENS

firm. Moreover, the integrated global strategy framework struggles with the paradigmatic incompatibilities among its fundamental explananda. Adopting the resource-based perspective as a pivotal point, we propose an (emergent) resource-based evolutionary theory of the firm as a dynamic framework that is capable of explaining international market withdrawal and the internationalization process of the firm.

INTRODUCTION Since the beginning of the 1990s, the call for more dynamic (i.e. nonequilibrium) theories of internationalization has only increased in volume. From many different theoretical perspectives, eminent scholars such as Porter (1991), Bartlett and Ghoshal (1991), and recently Buckley and Casson (1998) have explicitly called for more theoretical work on the dynamic growth process of the multinational firm. Focusing on complex, non-unitary progression, 1 which is due to pro-active managerial decision making, these authors concur in their conclusion that extant theoretical frameworks of internationalization are not capable of lifting the veil of the process which underlies internationalization (Strandskov, 1986; Melin, 1992). This paper contributes to this discussion as it proposes international market withdrawal as an empirical extreme and assesses extant theories of internationalization on their capability of explaining this phenomenon. The structure of this paper is as follows. First, international market withdrawal is presented as an empirical extreme. It is argued that a dynamic theory of internationalization should be able to accommodate and explain this extreme yet observable phenomenon. Next, we present an integrated global strategy process perspective on the internationalization of the firm. At first sight, the integration of an industrial organization perspective on business strategy with the resource-based view promises to be a powerful and dynamic framework for the explanation of internationalization. In the subsequent section, we assess the dynamic qualities of this framework against two established frameworks of internationalization - the 'stages' models and the transaction cost-based theory of international business. We come to the conclusion that the integrated global strategy framework and more in particularly the resource-based part of it - holds potential for contributing to a (more) dynamic theory of internationalization. Nevertheless, important anomalies remain in the framework, not in the least due to paradigmatic incompatibilities in the integration of the fundamental explananda. From this discussion, we come to understand that an inherently dynamic theory of

Toward a (More) Dynamic Theory of Internationalization

257

the finn is needed on which a dynamic theory of the internationalization process can be built. In the final section, we present an emerging resource-based evolutionary theory of the firm, which holds great potential for the explanation of international market withdrawal and the development of a truly dynamic theory of the internationalization of the firm. INTERNATIONAL

MARKET

WITHDRAWAL

International market withdrawal is defined as a firm's voluntary action to partially reduce its engagement in market-related activities in a foreign productmarket. This definition refers to 'de-internationalization, 'z a concept introduced by Welch and Luostarinen (1988, p. 37) while arguing that: "[I]t should be stressed that once a company has embarked on the [internationalization] process, there is no inevitability about its continuance. In fact, the evidence indicates that [...] 'de-internationalization' can occur at any stage." International market withdrawal is a strategic instrument, which fits within the logic of international market portfolio management. Assuming that a multinational firm is optimizing its performance within the constraints of a permanently changing inner (i.e. a limited but changing stock of resources) and outer context (i.e. a limited set of temporally relevant threats and opportunities), the finn will manage and balance its portfolio of (international) product market combinations through expansion, extension and withdrawal decisions (Douglas & Craig, 1996). International market withdrawal is more than a theoretical issue. Recent studies have clearly illustrated that it is an important phenomenon, which deserves more academic attention. Padmanabhan (1993), Calof and Beamish (1995), Barkema, Bell and Pennings (1996), Benito (1997), and Pauwels and Matthyssens (1999), among others, have identified and studied foreign divestments, many of which are examples of international market withdrawal. Although they rarely are covered in the business press, international market withdrawals are an underestimated instrument of pro-active global strategy. For this study, we adopt international market withdrawal as an extreme form of (recursive) strategic progression within the scope of international market portfolio management and the internationalization of the firm. The underlying thesis is that an international market withdrawal may increase the degree of internationalization of the firm (Lamb & Liesch, 1998; Pauwels, 2000). We develop this thesis throughout this paper. We expect truly dynamic theories of internationalization to go beyond modeling unitary progression and to capture more complex types of progression (see Appendix), including the

258

PIETER PAUWELS AND PAUL MATFHYSSENS

extreme of recursive progression represented by international market withdrawal (Andersen, 1993).

POINT OF DEPARTURE: A GLOBAL STRATEGY FRAMEWORK One of the most influential works on global strategy is Porter's (1986) framework of industry globalization. In this framework, Porter develops a logic to explain why industries become global in their competitive scope. Competition becomes global when firms create competitive advantages through the integration of value chain activities across borders. The degree of globalization is measured at the industry level and is defined by structural national, market and industry characteristics, which impede globalization (e.g. government policies, heterogeneous local conditions, organizational complexity) or encourage it (e.g. scale economies, comparative advantages of locations). In fact, Porter's (1986) framework explains why an industry evolves from multi-domestic competition (i.e. no competition across borders) to global competition. Building on Porter's (1986) globalization framework at the industry level, Yip (1989) presents a globalization framework at the firm level. In this framework, the costs and benefits of a global strategy eventually result from weighing the externally determined globalization drivers, which create the potential for an industry to achieve the benefits of global strategy, and the organization's ability to establish strategic fit and implement the appropriate setting for global strategy levers. The ideal strategy matches the degree of internationalization of the firm with the globalization dynamics of the industry. Although it holds much explanatory power over the drivers of globalization, the industrial organization foundation of Porter's global strategy perspective is criticized for being overly static and externally determinated (e.g. Seth & Thomas, 1994; Foss, 1996a). As if it were a reaction to this drawback, a resource-based view of strategic management emerged in the literature. From this resource-based perspective, a limited number of studies have been published that focus on how global competition develops (e.g. Collis, 1991; Tallman, 1991) and less than a handful of studies was found that investigate the internationalization process of the firm (e.g. Andersen & Kheam, 1998). Analyzing the global competition in the bearings industry, Collis (1991) built his analysis on a resource-based framework. He clearly illustrated the importance of history and complex social phenomena to be affecting global strategy choice and outcome. As the resource-based view mainly focuses on


259

heterogeneity in factor markets, Collis (1991, p. 65) concludes that: "because domestic factor markets are the easiest and cheapest to access, firms primarily accumulate resources from those factor markets [...]. The nature of those markets will therefore profoundly affect the development of core competencies." As such, Collis (1991) adopts a resource-based perspective to explain how firms compete and grow in a global context. Andersen and Kheam (1998) assess the power of the resource-based view to explain the internationalization of the finn. Within the framework of Ansoff's (1965) product-market expansion matrix, these authors assess whether particular capabilities in production, marketing and management result in the adoption of one of the four growth paths defined in Ansoff's (1965) matrix. Their exploratory study moderately supports the thesis that the firm's resource profile influences a firm's international growth strategy. Given the external orientation of Porter's globalization framework and the internal orientation of the resource-based perspective on global strategy, an integration of both seems to be desirable. Using Foss' (1996a) metaphor: with the integration of Porter's perspective and the resource-based view, the scissors would be complete. In an interesting empirical study, Hansen and Wernerfelt (1989) decompose the inter-firm variance in profit rates into external and internal components. Building and testing a model from both an industrial organization and a resource-based perspective on the same data, their results confirm the importance and independence of both sets of factors in explaining performance. A scarce endeavor to conceptually integrate Porter's external perspective and the resource-based perspective within the framework of global strategy is Zou and Cavusgil's (1996) tentative global strategy framework (Fig. 1). This integrated conceptual frame is founded upon two key propositions: (1) "Global strategy is an organization's response to external industry globalization. (2) Internal organizational factors constrain an organization's ability to conceive global strategy and its ability to implement the chosen strategy." (Zou & Cavusgil, 1996, p. 61). Zou and Cavusgil's (1996) integrative framework lends strength to the idea that the integration of the industrial organization and the resource-based perspective is a valuable path toward fully capturing the drivers of internationalization and global business performance. However, the clear lack of integrative models in the literature may point at some fundamental inconsistencies between the two perspectives and the potential of integration remains unrealized (Bartlett & Ghoshal, 1991).

260

PIETER PAUWELS AND PAUL MATTHYSSENS

~.~ization Drivers Fig. 1.

An Integrated Global Strategy Framework (Zou & Cavusgil, 1996).

Foss (1996a) states that the two perspectives are almost antagonistic because the (Bain-type) industrial organization (IO) based theory places exclusive emphasis on (structural) product market imperfections whereas the resourcebased theory places exclusive emphasis on factor market imperfections. We endorse Seth and Howard (1994), though, who argue that these emphases are not contradictory but rather complementary. In fact, combining product market imperfection with factor market imperfection and the finn's drive for market power with the firm's drive for efficiency approaches economic reality better than each of the perspectives separately. Nevertheless, we do not underestimate the remaining tensions that exist between the roots and fundamental assumptions of the IO-perspective and those of the resource-based perspective. First, both IO-based theories and resourcebased theories allow firm heterogeneity to exist. In IO-based theories, however, this heterogeneity is caused by characteristics of the industry structure, which result in restraints on output through monopolistic or collusive action as well as through entry deterrence. To the contrary, in the resource-based view heterogeneity accrues from the ability of the firm to acquire, combine and deploy resources in a more rent generating way than its competitors and from the inability of these competitors to copy this effective conduct due to causal ambiguity (see Conner, 1991 for a more profound discussion). Second, in contrast to the resource-based perspective, IO-based theories adopt economic Darwinism (Seth & Howard, 1994). As IO-based theories are theories of comparative statics, it is (implicitly) assumed that firms that deviate from this optimal state will tend toward extinction. Economic Darwinism indicates

Toward a (More) Dynamic Theory of lnternationalization

261

that the environment is an immutable given, and finns merely react to environmental forces (Seth & Thomas, 1994). Third, orthodox IO-based theories presume managerial rationality, free information and no uncertainty. The resource-based perspective, to the contrary, explicitly integrates bounded rationality under uncertainty (Conner & Prahalad, 1996). As a logical consequence, IO-researchers are not interested in unveiling the 'black box' of the firm, which they capture in mathematical optimization functions under stable and exogenous constraints. Scholars adopting a resourcebased perspective refute this representation of a 'maximizing' firm. Building upon the work of Simon (1957), Penrose (1959) and Cyert and March (1963), the resource-based perspective conceives the finn as a collection of productive resources managed by conscious agents, albeit it under conditions of bounded rationality and uncertainty. As a consequence, Simon (1957) argued that 'satisricing' behavior is to be expected instead of optimizing decision-making. In sum, "There are clearly thematic complementarities between the industry analysis framework of Porter and the resource-based approach (Foss, 1996a, p. 19)." The resource-based approach is more oriented toward the internal management of assets and skills within the boundaries of the firm and, building a more profound understanding of the conditions for sustained competitive advantage, it addresses corporate strategy issues more explicitly. The IOperspective, on the other hand, adds an understanding of the constraining external environment. For the time being, however, a full integration seems unlikely and even undesirable. ASSESSMENT INTEGRATED

OF THE DYNAMIC QUALITIES OF THE FRAMEWORK OF GLOBAL STRATEGY

In a dynamic perspective, Porter's (1986) globalization drivers may change and impact upon the optimal degree of globalization. As a consequence, firms may have to change the cross-border configuration of and coordination between its value chain activities, leading to changes in the firm's global market oriented strategy. This may or may not have implications for the degree of internationalization of a firm, As Porter (1986) refers to a structural market imperfections theory to explain the mere existence of internationally operating firms, it is the actual oligopolistic advantage a firm can exploit, which directly defines the degree of internationalization of the firm. In terms of Porter's (1986) framework, a decrease in the degree of globalization of a firm is either a result of the firm's inability to reach the optimal equilibrium position, or a result of changes in the structural parameter scores of the industry. Whereas the former is sub-optimal (cf. economic Darwinism),

262

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the latter points at a decrease of industry globalization, not at a strategic decision of one particular finn to cope with industry dynamics by reducing its degree of globalization. Being fundamentally a theory of comparative statics, Porter's (1986) framework of global competition has only limited dynamic qualities. Only the optimal degree of globalization of the finn vis-a-vis the industry optimum is at stake. This is merely an equilibrium position, which is defined by the industry globalization drivers and the firm's ability to match this optimal point strategically (Yip, 1989). Although the resource-based view of global strategy is still in its infancy, its dynamic qualities are more promising. Especially a resource-based perspective on international diversification presents itself as a fruitful path toward dynamic modeling on global strategy. Studies, such as Grant, Jammine and Thomas (1988), Kim, Hwang and Burgers (1989), and Robins and Wiersema (1995) point at the potential of a resource-based diversification theory of the finn to be developed toward an explanatory framework for a dynamic internationalization process, including international market withdrawal. Generally stated, diversification theory goes as follows. Assuming a nonstatic (competitive) environment, limited resources and bounded rationality, the optimization of a finn's diversification policy is subject to the current stock of excess resources and to the requirements for additional resources in the current ventures (e.g. foreign product/market-combinations). On the one hand, it may be expected that current activities produce excess resources as well as require new resources in order to hold or develop a sustainable competitive advantage in a particular venture. On the other, new business opportunities may emerge. If management claims that these new ventures would fit better into the portfolio of the diversified finn than some other venture because: (1) the current excess resources can be employed in a better way in this new venture than in any other venture, and (2) the employment of all resources over the new portfolio is Pareto optimal over the old portfolio, a venture may be left in favor of this new one. Although this reasoning highly simplifies the dynamic diversification process - for instance, we did not include mobility barriers - it is a promising path for the explanation of a dynamic internationalization process of the finn, including expansions and retractions to optimize a finn's global market portfolio. In summary, an integrated global strategy framework presents itself as an elegant holistic global strategy framework. However, in our search for a receptive framework for a dynamic perspective on internationalization (including international market withdrawal), we remain with the poor dynamic qualities of the industrial organization part of the model and with paradigmatic anomalies of the integrated model. Nevertheless, a resource-based explanation of a finn's international diversification strategy and international market portfolio


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management turns out to be a promising path toward a dynamic explanation of the internationalization of the firm. COMPARATIVE ANALYSIS WITH THEORETICAL FRAMEWORKS INTERNATIONALIZATION

EXTANT

OF

In this section, we confront the integrative global strategy framework with two dominant theoretical frameworks of internationalization: the 'stages' models, represented by Johanson and Vahlne's (1977, 1990) so-called Uppsala model of internationalization and the transaction cost based theory of international business (e.g. Buckley & Casson, 1998). Since the tenets and roots of both have been presented earlier in this volume (Weisfelder, 2001), we choose not to present them here. For an introduction to and a critical analysis of the 'stages' models, we refer to Andersen (1993). For an elaboration of international business theory, we refer to Dunning (1993). The aim of this section is to compare the power of the three frameworks to explain a dynamic internationalization process and to accommodate international market withdrawal. The Global Strategy Framework versus the 'Stages' Models of Internationalization At the operational level, the 'stages' models of internationalization show a typical predetermined, irreversible and linear-cumulative progression of events (cf. Appendix A). The trajectory to the final stage occurs in a prescribed order and each stage of development is seen as a necessary precursor of succeeding stages. No condition internal or external to the firm can influence or stop this process. Hence, at this operational level, there seems to be no room for proactive strategizing or for a contingency perspective on the internationalization process. For these reasons, both Reid (1984) and Andersen (1993) are pessimistic on the possibility of a further extension of the 'stages' models toward a general theory of internationalization. Trying to build a deterministic model that incorporates all kinds of contingencies seems doomed to failure. At the theoretical level, however, the Uppsala model of internationalization (Johanson & Vahlne, 1977, 1990) - a dominant model in the 'stages' framework - seems to be a powerful theory that builds upon the development of experiential knowledge as its prime explanatory construct. Together with Andersen (1997), Madhok (1997) and Andersen and Kheam (1998), it is argued that the underlying argumentation of the Uppsala model rests upon a truly dynamic perspective of organizational resources. Therefore, it is no surprise that

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Andersen and Kheam (1998) succeeded in setting up a resource-based study of internationalization, which they built upon the Uppsala model of internationalization. Madhok (1997) and Andersen (1997) too have succeeded in integrating the logic of the Uppsala model into a resource-based theory of international operation. Recently, Liesch and Knight (1999, p. 385) concluded that: "A common thread in these theories [of internationalization] is the importance of acquiring beneficial information and knowledge to support foreign expansion." In this perspective, the issue of knowledge internalization - instead of the internalization of external markets - becomes the pivotal focus for future theory building on the internationalization of the firm. In sum, the 'stages' theories of internationalization are a promising point of departure for the development of a resource-based theory of internationalization, which is rooted into a dynamic theory of the firm (e.g. Foss, 1996b, c; Madhok, 1997). The Global Strategy Framework versus TC-based International Business Theory

Some scholars confirm the explanatory power of transaction cost (TC) based theory as a general theory of foreign direct investment3 within the present globalization context (e.g. Rugman, 1986; Rugman & Verbeke, 1992). Others, however, point to the limitations of intemational business theory and its problems for future development, indicating the integration of dynamic factors into the theory as a major challenge (Buckley, 1988, 1990). Dunning (1993, p. 93-94) argues that "[t]he widening strategic options open to firms require a reappraisal of the received theory of MNE activity in a number of ways. [...] Any future modeling of MNE activity must also pay more attention to strategicrelated variables." In the recent literature, two directions are apparent: (1) attempts to integrate pro-active management into theory of international business, and (2) endeavors in which a resource-based view is set against a transaction cost perspective. Next, we briefly discuss these two paths. First, Buckley (1993, 1996) assesses the possibility of integrating pro-active (i.e. 'strategizing') management into international business theory. In the author's perspective, an integration of a theory of management in the international business framework would yield important synergies since the robustness of international business theory would strengthen the flexibility of international strategic management theory and vice versa. However, "To incorporate a theory of management, it is essential to move away from a comparison of states to a comparison of processes" (Buckley, 1996, p. 21). We would argue, however,


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that exactly these key dichotomies - i.e. state versus process and 'economizing' versus 'strategizing' (Williamson, 1991) - affect the core propositions of both frameworks and erect (insurmountable?) barriers to integration. Whereas the purpose of theory of international business is to explain "under what conditions should the interdependent activities be coordinated by the management of a firm rather than externally by market forces?" (Bucldey & Casson, 1976, p. 36), the aim of strategic management theory on internationalization is to analyze how agents decide on particular issues with respect to the international operations and market servicing activities of the multinational in the short run (Calof & Beamish, 1995). TC-based international business theory is a long run equilibrium theory of comparative states. Studying strategizing management requires a change in the fundamental time perspective of the theory. Doz and Prahalad (1991, p. 148) state that: "Transaction cost analysis, by its very assumptions [...], prohibits itself from addressing managerial issues." This, however, firmly limits the dynamic qualities of a TC-based international business theory. Second, the conflict between a transaction cost perspective and a resourcebased perspective for the explanation of the (international) growth of the firm is at stake (Kogut, 1989; Kogut & Zander, 1993, 1995; Conner & Prahalad, 1996; Madhok, 1997). Notwithstanding some endeavors, which confirmed the power of a (refined) transaction cost perspective to explain strategic decision within the context of the internationalization process of the firm (e.g. Jones & Hill, 1988; Rugman & Verbeke, 1992), most recent studies concur in their conclusion that "[a transaction cost] logic, with its narrow focus on (transaction) cost minimization under the assumption of opportunism, is inadequate in and of itself in explaining multinational firm behavior and offers at best a partial lens on the foreign market entry decisions of firms (Madhok, 1997, p. 54)." Kogut and Zander (1993) argue that the assumption of opportunistic behavior of agents - which is central in TC-based theory - is not needed to explain the international growth of the multinational. To the contrary, Kogut and Zander (1993, p. 637) conclude that: "The emphasis on the internalization of failed markets has curiously obscured the fact the primary explanation for direct investment is the possession of an ownership advantage." It is not the failure of the market, as a transaction cost theorist would assume, but the firm's efficiency in transforming knowledge into valuable assets and capabilities relative to other firms, which determines why a firm grows across borders (Kogut & Zander, 1993). We refer to Conner and Prahaiad (1996) for a more profound discussion of knowledge-based transaction costs in absence of opportunism. In sum, all three frameworks of internationalization clearly illustrate that their explanatory power over dynamic issues of the internationalization process is

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limited by the scope and fundamental assumptions of their underlying theory of the firm. As we came across fundamental barriers of dynamism while assessing these frameworks, we can only conclude that we need a fundamentally (new) dynamic theory of the firm from which a new theory of internationalization is to be developed. Nevertheless, we recognize the explanatory power of each of the aforementioned frameworks for particular aspects of the internationalization process of the firm. Taken together, these three frameworks capture the internationalization phenomenon to a great extent. However, just because these frameworks are all rooted into a mutually exclusive theory of the firm - with different fundamental assumptions on the existence and the growth of the firm - we agree with Buckley (1996, p. 47) that "[c]ross-fertilization rather than merger seems the most fruitful way to proceed." Currently, a 'new' theory of the firm is being developed, which builds upon an evolutionary knowledge-based logic (Montgomery, 1995; Conner & Prahalad, 1996; Foss, 1996b, c). TOWARD

A MORE DYNAMIC THEORY INTERNATIONALIZATION

OF

While the progress in theorizing on the internationalization of the firm since the mid-1950s can only be applauded, we have argued that at least two major shortcoming remains throughout major internationalization theories: their static and/or pre-determined nature and their powerlessness in integrating managerial, discretion that induces strategic dynamism. In this final section, we shortly present an emergent resource-based evolutionary theory of the firm, which holds great potential as a platform for the development of more dynamic models of internationalization as well as for the accommodation of international market withdrawal. A new theory of the firm is emerging. This theory stands in contrast to the TC-based theory of the firm as it is rooted into a resource-based perspective of strategy and evolutionary economics.4 In this new framework, the firm is considered as a dynamic but coherent bundle of capabilities and routines (Langlois, 1995; Winter, 1995). This coherent structure possesses pathdependent knowledge bases, which allow it to diversify itself in the market. Scholars such as Kogut & Zander (1993, 1995), Montgomery (1995), Barnett and Burgelman (1996), Spender (1996), and Madhok (1997) have recently contributed to this emerging framework, of which the impact in the management literature is exponentially growing. Although convergence into a well-defined and parsimonious theoretical logic is still to be expected, the high degree of epistemological coherence between the two roots of this framework is promising

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for the development of a robust integrated framework in the near future (Foss, 1996b, c). Foss, Knudsen and Montgomery (1995) point out the main commonalities and differences between the resource-based view and the evolutionary approach. As the resource-based view focuses upon the rent-creating difference between firms with respect to their deployment and development of resources into distinctive competencies and, ultimately in a sustainable competitive advantage, an evolutionary approach goes precisely to the question of where the differences come from, placing the analysis of organizational capabilities center-stage in understanding finn behavior. Therefore, an evolutionary perspective incorporates a process of selection, variation, and retention (Barnett & Burgelman, 1996). Although, they point at some remaining points of potential friction between the two roots, Foss, Knudsen & Montgomery (1995, p. 9) conclude that an integration of the two founding perspectives seems evident as "[B]oth the resource-based and evolutionary approaches share a common doctrinal antecedent in Edith Peurose's work of the 1950s, [...]. [O]ne may see an evolutionary approach as having developed the dynamic aspects of Penrose's theory (her view of the process of firm growth as a continuous and cumulative "unfolding" process), while the resource-based approach has been more pertinent to the analysis of the resources themselves." For the time being, though, the pioneers of this framework are still busy developing its tenets. As variation, retention and selection underlie an evolutionary process at the firm level, we expect searching, learning and choosing to be the managerial actions that drive this process (Levinthal, 1995). As a consequence, we expect this framework to be built upon behavioral assumptions and pro-active managerial decision making. Although the behavioral foundations of a synthesis between a resource-based and an evolutionary approach remain an open issue until today, we can hardly imagine that the new framework would bypass the role of discretionary management.

Knowledge and an Evolutionary Theory of Internationalization Within the scope of this emergent theory of the firm, Madhok (1997) builds upon Kogut and Zander (1993, 1995) to develop an organizational capability (OC) perspective on internationalization. In the OC perspective, international growth is driven by the management and creation of value through the balancing of development and deployment of a firm's capabilities instead of through minimization of (transaction) costs. Madhok (1997, p. 46) comments: "Critical in the OC perspective is that the knowledge market does not fail due to opportunism but, rather, due to superior capabilities of the multinational in deploying

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its know-how and limitations to the capabilities of the other firm in efficiently and effectively acquiring and integrating the particular knowledge into functioning." The existing stock of a firm's resources and capabilities and the requirements of the operational context both direct and limit its strategic evaluation of a particular market entry. Madhok's (1997) framework accommodates an explanation of why firms cross borders in search of product-markets as well as for how they implement this decision, i.e. the entry strategy. Both decisions result from the interplay between the 'ownership effect' - the relative embeddedness of knowledge into the organization - and the 'locational effect' - the relative difficulty of exploiting the firm's existing know-how due to differences between home and host contexts. While a high 'ownership effect' leads a firm to internalize, a high 'locational effect' makes firms choose collaborative strategies. When the potential for erosion in the future value of a firm's know-how due to the 'ownership effect' is greater than that due to the 'locational effect', i.e. when know-how loses its value more through its embeddedness than through the relative difference between contexts, then a firm will prefer to internalize a market. In the opposite case, a firm will prefer collaboration with other firms.

The Dynamic Qualities of an Evolutionary Theory of Internationalization We firmly believe that this framework holds potential as an explanatory platform for the internationalization process of the firm. More specifically, we would suggest a re-evaluation of Johanson and Vahlne's (1977, 1990) theoretical model of the internationalization process of the firm and a further development of its explanatory constructs - market commitment and market knowledge - within this new framework. In an exploratory study, Lamb and Liesch (1998) concluded that an evolutionary model of internationalization encapsulates the full extent of the internationalization process. The changing nature of the constructs of the Uppsala model and their interaction can be conceptualized in an evolutionary model by reorganizing and reformulating the relationships between market commitment, market knowledge and market involvement. Only recently, scholars such as Benito and Welch (1993), Welch and Welch (1996) and Lamb and Liesch (1998) have illustrated how non-unilinearity in the internationalization process of the firm, such as market portfolio rebalancing and, at the extreme, international market withdrawal can be understood within this newly developed theoretical framework. For instance, the evolutionary notion of inter-firm selection of strategic development paths (Nelson & Winter, 1982; Levinthal, 1995; Burgelman, 1996) holds great potential as an explanatory dimension for international market withdrawal. Furthermore, Benito and Welch


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(1993, p. 12) suggest that, "although greater international experience and knowledge normally empower a company to expand its international activities, it may also act in seemingly perverse ways to constrain forward steps at some stages of the overall process." In other words, it is proposed that international market withdrawal can be understood as a decision that results from increased experiential knowledge and, as a consequence, may result in a higher degree of internationalization of the firm. Case study research on international market withdrawal (Pauwels, 2000) reinforces this thesis. In sum, this newly developed framework holds great potential as a platform for the explanation of the emergence of different stages, of a dynamic portfolio of product-market entry modes and of the temporal boundaries of the multinational enterprise throughout its internationalization process.

CONCLUSION The aim of this paper was to assess current theoretical frameworks on their power to explain a dynamic perspective of the internationalization of the firm. More particularly, we were eager to find a framework that would be capable of accommodating international market withdrawal as an empirical extreme. In search for an appropriate theoretical platform, we started the paper with the presentation of an integrated global strategy framework. Moreover, we compared this framework with two well-established framework of internationalization: the 'stages' models and the TC-based theory of international business. While comparing these frameworks, however, we pinpointed the lack of a dynamic orientation as a major weakness of all three. It was concluded that a new theory of the firm is required as a foundation for a more dynamic internationalization theory. An emergent resource-based evolutionary theory of the firm was presented as a promising path toward future theorizing on nonunilinear internationalization processes. In an effort to operationalize empirical research within this new framework, a strategy process approach seems appropriate. This approach adds a welldeveloped epistemological and methodological framework to an emergent knowledge-based evolutionary theory of the firm. Scholars, such as Pettigrew (1992), Van de Ven (1992) and many more have developed the strategy process approach as a successful framework for mid-range theory development on the basis of ideographic analysis. Scholars who adopt a strategy process perspective consider the decisionmaking behavior of the individual manager as a point of departure for the analysis and explanation of a strategy process (e.g. internationalization) which

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itself is characterized by a high degree of complexity, variability and heterogeneity (Melin, 1992). In a strategy process study of internationalization, the following interrelated questions are central issues: "What internal forces impel change in multinationals, regarding strategies, organizational forms, and coordination mechanisms? And how do internal and external forces interplay in the strategic processes of multinationals?" (Melin, 1992, p. 113). This process perspective implies a need for research on strategic and structural changes in multinationals based on a more reciprocal, dynamic and complex process view than the (implicit) simple unilinear conception of progression of earlier theories (Doz & Prahalad, 1991). Longitudinal process studies on the internationalization process have been applauded for bringing above-average insights into how and why strategic decision making led to particular steps in the internationalization process of firms. One of the first to do so was Aharoni (1966) who analyzed the foreign investment decision process. Although later studies are scarce, exceptions such as Doz and Prahalad (1987) and Pauwels (2000) illustrate the potential of this approach, even in a more complex theoretical framework such as the knowledgebased evolutionary theory.

NOTES 1. We refer to Van den Daele (1969) for a typology of progression, which is graphically presented in the Appendix. Whereas most process theories do not go beyond the explanation of unilineair progression, Van den Daele (1969) proposes more complex types of progression: multiple, cumulative, conjunctive and recursive progression. As most real-life processes do not behave in a simple unilinear way, Van de Ven and Poole (1995), among others, argue that a process theory should accommodate these more complex types of progression. 2. Benito and Welch (1997, p. 9) define de-internationalization as "any voluntary or forced actions that reduce a company's engagement in or exposure to current crossborder activities." Although it fits in this definition, international market withdrawal is defined more narrowly. In particular, we exclude: (1) full de-internationalization - a company's full de-internationalization is only symptomatic of corporate failure and organizational decline (cf. Whetten, 1980; Kharbanda & Stallworthy, 1989; McKinley, 1993), (2) forced de-internationalization - i.e. the seizure of foreign-owned property due to nationalization, expropriation, and confiscation or to a political decision to forbid the sales of certain products (Akhter & Choundry, 1993), and (3) operations-related deinternationalization - e.g. de-localization in the textile and automobile industry. 3. Earlier in this issue, Weisfelder (2001) discusses internalization theory of international business (e.g. Buckley & Casson, 1976; Rugman, 1986) and transaction-cost (TC) based theory of international business (e.g. Hennart, 1982) separately. While focusing on how science has progressed in international business throughout the years, this distinction is appropriate. For the purpose of our study, however, we do not distinguish between


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these two theories as we believe that the fundamental explananda of both theories are the same - i.e. transaction cost industrial organization economics. In fact, both theories differ only in their conception of the firm. In the internalization theory, internalization is fundamentally conceived as "the process of making a market in the market (Rugman, 1981, p. 28)." In the TC-based theory of international business, to the contrary, a finn is fundamentally defined as: "a set of contractual relationships (employment contracts) by which a group of agents delegates to a central party the right to constrain their behavior (Hennart, 1986, p. 794)." Although this difference is substantial, both theories refer to a TC-based apparatus for the explanation of internalization. 4. Evolutionary models of economic change seek to explain the dynamic processes of adjustment of firms, rather than the behavior of firms in equilibrium. We refer to Nelson and Winter (1982) for an elaborate introduction to this theory.

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275

APPENDIX

Unitary

progression

Multiple

U --~

progression

U

Parallel

-----'~

U' ~

V --~

W

V

W

-----~

V' ~

U" ~

V "---~

Divergent

V

7 ~..~

W"

W" W W'

U V,.t

Convergent

[j,......~

V

U" ~

V' "

-q"

~

W'" ~ ....

W

U '' ' ' " ~ Cam ulative progression E.g., a multiple, p a r a l l e l , p a r t i a l l y cumulative model

Conjunctive

Addition

[l ~ a ~

V ~ a.b

~

W ~ a.b.c

Substitution

U ~ a ~

V ~ b

~

W ~ c

Modification

U D a ~

V ~ a"

~

W D a'"

progression U~a------~

E.g., a multiple, parallel, p a r t i a l l y cumulative, conjunctive model

V2a.b

~-.........~ U Da------~

~

W ~a.b.c

f/--'--*

V~a'

~

~~ W ~a "

Probabilistic

= trajectories of multiple paths intersect

Inclusive

= outcomes

Mediative

= a n e a r l i e r e v e n t in o n e ( s u b ) p r o c e s s is a s t e p p i n g b r i d g e t o a l a t e r e v e n t in an o t h e r ( s u b ) p r o c e s s

Recurrent

progression

of earlier events become

U ~a-----~

V ~a"

i n c o r p o r a l e d in l a t e r o n e s

~

W ~ a'"

~

,*

Fig. A1.

X ~ c. a "

/

A Typology of Progression (Van den Daele, 1969).

X ~ a""

f

Reassessing the Internationalization of the Firm (Advances in International Marketing)

Internationalization and Firm Performance

Internationalization: Firm Strategies and Management

International Marketing: Emerging Markets (Advances in International Marketing, Volume 21)

The Internationalization of Environmental Protection (Cambridge Studies in International Relations)

New Directions in International Advertising Research (Advances in International Marketing)

Firm-Level Internationalization, Regionalism and Globalization

Advances in Electronic Marketing

Advances in Electronic Marketing

Reassessing the Incumbency Effect

Marketing the Professional Services Firm: Applying the Principles and the Science of Marketing to the Professions

The Geography of Small Firm Innovation (International Studies in Entrepreneurship)

The Firm of Girdlestone

the firm

The Firm

The Firm

The Firm

International Marketing

The Firm

The Firm

The Firm

The Firm

The Firm

The Firm

the Firm

The Firm

The Firm

The Firm

The Firm

The Firm

Reassessing the Internationalization of the Firm (Advances in International Marketing)

Internationalization and Firm Performance

Internationalization: Firm Strategies and Management

International Marketing: Emerging Markets (Advances in International Marketing, Volume 21)

The Internationalization of Environmental Protection (Cambridge Studies in International Relations)

New Directions in International Advertising Research (Advances in International Marketing)

Firm-Level Internationalization, Regionalism and Globalization

Advances in Electronic Marketing

Advances in Electronic Marketing

Reassessing the Incumbency Effect

Marketing the Professional Services Firm: Applying the Principles and the Science of Marketing to the Professions

The Geography of Small Firm Innovation (International Studies in Entrepreneurship)

The Firm of Girdlestone

the firm

The Firm

The Firm

The Firm

International Marketing

The Firm

The Firm

The Firm

The Firm

The Firm

The Firm

the Firm

The Firm

The Firm

The Firm

The Firm

The Firm

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