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The liability of foreignness, redux: a commentary
Journal of International Management 8 (2002) 351 – 358
Commentary
The liability of foreignness, redux: a commentary Srilata Zaheer* Strategic Management and Organization, Carlson School of Management, University of Minnesota, 321 19th Avenue South, Minneapolis, MN 55455, USA
One of the many consequences of the events of September 11, 2001 has been an increase in the costs of doing business in general, and the costs of doing business abroad (CDBA), on many dimensions—from the tangible costs associated with increased insurance, security and transportation delays, to the opportunity costs associated with the greater reluctance on the part of many managers to travel or live overseas, resulting in lost sales or deals. Did these events also increase the liability of foreignness (LOF)? This latter question puts into sharp and perhaps somewhat uncomfortable relief a fundamental issue that runs through the papers in this symposium. What exactly are the boundaries between these concepts? Are they synonymous? Are the liabilities of foreignness a subset of the costs of doing business abroad? Or are they an overarching concept within which the costs of doing business abroad fall? Further, at what level of analysis—parent firm, subsidiary or a particular activity are the liabilities of foreignness felt most acutely? These are exactly the types of questions that the papers selected for this special issue begin to address. In the following discussion, I will start with an attempt to clarify some of my thinking on these issues, and then briefly summarize what I believe are the most important contributions to the concept of the LOF from each of the papers in this issue. When I first began to puzzle over the liabilities of foreignness (Zaheer, 1995), I started with the idea that the liabilities of foreignness was closely related to if not completely synonymous with the costs of doing business abroad, as Hymer (1960, published in 1976) had defined it. My intention in reframing the concept of the costs of doing business abroad as the liabilities of foreignness was to focus attention away from market-driven costs that dominate the discussion of CDBA (e.g. in Kindleberger, 1969; Caves, 1982), to the subtler structural/relational and institutional costs of doing business abroad. What I mean by structural/relational costs are the costs associated with a foreign firm’s network position in the host country and its linkages to important local actors, which are both likely to be less
* Tel: +1-612-624-5590; fax: +1-612-626-1316. E-mail address: [email protected] (S. Zaheer).
1075-4253/02/$ – see front matter D 2002 Elsevier Science Inc. All rights reserved. PII: S 1 0 7 5 - 4 2 5 3 ( 0 2 ) 0 0 0 7 0 - 4
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S. Zaheer / Journal of International Management 8 (2002) 351–358
developed relative to those of a local firm, resulting in poorer access to local information and resources. One could think of institutional costs as costs associated with a foreign firm’s distance from the cognitive, normative, and regulatory domains of the local institutional environment (Scott, 1987, 1995; Kostova, 1999). I choose to focus on institutional distance rather than on the more popular concept of cultural distance (Kogut and Singh, 1988), as I see the former as broader, allowing for politics, ideology, law, and other such societal institutions to be taken into account in addition to culture. Institutional costs affect the legitimacy or acceptance of the foreign firm relative to a local firm, as well as the extent of local learning the foreign firm has to engage in (Kostova and Zaheer, 1999). Structural/relational costs and institutional costs are not necessarily independent, and both reflect the firm’s interaction with the local environment in a particular host country. Separating the market-driven costs from the structural/relational and institutional costs helps us see more clearly that while the events of 9/11 increased the CDBA (which are predominantly market-driven) of all firms, they may have increased the LOF (by affecting access and legitimacy) of only certain firms from specific home countries (e.g. Somalia, the Middle East), in specific host countries (e.g. the US). So, while the costs of doing business abroad focus on market-driven economic costs, I see the liability of foreignness as focusing on the more social costs of access and acceptance. It is also clear from the discussion that the liability of foreignness is relative—it is relative to what a local firm might experience. Note, however that ‘local’ does not necessarily mean ‘domestic’. A local firm in a particular host country could itself be part of a multinational network, and may have many of the advantages deriving from multinationality, and other sources of competitive advantage over a foreign firm as well! Specifically, two factors appear to have driven the research focused on the advantages enjoyed by multinationals in the 1970s and 1980s. One was a mindset among researchers that with few exceptions, assumed that the foreign firm would be from the richer home country and hence, would automatically have certain advantages over local firms that would counterbalance its LOF. The other was a greater focus on market-driven costs rather than on structural/relational and institutional costs (again with some notable exceptions, particularly in the area of cultural distance). Today, it becomes clearer that a ‘foreign’ firm could be a French, Japanese, or Indian firm operating in the US as well as our more traditional conceptualizations of the Swiss or US firm operating in Thailand. It is also clear that the ‘local’ firm encountered by the foreign firm as competition, say in France, could itself be part of a French multinational. This is why it is important to try and control for the advantages of both foreign and local firms in any effort to establish the existence of the LOF. The relative nature of the liability of foreignness is also often missed, for example, in the sequential entry-mode model associated with the Uppsala school, (e.g. Johanson and Vahlne, 1977). Researchers drawing on this model seem to operate with the implicit assumption that foreign firms can build local market knowledge through starting their overseas involvement by using agents to export their products, and then going into licensing before engaging in fullfledged FDI, and will reduce their LOF by following this process. What is overlooked is that licensing or agency may not contribute to the focal firm gaining local market knowledge, because of the opportunism and moral hazard issues involved in any agency relationship.
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Further, it is very likely that the moral hazard involved in all contractual forms and entry modes involving a local partner (licensing, agency, joint ventures, even acquisitions), is likely to be greater for foreign than for local firms, and so, even if a sequential entry mode were to assist the parent firm in gaining local market knowledge, it is not clear that this would reduce the LOF if one were to examine the relative learning rates of foreign versus local firms that followed the same sequence. Finally, before moving on to the contributions of each of the papers, I would once again emphasize that not all sources of the liability of foreignness can be expected to continue at the same level forever. LOF is an inherently dynamic concept (Zaheer and Mosakowski, 1997). As the firm becomes more of an insider in a particular host society (Ohmae, 1990), developing linkages and aligning its values and actions to the institutional requirements of the host environment, its LOF should decline and perhaps even disappear. The LOF could also increase, for example, from changes in the environment that lead to a sudden loss in legitimacy of certain firms, say from particular home countries. Variation of LOF by firm, home and host countries and industry are also a given, as both market-driven and social costs will be affected by heterogeneity along these dimensions (Zaheer, 1995; Zaheer and Mosakowski, 1997). It is with these biases that I offer the comments that follow on each of the papers. Overall, the set of papers put together by Mezias and Luo in this special issue marks an important contribution to the field of International Management because they collectively take on a comprehensive examination of one of the fundamental assumptions of the field, that foreign firms face a systematic disadvantage in doing business relative to local firms. The papers set the concept of the LOF in the context of a larger view of multinationals and the international business environment [IBE] (Sethi and Guisinger), question the validity of its measurement (Hennart, Roehl and Zeng), suggest how it should be used in research (Mezias), identify different sources of this liability (Calhoun), as well as suggest how it might be mitigated (Luo, Shenkar and Nyaw; Petersen and Pedersen), and finally, empirically demonstrate how LOF varies both with strategy (Luo, Shenkar and Nyaw) and with home and host country conditions (Miller and Richards). As such, this set of papers constitutes a very good introduction to and extension of the concept. The Sethi and Guisinger paper on how MNEs cope with the IBE focuses on the relative complexity faced by multinational enterprises compared to purely domestic firms rather than on foreign versus local firms. They thus shift the level of analysis of the LOF to the MNE as a whole, labeling this an ‘‘enhanced LOF.’’ This paper makes a significant contribution in highlighting firms’ ability to scan the IBE as itself a core capability, and the need for MNEs to develop a geovalent filter to help in scanning and assessing the impact of changes in the IBE. While their argument that multinationals should be studied in the full complexity of their interactions with the entire IBE is entirely valid, their setting up of the LOF as a straw man as it is focused on the dyad of a subsidiary in a particular host country seems unnecessary, and their argument that LOF is typically seen as static and as invariant across firms is not entirely justifiable. On the level of analysis, foreignness is an inherently dyadic concept and a multinational enterprise is unlikely to be foreign in its headquarters country. Of course, we should study multinationals as a whole and their interactions with the global meta-
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environment; however, this does not take away from the need to study and understand both the access and the acceptance of foreign firms in particular host environments, as well as the interaction of the global meta-environment with the local host environment. In this context, rather than label the interaction of the MNE with the IBE as an ‘‘enhanced LOF,’’ it may be less confusing to label it as the ‘‘liabilities (and advantages) of multinationality.’’ As for the LOF being static, Hymer (1976) himself noted that some of the CDBA will decline with time, and both the dynamics of LOF and the influence of firm heterogeneity on LOF have been addressed in earlier studies. Hennart, Roehl and Zeng engage in a thorough discussion of the limitation of exits as an indicator of the LOF. They suggest that lack of profitability and exit may be imperfectly correlated, and make a very convincing argument that exit could be due to a variety of reasons other than poor subunit performance (implicit in empirical work on the LOF), such as change in parent strategy and parent poor performance, among others. They used one of my studies (Zaheer and Mosakowski, 1997), among others, to make their case. While I could not agree more with their statements on the limitations of exits as a proxy for LOF, I would like to point out certain features of our study that they appear to have misunderstood—I would have liked to respond to the authors’ comments on the other studies as well except that I do not know those studies as well. First, the Zaheer and Mosakowski (1997) study did not look at temporary delistings but at exits from being market-makers in the currency trading industry— over 99% of the subunits that exited in the study never came back at any time in the 20-year period. The check we did that firms in fact remained delisted the year after the first year they were missing was meant in fact to ensure that accidental delistings were not in fact counted as exits, not that these firms only remained unlisted for 2 years! Secondly, we controlled for many of the reasons for exit the authors justly point out as probable alternative explanations for exit—parent financial strength, whether the subunit is part of a multinational network, as well as various subunit level factors such as scale and the structure of control. We also did the analyses with and without sold (acquired) subunits and found no difference in LOF across these analyses. Ours is also one of the rare studies to compare the entire worldwide population of foreign and domestic affiliates from 65 home countries located in 47 host countries, so that the problem of only studying firms from a better-endowed home environment in a worse-endowed host environment, or vice versa, is limited. Finally, we have always maintained that the LOF is a temporary phenomenon (if a relatively long-lived temporary phenomenon—16 years in our case), so it is not at all surprising that after 20 years, the overall survival percentages are approximately the same across foreign and domestic subunits. What is important is the interim pattern where after the initial 2 years, foreign firms exit from the industry at higher rates than do domestic firms, and the exit rates do not equalize for another 14 years. Hennart, Roehl and Zheng also make a heroic effort to empirically sort out what percentage of exits of Japanese affiliates in the US can be attributed to an LOF and what percentage to other reasons. Unfortunately, they have to resort to attributing causes for the exit of these 32 firms from primarily secondary sources such as annual reports, and the recollection of a few interviewees. While they have made a laudable effort to document the 32 cases, they do not appear to have used formal textual analysis of the annual reports or used clear criteria for
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assigning cases to one group or the other or engaged multiple raters to assign these attributions followed by checks for interrater reliability, in order to rule out post hoc subjective biases. We also do not have a sense from them of the exit behavior of a comparable set of Americanowned (i.e. local) affiliates over this period. From their brief descriptions of these cases, it appears that there is ambiguity as to cause of exit in all the cases. For example, without knowing the why’s of Alumax’s parents’ decision to sell their aluminum assets back to Amax and replace it with a contract for aluminum, it is difficult to accept the authors’ assertion that these exits do not appear to have been due to management difficulties caused by an LOF. Sale of an affiliate, per se, does not necessarily mean that there was no LOF. The authors’ other assertion that some Japanese firms exited because of difficulties that could have been experienced by all players (e.g. cost increases following the oil shock) could also have been controlled for if they had studied the exits of a comparable sample of domestic US affiliates in the same industries as well. I would only reiterate the need to take a relative view of LOF comparing the performance of foreign and domestic affiliates across different home and host environments over time and controlling for industry and firm heterogeneity in empirical work in this area. The question is—are there additional costs incurred by foreign firms in dealing with the same set of issues local firms deal with? The authors however do yeoman service in reinforcing the view that LOF needs to be studied with different cost and performance indicators including efficiency (Miller and Parkhe, 2002) profitability, survival and nonmonetary measures such as incidence of lawsuits (Mezias, 2002) or legitimacy (Dhanraj, 2000), while making every effort to control for strategy—points that I would strongly endorse. Mezias, in his paper on ‘‘Re-examining the Liabilities of Foreignness Construct,’’ does an excellent job of laying out the basic issues involved in the concept and in the construct of the LOF. He emphasizes that LOF is always relative to a domestic player, in that even when the LOF arises from costs that are not exclusive to foreign firms, the question is whether the foreign firm experiences these costs disproportionately. Mezias also very clearly details the need to control both for a firm’s advantages, as well as for other liabilities such as those of newness, while empirically examining the LOF. He also raises an important and intriguing question as to whether expatriates mitigate or contribute to the LOF. This brings to the forefront the need to integrate the study of international human resources with the study of international strategy, and I hope this leads to more studies on the role of the experience and networks of individual managers, both local and expatriate, on multinational performance. Luo, Shenkar and Nyaw focus on ‘‘defensive’’ versus ‘‘offensive’’ strategies to mitigate the LOF, and offer an interesting view of the MNE subsidiary either trying to buffer itself from the local environment through mechanisms such as contract protection and tighter linkages with the parent (defensive strategies), or working on its access and acceptance in the local environment, through local networking and efforts to enhance their legitimacy (offensive strategies). They empirically test the contract versus local networking (guanxi) theories on a sample of 92 wholly or majority-owned subsidiaries of MNEs in China. They find that both contract mechanisms and local networking help in mitigating the LOF, but in complementary ways. Local networking appears to have a stronger effect on sales growth, while contract mechanisms appear to work best when the motivation for engaging in activities abroad is
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primarily cost reduction. While the idea that the LOF may be particularly pronounced in the ‘‘horizontal’’ or market-seeking MNE (Caves, 1982) is well established, this is one of the first studies to examine different strategies for mitigating the LOF for firms pursuing different motivations abroad. While Luo, Shenkar and Nyaw focus on strategies to mitigate LOF, Calhoun focuses on the cultural drivers of the LOF, emphasizing the more tacit or hidden aspects of culture that might lead to it. The author suggests that the LOF arises as foreign firms have greater difficulty interpreting informal processes and norms in the local environment, apart from their facing internal cultural conflict if local practices (e.g. with regard to corruption) are inconsistent with parent company values. While other researchers have highlighted the conflicting pulls on subsidiaries from the requirements for internal and external legitimacy (e.g. Westney, 1993; Kostova and Zaheer, 1999), Calhoun suggests a way to test the more tacit aspects of this tension by focusing on corruption as an indicator of tacit cultural values, but stops short of actually carrying out such a test. While the author acknowledges that corruption may not correlate with all tacit values in a culture, the most important contribution of this paper in my view is to hammer home the need to focus on the more intangible aspects of the LOF—such as the institutional and social costs that I had highlighted earlier on. Miller and Richards, in their empirical test for the LOF on a sample of 700 host country banks and 257 foreign banks in nine EU countries, take the idea of the LOF up one level to performance of member versus nonmember firms in a regional economic group. They also address at least some of the sources of heterogeneity in the extent to which firms face an LOF by linking LOF to home country and host country competitive conditions. They find that the LOF arises in highly competitive host countries, but not in less competitive host countries. Their study is one of the first to empirically examine these home and host country influences across a range of developed countries, and their results, using X-efficiency measures, shed new light that should help influence researchers who have till now focused primarily on the advantages enjoyed by firms from competitive (‘‘rich’’) home countries engaging in FDI in less competitive host countries. Petersen and Pedersen, in their paper on the different extents to which firms engage in learning about a host environment, did an empirical study of 494 subsidiaries of European firms and came up with four clusters based on length of time in the market and perceived foreign market unfamiliarity. They classified two clusters of firms that have only been in the market a short time as ‘‘pre-entry’’ and ‘‘post-entry learners’’ (those that claim familiarity with the market as pre-entry learners, and those that do not as post-entry learners), and two clusters of firms that have been in the market for a longer time period as ‘‘low learning engagement firms’’ (high unfamiliarity) and ‘‘high learning engagement firms.’’ They find that while all four clusters are similar in terms of international experience (which they classify as having high ‘‘adaptation capability’’), their willingness to adapt to the local environment and the extent to which they used globally standardized routines in their overseas operations vary across these clusters. In this paper, Petersen and Pedersen make an implicit assumption that more local adaptation is better for the success of a local subsidiary, but they do not offer a convincing theoretical rationale for this assumption. Many successful multinational corporations try to adapt only what is absolutely essential as they go overseas. The type of industry
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a firm is in, whether the industry is inherently global or multidomestic, and the type of strategy the firm uses, could also influence the extent of willingness to adapt, as well as whether adaptation is even necessary for success (Porter, 1986). The main conclusion of this paper is that firms must engage in high-velocity learning in order to mitigate the LOF. While this seems perfectly reasonable, some guidance on how firms might do this would be a direction I would encourage these authors to take. To sum up the contribution of this special issue, these papers do take us several steps closer to an understanding of the phenomenon of the LOF. However, they perhaps still do not go far enough in that direction, and much remains to be done. In particular, as researchers interested in the LOF, we need to strive for greater clarity in levels of analysis, in addressing the dynamics involved in the processes of learning and legitimation, in addressing the sources of firm heterogeneity in LOF and in developing more sophisticated measures and empirical rigor while simultaneously striving for a deeper comprehension of what it really means to be foreign or alien in a particular environment. It has without doubt been a particularly gratifying experience for me to go through the papers selected for this special issue. After all, when I first started questioning why there should be any costs of doing business abroad in a globalizing world almost 10 years ago, the liability of foreignness had been languishing in the International Management literature as a taken-for-granted assumption for many years. With this special issue, I hope many more researchers using a variety of methodologies, and in particular, less used approaches such as ethnography, will begin to deepen our understanding of foreignness, and its ramifications.
References Caves, R.E., 1982. Multinational Enterprise and Economic Analysis. Cambridge Univ. Press, New York. Dhanraj, C., 2000. Legitimacy and Stability of Japanese Overseas Subsidiaries, Unpublished PhD dissertation, Univesity of Western Ontario. Hymer, S.H., 1976. The International Operations of National Firms: A Study of Direct Investment. MIT Press, Cambridge, MA (based on unpublished 1960 dissertation). Johanson, J., Vahlne, J.-E., 1977. The internationalization process of the firm: a model of knowledge development and increasing foreign market commitment. J. Int. Bus. Stud. 891, 23 – 32. Kindleberger, C., 1969. American Business Abroad. University Press, New Haven, CT. Kogut, B., Singh, H., 1988. The effect of national culture on the choice of entry mode. J. Int. Bus. Stud. 19 (3), 411 – 431. Kostova, T., 1999. Transnational transfer of strategic organizational practices: a contextual perspective. Acad. Manage. Rev. 24, 308 – 324. Kostova, T., Zaheer, S., 1999. Organizational legitimacy under conditions of complexity: the case of the multinational enterprise. Acad. Manage. Rev. 24, 64 – 81. Mezias, J., 2002. Identifying liabilities of foreignness and strategies to minimize their effects: the case of labor lawsuit judgments in the United States. Strateg. Manage. J. 23 (3), 229 – 244. Miller, S., Parkhe, A., 2002. Is there a liability of foreignness in global banking? An empirical test of banks’ X-efficiency. Strateg. Manage. J. 23 (1), 55 – 75. Ohmae, K., 1990. The Borderless World. Harper Business, New York. Porter, M., 1986. Competition in Global Industries. HBS Press, Boston. Scott, R.W., 1987. The adolescence of institutional theory. Adm. Sci. Q. 32, 493 – 511.
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Scott, R., 1995. Institutions and Organizations. Sage, Thousand Oaks, CA. Westney, E., 1993. Institutionalization theory and the MNE. In: Ghoshal, S., Westney, E. (Eds.), Organization Theory and the Multinational Corporation. St. Martin’s Press, New York, pp. 53 – 76. Zaheer, S., 1995. Overcoming the liability of foreignness. Acad. Manage. J. 38 (2), 341 – 363. Zaheer, S., Mosakowski, E., 1997. The dynamics of the liability of foreignness: a global study of survival in financial services. Strateg. Manage. J. 18 (6), 439 – 464.
Commentary
The liability of foreignness, redux: a commentary Srilata Zaheer* Strategic Management and Organization, Carlson School of Management, University of Minnesota, 321 19th Avenue South, Minneapolis, MN 55455, USA
One of the many consequences of the events of September 11, 2001 has been an increase in the costs of doing business in general, and the costs of doing business abroad (CDBA), on many dimensions—from the tangible costs associated with increased insurance, security and transportation delays, to the opportunity costs associated with the greater reluctance on the part of many managers to travel or live overseas, resulting in lost sales or deals. Did these events also increase the liability of foreignness (LOF)? This latter question puts into sharp and perhaps somewhat uncomfortable relief a fundamental issue that runs through the papers in this symposium. What exactly are the boundaries between these concepts? Are they synonymous? Are the liabilities of foreignness a subset of the costs of doing business abroad? Or are they an overarching concept within which the costs of doing business abroad fall? Further, at what level of analysis—parent firm, subsidiary or a particular activity are the liabilities of foreignness felt most acutely? These are exactly the types of questions that the papers selected for this special issue begin to address. In the following discussion, I will start with an attempt to clarify some of my thinking on these issues, and then briefly summarize what I believe are the most important contributions to the concept of the LOF from each of the papers in this issue. When I first began to puzzle over the liabilities of foreignness (Zaheer, 1995), I started with the idea that the liabilities of foreignness was closely related to if not completely synonymous with the costs of doing business abroad, as Hymer (1960, published in 1976) had defined it. My intention in reframing the concept of the costs of doing business abroad as the liabilities of foreignness was to focus attention away from market-driven costs that dominate the discussion of CDBA (e.g. in Kindleberger, 1969; Caves, 1982), to the subtler structural/relational and institutional costs of doing business abroad. What I mean by structural/relational costs are the costs associated with a foreign firm’s network position in the host country and its linkages to important local actors, which are both likely to be less
* Tel: +1-612-624-5590; fax: +1-612-626-1316. E-mail address: [email protected] (S. Zaheer).
1075-4253/02/$ – see front matter D 2002 Elsevier Science Inc. All rights reserved. PII: S 1 0 7 5 - 4 2 5 3 ( 0 2 ) 0 0 0 7 0 - 4
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developed relative to those of a local firm, resulting in poorer access to local information and resources. One could think of institutional costs as costs associated with a foreign firm’s distance from the cognitive, normative, and regulatory domains of the local institutional environment (Scott, 1987, 1995; Kostova, 1999). I choose to focus on institutional distance rather than on the more popular concept of cultural distance (Kogut and Singh, 1988), as I see the former as broader, allowing for politics, ideology, law, and other such societal institutions to be taken into account in addition to culture. Institutional costs affect the legitimacy or acceptance of the foreign firm relative to a local firm, as well as the extent of local learning the foreign firm has to engage in (Kostova and Zaheer, 1999). Structural/relational costs and institutional costs are not necessarily independent, and both reflect the firm’s interaction with the local environment in a particular host country. Separating the market-driven costs from the structural/relational and institutional costs helps us see more clearly that while the events of 9/11 increased the CDBA (which are predominantly market-driven) of all firms, they may have increased the LOF (by affecting access and legitimacy) of only certain firms from specific home countries (e.g. Somalia, the Middle East), in specific host countries (e.g. the US). So, while the costs of doing business abroad focus on market-driven economic costs, I see the liability of foreignness as focusing on the more social costs of access and acceptance. It is also clear from the discussion that the liability of foreignness is relative—it is relative to what a local firm might experience. Note, however that ‘local’ does not necessarily mean ‘domestic’. A local firm in a particular host country could itself be part of a multinational network, and may have many of the advantages deriving from multinationality, and other sources of competitive advantage over a foreign firm as well! Specifically, two factors appear to have driven the research focused on the advantages enjoyed by multinationals in the 1970s and 1980s. One was a mindset among researchers that with few exceptions, assumed that the foreign firm would be from the richer home country and hence, would automatically have certain advantages over local firms that would counterbalance its LOF. The other was a greater focus on market-driven costs rather than on structural/relational and institutional costs (again with some notable exceptions, particularly in the area of cultural distance). Today, it becomes clearer that a ‘foreign’ firm could be a French, Japanese, or Indian firm operating in the US as well as our more traditional conceptualizations of the Swiss or US firm operating in Thailand. It is also clear that the ‘local’ firm encountered by the foreign firm as competition, say in France, could itself be part of a French multinational. This is why it is important to try and control for the advantages of both foreign and local firms in any effort to establish the existence of the LOF. The relative nature of the liability of foreignness is also often missed, for example, in the sequential entry-mode model associated with the Uppsala school, (e.g. Johanson and Vahlne, 1977). Researchers drawing on this model seem to operate with the implicit assumption that foreign firms can build local market knowledge through starting their overseas involvement by using agents to export their products, and then going into licensing before engaging in fullfledged FDI, and will reduce their LOF by following this process. What is overlooked is that licensing or agency may not contribute to the focal firm gaining local market knowledge, because of the opportunism and moral hazard issues involved in any agency relationship.
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Further, it is very likely that the moral hazard involved in all contractual forms and entry modes involving a local partner (licensing, agency, joint ventures, even acquisitions), is likely to be greater for foreign than for local firms, and so, even if a sequential entry mode were to assist the parent firm in gaining local market knowledge, it is not clear that this would reduce the LOF if one were to examine the relative learning rates of foreign versus local firms that followed the same sequence. Finally, before moving on to the contributions of each of the papers, I would once again emphasize that not all sources of the liability of foreignness can be expected to continue at the same level forever. LOF is an inherently dynamic concept (Zaheer and Mosakowski, 1997). As the firm becomes more of an insider in a particular host society (Ohmae, 1990), developing linkages and aligning its values and actions to the institutional requirements of the host environment, its LOF should decline and perhaps even disappear. The LOF could also increase, for example, from changes in the environment that lead to a sudden loss in legitimacy of certain firms, say from particular home countries. Variation of LOF by firm, home and host countries and industry are also a given, as both market-driven and social costs will be affected by heterogeneity along these dimensions (Zaheer, 1995; Zaheer and Mosakowski, 1997). It is with these biases that I offer the comments that follow on each of the papers. Overall, the set of papers put together by Mezias and Luo in this special issue marks an important contribution to the field of International Management because they collectively take on a comprehensive examination of one of the fundamental assumptions of the field, that foreign firms face a systematic disadvantage in doing business relative to local firms. The papers set the concept of the LOF in the context of a larger view of multinationals and the international business environment [IBE] (Sethi and Guisinger), question the validity of its measurement (Hennart, Roehl and Zeng), suggest how it should be used in research (Mezias), identify different sources of this liability (Calhoun), as well as suggest how it might be mitigated (Luo, Shenkar and Nyaw; Petersen and Pedersen), and finally, empirically demonstrate how LOF varies both with strategy (Luo, Shenkar and Nyaw) and with home and host country conditions (Miller and Richards). As such, this set of papers constitutes a very good introduction to and extension of the concept. The Sethi and Guisinger paper on how MNEs cope with the IBE focuses on the relative complexity faced by multinational enterprises compared to purely domestic firms rather than on foreign versus local firms. They thus shift the level of analysis of the LOF to the MNE as a whole, labeling this an ‘‘enhanced LOF.’’ This paper makes a significant contribution in highlighting firms’ ability to scan the IBE as itself a core capability, and the need for MNEs to develop a geovalent filter to help in scanning and assessing the impact of changes in the IBE. While their argument that multinationals should be studied in the full complexity of their interactions with the entire IBE is entirely valid, their setting up of the LOF as a straw man as it is focused on the dyad of a subsidiary in a particular host country seems unnecessary, and their argument that LOF is typically seen as static and as invariant across firms is not entirely justifiable. On the level of analysis, foreignness is an inherently dyadic concept and a multinational enterprise is unlikely to be foreign in its headquarters country. Of course, we should study multinationals as a whole and their interactions with the global meta-
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environment; however, this does not take away from the need to study and understand both the access and the acceptance of foreign firms in particular host environments, as well as the interaction of the global meta-environment with the local host environment. In this context, rather than label the interaction of the MNE with the IBE as an ‘‘enhanced LOF,’’ it may be less confusing to label it as the ‘‘liabilities (and advantages) of multinationality.’’ As for the LOF being static, Hymer (1976) himself noted that some of the CDBA will decline with time, and both the dynamics of LOF and the influence of firm heterogeneity on LOF have been addressed in earlier studies. Hennart, Roehl and Zeng engage in a thorough discussion of the limitation of exits as an indicator of the LOF. They suggest that lack of profitability and exit may be imperfectly correlated, and make a very convincing argument that exit could be due to a variety of reasons other than poor subunit performance (implicit in empirical work on the LOF), such as change in parent strategy and parent poor performance, among others. They used one of my studies (Zaheer and Mosakowski, 1997), among others, to make their case. While I could not agree more with their statements on the limitations of exits as a proxy for LOF, I would like to point out certain features of our study that they appear to have misunderstood—I would have liked to respond to the authors’ comments on the other studies as well except that I do not know those studies as well. First, the Zaheer and Mosakowski (1997) study did not look at temporary delistings but at exits from being market-makers in the currency trading industry— over 99% of the subunits that exited in the study never came back at any time in the 20-year period. The check we did that firms in fact remained delisted the year after the first year they were missing was meant in fact to ensure that accidental delistings were not in fact counted as exits, not that these firms only remained unlisted for 2 years! Secondly, we controlled for many of the reasons for exit the authors justly point out as probable alternative explanations for exit—parent financial strength, whether the subunit is part of a multinational network, as well as various subunit level factors such as scale and the structure of control. We also did the analyses with and without sold (acquired) subunits and found no difference in LOF across these analyses. Ours is also one of the rare studies to compare the entire worldwide population of foreign and domestic affiliates from 65 home countries located in 47 host countries, so that the problem of only studying firms from a better-endowed home environment in a worse-endowed host environment, or vice versa, is limited. Finally, we have always maintained that the LOF is a temporary phenomenon (if a relatively long-lived temporary phenomenon—16 years in our case), so it is not at all surprising that after 20 years, the overall survival percentages are approximately the same across foreign and domestic subunits. What is important is the interim pattern where after the initial 2 years, foreign firms exit from the industry at higher rates than do domestic firms, and the exit rates do not equalize for another 14 years. Hennart, Roehl and Zheng also make a heroic effort to empirically sort out what percentage of exits of Japanese affiliates in the US can be attributed to an LOF and what percentage to other reasons. Unfortunately, they have to resort to attributing causes for the exit of these 32 firms from primarily secondary sources such as annual reports, and the recollection of a few interviewees. While they have made a laudable effort to document the 32 cases, they do not appear to have used formal textual analysis of the annual reports or used clear criteria for
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assigning cases to one group or the other or engaged multiple raters to assign these attributions followed by checks for interrater reliability, in order to rule out post hoc subjective biases. We also do not have a sense from them of the exit behavior of a comparable set of Americanowned (i.e. local) affiliates over this period. From their brief descriptions of these cases, it appears that there is ambiguity as to cause of exit in all the cases. For example, without knowing the why’s of Alumax’s parents’ decision to sell their aluminum assets back to Amax and replace it with a contract for aluminum, it is difficult to accept the authors’ assertion that these exits do not appear to have been due to management difficulties caused by an LOF. Sale of an affiliate, per se, does not necessarily mean that there was no LOF. The authors’ other assertion that some Japanese firms exited because of difficulties that could have been experienced by all players (e.g. cost increases following the oil shock) could also have been controlled for if they had studied the exits of a comparable sample of domestic US affiliates in the same industries as well. I would only reiterate the need to take a relative view of LOF comparing the performance of foreign and domestic affiliates across different home and host environments over time and controlling for industry and firm heterogeneity in empirical work in this area. The question is—are there additional costs incurred by foreign firms in dealing with the same set of issues local firms deal with? The authors however do yeoman service in reinforcing the view that LOF needs to be studied with different cost and performance indicators including efficiency (Miller and Parkhe, 2002) profitability, survival and nonmonetary measures such as incidence of lawsuits (Mezias, 2002) or legitimacy (Dhanraj, 2000), while making every effort to control for strategy—points that I would strongly endorse. Mezias, in his paper on ‘‘Re-examining the Liabilities of Foreignness Construct,’’ does an excellent job of laying out the basic issues involved in the concept and in the construct of the LOF. He emphasizes that LOF is always relative to a domestic player, in that even when the LOF arises from costs that are not exclusive to foreign firms, the question is whether the foreign firm experiences these costs disproportionately. Mezias also very clearly details the need to control both for a firm’s advantages, as well as for other liabilities such as those of newness, while empirically examining the LOF. He also raises an important and intriguing question as to whether expatriates mitigate or contribute to the LOF. This brings to the forefront the need to integrate the study of international human resources with the study of international strategy, and I hope this leads to more studies on the role of the experience and networks of individual managers, both local and expatriate, on multinational performance. Luo, Shenkar and Nyaw focus on ‘‘defensive’’ versus ‘‘offensive’’ strategies to mitigate the LOF, and offer an interesting view of the MNE subsidiary either trying to buffer itself from the local environment through mechanisms such as contract protection and tighter linkages with the parent (defensive strategies), or working on its access and acceptance in the local environment, through local networking and efforts to enhance their legitimacy (offensive strategies). They empirically test the contract versus local networking (guanxi) theories on a sample of 92 wholly or majority-owned subsidiaries of MNEs in China. They find that both contract mechanisms and local networking help in mitigating the LOF, but in complementary ways. Local networking appears to have a stronger effect on sales growth, while contract mechanisms appear to work best when the motivation for engaging in activities abroad is
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primarily cost reduction. While the idea that the LOF may be particularly pronounced in the ‘‘horizontal’’ or market-seeking MNE (Caves, 1982) is well established, this is one of the first studies to examine different strategies for mitigating the LOF for firms pursuing different motivations abroad. While Luo, Shenkar and Nyaw focus on strategies to mitigate LOF, Calhoun focuses on the cultural drivers of the LOF, emphasizing the more tacit or hidden aspects of culture that might lead to it. The author suggests that the LOF arises as foreign firms have greater difficulty interpreting informal processes and norms in the local environment, apart from their facing internal cultural conflict if local practices (e.g. with regard to corruption) are inconsistent with parent company values. While other researchers have highlighted the conflicting pulls on subsidiaries from the requirements for internal and external legitimacy (e.g. Westney, 1993; Kostova and Zaheer, 1999), Calhoun suggests a way to test the more tacit aspects of this tension by focusing on corruption as an indicator of tacit cultural values, but stops short of actually carrying out such a test. While the author acknowledges that corruption may not correlate with all tacit values in a culture, the most important contribution of this paper in my view is to hammer home the need to focus on the more intangible aspects of the LOF—such as the institutional and social costs that I had highlighted earlier on. Miller and Richards, in their empirical test for the LOF on a sample of 700 host country banks and 257 foreign banks in nine EU countries, take the idea of the LOF up one level to performance of member versus nonmember firms in a regional economic group. They also address at least some of the sources of heterogeneity in the extent to which firms face an LOF by linking LOF to home country and host country competitive conditions. They find that the LOF arises in highly competitive host countries, but not in less competitive host countries. Their study is one of the first to empirically examine these home and host country influences across a range of developed countries, and their results, using X-efficiency measures, shed new light that should help influence researchers who have till now focused primarily on the advantages enjoyed by firms from competitive (‘‘rich’’) home countries engaging in FDI in less competitive host countries. Petersen and Pedersen, in their paper on the different extents to which firms engage in learning about a host environment, did an empirical study of 494 subsidiaries of European firms and came up with four clusters based on length of time in the market and perceived foreign market unfamiliarity. They classified two clusters of firms that have only been in the market a short time as ‘‘pre-entry’’ and ‘‘post-entry learners’’ (those that claim familiarity with the market as pre-entry learners, and those that do not as post-entry learners), and two clusters of firms that have been in the market for a longer time period as ‘‘low learning engagement firms’’ (high unfamiliarity) and ‘‘high learning engagement firms.’’ They find that while all four clusters are similar in terms of international experience (which they classify as having high ‘‘adaptation capability’’), their willingness to adapt to the local environment and the extent to which they used globally standardized routines in their overseas operations vary across these clusters. In this paper, Petersen and Pedersen make an implicit assumption that more local adaptation is better for the success of a local subsidiary, but they do not offer a convincing theoretical rationale for this assumption. Many successful multinational corporations try to adapt only what is absolutely essential as they go overseas. The type of industry
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a firm is in, whether the industry is inherently global or multidomestic, and the type of strategy the firm uses, could also influence the extent of willingness to adapt, as well as whether adaptation is even necessary for success (Porter, 1986). The main conclusion of this paper is that firms must engage in high-velocity learning in order to mitigate the LOF. While this seems perfectly reasonable, some guidance on how firms might do this would be a direction I would encourage these authors to take. To sum up the contribution of this special issue, these papers do take us several steps closer to an understanding of the phenomenon of the LOF. However, they perhaps still do not go far enough in that direction, and much remains to be done. In particular, as researchers interested in the LOF, we need to strive for greater clarity in levels of analysis, in addressing the dynamics involved in the processes of learning and legitimation, in addressing the sources of firm heterogeneity in LOF and in developing more sophisticated measures and empirical rigor while simultaneously striving for a deeper comprehension of what it really means to be foreign or alien in a particular environment. It has without doubt been a particularly gratifying experience for me to go through the papers selected for this special issue. After all, when I first started questioning why there should be any costs of doing business abroad in a globalizing world almost 10 years ago, the liability of foreignness had been languishing in the International Management literature as a taken-for-granted assumption for many years. With this special issue, I hope many more researchers using a variety of methodologies, and in particular, less used approaches such as ethnography, will begin to deepen our understanding of foreignness, and its ramifications.
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Scott, R., 1995. Institutions and Organizations. Sage, Thousand Oaks, CA. Westney, E., 1993. Institutionalization theory and the MNE. In: Ghoshal, S., Westney, E. (Eds.), Organization Theory and the Multinational Corporation. St. Martin’s Press, New York, pp. 53 – 76. Zaheer, S., 1995. Overcoming the liability of foreignness. Acad. Manage. J. 38 (2), 341 – 363. Zaheer, S., Mosakowski, E., 1997. The dynamics of the liability of foreignness: a global study of survival in financial services. Strateg. Manage. J. 18 (6), 439 – 464.