Master's Thesis, 2009
60 Pages, Grade: 2
2. Literature Review
2.2 Advantages and Disadvantages of WOSs and JVs
2.2.1 Advantages of WOSs
2.2.2 Disadvantages of WOSs
2.2.3 Advantages of JVs
2.2.4 Disadvantages of JVs
2.3 Theoretical Arguments and Empirical Findings concerning WOS and JV Performance
2.3.2 JVs outperform WOSs
2.3.3 WOSs outperform JVs
2.3.4 WOSs and JVs perform equally well
2.4 Reasons for the Exit of Foreign Subsidiaries
2.4.2 Forced Exits
2.4.3 Voluntary Exits
3.2 Average Longevity and Exit Rate
3.3 Exits through Sell-offs and Exits through Liquidations
3.4 Reasons for Exits
3.5 Changes in Ownership Structure
4.2 Original Sample
4.3 Data Collection and Final Sample
4.4 Performance Measures used to test Propositions 1a through 2b
4.5 Testing Propositions 3a, 3b, and 4
5.2 Average Longevity and Exit Rate
5.3 Exits through Sell-offs and Exits through Liquidations
5.4 Reasons for Exits
5.5 Changes in Ownership Structure
6.2 Discussion and Conclusion
6.3 Managerial and Academic Implications
6.4 Limitations and Suggestions for Further Research
Appendix A - Questionnaire on Subsidiary Status
Appendix B - Exit Data
Appendix C - Results of the T-test and Chi-Square Tests
I would like to express my gratitude to those people who supported me during the time of writing this thesis.
I am deeply indebted to my lecturer and supervisor Dr. Arjen Slangen from the University of Amsterdam for his patience, inspiring suggestions, and encouragement. I would also like to thank my fellow student Stanislav Prodanov for valuable suggestions for improvement and a pleasant time in Amsterdam.
Especially, I am grateful to my wonderful girlfriend Jana for all her love and the beautiful moments together.
I would like to express my highest gratitude to my parents for both the financial and emotional support, to my brothers and sisters for an exciting stay at home, and to my friends for all the joy and the fascinating times.
Table 1 - Empirical Studies on the Relative Performance of WOSs and JVs
Table 2 - Studies on Forced and Voluntary Exits of Foreign Subsidiaries
Table 3 - Reasons for the Exits of WOSs and JVs
Using data on more than 200 foreign entries made by Dutch MNEs between 1995 and 2003, this study examines the relative performance of jointly-owned and wholly-owned affiliates and sheds light on the underlying reasons why these two types of affiliates exit. By employing performance measures such as average longevity and exit rate, and by differentiating between exits through liquidations and those through sell-offs, I find that there are no essential performance differences between WOSs and JVs, which is in line with the results of prior scholarship (e.g. Dang, 1977; Chowdhury, 1992; Chan, 1995; Mata & Portugal, 2000; Pangarkar & Lim; 2003; Delios & Beamish, 2004). Furthermore, the findings reveal that both WOSs and JVs mainly exit voluntarily. The most prevalent reason for WOS exit is strategic restructuring, whereas the most common reason for JV exit is fierce competition in the host market. Finally, I discover supporting evidence for the proposition that MNE parents are more likely to buy out local partners from JVs over which they have majority ownership than from JVs over which they have minority ownership.
Keywords: subsidiary performance, exits, ownership mode, joint ventures, wholly-owned subsidiaries
Numerous studies in the field of international business (IB) have examined the entry mode choice made by multinational enterprises (MNEs) when moving into foreign markets. Among these studies, a plethora of scholars focused on the determinants of the choice between two ownership modes - wholly-owned subsidiaries (WOSs) and joint ventures (JVs) (e.g. Fagre & Wells, 1982; Lecraw, 1984; Gatignon & Anderson, 1988; Kim & Hwang, 1992; Agarwal & Ramaswami, 1992; Anand & Delios, 1997; Kaynak et al., 2007). WOSs are affiliates in a foreign nation in which the parent company has sole ownership and full responsibility over the day-to-day management. JVs, in contrast, involve at least one local and one foreign partner that establish a separate entity in which ownership and management is shared. The extant literature has frequently used 95% of a subsidiary’s equity as a cut-off point to differentiate between a WOS and a JV (Anderson & Gatignon, 1986; Gomes-Casseres, 1989; Hennart, 1991). In the main, entry through WOSs was favoured when the cultural distance between home and host country was high (Anand & Delios, 1997) and when companies already had considerable foreign experience (Gatignon & Anderson, 1988; Agarwal & Ramaswami, 1992). Entry through JVs, on the other hand, was preferred when the host government was highly restrictive (Fagre & Wells, 1982; Lecraw, 1984), when the uncertainty in remote markets was strong (Kim & Hwang, 1992), and when the affiliate operated in a resource-intensive industry (Kaynak et al., 2007).
More recently, another stream of literature shifted the research interest towards a linkage between ownership-based entry mode choice and subsidiary performance (Woodcock et al., 1994; Makino & Beamish, 1998; Pan & Chi, 1999; Pan et al., 1999; Mata & Portugal, 2000; Chen & Hu, 2002; Pangarkar & Lim, 2003; Gaur & Lu, 2007; Ogasavara & Hoshino, 2007; Kim & Gray, 2008). In doing so, these studies provided contradictory results. Some studies found that WOSs outperformed their jointly-owned counterparts (Woodcock et al., 1994; Chen & Hu, 2002; Gaur & Lu, 2007), whereas others found the opposite (Makino & Beamish, 1998; Pan & Chi, 1999; Pan et al., 1999; Ogasavara & Hoshino, 2007; Kim & Gray, 2008). Still others revealed that there are no significant performance differentials between both ownership modes (Mata & Portugal, 2000; Pangarkar & Lim, 2003). Scholars also made efforts to examine the underlying reasons for the exit (the cessation of operations) of foreign subsidiaries (Siegfried & Evans, 1994; Benito, 1997; Hennart et al., 1998; Alexander & Quinn, 2002; Hennart et al., 2002; Burt et al., 2003; Belderbos & Zou, 2006), an issue which is undoubtedly interrelated with performance.
In my study, I will not focus on the determinants of the choice between ownership modes. Rather, the core objective is to provide fresh insights into the relative performance of WOSs and JVs, and to illuminate the reasons for foreign subsidiaries’ exits. My contribution to the extant literature is twofold. First, scholars have frequently based their results on the short-term performance of foreign subsidiaries. Examples include the studies of Pan et al. (1999) and Ogasavara & Hoshino (2007), which relied on affiliate performance within one random year, and the study of Pan & Chi (1999), which relied on affiliate performance within two years. I argue that solely looking at subsidiaries’ short-term performance does not provide any representative and trustworthy results because firms are engaged in an ongoing learning process and may thus improve the performance of their foreign subsidiaries over time. This learning period, however, is not taken into consideration when studying the short-term performance of subsidiaries. Second, with the exception of Hennart et al. (1998), scholars often did not distinguish between exits through sell-offs and those through liquidations (Pennings et al., 1994; Li, 1995; Yamawaki, 1997). This is a major weakness since these studies ignore that the underlying reasons for sell-offs may be different from those for liquidations. While liquidations will virtually always be due to poor performance, the situation for sell-offs is more complex. The latter may also be due to other reasons, for example because of strategic reorientation of the MNE or a good offer the MNE received for its subsidiary. I will overcome these limitations inherent in the literature by (i) looking at the long-term performance of joint ventures and wholly-owned subsidiaries while (ii) differentiating between exits through sell-offs and those through liquidations. This will be done by tracing the current status (on 31 December 2008) of a sample of foreign affiliates that were established by Dutch MNEs between 1995 and 2003. Specifically, I aim to answer the following questions: (1) By taking the average longevity and the exit rate of subsidiaries as a proxy for subsidiary performance, and by differentiating between liquidations and sell-offs, do JVs perform better in the long-run than WOSs, or vice versa?; (2) Do the reasons for exits of Dutch foreign subsidiaries systematically differ between JVs and WOSs?; and finally, with special regard to JVs (3) Are MNE parents more likely to buy out local partners from JVs over which they have majority ownership than from JVs over which they have minority ownership?
The structure of this study is as follows. In the subsequent chapter, I will provide a thorough literature review of scholarship concerning the relative performance of WOSs and JVs and exits of foreign subsidiaries. In chapter 3, I will develop the key propositions. In chapter 4, I will explain the methodology used for this study, including the sample, the process of data collection, and the performance measures that I will employ. The next chapter offers results in line with the propositions formulated in chapter 3. My study will be finalised with a conclusion chapter, in which I will summarise and discuss the main findings and identify the implications for managers, the limitations of this study, and suggestions for future research.
The structure of the literature review is as follows. In section 2.2, I will point out the main advantages and disadvantages of WOSs and JVs. Subsequently, in section 2.3, I will provide arguments regarding the relative performance of both ownership modes. In particular, I will point out why WOSs are more likely to perform better than JVs (or vice versa) according to the theory. At the same time, I will present the corresponding empirical results. In section 2.4, I will draw attention to the phenomenon of subsidiary exit, by providing its underlying theoretical reasons and the related empirical findings. When relevant, I will discuss the limitations of the empirical studies. The literature review forms the basis for the subsequent formulation of my propositions in chapter 3.
As an initial step, I will point out the advantages and disadvantages of both ownership forms, which is useful with respect to the proposition formulation. I will start with highlighting the advantages and disadvantages of WOSs, and thereafter those of JVs.
Sole ownership offers the highest level of control over an entity because there is no dilemma of having to amalgamate divergent opinions, policies, or even cultures (Kogut & Singh, 1988; Li, 1995; Nitsch et al., 1996). By setting up WOSs, parent companies can monitor all the decisions and actions of their subsidiaries in an efficient way (Anderson & Gatignon, 1986), from initiation up to the termination of the venture (Hill et al., 1990; Madhok, 1997). Sole ownership is also a suitable option to prevent dissemination of tacit and valuable firm knowledge to one of the partners (Guillén, 2003). Woodcock et al. (1994) suggest that the costs of establishing a WOS may be lower than those of establishing a JV. One explanation is that when MNEs set up further WOSs abroad, they merely copy what they have profitably done in foreign markets - an advantage that does not apply to JVs, since processes with shared ownership vary constantly and cannot easily be duplicated. Hence, the previous experience in running a WOS may lead to a more cost-efficient operation of additional wholly-owned ventures.
Some authors, however, purport that WOSs do not necessarily come with lower costs. Tatoglu & Glaister (1998) imply that WOSs are at a disadvantage in case the venture fails, since tremendously more resources were spent on forming the entity as opposed to establishing a JV. Chowdhury (1992) notes that the more resources are invested, the harder it is to regain the investment and to become profitable. WOSs may also face difficulties when operating in a host environment. Makino & Delios (1996) see this problem being caused by a lack of knowledge about the local economy, political settings, and culture. In particular, WOSs may not have sufficient information on local demand, accepted labour management practices, distribution channels, or the infrastructure, hence rendering operations unprofitable. This lack of knowledge is often referred to as a liability of foreignness, which I will discuss in more detail in section 2.4.2.
The above-mentioned lack of knowledge might be overcome by setting up JVs. Benito (1997) notes that cooperating with a foreign partner is crucial in order to reduce barriers to entry into a particular country. JVs can be highly alluring to foreign MNEs since they usually entail quick entry into the local market. This is because the local partner has already accumulated information about the home country’s economic and political settings, which will be shared with the foreign partner. Furthermore, JVs entail attractive investment incentives and different kinds of support from the local government (Child, 1994; Yan & Gray, 1994). Local firms are supposed to benefit from this, too. They get access to technology as well as management know-how, while at the same time gaining the marketing capability of their foreign partners (Osland & Cavusgil, 1996). This complementarity is also a crucial element in Gomes- Casseres’ (1987) study. However, the author puts most emphasis on a special option for JVs, namely the likelihood that these ventures eventually turn into WOSs, which denotes an increase in the subsidiary’s equity. He suggests that JVs are only beneficial for the first years of operation, since the MNE will learn about the local conditions inherent in the host country. As time progresses and the MNE has gained sufficient information and experience, shared ownership might no longer be needed. In particular, Gomes-Casseres notes that “as countries develop, firms grow, and industries mature, the conditions that favored a JV when a subsidiary was first established may give way to circumstances favoring whole ownership” (Gomes-Casseres, 1987, p. 99). In line with that, Puck et al. (2009) argued that the more local knowledge the foreign JV partner acquires, the higher the likelihood of a conversion of a JV into a WOS. Finally, Nanda & Williamson (1995) see an advantage of JVs when it comes to the exit of such operations. In particular, they argue that exit through sale is relatively uncomplicated in the case of JVs, because the partners already have considerable knowledge and information about the market and thus do not face problems in finding a potential buyer. Similarly, JV exit is facilitated through special contractual clauses (e.g. exit clauses).
Although there are several positive aspects associated with establishing JVs, scholars have identified a plethora of disadvantages of this ownership mode. In general, teaming up with a foreign firm is likely to result in conflicts about the day-to-day management of the newly formed entity (Chan, 1995; Tse et al., 1997; Vanhonacker, 1997). Shared ownership is intricate when considering the goals of the local partner, which may be irreconcilable with those of the entering firm, a problem that Caves (1996) referred to as contractual hazards. Closely linked to that, JVs involve so-called double-layered acculturation (Barkema et al., 1996; Hanvanich et al., 2003), which denotes the adjustment to both the corporate culture of the local partner and the national culture of the host country. This acculturation may cause difficulties (Nitsch et al., 1996; Pan & Chi, 1999) and may thus have severe implications for the venture’s performance. Besides involving cultural differences, JVs also face the challenge of sharing proprietary assets (Li, 1995). This is especially critical when it comes to dividing the accumulated profits. Whenever two (or more) parties claim a certain share of the profits, the chance of free-riding increases, which simultaneously makes these ventures extremely unstable (Mata & Portugal, 2000). Furthermore, JVs involve costs of finding a suitable partner as well as integrating its corresponding assets (Madhok, 1997). In this context, the risks and costs of choosing a ‘wrong’ partner are borne by the MNE parent (Pangarkar & Lim, 2003).
This section will simultaneously focus on theoretical arguments and empirical findings concerning performance differentials between WOSs and JVs, as suggested by the extant literature. I will start with studies in favour of better relative JV performance, followed by those in favour of better relative WOS performance, and finally those in favour of similar performance between WOSs and JVs. It should be noted here that I will generally highlight studies that deal with the relative performance of WOSs and JVs; however, the empirical studies have not always measured subsidiary performance in the same way. Some have measured it through exit rates, while others employed the average longevity, survival rates, or the financial performance of WOSs and JVs. For the sake of clarity, I will provide a summarising table at the end of this chapter containing the findings of the empirical studies.
Only a few scholars expect JVs to perform better than WOSs. Ogasavara & Hoshino (2007), for example, hypothesize that JVs could outperform WOSs because the former do not have the principal drawback of being foreign in the local environment. Other studies argue that the performance of JVs should be better due to the above-mentioned complementarity of local and foreign partners (Beamish & Banks, 1987; Pangarkar & Lim, 2003). Focusing on the empirical findings, Makino & Beamish (1998) looked at the influences of host government’s local ownership restrictions on the relative performance of WOSs and JVs. In doing so, the authors drew upon a sample of 917 Japanese foreign subsidiaries in Asia. They found that due to state interference, the financial performance of WOSs was considerably lower than that of JVs. Pan & Chi (1999) examined the influence of entry timing, mode of entry, market focus, and location advantages on the financial performance of MNEs’ subsidiaries in China. The authors revealed that WOSs gained significantly lower profits than JVs. These results were verified by Pan et al. (1999), who looked at the business activities of more than 14,000 foreign firms in China in 1995. As already mentioned in the introduction, both Pan & Chi (1999) and Pan et al. (1999) suffered from the limitation that they only looked at short-term subsidiary performance. In their recent study, Ogasavara & Hoshino (2007) investigated the impact of ownership mode on Japanese subsidiaries’ performance in Brazil. On the whole, JVs achieved higher performance levels than WOSs, particularly when the JV had a partner with a high degree of knowledge about and experience with the local market. A limitation of this study was also the fact that the authors only focused on short-term subsidiary performance and, more importantly, that they gathered subjective performance data (derived from the ‘Nikkei Annual Corporation Report 2001’ and the ‘Nikkei Annual Corporation Report 2001 - unlisted companies’). Thus, they proposed that future studies “should gather objective measure of performance as well as collect one’s own data based on questionnaires”, and “should include data of numerous years for statistical analysis” (Ogasavara & Hoshino, 2007, p. 23). Finally, Kim & Gray (2008) examined the influence of ownership mode on foreign affiliate performance in South Korea. They observed that JVs constantly outperformed WOSs in all performance measures. In particular, Kim & Gray identified that the more prevalent the so-called strategic-asset seeking motive, i.e. skilled labour and technology for future entry into China and Japan, the better the performance of the JV.
A second stream of literature suggests that WOSs should outperform JVs. Li & Guisinger (1991) expect WOSs to be more profitable than JVs because the total risks are generally higher for the latter ownership mode, mainly due to the risk of opportunistic behaviour by the JV partner. Mata & Portugal (2000) assume that JVs are very likely to be dissolved because as these ventures become older and firms learn about the assets of their partners, the benefits of JVs are often counterbalanced by their costs, such as the “punishment cost of breaking any particular agreement” (Mata & Portugal, 2000, p. 551). As a consequence, JVs are more likely to exit than WOSs. Woodcock et al. (1994) hypothesize that WOSs will perform better than JVs because the former can follow exclusively their own goals and avoid the conflicts of interest that may arise in the case of JVs. This is in line with Gaur & Lu (2007) who argue that WOSs should have a higher survival rate than JVs because greater control (in the case of WOSs) results in more efficient decision-making and lowers the scope for conflict. When considering the above-mentioned double-layered acculturation, the theory generally suggests that the likelihood of subsidiary exit should be higher for JVs than for their wholly-owned counterparts (Benito, 1997). This is because JVs involve both the adjustment to the corporate culture of the local partner and the adjustment to the national culture of the host country (double-layered acculturation), whereas WOSs exclusively involve the adjustment to the national culture of the host country (single-layered acculturation). Li (1995) hypothesizes that JVs should perform worse than WOSs because the former ownership mode entails problems associated with sharing proprietary assets and dealing with cultural differences among the partner. Finally, jointly-owned firms should gain lower performance levels than wholly- owned ones because JVs face the risk of dissemination of tacit knowledge to a partner (Siripaisalpipat & Hoshino, 2000).
One of several empirical tests was conducted by Gomes-Casseres (1987). In his seminal study of the instability of jointly- versus wholly-owned affiliates, the author relied on a sample of more than 5,000 subsidiaries of 180 MNEs. He found that the total instability rate (including liquidations and sell-offs) of JVs was twice that of WOSs, namely 30.6% vs. 15.7%. It is important to note that WOSs were more likely to be liquidated, but JVs were more likely to be sold. However, liquidations only represented 10% of all instability cases in the sample. An additional finding of the study was that 26.9% of majority-owned JVs eventually became WOSs, whereas only 10.1% of minority-owned JVs did so. Woodcock et al. (1994) used data from a survey of Japanese manufacturing subsidiaries in North America as well as interviews with the top managers of these affiliates, and found that the financial performance of WOSs tended to be better than that of JVs. This is congruent with the results of Pennings et al. (1994), who looked at the exit of 462 domestic and foreign subsidiaries established by Dutch firms. The results indicated that JVs were more likely to exit than WOSs. A limitation of the latter study is that it did not differentiate between exit through sales and exit through liquidations. The same limitation applies to the studies of Li (1995) and Yamawaki (1997). Li (1995) examined the entry and survival of foreign affiliates in the U.S. computer and pharmaceutical industry between 1974 and 1989. He found that JVs were more likely to exit than WOSs. Yamawaki (1997) looked at the exits of Japanese subsidiaries in the European and U.S. manufacturing industry. He detected that WOSs of Japanese MNEs were less likely to exit than their jointly-owned counterparts. A subsequent study, Hennart et al. (1998), also examined exits of Japanese subsidiaries, while at the same time differentiating between exits through sell-offs and exits through liquidations. The authors generally observed that JVs exited more often than their wholly-owned counterparts. Regarding liquidations, the authors found no statistically significant results. However, it turned out that JVs were sold more often than WOSs. Based on the latter finding, the authors warned not to interpret the results in a wrong way. In particular, they suggested that “it is erroneous to deduce from these results that joint ventures are more likely to fail: the data only show that they are more likely to be sold”. Thus, they proposed that “we need to understand better what is behind exit by sale and exit by liquidation” (Hennart et al., 1998, p. 393). Siripaisalpipat & Hoshino (2000) investigated Japanese FDI in Thailand and contributed to the literature through their finding that WOSs tend to have higher performance levels than JVs when the Japanese parent firm owned considerable firm-specific advantages. This performance differential was not present, however, when the parent did not possess these advantages. Chen & Hu (2002) explored the determinants of entry mode choice and, more importantly, linked it to subsequent subsidiary performance. First, the authors checked for correctly chosen entry modes, which they defined as modes chosen according to transaction cost theory’s prescriptions. In this context, the ownership of proprietary assets was a major criterion. Chen & Hu observed that WOSs were more likely to be chosen than JVs when the investments entailed marketing skills and proprietary products, and when the cultural distance between home and host countries was large. Thereafter, the authors found that MNEs’ foreign operations with correctly chosen entry modes outperformed those with wrongly selected ones. Because WOSs were correctly classified more often than JVs, Chen & Hu concluded that the performance of WOSs is better than that of JVs. Finally, Gaur & Lu (2007) found that wholly-owned Japanese subsidiaries worldwide were more likely to survive than their jointly-owned counterparts. Especially the parents’ greater host country experience increased the survival chance of their foreign wholly- owned subsidiaries.
The seminal study of Hennart et al. (1998) expects the liquidation rate of JVs to be similar to that of WOSs. The authors argue that on the one hand, problems connected with shared decision making will increase the likelihood of JV liquidation, while on the other hand teaming up with a local firm allows a better adaptation to the host country as would be the case when setting up a WOS. Thus, the authors expect no significant performance differences between both ownership modes.
Dang (1977) was one of the first who conducted an empirical test. He examined the relationship between mode of ownership and subsidiary performance. Drawing upon subsidiaries in the Philippines and Taiwan established by U.S. MNEs, he found no significant performance differentials between WOSs and JVs. The author’s main conclusion was that whenever the host country’s market is highly competitive, the mode of ownership has little effect on the performance of foreign subsidiaries. A major weakness of this study, however, was that it solely considered a total of 16 WOSs and 11 JVs, thus rendering the explanatory power of the results low. Chowdhury (1992) also discovered no substantial performance differentials between the two ownership modes. By looking at approximately 9,000 foreign entries of U.S. manufacturing firms, he observed that the exit rate of WOSs and JVs was almost the same. Chan (1995) measured the performance of U.S. parent companies that had launched WOSs and JVs abroad. Although the average performance of WOSs tended to be better than that of JVs, a t-test revealed that this difference was not statistically significant. Hence, the author concluded that there is no essential performance difference between JVs and WOSs. Benito (1997) investigated the exits of foreign operations by Norwegian ventures. The results suggested that half of all FDIs was dissolved within ten years. Concerning performance differentials between the two ownership modes, he did not discover any evidence for his hypothesis that JVs are less likely to survive than WOSs. A significant limitation of Benito’s study was that he lacked information about the exit dates of the ventures that were included in his sample, which made it impossible to measure the average longevity of foreign operations.
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