How to Submit Proof Corrections Using Adobe ...

How to Submit Proof Corrections Using Adobe Reader Using Adobe Reader is the easiest way to submit your proposed amendments for your IGI Global proof. If you don’t have Adobe Reader, you can download it for free at http://get.adobe.com/reader/. The comment functionality makes it simple for you, the contributor, to mark up the PDF. It also makes it simple for the IGI Global staff to understand exactly what you are requesting to ensure the most flawless end result possible. Please note, however, that at this point in the process the only things you should be checking for are: Spelling of Names and Affiliations, Accuracy of Chapter Titles and Subtitles, Figure/Table Accuracy, Minor Spelling Errors/Typos, Equation Display As chapters should have been professionally copy edited and submitted in their final form, please remember that no major changes to the text can be made at this stage. Here is a quick step-by-step guide on using the comment functionality in Adobe Reader to submit your changes. 1.

Select the Comment bar at the top of page to View or Add Comments. This will open the Annotations toolbar.

2.

To note text that needs to be altered, like a subtitle or your affiliation, you may use the Highlight Text tool. Once the text is highlighted, right-click on the highlighted text and add your comment. Please be specific, and include what the text currently says and what you would like it to be changed to.

3.

If you would like text inserted, like a missing coma or punctuation mark, please use the Insert Text at Cursor tool. Please make sure to include exactly what you want inserted in the comment box.

4.

If you would like text removed, such as an erroneous duplicate word or punctuation mark, please use the Add Note to Replace Text tool and state specifically what you would like removed.

Handbook of Research on Global Business Opportunities Bryan Christiansen PryMarke, LLC, USA

A volume in the Advances in Business Strategy and Competitive Advantage (ABSCA) Book Series

Managing Director: Acquisitions Editor: Production Editor: Development Editor: Typesetter: Cover Design:

Lindsay Johnston Kayla Wolfe Christina Henning Austin DeMarco Kaitlyn Kulp Jason Mull

Published in the United States of America by Business Science Reference (an imprint of IGI Global) 701 E. Chocolate Avenue Hershey PA, USA 17033 Tel: 717-533-8845 Fax: 717-533-8661 E-mail: [email protected] Web site: http://www.igi-global.com Copyright © 2015 by IGI Global. All rights reserved. No part of this publication may be reproduced, stored or distributed in any form or by any means, electronic or mechanical, including photocopying, without written permission from the publisher. Product or company names used in this set are for identification purposes only. Inclusion of the names of the products or companies does not indicate a claim of ownership by IGI Global of the trademark or registered trademark. Library of Congress Cataloging-in-Publication Data Handbook of research on global business opportunities / Bryan Christiansen, editor. pages cm Includes bibliographical references and index. Summary: “This book combines comprehensive viewpoints and research on various business enterprises from around the world in companies of all sizes and models, discussing different aspects and concerns in the global business environment such as corruption, taxation, supply chain management, and economic impacts”-- Provided by publisher. ISBN 978-1-4666-6551-4 (hardcover : alk. paper) -- ISBN 978-1-4666-6552-1 (ebook : alk. paper) -- ISBN 978-1-46666554-5 (print & perpetual access : alk. paper) 1. International trade. 2. International business enterprises. 3. Investments, Foreign. 4. Commercial policy. 5. International economic relations. I. Christiansen, Bryan, 1960HF1379.H365 2015 338.88--dc23 2014029105 This book is published in the IGI Global book series Advances in Business Strategy and Competitive Advantage (ABSCA) (ISSN: 2327-3429; eISSN: 2327-3437) British Cataloguing in Publication Data A Cataloguing in Publication record for this book is available from the British Library. All work contributed to this book is new, previously-unpublished material. The views expressed in this book are those of the authors, but not necessarily of the publisher. For electronic access to this publication, please contact: [email protected].

Advances in Business Strategy and Competitive Advantage (ABSCA) Book Series Patricia Ordóñez de Pablos Universidad de Oviedo, Spain

ISSN: 2327-3429 EISSN: 2327-3437 Mission

Business entities are constantly seeking new ways through which to gain advantage over their competitors and strengthen their position within the business environment. With competition at an all-time high due to technological advancements allowing for competition on a global scale, firms continue to seek new ways through which to improve and strengthen their business processes, procedures, and profitability. The Advances in Business Strategy and Competitive Advantage (ABSCA) Book Series is a timely series responding to the high demand for state-of-the-art research on how business strategies are created, implemented and re-designed to meet the demands of globalized competitive markets. With a focus on local and global challenges, business opportunities and the needs of society, the ABSCA encourages scientific discourse on doing business and managing information technologies for the creation of sustainable competitive advantage.

Coverage

• • • • • • • • • •

Resource-Based Competition Globalization Outsourcing Joint Ventures Foreign Investment Decision Process Economies of Scale Strategy Performance Management Competitive Strategy Cost Leadership Strategy International Business Strategy

IGI Global is currently accepting manuscripts for publication within this series. To submit a proposal for a volume in this series, please contact our Acquisition Editors at [email protected] or visit: http://www.igi-global.com/publish/.

The Advances in Business Strategy and Competitive Advantage (ABSCA) Book Series (ISSN 2327-3429) is published by IGI Global, 701 E. Chocolate Avenue, Hershey, PA 17033-1240, USA, www.igi-global.com. This series is composed of titles available for purchase individually; each title is edited to be contextually exclusive from any other title within the series. For pricing and ordering information please visit http://www.igi-global.com/book-series/advances-business-strategy-competitive-advantage/73672. Postmaster: Send all address changes to above address. Copyright © 2015 IGI Global. All rights, including translation in other languages reserved by the publisher. No part of this series may be reproduced or used in any form or by any means – graphics, electronic, or mechanical, including photocopying, recording, taping, or information and retrieval systems – without written permission from the publisher, except for non commercial, educational use, including classroom teaching purposes. The views expressed in this series are those of the authors, but not necessarily of IGI Global.

Titles in this Series

For a list of additional titles in this series, please visit: www.igi-global.com

Handbook of Research on Global Business Opportunities Bryan Christiansen (PryMarke, LLC, USA) Business Science Reference • copyright 2015 • 602pp • H/C (ISBN: 9781466665514) • US $365.00 (our price) Asian Business and Management Practices Trends and Global Considerations Dasho Karma Ura (The Centre for Bhutan Studies & GNH Research, Bhutan) and Patricia Ordoñez de Pablos (University of Oviedo, Spain) Business Science Reference • copyright 2015 • 333pp • H/C (ISBN: 9781466664418) • US $205.00 (our price) Knowledge Management for Competitive Advantage During Economic Crisis Patricia Ordoñez de Pablos (University of Oviedo, Spain) Luis Jovell Turró (Universidad Autónoma de Barcelona, Spain) Robert D. Tennyson (University of Minnesota, USA) and Jingyuan Zhao (University of Québec at Montréal, Canada) Business Science Reference • copyright 2015 • 364pp • H/C (ISBN: 9781466664579) • US $195.00 (our price) Integration of Data Mining in Business Intelligence Systems Ana Azevedo (Algoritmi R&D Center/University of Minho, Portugal & Polytechnic Institute of Porto/ISCAP, Portugal) and Manuel Filipe Santos (Algoritmi R&D Center/University of Minho, Portugal) Business Science Reference • copyright 2015 • 314pp • H/C (ISBN: 9781466664777) • US $200.00 (our price) Developing Strategic Business Models and Competitive Advantage in the Digital Sector Nabyla Daidj (Telecom Business School, France) Business Science Reference • copyright 2015 • 377pp • H/C (ISBN: 9781466665132) • US $195.00 (our price) Impact of Emerging Digital Technologies on Leadership in Global Business Peter A.C. Smith (The Leadership Alliance Inc., Canada) and Tom Cockburn (Center for Dynamic Leadership Models in Global Business, Canada) Business Science Reference • copyright 2014 • 327pp • H/C (ISBN: 9781466661349) • US $215.00 (our price) Global Perspectives on Achieving Success in High and Low Cost Operating Environments Göran Roos (Swinburne University, Australia) and Narelle Kennedy (The Kennedy Company Pty Ltd., Australia) Business Science Reference • copyright 2014 • 564pp • H/C (ISBN: 9781466658288) • US $225.00 (our price)

701 E. Chocolate Ave., Hershey, PA 17033 Order online at www.igi-global.com or call 717-533-8845 x100 To place a standing order for titles released in this series, contact: [email protected] Mon-Fri 8:00 am - 5:00 pm (est) or fax 24 hours a day 717-533-8661

For Ceylan, Nicole, and Tanya

Editorial Advisory Board Faganel Armand, University of Primorska, Slovenia Neeta Baporikar, University of Pune, India Evandro Bocatto, MacEwan University, Canada Sedat Bostan, Gümüşhane University, Turkey Luis Bustamante, Antiotrading S.A., Colombia Harish C. Chandan, Argosy University, USA Rituparna Das, National Law University, India Dennis DeMott, Independent Researcher, USA Kathleen B. Duncan, University of La Verne, USA Monica Dziedzic, Independent Researcher, Poland Efe Efeoğlu, Adana Science and Technology University, Turkey M. Mustafa Erdoğdu, Marmara University, Turkey Fabricio Fernando Foganhole dos Santos, Bank of Brazil, Brazil Jeffrey Kahan, University of La Verne, USA Ece Karhan, University of Hartford, USA Oxana Karnaukhova, Southern Federal University, Russia Ceylan Küçük, Adana Science and Technology University, Turkey Ewa Lechman, Gdansk University of Technology, Poland Seppo Leminen, Laurea University, Finland Waheeda Lillevik, The College of New Jersey, USA Teresa Martinelli-Lee, University of La Verne, USA Robert W. McGee, Fayetteville State University, USA Gerard Mignone, Blue Vertical Equipment Hire, Pty., Ltd., Australia Bice Della Piana, University of Salerno, Italy Hakan Sezerel, Gümüşhane University, Turkey Gloria Sraha, Victoria University of Wellington, New Zealand Catherine Sutton-Brady, University of Sydney Business School, Australia Ryan Weiquiang Tang, University of Technology Sydney, Australia Mika Westerlund, Carleton University, Canada Ho Ying Wong, Deakin University, Australia Christian Zuber, Technische Universität Darmstadt, Germany

List of Contributors

Amone, William / Mbarara University of Science and Technology, Uganda...................................... 37 Balboni, Bernardo / University of Trieste, Italy................................................................................. 550 Baporikar, Neeta / University of Pune, India..................................................................................... 268 Bertoni, Michele / University of Trieste, Italy.................................................................................... 431 Boga, Semra / İstanbul University, Turkey......................................................................................... 490 Bortoluzzi, Guido / University of Trieste, Italy.................................................................................. 550 Brennan, Louis / Trinity College of Dublin, Ireland.......................................................................... 130 Breuer, Wolfgang / RWTH Aachen University, Germany.................................................................. 289 Carter, Margaret / James Cook University, Australia....................................................................... 367 Chandan, Harish C. / Argosy University, USA.................................................................................. 467 Dai, Weiqi / Zhejiang University of Finance and Economics, China................................................. 102 Das, Rituparna / National Law University, India....................................................................... 350,530 de Luca, Patrizia / University of Trieste, Italy.................................................................................... 550 De Rosa, Bruno / University of Trieste, Italy...................................................................................... 431 Demirbas, Dilek / Yıldırım Beyazıt University, Turkey....................................................................... 239 Duncan, Kathleen B. / University of La Verne, USA......................................................................... 149 Efeoğlu, Efe / Adana Science and Technology University, Turkey....................................................... 58 Efeoglu, I. Efe / Adana Science and Technology University, Turkey.................................................. 213 Efeoğlu, Ibrahim Efe / Adana Science and Technology University, Turkey...................................... 490 Fernando, Yudi / Universiti Sains Malaysia, Malaysia...................................................................... 415 Galvin, Peter / Northumbria University, UK...................................................................................... 239 Gelibolu, Levent / Kafkas University, Turkey..................................................................................... 229 Grisi, Guido / University of Trieste, Italy........................................................................................... 431 Hunter, M. Gordon / The University of Lethbridge, Canada............................................................. 168 Kahan, Jeffery / University of La Verne, USA.................................................................................... 401 Kesic, Dragan / University of Primorska, Slovenia............................................................................ 389 Kittilaksanawong, Wiboon / Nagoya University of Commerce and Business, China....................... 102 Le, Ngoc / Northumbria University, UK................................................................................................. 1 Li, Xiaoqing / Northumbria University, UK........................................................................................... 1 Martinelli-Lee, Teresa / University of La Verne, USA....................................................................... 149 Martinelli-Lee, Teresa M. / University of La Verne, USA................................................................. 401 McNulty, Yvonne / Singapore Institute of Management University, Singapore................................. 367 Nguyen, Thuyuyen / Northumbria University, UK............................................................................ 239 Ozuem, Wilson / University of Gloucestershire, UK & Regents University, UK............................... 316 Pfohl, Hans-Christian / Technische Universität Darmstadt, Germany................................................ 70

Quinten, Benjamin / RWTH Aachen University, Germany................................................................ 289 Rebelli, Alessio / Azienda Ospedaliera Universitaria “Ospedali Riuniti”, Italy............................... 431 Salzmann, Astrid J. / RWTH Aachen University, Germany............................................................... 289 Sanal, Musa / CukurovaUniversity, Turkey........................................................................................ 213 Shaharudin, Muhammad Shabir / Universiti Sains Malaysia, Malaysia........................................ 415 Shankar, Arun / National Law University, India............................................................................... 350 Sraha, Gloria / Victoria University of Wellington, New Zealand....................................................... 199 Tanrikulu, Ceyda / Adana Science and Technology University, Turkey............................................ 229 Thomas, Tara / London Metropolitan University, UK....................................................................... 316 Vecchi, Alessandra / University of Bologna, Italy.............................................................................. 130 Venier, Francesco / University of Trieste, Italy.................................................................................. 550 Xin, Wah Wen / Universiti Sains Malaysia, Malaysia....................................................................... 415 Yukhanaev, Andrey / Northumbria University, UK........................................................................ 1,239 Zuber, Christian / Technische Universität Darmstadt, Germany........................................................ 70

Table of Contents

Preface................................................................................................................................................... vii Chapter 1 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy............................ 1 Andrey Yukhanaev, Northumbria University, UK Xiaoqing Li, Northumbria University, UK Ngoc Le, Northumbria University, UK Chapter 2 Global Market Trends............................................................................................................................ 37 William Amone, Mbarara University of Science and Technology, Uganda Chapter 3 Turkey: A Rising CIVETS Star?............................................................................................................ 58 Efe Efeoğlu, Adana Science and Technology University, Turkey Chapter 4 Cultural Management for Multinational Enterprises............................................................................. 70 Christian Zuber, Technische Universität Darmstadt, Germany Hans-Christian Pfohl, Technische Universität Darmstadt, Germany Chapter 5 Globalization of Latecomer Asian Multinationals and Theory of Multinational Enterprise.............. 102 Wiboon Kittilaksanawong, Nagoya University of Commerce and Business, China Weiqi Dai, Zhejiang University of Finance and Economics, China Chapter 6 Leveraging Business Model Innovation in the International Space Industry...................................... 130 Alessandra Vecchi, University of Bologna, Italy Louis Brennan, Trinity College of Dublin, Ireland Chapter 7 International Joint Ventures at the Crossroads: Building Leadership Bridges.................................... 149 Teresa Martinelli-Lee, University of La Verne, USA Kathleen B. Duncan, University of La Verne, USA

Chapter 8 Entrepreneurs’ Contributions to Small Business: A Comparison of Success and Failure.................. 168 M. Gordon Hunter, The University of Lethbridge, Canada Chapter 9 Public Policymakers: Export Promotion Programmes and Global Competitiveness in Sub-Saharan Africa................................................................................................................................................... 199 Gloria Sraha, Victoria University of Wellington, New Zealand Chapter 10 The Effects of Work-Family Conflict on Job Stress, Job Satisfaction, and Organizational Commitment: A Study in Turkish Pharmaceutical Industry................................................................ 213 I. Efe Efeoglu, Adana Science and Technology University, Turkey Musa Sanal, CukurovaUniversity, Turkey Chapter 11 Impact of Culture on Service Failures and Service Recoveries........................................................... 229 Ceyda Tanrikulu, Adana Science and Technology University, Turkey Levent Gelibolu, Kafkas University, Turkey Chapter 12 International Integration and Corporate Governance Practices in Russia........................................... 239 Dilek Demirbas, Yıldırım Beyazıt University, Turkey Andrey Yukhanaev, Northumbria University, UK Peter Galvin, Northumbria University, UK Thuyuyen Nguyen, Northumbria University, UK Chapter 13 Effect of National Culture on Development of International Business in the Sultanate of Oman...... 268 Neeta Baporikar, University of Pune, India Chapter 14 Bank vs. Bond Finance: A Cultural View of Corporate Debt Financing............................................ 289 Wolfgang Breuer, RWTH Aachen University, Germany Benjamin Quinten, RWTH Aachen University, Germany Astrid J. Salzmann, RWTH Aachen University, Germany Chapter 15 Inside the Small Island Economies: Loyalty Strategies in the Telecommunications Sector............... 316 Wilson Ozuem, University of Gloucestershire, UK & Regents University, UK Tara Thomas, London Metropolitan University, UK Chapter 16 Eminent Domain in Argentina, Brazil, and Mexico............................................................................ 350 Arun Shankar, National Law University, India Rituparna Das, National Law University, India

Chapter 17 International School Teachers’ Professional Development in Response to the Needs of Third Culture Kids in the Classroom............................................................................................................. 367 Margaret Carter, James Cook University, Australia Yvonne McNulty, Singapore Institute of Management University, Singapore Chapter 18 Research of Strategic Global Development Trends and Competitiveness in the World Pharmaceutial Industry........................................................................................................................ 389 Dragan Kesic, University of Primorska, Slovenia Chapter 19 Waiting to Exhale: Marketing of E-Cigarettes..................................................................................... 401 Teresa M. Martinelli-Lee, University of La Verne, USA Jeffery Kahan, University of La Verne, USA Chapter 20 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing....................................... 415 Yudi Fernando, Universiti Sains Malaysia, Malaysia Muhammad Shabir Shaharudin, Universiti Sains Malaysia, Malaysia Wah Wen Xin, Universiti Sains Malaysia, Malaysia Chapter 21 Linking Cost Control to Cost Management in Healthcare Services: An Analysis of Three Case Studies.................................................................................................................................................. 431 Michele Bertoni, University of Trieste, Italy Bruno De Rosa, University of Trieste, Italy Guido Grisi, University of Trieste, Italy Alessio Rebelli, Azienda Ospedaliera Universitaria “Ospedali Riuniti”, Italy Chapter 22 Corruption, Business Climate, and Economic Growth........................................................................ 467 Harish C. Chandan, Argosy University, USA Chapter 23 A Case Study on Cross-Cultural Differences: A Failure Story............................................................ 490 Semra Boga, İstanbul University, Turkey Ibrahim Efe Efeoğlu, Adana Science and Technology University, Turkey Chapter 24 Do Nonperforming Assets Alone Determine Bank Performance?...................................................... 530 Rituparna Das, National Law University Jodhpur, India

Chapter 25 Innovation Scope and the Performance of the Firm: Empirical Evidence from an Italian Wine Cluster.................................................................................................................................................. 550 Guido Bortoluzzi, University of Trieste, Italy Patrizia de Luca, University of Trieste, Italy Francesco Venier, University of Trieste, Italy Bernardo Balboni, University of Trieste, Italy Compilation of References................................................................................................................ 568 About the Contributors..................................................................................................................... 656 Index.................................................................................................................................................... 668

Detailed Table of Contents

Preface................................................................................................................................................... vii Chapter 1 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy............................ 1 Andrey Yukhanaev, Northumbria University, UK Xiaoqing Li, Northumbria University, UK Ngoc Le, Northumbria University, UK This chapter investigates the determinants of inward Foreign Direct Investment (FDI) in the Vietnamese economy and their connection to the rapid economic growth the country has experienced. Using the concepts drawn from the extant Ownership-Location-Internalization (OLI) paradigm and InstitutionalBased View (IBV) literature, and adopting a quantitative research with the application of secondary data analysis, the study found seven significant locational factors determining FDI inflows into the Vietnamese economy, such as business freedom, market size, labor cost, trade freedom level, inflation rate, human capital, and the effectiveness of property rights. Political risk, monetary freedom, corruption, the country’s WTO accession, and the global financial crisis are found to be irrelevant to the inbound investments in the modern economy. A macro-level account and the policy implications are suggested for the promotion of FDI inflows into Vietnam to ensure the country’s continuous and sustainable economic development. Chapter 2 Global Market Trends............................................................................................................................ 37 William Amone, Mbarara University of Science and Technology, Uganda This chapter provides a discussion of competitiveness, globalization, and trade, including their recent transformations. The global market has witnessed several changes including reductions in trade costs, increased global trade, growth of industrialization in developing countries, and a complete change in the nature of goods traded. The drivers of global market changes include shifts in production and consumption patterns, technological innovations, new ways of conducting business, and policy changes. Many governments have lately opened their economies to international trade, enabling them to reap several benefits. Openness to trade is believed to have supported the growth of many countries and has greatly contributed to the success of most Asian countries, especially China and India. Although the global market offers numerous benefits, many developing countries still face serous limitations to fully access it; they are constrained by factors such as quality inferiority, distance, quantitative restrictions, poor technical skills, bad governance, and border controls.

Chapter 3 Turkey: A Rising CIVETS Star?............................................................................................................ 58 Efe Efeoğlu, Adana Science and Technology University, Turkey The Republic of Turkey represents solid business opportunities for Foreign Direct Investment (FDI) and local investors within the so-called CIVETS (Colombia, Indonesia, Vietnam, Egypt, Turkey, South Africa) economic bloc, an entity which has relatively little coverage in extant academic literature. This chapter outlines 12 disruptive industries that can play a major role in Turkey’s future economic development by providing business and job opportunities from project-based export-import activities. The chapter also covers other important subjects such as human resource management, building global Turkish brands, and education/training. The chapter concludes with some suggestions for future research directions regarding research and development, diversity management, English as a Foreign Language training, and cultural intelligence. Chapter 4 Cultural Management for Multinational Enterprises............................................................................. 70 Christian Zuber, Technische Universität Darmstadt, Germany Hans-Christian Pfohl, Technische Universität Darmstadt, Germany Due to the dynamics in international business, it has become increasingly complex for the Multinational Enterprise (MNE) to find a balance between worldwide standardisation of operational processes and the usage of local advantages. The foreign subsidiary’s managers and employees are stuck in the middle of environmental requirements, defined by the parent company on the one hand and the local social environment on the other hand. To ensure organizational efficiency in foreign subsidiaries, the rising conflict between corporate and country cultural characteristics can be solved through active cultural management. This chapter describes fundamentals of culture on corporate and country level and deduces a framework for cultural management. Furthermore, strategies are presented to close the gap between a subsidiary’s external requirements and the internal implementation. Chapter 5 Globalization of Latecomer Asian Multinationals and Theory of Multinational Enterprise.............. 102 Wiboon Kittilaksanawong, Nagoya University of Commerce and Business, China Weiqi Dai, Zhejiang University of Finance and Economics, China The fast globalization of latecomer multinationals from Asian emerging economies with impetus has appeared to challenge the established theories of Multinational Enterprise (MNE). This chapter reviews extant theories of MNE and provides areas of refinement and extension to these theories to reflect highly contextualized and unique internal and external conditions of these MNEs. In particular, this chapter provides an analysis of the key theoretical perspectives of MNE and highlights four areas that extend existing theories. These areas include country-of-origin effects, ownership advantages, learning processes, as well as global and industry context for internationalization. These areas of refinement are then illustrated by seven case studies of MNEs from mainland China and Taiwan in their accelerated internationalization and their focus on acquisitive growth strategy in terms of speed of internationalization, target countries, and mode of entry.

Chapter 6 Leveraging Business Model Innovation in the International Space Industry...................................... 130 Alessandra Vecchi, University of Bologna, Italy Louis Brennan, Trinity College of Dublin, Ireland This chapter provides insights on the dynamics of the space industry, which, despite its remarkable potential, tends to remain an under-studied sector within the field of business studies. By drawing on our existing work on the space industry, this chapter investigates the leveraging of innovative business models in the industry utilizing three case studies. The findings demonstrate that all three companies (Virgin Galactic, Mars One, and Unilever with the Axe/Lynx Apollo campaign) have extensively relied on business model innovation by leveraging specific design elements: content, structure, and governance. The findings highlight that business model innovation is an imperative to operate successfully in the space industry. Furthermore, a wide variety of private actors appear to be particularly resourceful in adopting novel business models that address the involvement of non-space actors and rely on non-space revenues. Chapter 7 International Joint Ventures at the Crossroads: Building Leadership Bridges.................................... 149 Teresa Martinelli-Lee, University of La Verne, USA Kathleen B. Duncan, University of La Verne, USA While leading theorists, researchers, and practitioners are currently engaged in the discussion of global leadership, the perspective has been in terms of case studies of multi-country or multi-company approaches. This chapter frames the role of competencies by introducing a new model of shared leadership called the Five Lenses of Shared Leadership. The model uses grounded theoretical foundations to support its components and provides implications for use across various partnership and business relationships. The collaborative structure of an International Joint Venture (IJV) is defined in terms of market share and a competitive advantage. Critical discussion on the development of global leaders, organizational conflicts and culture, and embedded effectiveness across borders and boundaries serves as a methodology for understanding knowledge transfer. Chapter 8 Entrepreneurs’ Contributions to Small Business: A Comparison of Success and Failure.................. 168 M. Gordon Hunter, The University of Lethbridge, Canada This chapter compares success factors and failure factors of small businesses. In an attempt to determine the relative importance of these factors, the two sets are compared. Thus, each failure factor is related to a corresponding success factor. A discussion of the aspects related to small business success and failure sets the context for the comparison. The relatively more important success factor involves aspects related to administration. Unfortunately, this is the one aspect that most small business owners/managers either lack the skills to perform or the time to allocate to this function. Within the administration, function leadership emerged as a relatively important skill contributing to small business success.

Chapter 9 Public Policymakers: Export Promotion Programmes and Global Competitiveness in Sub-Saharan Africa................................................................................................................................................... 199 Gloria Sraha, Victoria University of Wellington, New Zealand Many governments use export promotion programmes as a tool to support firms transacting business outside their national borders. Export promotion programmes have the primary objective of getting firms acquitted with foreign market environments in competitive global markets. International markets are more developed and indifferent to national borders, making EPPs an important strategy for export growth in Africa. This chapter explores different export promotion programmes offered in sub-Saharan Africa and contribute to literature on international business. The increasing amalgamation of international markets and high global competition necessitates the adoption of EPPs as an imperative strategy in planning international business. This chapter enriches our understanding of EPPs and how public policymakers have expanded export capacity development programmes to impact knowledge in sub-Saharan Africa. The chapter underscores specific EPPs for utilization to improve export performance of firms in foreign markets and provides practical implications for exporters and public policymakers in Africa. Chapter 10 The Effects of Work-Family Conflict on Job Stress, Job Satisfaction, and Organizational Commitment: A Study in Turkish Pharmaceutical Industry................................................................ 213 I. Efe Efeoglu, Adana Science and Technology University, Turkey Musa Sanal, CukurovaUniversity, Turkey The aim of this chapter is to investigate the effects of work-family conflict on the employees’ attitudes towards their jobs and their behaviours in the workplace within the framework of job stress, job satisfaction, and organizational commitment concepts in the Turkish Pharmaceutical Industry. The data used in this study were obtained by the questionnaire survey method. One of the results of this study reveals that work-family conflict and work to family conflict have positive effects on job stress. However, family to work conflict has no effect on job stress. Secondly, work-family conflict and work to family conflict have positive effects on job satisfaction, while no evidence has been found regarding the effects of family to work conflict on job satisfaction. Thirdly, work-family conflict and work to family conflict have negative effects on organizational commitment while no evidence has been found regarding the effects of work to family conflict on organizational commitment. Chapter 11 Impact of Culture on Service Failures and Service Recoveries........................................................... 229 Ceyda Tanrikulu, Adana Science and Technology University, Turkey Levent Gelibolu, Kafkas University, Turkey In this chapter, the authors focus on the role of culture, which increases its effect along with globalization on service failures and improvements. The study is a type of literature review formed by compilation of previous studies in the extant literature. According to the primary findings of such studies, the approach of consumers to service failures and improvements vary depending on their culture. Different satisfaction levels, re-purchase tendency, word-of-mouth communication and its structure (positive or negative), seeing liable for failure, loyalty, replacement, and emotional response against service failures and improvements are seen between different cultures. The authors expect this study to provide clues to service marketing applications and future studies about the effect of culture.

Chapter 12 International Integration and Corporate Governance Practices in Russia........................................... 239 Dilek Demirbas, Yıldırım Beyazıt University, Turkey Andrey Yukhanaev, Northumbria University, UK Peter Galvin, Northumbria University, UK Thuyuyen Nguyen, Northumbria University, UK This chapter considers the institutional environment in Russia, its potential impact upon governance practices, and the attitudes of Russian executives towards the alignment of governance processes relative to international standards. Focusing on corporate board directorship, the research addresses the extent that the harmonization of governance to international standards may assist boards of directors to improve their corporate development. Using a survey questionnaire, the authors explore perceptions of directors of public companies concerning the challenges of corporate governance development in the country. The study illustrates unanimity among the respondents about the reforms needed for international convergence of corporate governance standards. The results reveal that institutional alignment with good governance principles will foster strategic corporate development in the Russian economy. The study offers insights to policymakers in terms of enhancing legitimacy of corporate governance in the Russian context and provides a perspective for executives of foreign companies considering investment in the country. Chapter 13 Effect of National Culture on Development of International Business in the Sultanate of Oman...... 268 Neeta Baporikar, University of Pune, India Today, no business can be local or national due to the effects of globalization. The world of business has become international. However, extant business literature ignores links between national culture and technology development and international business, although in reality all three are interdependent or least they are characterized by a cyclical co-dependence and co-influence. In the modern world, superior technologies enhance economic development, and technology transfer allows many emerging markets to grow significantly as seen in Asia or the Persian Gulf. Simultaneously, different cultures exhibit different levels of technological development and the Arab world commonly referred to as the Gulf. Among the Gulf, the Sultanate of Oman occupies a prime position in terms of the economic, social, and developmental strides made in the last three decades. How the Sultanate’s national culture has played a significant role for development of international business is the core of this chapter. Chapter 14 Bank vs. Bond Finance: A Cultural View of Corporate Debt Financing............................................ 289 Wolfgang Breuer, RWTH Aachen University, Germany Benjamin Quinten, RWTH Aachen University, Germany Astrid J. Salzmann, RWTH Aachen University, Germany This chapter enhances the growing research field of Cultural Finance by analyzing the relationship between cultural value types—in particular, Autonomy and Embeddedness—and the corporate debt choice of either bank or bond financing. The authors derive their hypotheses from a slight modification and reinterpretation of the Chemmanur and Fulghieri (1994) approach of “relationship lending.” Referring to the importance of specific human capital investments and individuals’ future orientation, they show that firms in autonomy cultures tend toward bank finance, whereas firms in embeddedness cultures show a preference for financing by issuing bonds. In a cross-country analysis with 71 countries, the authors find empirical evidence for their established hypotheses.

Chapter 15 Inside the Small Island Economies: Loyalty Strategies in the Telecommunications Sector............... 316 Wilson Ozuem, University of Gloucestershire, UK & Regents University, UK Tara Thomas, London Metropolitan University, UK The extant literature presents antecedents of loyalty into four groups: characteristics of the environment, characteristics of the dyadic relationship, characteristics of the consumer, and consumer perceptions of the relationship with the marketing firm. However, it pays little to no attention to the antecedents of loyalty in small island economies. Prior research on small island economies is heavily focused on cultural, environmental, and macro-economic issues. Thus, the focus of this chapter is to capture antecedents that are cognizant of the distinct market conditions that potentially impact customer loyalty within the telecommunications sector. It seeks to advance understanding of loyalty in Business-to-Business (B2B) relationships in the context of a small island economy and identify triggers and determinants to convert passively loyal customers into actively loyal customers. Chapter 16 Eminent Domain in Argentina, Brazil, and Mexico............................................................................ 350 Arun Shankar, National Law University, India Rituparna Das, National Law University, India All states cherish eminent domain, which is the power to assert dominion over the resources in their territory. How eminent domain is exercised in a region may be used as a test to gauge the attitude of a state to business. Eminent domain also has deeper influence on the economy of a state beyond direct percepts. Invoking eminent domain scintillates social crisis. How a state manages its social crisis marks the difference between continued growth and economic collapse. This chapter anatomizes a few relevant and recent eminent domain developments in the Latin American states of Argentina, Brazil, and Mexico, contrasting it with the scenario in the USA wherever appropriate. Chapter 17 International School Teachers’ Professional Development in Response to the Needs of Third Culture Kids in the Classroom............................................................................................................. 367 Margaret Carter, James Cook University, Australia Yvonne McNulty, Singapore Institute of Management University, Singapore This chapter draws on an exploratory qualitative study of 20 teaching staff at an international school in Singapore to examine the professional development needs of international school teachers in response to the needs of Third Culture Kids (TCKs). It explores what the needs of TCKs are, whether teachers at an international school in Singapore have the skills and competencies to be responsive to these needs, and where gaps in professional development for international schoolteachers may exist. Evidence shows that no professional development training in relation to TCKs is provided specific to the international context in which teachers are employed. Issues that are poorly addressed include staff induction, student transitions and identity issues, language support, pastoral care, and curriculum training. Findings contribute to the educational leadership and management of international schoolteachers by contextualizing professional development as a facet of organizational leadership.

Chapter 18 Research of Strategic Global Development Trends and Competitiveness in the World Pharmaceutial Industry........................................................................................................................ 389 Dragan Kesic, University of Primorska, Slovenia In this chapter, the authors analyze strategic global development trends and competitiveness in the world pharmaceutical industry. They find some most significant characteristics of the world pharmaceutical industry, which greatly influence the global development in this “high-tech” industrial sector. The global pharmaceutical industry has been consolidating over the past 30 years. According to the research, the main strategic reasons for the intensive consolidation processes in the world pharmaceutical industry include the following: lack of new products to drive sales growth, huge investments needed for R&D activities to develop new products, fast globalization processes of the global economy, global marketing and sales activities that need large investments, and changed structure of competitors created by M&A strategies and consolidation processes. The concentration process, which is still going on, has created many new phramaceutical players; however, some previously well-known pharmaceutical firms have disappeared from the global marketplace. Chapter 19 Waiting to Exhale: Marketing of E-Cigarettes..................................................................................... 401 Teresa M. Martinelli-Lee, University of La Verne, USA Jeffery Kahan, University of La Verne, USA Tobacco companies have long been on the defensive, but a new product, digital vapor cigarettes, offers what seems to be a social compromise: smoke-free smoking or “vaping.” This chapter explains and examines how this controversial product, new to the U.S. and European markets as of 2007, has affected the retail tobacco industry, both reinvigorating its sales and reviving some of its best integrative marketing strategies. The only adversaries strong enough to hinder its success are laws and regulatory action. Chapter 20 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing....................................... 415 Yudi Fernando, Universiti Sains Malaysia, Malaysia Muhammad Shabir Shaharudin, Universiti Sains Malaysia, Malaysia Wah Wen Xin, Universiti Sains Malaysia, Malaysia Fierce competition has forced firms to be more creative and innovative to increase market share. Differentiating between green products or services with conventional products or services is one of the ways for firms to improve their business sustainability. The objective of this chapter is to explore the eco-innovation enablers and design its typology to measure the current green business practices in industry. Although there are many well-documented enablers or practices of eco-innovation that have been researched, this chapter focuses on practices that contribute towards the successful adoption of eco-innovation by one SME in green furniture manufacturing. This chapter uses the case study method as a source of data collection. Eco-innovation typology has been found in this study to define the effort of green company by looking at the target of eco-innovation versus the mechanism of eco-innovation.

Chapter 21 Linking Cost Control to Cost Management in Healthcare Services: An Analysis of Three Case Studies.................................................................................................................................................. 431 Michele Bertoni, University of Trieste, Italy Bruno De Rosa, University of Trieste, Italy Guido Grisi, University of Trieste, Italy Alessio Rebelli, Azienda Ospedaliera Universitaria “Ospedali Riuniti”, Italy The issue of healthcare costs has become increasingly problematic over the years. This chapter summarizes the problems faced by hospitals when measuring the costs of healthcare treatments, explaining how an Activity-Based Costing (ABC) framework can be successfully adopted in healthcare settings. After describing the theoretical foundations of cost control and cost management, the chapter continues with the analysis of three real-life applications of ABC in a hospital, drawn from the process analysis and activity-based costing experience developed at the Azienda Ospedaliero-Universitaria (AOU – University Hospital) “Ospedali Riuniti” (Joint Hospitals) of Trieste, Italy. In particular, the cases are about cost measurement in cardiology, odontostomatology, and radiology, and describe the technical solutions applied for computing the costs of selected therapeutic and diagnostic treatments. A particular emphasis is placed on how these measures have been subsequently used by hospital managers and medical personnel in order to gain insights and to improve the efficiency of the processes developed within the organization. Chapter 22 Corruption, Business Climate, and Economic Growth........................................................................ 467 Harish C. Chandan, Argosy University, USA Corruption is globally pervasive. Defined as abuse of entrusted power for private gain (Transparency International, 2013), corruption represents a set of economic, social, cultural, and political practices that are secretive and rooted in greed, ambition, or quest for power. This chapter reviews causes of corruption including the macro- and micro-level determinants of corruption such as leadership, management, and organizational culture. Various subjective and objective measures of corruption are discussed. Transparency International’s Corruption Perception Index (CPI) and Heritage Foundation’s Economic Freedom Index (EFI) are reviewed. The World Bank’s Business Environment and Enterprise Performance Survey (BEEPS), Doing Business Indicator (DBI), and World Bank Institute’s Governance Indicator (WBI-GI) are also reviewed, as is the role of global anti-corruption agencies and various instruments. Additionally, the relationship between corruption and foreign domestic investment, economic growth, and economic and political institutions are considered, as are anti-corruption intervention strategies for corruption and business ethics training. Chapter 23 A Case Study on Cross-Cultural Differences: A Failure Story............................................................ 490 Semra Boga, İstanbul University, Turkey Ibrahim Efe Efeoğlu, Adana Science and Technology University, Turkey Following the globalization trend in the world, Turkey and Belgium have become good business partners in the international arena. Belgium, with its geographically and politically critical location and high Turkish population has been a very attractive European country for Turkish investors. However, there

are still Turkish companies leaving Belgium possibly due to adaptation problems to business culture in Belgium. In this chapter, cultural differences between Belgium and Turkey are investigated using qualitative research method with a single company case study. The results of the study indicate that differences between Turkish and Belgian cultures are mainly due to language, communication and relationship building styles, different level of individualism, and future orientation. Chapter 24 Do Nonperforming Assets Alone Determine Bank Performance?...................................................... 530 Rituparna Das, National Law University Jodhpur, India The post-crisis period in India witnessed economic slowdown consequent upon economy wide loan default in the infrastructure, real estate, and construction sectors. The asset quality problem of the Indian commercial banks became so acute that many of the weak banks were to be merged with strong banks in the interest of the depositors in order to arrest any contagion effect. The old generation private sector banks in India do not have government patronage or continuing support of the founder communities. This chapter analyzes the key financial ratios of these banks and tries to find out whether nonperforming assets are the sole determinants of the performances of these banks. Chapter 25 Innovation Scope and the Performance of the Firm: Empirical Evidence from an Italian Wine Cluster.................................................................................................................................................. 550 Guido Bortoluzzi, University of Trieste, Italy Patrizia de Luca, University of Trieste, Italy Francesco Venier, University of Trieste, Italy Bernardo Balboni, University of Trieste, Italy Innovation is a key factor for surviving and competing in the global scenario. However, findings from existing studies provide conflicting evidence in this regard, and the relationship between company innovation and performance remains undetermined. This chapter aims to deepen our understanding of this subject by looking at a less studied topic: the relationship between the innovation scope of a firm and its performance. The study is based on empirical research carried out in a sample of 74 firms belonging to the Friuli Wine Cluster located in northeastern Italy. Empirical results support the view that the most successful winemakers are those who have a wider innovation scope and who, in the last years, have considerably revised their innovation-related processes in a more market- and experience-related way. Compilation of References................................................................................................................ 568 About the Contributors..................................................................................................................... 656 Index.................................................................................................................................................... 668

xxii

Preface

The global business environment today resonates with the reality of hypercompetition on an unprecedented level. This salient fact provides both incredible business opportunities and challenges that cannot be ignored by business (and governmental) organizations of all types and sizes. Regardless of whether a business is a Multinational Enterprise (MNE) or a Small- and Middle-Sized Enterprise (SME), the effects of contemporary globalism have created a number of issues that must be understood and effectively addressed by corporate leaders and managers worldwide. I will begin by listing some of the major issues in bullet-point form and then provide some integrated detail for them further below. First, in order of importance are selected major challenges facing businesses not necessarily considered on a regular basis that can have a significant, long-term impact on the financial “bottom-line” of firms today: • • • • • • • • •

Talent Flows and Talent Wars, Work-Family Conflict (WFC) and Employee “Burnout,” Environmental Concerns, Branding (Employer/Product) and Trust, Changing Global Demographics, National Debt, Inflation, and Wages, Corporate Cyber-Espionage, Corruption, Food and Water Shortages.

Second, the points below are positive matters that can provide unique opportunities and advantages for industry-specific endeavors that will be covered in this handbook: • • • • • • • •

Innovation and Creativity, Global Market and Product Trends, Emerging Markets (Africa, CIVETS, MENA), Diversity Management (particularly of Third Culture Individuals), Cultural Intelligence (CQ) and Cultural Indoctrination (CI), Institutional Entrepreneurship, Global 500 Firm “Best Practices,” Education and Corporate Training.

xxiii

Peter Drucker discussed “Five Certainties” in Management Challenges of the 21st Century that bear repeating here due to the nature of this publication: 1) collapsing birthrate in the developed world; 2) shifts in distribution of disposable income; 3) changing definition of (corporate) performance; 4) increasing global competition; and 5) growing incongruence between economic globalization and political splintering. These certainties form the foundation of all the points above, and their impact should not be underestimated. Therefore, a long-term perspective is required more than ever before for sustainable business success. The current and future “Talent Wars” mentioned above are based on changing demographics worldwide in connection with education and training. There is a growing global “skills gap,” which means corporations of all sizes in most parts of the world shall have increasing trouble attracting and retaining (especially skilled) labor over time. This fact shall significantly impact business activity; therefore, firms will need to provide various corporate (re)training and employee retention programs, especially as much of the world population continues to age beyond the traditional retirement age of 65 in many nations, and global “replacement rates” remain low (e.g., Russia). Even nations such as China and India with very high populations face these Talent Wars, so no country or organization should consider itself immune from this reality. Work-Family Conflict (WFC) is connected to Talent Wars and is a primary catalyst for massive Talent Flows in this era of the mobile “Global Knowledge Worker.” Therefore, human resource management departments and managers must consider such issues seriously in WFC-related matters. Global climate change is very obvious to everyone, so the reader must consider its impact on current and future business operations regardless of the location. Recent examples include the massive (and historic) flooding in the Balkans and the United Kingdom, the prolonged, severely frigid winter in much of the USA, and the extensive melting of the polar icecaps. All of these (un)natural events impact business everywhere in financial and non-financial ways. Due to global hypercompetition, it is vitally important for companies to develop sustainable branding of their brands as well as corporate identity both domestically and internationally in many cases. While a traditional marketing function, this issue extends beyond this critical business field to include the issue of (public) trust. There are myriad brands today competing with each other for the “hearts and minds” of consumers everywhere, so branding represents both an opportunity and a challenge for business organizations. Mininum wages, such as the recently proposed US$25 per hour wage in Switzerland (which would be the highest in the world), can negatively affect corporate business opportunities, as can cyber-espionage and corruption. Productivity remains the foundation of sustainable national prosperity, so business leaders who wish to expand into new markets and industries must consider these three realities in connection with the others listed above before embarking on any new projects. After all, multiple countries are competing against each other for limited resources in a so-called “new world order,” which is shifting from the traditional Anglo-American or American-European model to one that more fully encompasses other regions of the world, such as Asia and Latin America. Within the realm of the seven positive factors listed earlier, four are particularly noteworthy: Innovation and Creativity, Emerging Markets, Diversity Management, and Cultural Intelligence. These are highlighted because I firmly believe they represent the most significant factors, and I have observed in over the 20 years in my private business practice that they are not often included in boardroom considerations, especially in SMEs. Creativity is a key factor behind effective innovation, and organizations embracing diversity management will be the leaders in those two areas since diversity management en-

xxiv

hances creativity. Cultural Intelligence (CQ) is still an emerging field, which can have a definite impact on the corporate financial “bottom line.” Therefore, its importance cannot be underestimated due to the effects of global hypercompetition. Contemporary globalism highly encourages mobility of labor across cultural and national boundaries, but operating in different cultures is a major obstacle for most people. Therefore, CQ is of particular note as individuals with high CQ levels are more likely than others to engage in the intercultural interactions that all of us face increasingly both at home and abroad. In addition to CQ, executives and managers must consider the emerging academic field of Cultural Indoctrination (CI) with regards to its effects on business operations. More on this topic is covered in one of my other upcoming books, titled Nationalism, Cultural Indoctrination, and Economic Prosperity in the Digital Age. Emerging markets are a self-explanatory topic regarding business opportunities, but I would like to highlight BRICs (Brazil, Russia, India, China), CIVETS (Colombia, Indonesia, Vietnam, Egypt, Turkey, South Africa), and MENA (Middle East and North Africa). These economic blocs form a significant opportunity for companies of all sizes; therefore, it is important for firms to engage in due diligence regarding these regions before starting business operations there. At some point during this century, the economic activity of all of these blocs will converge, resulting in several clear “winners” in the form of particular countries. Although China, India, and the USA (possibly in that order) are seemingly those most likely to be at the top of that future list as of today, it would be wise to refrain from placing bets on this matter just yet since geopolitical and other factors of contemporary globalism will have extensive effects on the economic fortunes of these and other nations. Examples can include sustained water shortages in India, geopolitical realities of Turkey and the Ukraine, or recent events in Africa. As we have all learned by now, what occurs in a faraway land can (and does) have a lasting effect at home. Based on the chapter outlines below, the reader will find a wide variety of topics covered, some of which may not be expected in a handbook such as this one. Specific examples from above include the teaching of Third Culture Kids (TCKs) in international schools, Work-Family Conflict (WFC), cultural management in multinational enterprises, and governance practices in Russia. The purpose of including them in this publication is to provide the reader with other aspects of global realities today that can have significant “hidden effects” on business operations. I trust this handbook will provide lasting benefits for sustainable business and job growth in an era of global hypercompetition. Chapter 1 investigates the determinants of inward Foreign Direct Investment (FDI) in the Vietnamese economy and their connection to the rapid economic growth the country has experienced. Using the concepts drawn from the extant Ownership-Location-Internalization (OLI) paradigm and InstitutionalBased View (IBV) literature, and adopting a quantitative research with the application of secondary data analysis, the study found seven significant locational factors determining FDI inflows into the Vietnamese economy, such as business freedom, market size, labor cost, trade freedom level, inflation rate, human capital, and the effectiveness of property rights. Political risk, monetary freedom, corruption, the country’s WTO accession, and the global financial crisis are found to be irrelevant to the inbound investments in the modern economy. A macro-level account and the policy implications are suggested for the promotion of FDI inflows into Vietnam to ensure the country’s continuous and sustainable economic development. Chapter 2 covers global market trends. As the global market continues to change very rapidly, the key drivers underpinning global market changes include shifts in production and consumption patterns, new technological innovations, new ways of conducting business, and policy changes. Technology is a key driver of these changes, and new technology has tremendously improved transport and communications

xxv

anchoring the fast integration of the world into a single market. Trade and Foreign Direct Investment (FDI), together with a greater geographical spread of income growth and opportunity, will further integrate a growing number of countries into more extensive international exchange. Chapter 3 investigates business opportunities in the geopolitical important nation of Turkey. This chapter outlines 12 disruptive industries that can play a major role in Turkey’s future economic development by providing business and job opportunities from project-based export-import activities. The chapter also covers other important subjects such as human resource management, building global Turkish brands, and education/training. The chapter concludes with some suggestions for future research directions regarding research and development, diversity management, English as a Foreign Language training, and cultural intelligence. Chapter 4 discusses cultural management within Multinational Enterprises (MNEs). Due to the dynamics in international business, it has become increasingly complex for the MNE to find a balance between worldwide standardisation of operational processes and the usage of local advantages. The foreign subsidiary’s managers and employees are stuck in the middle of environmental requirements, defined by the parent company on the one hand and the local social environment on the other hand. To ensure organizational efficiency in foreign subsidiaries, the rising conflict between corporate and country cultural characteristics can be solved through active cultural management. This chapter describes fundamentals of culture on corporate and country level and deduces a framework for cultural management. Furthermore, strategies are presented to close the gap between a subsidiary’s external requirements and the internal implementation. Chapter 5 explores the globalization of latecomer Asian multinationals and the theory of multinational enterprises. The fast globalization of latecomer multinationals from Asian emerging economies with impetus has appeared to challenge the established theories of Multinational Enterprise (MNE). This chapter reviews extant theories of MNE and provides areas of refinement and extension to these theories to reflect highly contextualized and unique internal and external conditions of these MNEs. In particular, this chapter provides an analysis of the key theoretical perspectives of MNE and highlights four areas that extend existing theories. These areas include country-of-origin effects, ownership advantages, learning processes, as well as global and industry context for internationalization. These areas of refinement are then illustrated by seven case studies of MNEs from mainland China and Taiwan in their accelerated internationalization and their focus on acquisitive growth strategy in terms of speed of internationalization, target countries, and mode of entry. Based on theoretical perspectives and case studies, this chapter provides implications for managers of MNEs from emerging and advanced economies in the pursuit of their globalization, as well as relevant policymakers. Chapter 6 provides insights on the dynamics of the space industry, which, despite its remarkable potential, tends to remain an under-studied sector within the field of business studies. By drawing on our existing work on the space industry, this chapter investigates the leveraging of innovative business models in the industry utilizing three case studies. The findings demonstrate that all three companies (Virgin Galactic, Mars One, and Unilever with the Axe/Lynx Apollo campaign) have extensively relied on business model innovation by leveraging specific design elements: content, structure, and governance. The findings highlight that business model innovation is an imperative to operate successfully in the space industry. Furthermore, a wide variety of private actors appear to be particularly resourceful in adopting novel business models that address the involvement of non-space actors and rely on non-space revenues.

xxvi

Chapter 7 studies International Joint Ventures (IJVs) and leadership. While leading theorists, researchers, and practitioners are currently engaged in the discussion of global leadership, the perspective has been in terms of case studies of multi-country or multi-company approaches. This chapter frames the role of competencies by introducing a new model of shared leadership called the Five Lenses of Shared Leadership. The model uses grounded theoretical foundations to support its components and provides implications for use across various partnership and business relationships. The collaborative structure of an International Joint Venture (IJV) is defined in terms of market share and a competitive advantage. Critical discussion on the development of global leaders, organizational conflicts and culture, and embedded effectiveness across borders and boundaries serves as a methodology for understanding knowledge transfer. Chapter 8 compares success factors and failure factors of small businesses. In an attempt to determine the relative importance of these factors, the two sets are compared. Thus, each failure factor is related to a corresponding success factor. A discussion of the aspects related to small business success and failure sets the context for the comparison. The relatively more important success factor involves aspects related to administration. Unfortunately, this is the one aspect that most small business owners/managers either lack the skills to perform or the time to allocate to this function. Within the administration, function leadership emerged as a relatively important skill contributing to small business success. Chapter 9 conceptually explores various types of export promotion programmes offered in sub-Saharan Africa and contributes to literature created by the absence of attention in international business. The global marketplace is much more developed than it was two decades ago, and is indifferent to national borders. Therefore, export promotion programmes are provided by governments in different forms to enhance the development of export growth. Firms in many countries have lost most of their control and capability due to global competitiveness of their national markets. The increasing amalgamation of international markets as well as the growth of global competition necessitates the adoption of export promotion programmes as an imperative strategy in planning international business. This chapter enriches our understanding of EPPs and how public policymakers have expanded export capacity development programmes to impact knowledge in sub-Saharan Africa. The chapter underscores specific EPPs for utilization to improve export performance of firms in foreign markets and provides practical implications for exporters and public policymakers in Africa. Chapter 10 the effects of work-family conflict on the employees’ attitudes towards their jobs and their behaviours in the workplace within the framework of job stress, job satisfaction, and organizational commitment concepts in the Turkish Pharmaceutical Industry. The data used in this study were obtained by the questionnaire survey method. One of the results of this study reveals that work-family conflict and work to family conflict have positive effects on job stress. However, family to work conflict has no effect on job stress. Secondly, work-family conflict and work to family conflict have positive effects on job satisfaction, while no evidence has been found regarding the effects of family to work conflict on job satisfaction. Thirdly, work-family conflict and work to family conflict have negative effects on organizational commitment while no evidence has been found regarding the effects of work to family conflict on organizational commitment. Only the main findings are presented in the chapter due to a large data set. Chapter 11 focuses on the role of culture, which increases its effect along with globalization on service failures and improvements. The study is a type of literature review formed by compilation of previous studies in the extant literature. According to the primary findings of such studies, the approach of consumers to service failures and improvements vary depending on their culture. Different

xxvii

satisfaction levels, re-purchase tendency, word-of-mouth communication and its structure (positive or negative), seeing liable for failure, loyalty, replacement, and emotional response against service failures and improvements are seen between different cultures. The authors expect this study to provide clues to service marketing applications and future studies about the effect of culture. Chapter 12 considers the institutional environment in Russia, its potential impact upon governance practices, and the attitudes of Russian executives towards the alignment of governance processes relative to international standards. Focusing on corporate board directorship, the research addresses the extent that the harmonization of governance to international standards may assist boards of directors to improve their corporate development. Using a survey questionnaire, the authors explore perceptions of directors of public companies concerning the challenges of corporate governance development in the country. The study illustrates unanimity among the respondents about the reforms needed for international convergence of corporate governance standards. The results reveal that institutional alignment with good governance principles will foster strategic corporate development in the Russian economy. The study offers insights to policymakers in terms of enhancing legitimacy of corporate governance in the Russian context and provides a perspective for executives of foreign companies considering investment in the country. Chapter 13 studies the effects of national culture on the development of international business in the Sultanate of Oman. The extant business literature often ignores links between national culture and technology development and international business, although in reality all three are interdependent or least they are characterized by a cyclical codependence and coinfluence. In the modern world, superior technologies enhance economic development, and technology transfer allows many emerging markets to grow significantly as seen in Asia or the Persian Gulf. Simultaneously, different cultures exhibit different levels of technological development, and the Arab world, commonly referred to as the Gulf, has its own unique, yet enthralling culture. Among the Gulf, the Sultanate of Oman occupies a prime position in terms of the economic, social, and developmental strides made in the last three decades. How the Sultanate’s national culture has played a significant role for development of international business is the core of this chapter. Chapter 14 provides a cultural view of corporate debt financing. This study enhances the growing research field of Cultural Finance by analyzing the relationship between cultural value types—in particular, Autonomy and Embeddedness—and the corporate debt choice of either bank or bond financing. The authors derive their hypotheses from a slight modification and re-interpretation of the Chemmanur and Fulghieri approach of “relationship lending.” Referring to the importance of specific human capital investments and individuals’ future orientation, they show that firms in autonomy cultures tend toward bank finance, whereas firms in embeddedness cultures show a preference for financing by issuing bonds. In a cross-country analysis with 71 countries, the authors find empirical evidence for their established hypotheses. Chapter 15 presents a study on so-called “Small Islands economies” by investigating loyalty strategies in the telecommunications sector. The extant literature presents antecedents of loyalty into four groups: characteristics of the environment, characteristics of the dyadic relationship, characteristics of the consumer, and consumer perceptions of the relationship with the marketing firm. However, it pays little to no attention to the antecedents of loyalty in small island economies. Prior research on small island economies is heavily focused on cultural, environmental, and macro-economic issues. Thus, the focus of this chapter is to capture antecedents that are cognizant of the distinct market conditions that

xxviii

potentially impact customer loyalty within the telecommunications sector. It seeks to advance understanding of loyalty in Business-to-Business (B2B) relationships in the context of a small island economy and identify triggers and determinants to convert passively loyal customers into actively loyal customers. Chapter 16 examines the often-ignored legal issue of eminent domain. All states cherish eminent domain, which is the power to assert dominion over the resources in their territory. How eminent domain is exercised in a region may be used as a test to gauge the attitude of a state to business. Eminent domain also has deeper influence on the economy of a state beyond direct percepts. Invoking eminent domain scintillates social crisis. How a state manages its social crisis marks the difference between continued growth and economic collapse. This chapter anatomizes a few relevant and recent eminent domain developments in the Latin American states of Argentina, Brazil, and Mexico, contrasting it with the scenario in the USA wherever appropriate. Chapter 17 draws on an exploratory qualitative study of 20 teaching staff at an international school in Singapore to examine the professional development needs of international school teachers in response to the needs of Third Culture Kids (TCKs). It explores what the needs of TCKs are, whether teachers at an international school in Singapore have the skills and competencies to be responsive to these needs, and where gaps in professional development for international schoolteachers may exist. Evidence shows that no professional development training in relation to TCKs is provided specific to the international context in which teachers are employed. Issues that are poorly addressed include staff induction, student transitions and identity issues, language support, pastoral care, and curriculum training. Findings contribute to the educational leadership and management of international schoolteachers by contextualizing professional development as a facet of organizational leadership. This research is salient in informing the professional development agenda for teachers in the international school context, both in Singapore and further afield wherever international schoolteachers may be employed. Chapter 18 researches strategic global development trends and competitiveness in the world pharmaceutical industry. Globalization is strongly related to increased mobility and competition, and the author states the most important and influential drivers of globalization are transnational or multinational companies. The author also stipulates that the following characteristics are significant for their performance, especially by taking into consideration activities, business strategies, and performances of multinational companies in the world pharmaceutical industry, which the author researches and presents in more detail: multinational pharmaceutical companies have had a strong market position on the most important and strategic world markets with holding of their considerable and major market shares; they globally integrate and connect their business performance, so national identity is no longer important; they have a flexible purchasing management strategy; they have a global network structure of production; they have a global network organisation of research and development activities; and they have built a global marketing organization structure, which supports a dedicated market orientation and a strategic priority focus to global customers. Chapter 19 researches the marketplace for e-cigarettes. Tobacco companies have long been on the defensive, but a new product, digital vapor cigarettes, offers what seems to be a social compromise: smoke-free smoking or “vaping.” This chapter explains and examines how this controversial product, new to the U.S. and European markets as of 2007, has affected the retail tobacco industry, both reinvigorating its sales and reviving some of its best integrative marketing strategies. The only adversaries strong enough to hinder its success are laws and regulatory action.

xxix

Chapter 20 examines eco-innovation enablers and typology in green furniture manufacturing using Indonesia as a case study. Fierce competition has forced firms to be more creative and innovative to increase market share. Differentiating between green products or services with conventional products or services is one of the ways for firms to improve their business sustainability. The objective of this chapter is to explore the eco-innovation enablers and design its typology to measure the current green business practices in industry. Although there are many well-documented enablers or practices of ecoinnovation that have been researched, this chapter focuses on practices that contribute towards the successful adoption of eco-innovation by one SME in green furniture manufacturing. This chapter uses the case study method as a source of data collection. Eco-innovation typology has been found in this study to define the effort of green company by looking at the target of eco-innovation versus the mechanism of eco-innovation. Chapter 21 summarizes the problems faced by hospitals when measuring the costs of healthcare treatments by explaining how an Activity-Based Costing (ABC) framework can be successfully adopted in healthcare settings. After describing the theoretical foundations of cost control and cost management, the chapter continues with the analysis of three real-life applications of ABC in a hospital, drawn from the process analysis and activity-based costing experience developed at the Azienda Ospedaliero-Universitaria (AOU – University Hospital) “Ospedali Riuniti” (Joint Hospitals) of Trieste, Italy. In particular, the cases are about cost measurement in cardiology, odontostomatology, and radiology, and describe the technical solutions applied for computing the costs of selected therapeutic and diagnostic treatments. A particular emphasis is placed on how these measures have been subsequently used by hospital managers and medical personnel in order to gain insights and to improve the efficiency of the processes developed within the organization. Chapter 22 reviews causes of corruption, including the macro- and micro-level determinants of corruption, such as leadership, management, and organizational culture. Various subjective and objective measures of corruption are discussed. Transparency International’s Corruption Perception Index (CPI) and Heritage Foundation’s Economic Freedom Index (EFI) are reviewed. The World Bank’s Business Environment and Enterprise Performance Survey (BEEPS), Doing Business Indicator (DBI), and World Bank Institute’s Governance Indicator (WBI-GI) are also reviewed, as is the role of global anti-corruption agencies and various instruments. Additionally, the relationship between corruption and foreign domestic investment, economic growth, and economic and political institutions are considered, as are anti-corruption intervention strategies for corruption and business ethics training. Chapter 23 is a case study of an international business failure due to cross-cultural differences. Since the second half of the 20th century, the dominant trend has been toward the reduction of barriers to international trade. The liberalization of world trade agreements, beginning with formation of the General Agreement on Tariffs and Trade (GATT) in 1945, the creation of regional free trade agreements such as the European Union (EU) and the North American Free Trade Agreement (NAFTA), and the formation of the World Trade Organization (WTO) facilitated a broad transition. Companies expand their operations internationally for different reasons, such as diversifying the risks and uncertainties of the domestic market, securing key supplies, increasing sales, reducing costs, and increasing competitiveness. This chaper explores the failure of a Turkish business in Belgium by asking the research question, Can cultural differences between Belgium and Turkey impact business success?

xxx

Chapter 24 examines if non-performing assets alone affect bank performance. The post-crisis period in India witnessed economic slowdown consequent upon economy wide loan default in the infrastructure, real estate, and construction sectors. The asset quality problem of the Indian commercial banks became so acute that many of the weak banks were to be merged with strong banks in the interest of the depositors in order to arrest any contagion effect. The old generation private sector banks in India do not have government patronage or continuing support of the founder communities. This chapter analyzes the key financial ratios of these banks and tries to find out whether nonperforming assets are the sole determinants of the performances of these banks. Chapter 25 is an empirical case study on the Italian wine cluster examining the relationship between the innovation scope of a firm and its performance. The study is based on empirical research carried out in a sample of 74 firms belonging to the Friuli Wine Cluster located in northeastern Italy. Empirical results support the view that the most successful winemakers are those who have a wider innovation scope and who, in the last years, have considerably revised their innovation-related processes in a more market- and experience-related way. Bryan Christiansen PryMarke, LLC, USA

1

Chapter 1

Locational Determinants of Foreign Direct Investment in the Vietnamese Economy Andrey Yukhanaev Northumbria University, UK Xiaoqing Li Northumbria University, UK Ngoc Le Northumbria University, UK

ABSTRACT This chapter investigates the determinants of inward Foreign Direct Investment (FDI) in the Vietnamese economy and their connection to the rapid economic growth the country has experienced. Using the concepts drawn from the extant Ownership-Location-Internalization (OLI) paradigm and InstitutionalBased View (IBV) literature, and adopting a quantitative research with the application of secondary data analysis, the study found seven significant locational factors determining FDI inflows into the Vietnamese economy, such as business freedom, market size, labor cost, trade freedom level, inflation rate, human capital, and the effectiveness of property rights. Political risk, monetary freedom, corruption, the country’s WTO accession, and the global financial crisis are found to be irrelevant to the inbound investments in the modern economy. A macro-level account and the policy implications are suggested for the promotion of FDI inflows into Vietnam to ensure the country’s continuous and sustainable economic development.

INTRODUCTION After a long period of economic hardship, the political and economic reform named “Doi Moi” was launched in 1986 marking a comprehensive change in the Vietnamese economy from a cen-

trally planned to a market-oriented system (John & Bruce, 2006). The movement towards a market economy has enabled Vietnamese companies to diverge from doing business under traditional arrangements of the Vietnamese government and other partners within the Soviet trading block

DOI: 10.4018/978-1-4666-6551-4.ch001

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

to being more liberalized and open to foreign trade (Nguyen, Barrett, & Fletcher, 2006). As a result, Vietnam has transformed itself from one of the poorest countries in the world to a lower middle income country with income per capita of US$1,130 by the end of 2010 (World Bank, 2013). It then has experienced an impressive constant GDP per capita growth, being the fourth highest in the Emerging Asia by the end of 2011, and expected to be the second highest by 2016 (OECD, 2012). There has also been a gradual evolvement of Vietnam’s politics and society towards greater openness and opportunity for civil participation. This progress is very essential as it supports Vietnam’s vision to become a modern industrialized society. Furthermore, compared to the state sector, the private sector has become increasingly emergent and important to the country’s economic growth, which is regarded as a restructuring focus on more strategic activities (World Bank, 2009). Indeed, in 2012 the government started a privatization programme to attract more foreign investment (Euronews, 2014). Moreover, since accessing to the WTO in 2007, Vietnam has shown a more proactive engagement in international integration and has also made various commitments to be a more friendly investment destination such as liberalizing its economic policies, easing regulatory restrictions on investment and joining Free Trade Agreements (FTAs) not just regionally but also globally (Petro Vietnam, 2014; World Bank, 2013). In fact, to welcome more global investment the government’s legal body gave a more equal regulation environment with almost no discrimination for both domestic and foreign businesses. Vietnam has also started to negotiate FTAs with countries beyond its Asia border such as with European countries in 2011-2012. The country has also become a negotiating member of Trans-Pacific Strategic Economic Partnership (TPP) where major economies such as Australia, Brunei Darussalam, Chile, Malaysia, New Zealand, Peru, Singapore, and the USA join

2

together to create a more compatible business environment to assist each other in the promotion of innovations, economic development, job creation, and active participation in international trade (USTR, 2013). This event clearly creates great potential for the TPP members seeking investment opportunities in Vietnam and vice versa. Therefore, Vietnam strives to expose to a broader investment community beyond the local region. Although a major challenge for many foreign investors in Vietnam might be to adapt to the one-party system, the country’s constant improvement in its legal, economic, and political systems with the practical advancements offers great benefits and potential for foreign investors in the long term. This constitutes Vietnam emerging as a key FDI destination in the region. In comparison with other countries in the region, FDIs in Vietnam have a fairly short history and slow development due mainly to the late participation start only after the ‘Doi Moi’ renovation reforms in 1986 were launched. However, the country has managed to attract a considerable amount of FDI inflows to become the fourth largest FDI recipient in Southeast Asia in the 2000s despite the impact of Asian economic crisis 1997 (UNCTAD, 2013). The FDI inflows began to develop again in the 2000s because the countries in the region had recovered from the crisis and together with the positive impact of US-Vietnam Bilateral Trade Agreement in December, 2001 (Moosa, 2002). The majority of FDI inflows into Vietnam during the period 1988 to 2005 were into manufacturing and processing industry with 8,072 projects and nearly US$106 billion of registered capital accumulation until 2012 (GSO, 2013). In the service sector, despite the smaller amount in relative terms and marginal amount or even the non-existence of FDIs in the early start of the FDI history in many important service sectors such as the construction of industrial zones or offices and apartment, they are now increasingly attracting more FDI inflows (GSO, 2013). In terms of FDI origins, Vietnam mainly has attracted investors

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

from the Asian region, accounting for nearly 80% of total number of projects with South Korea being the biggest investor with US$24.8 billion of registered capital followed by Taiwan, Japan, Singapore, and China (GSO, 2013). Thus, the country has proved itself as a dynamic market with extraordinary changes in the macroeconomic indicators, the increasing regional and global integration and continuous efforts in improving the economic system, and the development of both the state and private sectors. FDI activities have been increasing in the global economy at a faster rate than any other international business (IB) transactions of multinational enterprises (MNEs), due mainly to the compelling economic advantages both for the MNEs and the recipient countries (Peng & Meyer, 2011). Consequently, the spectacular growth of FDIs has considerably increased productive capacity and industrial standards, as well as contributed to the spread of the best practices in corporate governance, accounting rules, and legal traditions across the world (Pike, Neale, & Linsley, 2012). In fact, the increasing significance of mergers and acquisitions (M&A) is believed to stimulate domestic corporate control, information disclosure, discipline, and the accountability of managers. Furthermore, FDIs have been also evidenced to provide numerous spillover effects such as raising employment opportunities, increasing labor standards and knowledge transfers, enlarging tax revenues, and fostering competition in the domestic market, thus leading to economic growth (Meyer & Sinani, 2009; Blomstrom & Kokko, 1998). Due to such a wide range of profound socio-economic impacts, FDIs have been used extensively more than other forms of internationalization resulting in significantly greater attention by extant academic literature with empirical examination (Mody, 2007). Simultaneously, the distribution of FDIs is extremely unequal, with emerging markets accounting for the substantial share of foreign-registered capital.

This phenomenon has motived some scholars to investigate the reasons and determinants that attract these significant FDI flows into developing economies (Mody et al, 1998). However, the majority of the available studies mainly focus on FDIs in mature economies despite the fact that developing countries experienced a big increase in the last decade, absorbing nearly half of the global FDI inflows (UNCTAD, 2012). There is still a lack of evidence on the geographic and sectorial distribution of FDIs within particular recipient countries due to the limited availability of datasets and combination of the developing areas into single studies (Noorbakssh & Youseff, 2001; Hussain & Kimuli, 2012). Therefore, our chapter investigates the determinants of FDI inflows in Vietnam from 1995 until 2011 through the application of the Ownership-Location-Internalization (OLI) framework and institutional theory with particular emphasis on economic factors including market size, human capital, labour costs, and the degree of trade openness. The analysis of the FDI determinants in developing countries has a number of benefits. First, it contributes to the economic literature regarding determinants of FDI inflows in developing countries generally and in Vietnam in particular. Second, our findings will enable policy makers to understand what factors are attractive for foreign investors in Vietnam and what further adjustments in government policies are required to motivate more companies to conduct business in the country. Finally, our discussion will help foreign investors gain an insightful overview into the Vietnamese economic, legal, and political systems so as to identify the destination’s business opportunities as well as current limitations.

THE CONCEPT AND TYPOLOGY OF FDIs One of the most important components of economic growth for any country is the volume and

3

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

value of both domestic and foreign investments. Although there were some attempts made in the extant literature to explain the FDI decisions of MNEs, the exact impacts of certain determinants on FDI decisions and the explanation of what are the most important factors in a country’s attractiveness are still controversial (Chakrabarti, 2001). Prior to discussing the relevant theories of FDI determinants, it is necessary to understand what can be regarded as FDIs. In general, investment can be understood as a risk-associated involvement of economic assets of different property types in various entrepreneurial activities by national or international investors to earn profits and obtain economic benefits. In a broad sense, FDIs can be understood as a supply of capital by foreign investors to a host country based on profit consideration with a lasting interest towards a resident entity in another economy (Caves, 1996). However, this definition does not differentiate FDIs from any other types of cross-border transactions and narrows the essence of FDIs to primarily capital management. Noy and Vu (2007) argue that the main feature of FDIs is ownership and engagement of investors in governance matters for extended periods of time, whereas portfolio investments are shortterm and pursue only financial interests without significant commitment and control over strategic development of the organizations. Nonetheless, it does not necessarily mean that portfolio investment could not include long-term securities. Here, short-term rather indicates a propensity not to hold securities for a significant duration (Moosa, 2002). Similarly, the OECD (1996, pp. 7-8) offers the following statement: foreign direct investment reflects the objective of obtaining a lasting interest by a resident entity in one economy (‘‘direct investor’’) in an entity resident in an economy other than that of the investor (‘‘direct investment enterprise’’). The lasting interest implies the existence of a longterm relationship between the direct investor

4

and the enterprise and a significant degree of influence on the management of the enterprise. Direct investment involves both the initial transaction between the two entities and all subsequent capital transactions between them and among affiliated enterprises, both incorporated and unincorporated. The OECD also recognizes the ownership of a 10% investment threshold which is somewhat regarded as an arbitrary number in many cases (Moussa, 2005). In reality, the ownership of more than a 10% investment share may exert considerable control with an effective voice in management, while those with a share less than 10% may not lead to the exercise of any substantial influence (OECD, 1996). This is consistent with the International Monetary Fund (IMF) recommendations regarding foreign investors holding 10% or more of the ordinary shares or voting power in an enterprise to enable direct investors to have authority or participate in the administration of a firm (Rowley, 2006). However, Sinani and Meyer (2004) explain that FDIs should not only be viewed from financial and corporate governance perspective, but should be rather regarded as a managerial package of advanced technology, skills, tacit knowledge, and tangible and intangible business assets. There are many reasons for the engagement of MNEs in foreign investment, such as embracing and responding to foreign market demands, imitating competitors, retaliating against foreign rivals, following customers or suppliers, creating additional return on existing assets, and pursuing new growth opportunities in international markets (Root, 1987). The theoretical basis of the IB approach to FDI motives can be recognized in an earlier taxonomy forwarded by Dunning (1993, 2000) in which FDI motives are categorized into four orientations: market-seeking, efficiency-seeking, resource-seeking, and strategic asset-seeking. Generally, different FDI orientations result in different MNEs’ decision on location selection

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

and, therefore, these motivations are closely linked to the determinants of FDI (Fetscherin, Voss, & Gugler, 2010). However, MNE participation in FDIs can be with multiple orientations and tend to change the motivation as they become more established and experienced on the international stage. First, natural resource-seeking investors are enterprises whose motive of investing abroad is to obtain particular and specific resources of a higher quality at a lower real cost than could be acquired in their home country. By doing so, these enterprises can be more profitable and can strengthen their competitiveness in the markets (Makino, Lau, & Yeh, 2002). According to Dunning and Lundan (2008), there are three main types of resource-seeking: The first kind is for primary producers and manufacturing enterprises who seek physical resources with the motives of cost minimization and security of supply sources. The second group comprises manufacturing and service MNEs from countries with high real employment costs that seek plentiful supplies of cheap and well-motivated unskilled or semi—skilled labor in other countries with lower real employment costs to supply labor-intensive intermediate phase of production or final products for export. As the global labor costs have been rising, investment has shifted from advanced industrializing developing countries such as Mexico, Taiwan, and some countries in Central and Eastern Europe to emerging countries like China, India, and Vietnam with new more open trading policies and cheaper supplies of labor (Luo & Tung, 2007). Especially in the case of Vietnam given the China’s rising labor costs recently and the country’s proximity to China, it increasingly gains its foothold in the low-end manufacturing and is predicted to benefit from existing supply chain (Barnato, 2013). The third type is prompted from mostly emerging economies to industrial nations in order to gain access to financial resources and technological capability by obtaining knowledge, organizational skills, and management

and marketing expertise (Dunning & Lundan, 2008). However, all of the conceptualizations of resource-seeking motivations are made under the assumption of the immobility of the required resources (Dunning, 1993). Thus, this motivation is mainly referred to physical, tangible resources that are either immobile or costly to transport, while it appears to be less imperative for investment in information-intensive industries (Nachum & Zaheer, 2005). Second, market-seeking investment is undertaken to serve particular markets by employing local production and distribution facilities, rather than by exporting from the home country or a third country, with the purpose of maintaining or protecting existing markets, or exploiting or supporting new markets (Dunning, 2000). The most notable reasons for this kind of investment are market size and the prospects for market growth in the host countries (Dunning & Lundan, 2008). Additionally, MNEs might want to engage in FDI to follow their customers and suppliers abroad or to have the greater reduction of production and transaction costs than supplying products from a distance (Dunning, 1993). Furthermore, marketseekers are also often driven by the need for proximity to local customers so as to be aware of and able to meet their specific tastes and needs, because in many cases without familiarizing themselves with the indigenous language, business customs, legal requirements and marketing procedures, foreign firms may find themselves at a disadvantage in comparison with local firms (Nachum & Zaheer, 2005). Increasingly important, as part of a MNE’s international production and marketing strategy, MNEs may want to consider market-seeking investment to gain a physical presence in the leading markets served by its rivals (Rowley, 2006). Compared to other kinds of FDI, market-seeking MNEs are prone to consider their foreign affiliates as self-contained production units rather than as part of an integrated network and, therefore, they tend to be the most reactive

5

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

to indigenous needs and cultural sensitivities (Dunning & Lundan, 2008). Third, efficiency-seekers are regarded as experienced and diversified MNEs that seek welldeveloped and open cross-border markets where they have already established resource-based or market-seeking investments (Dunning, 1993). Here, the intention is to rationalize the structure of the established investments in such a way that they can take advantage of common governance over geographically-dispersed activities in two possible ways. The first kind is designed to benefit from differences in the availability and cost of traditional factor endowments in different countries in which MNEs decide how best to configure their operations, corresponding to the comparative advantage of different locations so as to reduce costs and maximize efficiency (Zaheer & Manrakhan, 2001). An example of this kind of efficiency-seeking investment is when MNEs invest in both developed and developing nations. On one hand, it can benefit from capital, technology, and information-intensive activities from developed countries, and on the other hand it can simultaneously take advantage of cheaper labor and natural resources available in the developing locations. Another kind of efficiency-seeking investment is undertaken in countries with similar economic structures and income levels with the purpose of taking advantage of the markets of scale and scope, and of differences in consumer tastes and supply capabilities (Dunning & Lundan, 2008). Nevertheless, Kogut and Zander (1993) argue that the spread of this type of investment requires substantial geographical coordination and knowledge transfer skills, which for the reasons of various market failures is better employed internally than externally. Finally, strategic-asset seeking investment include both established MNEs pursuing an integrated global and regional strategy, and first-time foreign direct investors hunting for access or purchase of competitive strength in an unfamiliar markets (Dunning, 2000). The central

6

motivation for this investment is to protect or advance the firm’s long-term competitive position, followed by the motives to exploit specific cost or marketing advantages together with boosting their global portfolio of physical assets and human competences (Dunning & Lundan, 2008). Thus, it is believed to aim at either maintenance or strengthening of their ownership-specific advantages or to the considerable weakening of the rival’s position. In the case of Vietnam, inward FDI is still considerably dominated by regional investors, accounting for 80% of total number of projects accumulated in 2012. Hence, the second kind of efficiency-seeking investments might play a significant role in total foreign investments, which will, in turn, be attributed to the considerable role played by the favorable local institutional and economic factors listed above. Therefore, institutional-based literature along with the real situation in Vietnam will be discussed in this chapter, followed by testing hypotheses to quantitatively examine these issues.

Fundamental Theories Since the 1930s, there have been various contextspecific theories of geographical distribution of FDI with the focus on the value-added activities of firms. However, until the 20th century, the extant economics and business literature has not given much attention to how location-related theories can explain the emergence and development of the cross-border activities and their impact on the investing firms’ competitiveness (Dunning, 2000). Conventionally, explanatory variables such as sectorial composition, home and host economic conditions, and various company-specific considerations have been used to extend the standard theories of location to cover a wide range of crossborder value added activities (Dunning & Lundan, 2008). Therefore, the focus of this research is to examine locational factors attracting FDI inflows to Vietnam and to explain FDI activities through

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

the prism of location theories without resorting to other theoretical groundings such as portfolio or risk diversification, internalization, product life cycle, and others. Historically, one of the major theorems to explain locational determinants of FDIs was based on the Heckscher-Ohlin (HO) model of neoclassical trade theory in which FDI was regarded as part of the international capital exchange Thus, Stolper and Samuelson (1941) argue the HO model was built upon a 2x2x2 general equilibrium framework with two countries (home and foreign), two productive inputs and two goods, with the assumption of perfectly competitive goods and factor markets, identical constant returns, zero transport costs, and factor endowments that exclude specialization. Furthermore, commodities are assumed to differ in relative factor intensities and countries differ in relative factor endowments, resulting in the difference in international factor price; therefore, a fairly capital-abundant country would export its capital-intensive goods to other foreign countries. In the absence of commodity trade, the home country would move capital to foreign countries where returns on capital are greater and returns on labor lower until the price factor between the home country and the foreign countries are equalized. MacDougall (1960) and Kemp (1964) supported this statement by developing their own model with the assumption of full employment, perfect competition, and constant returns, but with only one good and two productive inputs, thus reaffirming that capital would be shifted to the capital-scarce country where greater capital returns is expected. However, the neoclassical approach received strong criticism for its limited ability to explain FDI flows. Among the first opponents to the approach was Hymer (1976) with his industrial organization hypothesis, and Kindleberger (1969) who argued that the assumption of a perfect market in neoclassical theory was unrealistic and could not thoroughly explain FDI. Both authors paid great attention to the concept of monopolistic advantage

to explain the engagement of companies in crossborder activities. Thus, it is argued that the companies must possess ownership advantages such as brand names, patent-protected technology, and managerial and organizational capabilities. Moreover, there should be government interference to balance out the disadvantages of penetrating a foreign market including differences in culture, business ethics, legal system, physical distance, and other inter-country differences in order to compete with local companies. Even though the ideas of Hymer (1976) and Kindleberger (1969) were used by Graham and Krugman (1991) to explain FDI growth in the USA, it seemingly fails to explain why companies do not utilize their own comparative advantage by producing in their home country and exporting overseas, which is an alternative to FDIs (Moosa, 2002). Moreover, although the ownership competitive advantage approach explains why companies invest overseas, it does not explain why companies choose invest in country A rather than in country B. Therefore, the primary location hypothesis seeks to fill this gap by explaining the FDI existence due to the international immobility of some production factors such as labor and natural resources, leading to location-related differences in the cost of production factors (Dunning & Lundan, 2008). One significant form of location-related differences in the cost of production factors is the host country’s locational advantage of low wages, which is the level of wages in the host country relative to wages in the home country (Moosa, 2002). However, there has been mixed evidence on the hypothesis supporting the concept that cheap labor costs attract FDI. Thus, Love and Lage-Hidalgo (2000) established that real labor cost differences between the USA and Mexico had a considerable effect on FDI flows from one country to another, whereas Yang, Groenwold, and Tcha (2000) found that cheap labor cost has no considerable or even reverse impact on FDI flows. Nevertheless, high wages might be indicative of high quality of labor, in which case clearly the

7

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

relationship between low wages and FDI would not hold (Moosa, 2002). As a response to the limitations of traditional location theories, Dunning (1988) developed the eclectic OLI paradigm by integrating the industrial organization hypothesis, the internalization hypothesis, and the location hypothesis without being too precise about how they interrelate (Moosa, 2002). However, unlike internalization theory, it does not claim to be the theory of MNE per se, but rather a paradigm which covers various explanations of firms’ cross-border value-adding activities (Dunning, 2001). It provides a conceptual framework for explaining ‘what is’, rather than ‘what should be’, the level and structure of the firms’ foreign value activities, for which it primarily addresses itself to positive rather than normative issues (Dunning & Lundan, 2008). Indeed, this paradigm seeks to offer a general framework for ascertaining the extent and pattern of both foreign-owned production carried out by a country’s own firms and that of domestic production owned or controlled by foreign firms (Dunning, 2000). Hence, it is applicable to explaining certain kinds of trade where the trading enterprises’ advantages are not only country-specific, but also firm-specific. The OLI paradigm is described as a simple but profound construct which has remained the dominant analytical framework for accommodating a variety of operationally testable determinants and MNEs’ foreign activities (Caves, 1996; Dunning, 1993). Accordingly, Dunning and Lundan (2008) posit that the level and structure of foreign activities undertaken by MNEs will depend on four conditions being satisfied. First, the firm must possess unique and sustainable ownership-specific (O) advantages over firms of other countries in the servicing of particular markets or groups of markets. These O advantages are mainly in the form of the privileged possession of intangible assets, including monopolistic power, size, and the right to a particular technology arising as a result of coordination of related cross-border, value-adding

8

activities. Second, assuming that the first condition is in place, the extent to which the firm perceives it to be in a more beneficial position to use these O advantages rather than to sell to foreign firms. These are market internalization (I) advantages, referring to either the greater organizational efficiency or superior hierarchies’ incentive structures, or their ability to exercise monopoly power over the assets under their governance. Thirdly, assuming that the first and second condition hold, the extent to which the firm perceives it will be more profitable to create, access, or utilize its O advantages in a foreign location. Correspondingly, it is assumed the spatial contribution of L-bound resources, capabilities and institutions are uneven and, therefore, will bestow a competitive advantage on the countries possessing them over those that do not. Thus, the principles of the eclectic OLI paradigm are straightforward in that the more a country’s firms have desirable O advantages, the bigger the incentive they possess to internalize rather than externalize their use, and the more they find it in their interest to access or exploit them in a foreign location; consequently, the more likely they would engage in outward FDI.

LOCATION-SPECIFIC FACTORS IN VIETNAM Since the focus of this study is to examine the FDI locational determinants of Vietnam, the focus is largely on the critical discussion and analysis of the L factors in the OLI framework. As Dunning and Lundan (2008, p. 97) highlight, “attempts to explain patterns and levels of MNE activity without taking account of the distribution of L-bound endowments and capabilities are like throwing the baby out with the bathwater!”. Thus, the need to co-locate home-base activities at a particular location becomes an inevitable trend which also facilitates cross-functional coordination and integration of knowledge and inputs sourced worldwide (Porter, 1994). Con-

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

ventionally, empirical studies have examined the location-specific advantage variables and detected that such factors as market size, market growth, barriers to trade, wages, production, transaction costs, political stability, cultural distance, and the host government’s trade and taxation regulations have the most significant influence on FDI decisions (Dunning, 1993). Most studies of location and trade focus endowments and factors related to cultural, legal, political, financial and institutional environment (Sethi et al., 2003). Dunning and Lundan (2008) divide them into two main categories: traditional factors and institutional factors. Notably, the institutional assets are a new addition to the paradigm which encompasses the range of formal and informal institutions governing the value-added processes within firms (Globerman & Shapiro, 2003). In the section below, we will critically analyze the most representative traditional factors with an appropriate application to Vietnam.

Market Seeking Investments Generally, a typical host market characteristic such as market size is identified as a considerable determinant of FDI flows – as markets enlarge in size, so do opportunities for efficient utilization of resources and the exploitation of economies of scale and scope via FDI (UNCTAD, 1998). In other words, as soon as the market size of a particular country has increased to a level ensuring the exploitation of economies of scale and scope, the country becomes a potential target for FDI inflows (Moosa, 2002). The relationship between FDI flows and the market size is explained as an adequately large market would allow for the specialization of the factors of production and therefore lead to cost minimization (Willmore, 1976). Furthermore, as the existence of large local market might also facilitate static and dynamic economies of scale, it would in turn provide an advantage for foreign investors undertaking exports apart from serving the local market (Patibandla, 2001).

The author also strongly argues this advantage can even enlarge in a host developing country with a large market for differentiated goods by cheap cost of semi-skilled and skilled manpower. Indeed, a great number of survey studies have produced results supporting the positive relationship between FDI inflows and market size (Chakrabarti, 2001). Love and Lage-Hidalgo (2000) used GDP per capita as an explanatory variable in an equation designed to explain US FDI in Mexico and the variable was a significant determinant of FDI flows. In support of this statement, recent studies on Chinese outward FDI also indicate that as a response to the increase of offensive market-seeking motives, Chinese MNEs increasingly direct their investment towards large markets (Deng, 2004). However, research of Yang et al. (2000) of the Australian market show an exceptional result that there was no significant relationship between FDI flows and either the contemporaneous change in the national economic output. As a transitional economy, Vietnam has been transforming itself from a closed-market, command structure to a market-oriented economy, and now represents a market with a surplus labor force, a consistently stable increase in GDP, and positive economic changes (John & Bruce, 2006). Furthermore, most of the domestic firms were once state-owned enjoying a virtual monopoly under the old system. However, as Vietnam is opening more itself to the global economy, to meet the growing competition, many firms now are open to foreign investors. Hence, Vietnam can be depicted as a promising destination for foreign investments inflows and our first hypothesis is proposed as: H1: Vietnamese FDI inflows are positively associated with the market size.

Host Inflation Rate Volatile and erratic host country’s inflation rates discourages market-seeking FDI by generating uncertainty and causing inability of agents to

9

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

commit to future actions, hence making long-term corporate planning problematic, especially with regard to price-setting and profit expectations (Buckley et al., 2007). In factor markets, inflation might lead to a fall in real wages value and other factor prices relative to consumer prices due to an increase in business costs produced by the inflation rate (Kessel & Alchian, 1962). Such an increase in business costs would consequently result in a decline in the returns to the co-operating agents or production relative to prices. More specific implications would be that high inflation rate devalues domestic currency, therefore reducing the real value of earnings in local currency for market-seeking investing companies (Morsink, 1998). As an impact of the domestic currency devaluation, the host country with high inflation rate would also suffer from lower purchasing power and capacity. Additionally, by escalating the locally sourced inputs prices, high inflation rates make it harder for investors to maintain a cost advantage in third markets, thereby discouraging export-oriented FDI (Buckley et al., 2007). Another possible explanation for the negative effect of the inflation rate on FDI locational decisions is that because inflation rates cause significant impact on the host country’s economic growth which ultimately deteriorates the host country’s attraction to foreign investors (Khan & Senhadji, 2001). Therefore, high inflation rates can be an impediment to FDIs as it shows a clear sign of the host country’s status in terms of macroeconomic stability (Kok & Ersoy, 2009). However, Zeng (2009) found that the inflation variable was not significant in determining FDI inflows in both China and India during the period 1984 – 2002. Therefore, our second hypothesis is: H2: Vietnamese FDI inflows are negatively associated with the inflation rates.

10

Quality and Cost of Human Capital Labor cost undoubtedly remains among the most important considerations for cross-border valueadding activities. Indeed, as a main characteristic of the lower cost locations for operations, cost of labor is regarded as the key input for a firm’s production process and therefore efficiency-seeking and market-seeking investments (Buckley et al., 2007). On the same note, Vernon (1966) argues that availability of cheap inputs, especially human capital, is a significant determinant for moving production capacity overseas, and is believed to be a pull factor for the host market (Morsink, 1998). In fact, US-based MNEs selected countries in East Asia on the basis of lower wage rates to shift their manufacturing operations to gain cost-reduction in production, resulting in profit margin improvement and higher competitiveness (UNCTAD, 1997). The competitive intensity and the low-cost heaven offered by some Asian countries facilitated FDI restructuring strategies of some US-based MNEs and enabled them to shape up efficiency-seeking investments in Asian countries, leading to greater economies of scale (Sethi et al., 2003). Furthermore, Farrell (2005) found significant savings from the difference in level of wages between developed and developing countries by showing that US firms saved US$0.58 for every dollar and the German firms saved €0.52 for every Euro spent on jobs they had moved to India. The level of cheap labor costs of the host country relative to labor costs in the home country also explains why such countries as China, India, and Vietnam attract labor-intensive production such as footwear and textiles (Moosa, 2002). In particular, Vietnam possesses a relatively low manufacturing labor costs with average expenses being roughly 35% lower than the coastal industrial zones of China (Asian Coast Development Ltd., 2013). Simultaneously, productivity and the high quality of human capital in the host country become an increasingly important driver of cross-border value-adding activities and selection decisions of

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

the FDI locations (Morsink, 1998). Thus, Barrel and Pain (1996) argued that for long-term development, the extensive reliance on cheap labor cost without duly considering the quality of human capital might be a very risky approach. Dossani and Kenney (2003) supported this argument by showing that while investors were at first attracted to India for low cost reasons, they retained and expanded their scales due to the high quality of the workforce, which was also partially a function of earlier investors’ agglomeration and positive externalities created. Bunyaratavej, Hahn, and Doh (2007) also argued that companies tend to seek relative parity with their home country’s workforce quality and associated costs despite some wage discount in respect to domestic costs. Therefore, cost savings and abundance of skilled workforce would be expected to encourage FDI inflows into the host country: H3: Vietnamese FDI inflows are negatively associated with the labor cost. H4: Vietnamese FDI inflows are positively associated with the quality of human capital.

Political Risk and Institutional Development Over the past three decades, institutions have become integral in clarifying the determinants and impacts of IB activities, due primarily to globalization, technological progress, and the volatile and complex environments in which MNEs operate (Dunning & Lundan, 2008). Accordingly, the significance of country-specific and contextbased institutional factors as determinants of FDI flows has been increasingly emphasized in extant IB literature (Peng, 2003; Globerman & Shapiro, 2003). Although there have been several studies attempting to explain the firm’s relationship with its broader environment, the application of mainstream theories in developing countries tends to be problematic (Peng, Wang, & Jiang, 2008). This is because some developing countries diverge

considerably from developed economies on the premise of institutional development (Patibandla, 2001). Therefore, in order to effectively examine the complex and volatile relationships between the firm and external environments in emerging economies new theoretical tools incorporating the institutional-based view are required (Peng et al., 2008). Traditionally, institutions are defined as ‘the humanly devised constraints that structure political, economic and social interaction. They consist of both informal constraints (sanctions, taboos, customs, traditions, and codes of conduct), and formal rules (constitutions, laws, property rights)’ (North, 1991, p. 97). Dunning and Lundan (2008) attempted to incorporate institutions into the OLI paradigm and claim that institutions along with their enforcement mechanism set the ‘rules of the game’ in which firms must survive and achieve their own learning and resource allocative goals. Hence, an institutional system consists of the combination of formal and informal institutions that govern individual and firm behavior (Peng & Myer, 2011). Thus, formal institutions embrace laws, regulations, and rules which are formed by the authorized bodies influencing such areas as corruption, transparency, political risk, economic liberalization, and regulatory regime (Peng et al., 2008). On the other hand, informal institutions exist in the form of norms, values, cultures, ethics concerning what behaviors are morally right and wrong, and what is important and what is not within a society (Peng et al., 2008). Therefore, institutional dimension is a key factor having a tremendous influence on foreign investments’ strategies and operations (Estrin, Meyer, Wright, & Foliano, 2008). As institutional frameworks may vary within countries, especially in emerging economies such as Vietnam, institutions are continuously evolving with the dynamic processes of change taking place at national and local levels (Meyer & Nguyen, 2005). Vietnam is a transition economy whose reforms initially concern primarily formal

11

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

institutions at the central level (World Bank, 1996). Therefore, the country is chosen as an empirical setting to investigate the effect of institutions on FDI as a particularly suitable context since the country has been through the major economic transition process, while weakness of formal institutions still remain a big hindrance to business creating significant political risks (Tenev, Calier, Chaudry, & Nguyen 2003; van Arkadie & Mallon, 2003). H5: Vietnamese FDI inflows are positively associated with the political risk.

Economic System An economic system refers to the rules of the game followed in a country’s economic development strategy. Thus, diametrically opposite approaches would be a pure market economy characterized by the “invisible hand” of market forces, or a pure command economy in which all factors of production are state-owned or controlled and all supply, demand, and pricing are planned by the government (Peng & Myer, 2011). Extant empirical literature on country level determinants of FDI indicates that market-oriented institutions, transparent taxation, and absence of performance requirements imposed by the government attract foreign investment in to the economy (Globerman & Shapiro, 2003). Institutional factors within a market-oriented system moderate transaction costs, or diminish significance of obtaining access to local informal networks that might either facilitate or hinder foreign investment activities (Meyer & Nguyen, 2005; Peng, 2003). Since Vietnam is changing towards a market-oriented economy with a bureaucratic but entrepreneurial business environment, the main challenge for foreign investors is to adapt to the quick pace of institutional change (Meyer & Nguyen, 2005). In fact, legal framework for FDI has continually developed with the first FDI law passed in 1987, followed by leading changes in 1990, 1992,

12

1996, 2000, 2005, and especially in 2006 which officially marked when Vietnam acceded as the 150th member of the World Trade Organization (WTO) (Allens, 2012). Primarily, only several sectors were open to FDI, but such restrictions on the maximum foreign ownership stake have been gradually discarded. UNCTAD (1997) believes that subsequent failure of planned economies resulted in widespread disenchantment with restrictive policies and so developing countries in Asia gradually opened up their economies and set up agencies to attract FDI instead of earlier hostility towards MNEs. Significantly, alterations in other laws and regulations in Vietnam have been set to be equally essential to investors, embracing creation of procedures for granting investment licenses and regulations regarding land lease, recruitment, salaries, and taxation (van Arkadie & Mallon, 2003). Nonetheless, given the fact that Vietnam began economic reform in 1986, the Communist Party still remains firmly in power with the direct influence of the government and interference by the ruling authorities in many aspects of the economy. State-owned enterprises (SOEs) still contribute more than the domestic private sector to GDP, yet their share has been gradually decreasing from 40.5% in 1997 to 38.3 in 2002 (Meyer & Nguyen, 2005). However, government policy targets are to restructure SOEs via privatization, the lessening of subsidies, and the restructuring of non-performing loans. Moreover, compared to the past with the significant discretionary interference by government authorities in private businesses, since 1999 entrepreneurship and private enterprises have received more support from government policy though the institutional framework (Tenev et al., 2003). Hence, along with significant changes in the economic system, the business environment, FDI legislation, and regulations throughout the history of Vietnamese development, a set of hypotheses is proposed for testing in order to investigate the role of institutional liberalization policies towards FDI. These factors are very new

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

in this field of research and cover a wide range of assessment in terms of the development of host institutional environment. Furthermore, in order to examine whether or not Vietnamese FDI inflows are influenced by the accession of WTO in 2006 and the global crisis in 2008, a time dummy for 2006 and 2008 have been created: H6: Vietnamese FDI inflows is positively associated with the business freedom level H7: Vietnamese FDI inflows are positively associated with the monetary freedom level. H8: Vietnamese FDI inflows are positively associated with the trade freedom level. H9: Liberalization of Vietnamese FDI policies in 2006 increased Vietnamese FDI inflows. H10: Global economic crisis in 2008 reduced Vietnamese FDI inflows.

Legal System Foreign investors are subject to the laws of the host country in which their businesses operate. Legal systems specify the “Dos and Don’ts”; hence, they are the cornerstone of formal institutional settings (Peng & Myer, 2011). One of the fundamental economic functions of a legal system is to protect property rights which are the legal rights to use an economic property (resource) and to derive income and benefits from its utilization (North, 1991). Thus, property rights provide the basic economic incentive system shaping resource allocation and principally can be defined by formal arrangements or informal conventions concerning the allocations and uses of property (Peng & Myer, 2011). Even though the term property traditionally refers to tangible pieces of property such as lands, home, office, and factories, intellectual property (IP) specifically refers to intangible property that results from intellectual activity such as writing, creating, and inventing, involving intellectual property rights (IPRs) associated with patents rights, copyrights, and trademarks rights (Peng & Myer, 2011). It is argued that developing countries

cannot attract high-quality foreign investment if they do not have effective IPR protection (VietnamUS Embassy, 2013). It is easy to understand that no leading firms would like to develop manufacturing, research, operations in a country where IPRs could be freely pirated without legal penalties. In Vietnam, there have been impressive improvements in legislation related to IPRs in recent years. Indeed, bilateral agreements on the protection of IPRs with several countries and areas such as the European Union (EU), Switzerland, and the USA have been signed, and Vietnam has also committed to most obligations by the WTO TRIPS agreement. In recent years, a number of laws, decrees, and directives to establish a legal framework and measures for IPRs in the country have been issued such as IPR and civil violations governed under the Civil Code and new laws on IPRs passed in 2005 that became effective in 2006 (Vietnam-US trade, 2008). Therefore, our hypothesis for testing is: H11: Vietnamese FDI inflows are positively associated with effective property rights. Despite the fact that it would be expected that informal institutional constructs such as corruption are prone to work against the foreign investors, some authors argue that foreign investors might use the underdevelopment of local informal institutions as an advantage (Meyer & Nguyen, 2005). In fact, Lou (2001) argues that the relations between MNEs and governments should be seen as potentially cooperative and exerting a positive influence on subsidiary performance. Egger and Winner (2005) researched a sample of 73 developed and less-developed countries from 1995 to 1999 and found that corruption and inward FDI are positively associated with each other. Nonetheless, traditionally corruption is presumed to directly impact the cost function of MNEs, thus suggesting a negative association between corruption and inbound foreign investments. Here, a hypothesis is proposed:

13

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

H12: Vietnamese FDI inflows are positively associated with freedom from corruption.

METHODOLOGY The deductive approach is used in this study providing the concepts and theories from previous literature, formulating hypotheses from selected concepts, and testing the truth by empirical observation of dataset (Cooper & Schindler, 2003). Hence, this refers to a general to specific method in which scientific principles are relied upon with the practice of quantitative data and a stance of positivism philosophy (Saunders et al., 2012). Our focus is to examine the FDI locational determinants in Vietnam by testing the hypotheses and building a regression model with the application of academic literature. Therefore, an experiment strategy is adopted in this study with a corresponding three-step plan -defining the research issues, constructing hypotheses and performing regression models (McBurney, 2003). The obtained data is all numerical data available in public domain - FDI inflows value (UNCTAD), GDP and GDP growth (World Bank), the inflation rate (IMF), labor costs (GSO), human capital measured by numbers of university and college graduates (GSO), the political risk index (World Bank), and related economic indexes, property rights index and freedom from corruption index (Hermitage Foundation). According to Quinlan (2011), secondary data is conducted and written from primary sources by other scholars or organizations, and there are several advantages that motivate researchers to utilize secondary data analysis. First, secondary data is quite reliable, of higher quality, and contain a larger sample which is gathered by public organizations such as the General statistic offices of Government or the World Bank. Second, secondary data is available in continuous timeseries which is appropriate for the application of a statistical test. Furthermore, most research on

14

FDI determinants of developing countries are also examined based on secondary data such as Fung et al. (2000), Noorbakssh et al. (2001), Hasen and Gianluigi (2009), Nasser and Gomez (2009), and Hussain and Kimuli (2012). The sampling procedure is regarded as the manner in whbich researchers select data to implement their study to make the study more practical in terms of handling the study’s issue (Bryman & Bell, 2011). Hence, a full set of time series data for the years 1995 to 2011 under investigation is selected. As mentioned earlier, this period witnessed the wax and wane in the country’s economy with the accession to the WTO in 2007 and the global financial crisis in 2008. FDI policies and economic and political systems in the country also experienced rapid and significant changes during this time. The secondary data is analyzed to investigate Vietnamese locational factors helping to attract FDI inflows so as to reach the final conclusion of the most FDI dominant locational factors and, hence, add appropriate policies to further attract FDI into Vietnam. To investigate the FDI locational determinants in Vietnam, the time series of 17 years over the period of 1995 and 2011 have been analyzed. This approach is inspired by the study of Buckley et al. (2007) about the determinants of Chinese outward FDIs, of Kok and Ersoy (2009) about FDI determinants in 24 developing countries, of Eggar and Winner (2005) regarding the relationship between corruption and inward FDI, and of Globerman and Shapiro (2002) about the importance of governance and infrastructure factors. The data analysis process contains 3 steps:

Step 1: Constructing Hypotheses in Operational Terms Bell and Bryman (2012) clearly highlight that the nature of quantitative research is often driven by hypotheses as presenting hypotheses is a highly specific form of research questioning. The purpose of this step is to construct the 12 hypotheses in

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

operational terms with variables’ proxy, variables in operational terms, and clearly expected signs between dependent variable and independent variables, theoretical justification for hypotheses and data source. The hypothesis reflecting the belief of there is no relationship between two variables is called the null hypothesis (Ho). The alternative hypothesis represented by H1 reflects the potential outcomes of this research and, in this case, reflects the relationship between FDI and locational-specific advantage factors. The following null and alternative hypotheses will be tested related to the population correlation coefficient ρ: The Null Hypothesis Ho: ρ = 0 (No linear association between FDI and each of the locational-specific advantage factors) The Alternative Hypothesis H1: ρ ≠ 0 (a correlation exists between FDI and each of the locational-specific advantage factors).

Step 2: Testing the Hypotheses The second step tests the hypotheses to examine the relationship between the dependent variable and independent variables, and to provide a foundation for further examination between these variables in the following step. In the simplest terms, dependent variable can be considered as a phenomenon which needs to be explained, and independent variable(s) are variables that can explain the phenomenon (Norris, Qureshi, Howitt, & Cramer, 2012). Therefore, independent variables can be called explanatory variables (Acton, Miller, Fullerton, & Maltby, 2009). Since the main purpose of this study is to determine the locational factors that attract FDI inflows to Vietnam and to discover the most significant factors in the period, the findings will indicate not only the relationship between FDI and the locational factors, but also the strength of the relationship. Hence, Pearson’s product moment correlation coefficient (PMCC) is employed to determine the strength, direction, and statistical significance of the association be-

tween two quantitative variables (Robson et al., 2012), in this case it is between FDI and each of the locational factors. The correlation coefficient is measured by “r” value, which lies between -1 and +1 inclusive, thus indicating the direction of the relationship as negative or positive (Hair at al., 2006). A value of -1 specifies a perfect negative relationship, meaning as one variable increases in value, the other decreases. In contrast, a value of +1 represents a perfect positive relationship, which indicates that an increase in value of one variable results in an increase of the other. However, the coefficient of determination (c.o.d or r2 = (correlation)2) has been used to assess the strength of the relationship between a numerical dependent variable and one or more numerical independent variables by indicating the percentage variation in the dependent variable (FDI inflows) that can be explained by variation in one or more independent variables (locational-specific advantage factors). The r2 can be measured on a scale between 0% (random) and 100% (perfect positive or negative association – independent variables can perfectly explain dependent variables) (Robson et al., 2012). To ensure the dependent variable being considered is the FDI inflows value and independent variables are locational-specific advantage factors, but not the other way around when implementing commands in the SPSS software, both r and r2 will be directly extracted from the outputs of simple regression models from the SPSS analysis which relates to FDI inflows value with each of the locational factors. By constructing these simple regression models, it can also help to predict the FDI inflows based on each individual independent variable. The model has the highest r2 can be used to best predict the value of FDI inflows to the country. The simple regression model is presented as below (Acton et al., 2009): Y=α+βx+ε where:

15

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Y = Dependent variable. X = Independent variables. α = y – intercept. β = Slope or gradient. ε = Error term. The equation (1) can be changed into natural logarithm form due to the differences in units of variables: Ln(Y) = α + β Ln(X) + ε

Step 3: Establishing a Multiple Regression Model To predict the value of FDI inflows from multi locational factors after examining the relationship between FDI inflows and locational factors in step 2, a multiple regression model is established. Robson et al. (2012) regarded regression analysis as the extent of the correlation analysis by constructing a statistical model that can be used to describe and predict values of a dependent variable in terms of one or more independent variable(s). By doing so, it provides us with a tool for prediction, as well as to understand how these independent variables are combined to predict the dependent variable of interest. In this case, the dependent variable is FDI value and the independent variables are location-specific advantage factors. A multiple regression model is created as there is more than one independent variable being considered. Multiple regression and correlation basically determine the best predictor of dependent variable, in this case the FDI value, then the next best predictor, and so forth. They also indicate how much weight to give to each predictor to yield the best prediction or correlation (this indicator is the slope β – showed in equation 3 below). However, it is worth noting that the chosen independent variables cannot have a strong relationship with each other, thus implying they cannot be highly correlated linearly with each other. In statisti-

16

cal terms, this phenomenon is regarded as the Multicollinearity problem which could affect the significance of variables. Thus, a higher value of Multicollinearity would result in higher standard errors and therefore lead to inappropriateness of the multiple regressions model determined (Norris et al., 2012). Hair et al. (2006) also affirm that when the intercorrelations between the independent variables are very high as 0.9 or above, then the dangers of Multicollinearity are also considered high. Other common measures for Multicollinearity include the tolerance value and its inverse – the variance inflation factor (VIF). Hair et al. (2006) recommend that a very small tolerance value (0.1 or below) or a large VIF value (10 or above) indicates high collinearity. Another problem can affect the result of multiple regression model is missing value (Norris et al., 2012). Nonetheless, in the data collection process, the period from 1995 to 2011 was carefully chosen to ensure that all variables’ data can be fully collected; therefore, the authors rejected variables having so many missing values and only selected ones having sufficient data for the examined period. The multiple regression model is presented as below (Acton et al., 2009): Y = α + β1 x1 + β2 x2 + β3 x3 + … + βn xn + ε where: Y = Dependent variable. x1, x2, x3… xn = Independent variables. α = y – intercept. β = Slope or gradient. ε = Error term. Based on the hypotheses proposed and the application of the model (3) above, an estimated multiple regression model for this study can be obtained is:

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

FDI = α + β1 GDPG + β2 GDP_percapita + β3 Inflation + β4 Monthly_income + β5 Human_ capital + β6 Political_risk + β7Business_freedom + β8 Monetary_freedom + β9 Trade_freedom + β10TD2006 + β11TD2008 + β12 Property_rights + β13 Freedom_corruption + ε However, because all variables have different units such as percentage, dollars, millions of dollars, and indexes, the data was transformed into natural logarithms form as a way of standard processing. Moreover, a natural logarithm model allows a linear model to be devised by avoiding violating the assumption of linearity (Robson et al., 2012), but still be able to preserve the idea of non-linearity (Menard, 1995). A natural logarithms model for this study is presented as follows: LnFDI = α + β1 LnGDPG + β2 LnGDP_percapita + β3 LnInflation + β4LnMonthly_income + β5 LnHuman_capital + β6 LnPolitical_risk + β7 LnBusiness_freedom + β8 LnMonetary_freedom + β9 LnTrade_freedom + β10 LnTD2006 + β11 LnTD2008 + β12 LnProperty_rights + β13 LnFreedom_corruption +ε With this linear model, the ordinary least square method will be used to analyze and enable the authors to estimate the impacts of one or more independent variables on FDI. The dependent variable in this case is LnFDI and the independent variables are LnGDP, LnGD_Percapita, etc. The analysis is supported by the SPSS statistical software which is one of the most powerful statistical packages that can perform highly complex data manipulations and provide facilities to analyze and display information using a variety of techniques (Norris et al., 2012). The software can provide data descriptive analyses, regression models and other sophisticated data analyses which are widely used in many fields including financial analysis, sales forecasting, macroeconomic prediction, data analysis, and evaluation (Acton et al., 2009).

RESEARCH FINDINGS Sparrow (1989) emphasizes that depending on research objectives, different key aspects can be considered to begin a data analysis. Accordingly, prior to implementing econometric analysis to examine the locational factors attracting FDI inflows, an exploratory data analysis about the association between FDI and locational factors will be demonstrated by the following figures to provide a broad picture about variables. All variables are transformed into natural logarithm form due to the unit differences. The variables are treated endogenously and symmetrically to show the possibility that location-specific advantage factors influence FDI inflows. In this section, the association between FDI and traditional factors will be demonstrated by the following scattergrams on the relationship between FDI and traditional factors as well as institutional factors from 1995 to 2011.

Market Seeking FDIs Given the clear linear pattern of the points and their upward direction in Figure 1, there seems to be a very strong, positive linear association existing between FDI and GDP per capita. This indicates that the greater GDP per capita, the higher the FDI inflows to Vietnam.

Host Inflation Rate From Figure 2, a recognizable straight line or linear pattern appearing in the points can be identified in the examined period. Nonetheless, given the appearance of some outliers, there seems to be only a moderate positive association between FDI inflows and the host inflation rate.

17

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Figure 1. Scattergram on the relationship between LnFDI and LnGDP_percapita

Labor Cost and Quality of Human Capital

institutional factors will be demonstrated by the following figures.

The left-hand side of Figure 3 demonstrates a clear evidence of a strong linear relationship between FDI inflows and Vietnamese labor cost (proxy by monthly income) with a recognizable straight-line pattern and an upward direction of the points. This indicates that the higher the labor cost, the higher the FDI inflows into Vietnam. In comparison, the right-hand side of the figure shows that although a linear pattern can be identified, there seems to be only a moderate positive relationship between FDI inflows and the host country quality of human capital with the existence of several outliners. In this section, the association between FDI and

Political Systems

18

Figure 4 shows there appears to be a weak relationship between FDI inflows and Vietnamese political risk due to the spread of the points and the existence of some outliers.

Economic Systems The top section of Figure 5 depicts a relationship between FDI and business freedom level. Although the points seem to be gathered at the LnBusiness_freedom level of 3.7, they then tend

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Figure 2. Scattergram on the relationship between LnFDI and LnInflation

to increase as the LnBusiness_freedom level increases; therefore it shows a strong positive association between these two variables in Vietnam. However, with the wide spread of the points on the middle section of figure, there seems to be a very weak positive association between FDI inflows and monetary freedom level in the country. In contrast, the bottom section of the figure shows an evidence of a strong positive association between FDI inflows and the trade freedom level of the host country with an upward direction and a linear pattern appearing in the points.

Legal Systems Figure 6 shows that while FDI inflows seem to be affected by property rights at a moderate level due to the unchanged value of this independent variable through time excepting for only two outliers, the concentration of the points into different groups on the bottom section of the figure indicate there seems to be a very weak association between FDI inflows and the freedom from corruption in Vietnam. These findings from this section will be supported by the output of correlation analysis in the next section.

19

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Figure 3.­

Data Analysis After step 1 in the data analysis framework in the methodology part of constructing 12 hypotheses in operational terms, this section responses to step 2 by using statistical techniques to test these 12 hypotheses. All the tests are implemented at 95% confidence level or, in other words, the significant level is used at 0.05 (5%). 1. Testing the Relationship between FDI Inflows and Traditional Factors: This part will show the results from testing the relationship between FDI and each of the four traditional location factors (market size, inflation, labor cost, and quality of human capital). The outputs of correlation analysis and correlation coefficient (r2) of the association between FDI inflows and traditional factors are shown in Table 1. The result shows that all four traditional factors which are market seeking FDI factor – market size (GDP_per capita), the host inflation rates (Inflation), labor cost (Monthly_income), and quality of human capital (Human_capital) are all statistically significant and have strong association with FDI inflows to Vietnam. Market seeking FDI factor

20

and educated human capital are correctly signed, which in turn support hypotheses H1 and H4. However, the host inflation rates and labor cost are found to be significant but with opposite signs to expectation as predicted in hypothesis H2 and H3, respectively. GDP per capita has the strongest association with FDI inflows with r=0.899, the second strongest association is labor cost factor with r=0.844, followed by inflation with r=0.636, and human capital with r= 0.585. Table 1 shows that the correlation between FDI and GDP per capita is r1 = 0.899 (very close to 1) with significant value of 0.01 (as noted by ** in the table). Moreover, sig-value = 0.000 < 0.01 (significant level at 1% overrides 5% since we are 99% sure that we make a correct decision); hence, H0 is rejected at the 1% significant level implying that ρ is statistically significant different to zero. That means the association between FDI inflows and GDP per capita is very strong, positive, and statistically significant. The association here is that the greater the GDP per capita, the greater the FDI inflows to Vietnam. Additionally, R12 = 0.808 implies that when constructing a simple regression model to predict the value of FDI inflows based on GDP per capita, an 80.8% variation in FDI inflows can be explained by variation in GDP per capita. In detail, the model is:

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Figure 4. Sacattergram on the relationship between LnFDI and LnPolitical_risk

LnFDI = -6.272 + 4.952 LnGDP_percapita The value α, the y-intercept or in this case is LnFDI-intercept α= -6.272 indicating that if LnGDP_percapita was equal to 0, the value of LnFDI inflows = -6.272. The value of β is the slope of the regression line, β= 4.952 indicating that for every additional increase in terms of the value of LnGDP_percapita ceteris paribus, it would be expected the value of LnFDI would increase by 4.27. Table 1 also shows that correlation between FDI and the host inflation rate is r2 = 0.636 with sig-value = 0.006 < 0.01; thus, H0 is rejected at the 1% significant level. It reflects that the association between the host inflation rate and FDI inflows to Vietnam is positive, statistically significant,

albeit at a moderate level. That implies that even when the host inflation rate increases, the FDI inflows to Vietnam still grow. In addition, R22 = 0.405 indicates that only 40.5% variation in FDI inflows can be explained by the host inflation rate as indicated by the following model: LnFDI = 21.109 + 8.034 LnInflation In comparison, the correlations between FDI and labor cost and between FDI and quality of human capital are r3 = 0.844 and r4 = 0.585, respectively. The sig-value of r3 and r4 are 0.000 and 0.014, in turn, which are all greater than 0.05; hence, H0 is rejected in both cases at the 5% significant level. Therefore, there is adequate evidence

21

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Figure 5.­

Figure 6.­

22

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Table 1. FDI and traditional factors linear relation results

LnFDI

1995-2011

LnGDP_ percapita

LnInflation

LnMonthly _income

LnHuman_ capital

Pearson Correlation (r)

.899**

.636**

.844**

.585*

R2

0.808

0.405

0.712

0.342

Sig. value (2-tailed)

.000

.006

.000

.014

**. Correlation is significant at the 0.01 level (2-tailed). *. Correlation is significant at the 0.05 level (2-tailed).

to conclude that while there is a strong, positive association between FDI inflows and labor cost implying that the higher the labor cost, the greater FDI inflows to Vietnam, the association between FDI and quality of human capital is positive, but at a more moderate level. However, the results are both statistically significant. These results indicate that although labor costs increase, the FDI inflows to Vietnam still increase during the period. In addition, r32 = 0.712 indicates that 71.2% the variation in FDI inflows can be explained by labor costs as indicated by the model: LnFDI = 17.055 + 1.096 LnMonthly_income r42 = 0.342 showing that there is only 34.2% quality of human capital variable can explain FDI inflows with the estimated model: LnFDI = 10.852 + 0.908 LnHuman_capital 2. Testing the Relationship between FDI Inflows and Institutional Factors: This part will show and discuss the results from testing relationship between FDI and each of the eight institutional factors (political risk, business freedom level, monetary freedom level, trade freedom level, impact of the WTO accession in 2006, and the global economic crisis 2008) in FDI inflows to Vietnam. The outputs of correlation analysis and correlation coefficient (r2) of the associa-

tion between FDI inflows and institutional factors are shown in Table 2. The results have also indicated that two factors of economic systems which are business freedom and trade freedom level and the effectiveness of the host country property rights under the legal systems are statistically significant and correctly signed. These findings support hypotheses H6, H8, and H11. In contrast, political risk, monetary freedom level, impact of Vietnamese WTO accession in 2006 and the global financial crisis in 2008, and freedom from corruption level are all insignificant. Hence, hypotheses H5, H7, H9, H10, and H12 are not supported. This might suggest these five factors may not be important locational determinants in this case. Among three significant institutional factors, Business freedom level shows the strongest association with FDI inflows (R=0.905), followed by Trade freedom level (R=0.781) and Property rights (R=0.538). In particular, according to Table 2 the correlation between FDI inflows and political risk, monetary freedom level, Time Dummy 2006, Time Dummy 2008, and freedom from corruption level are r5 = 0.466 (sig-value = 0.059), r7 = -0.267 (sig-value = 0.301), r9 = -0.036 (sig-value = 0.892), r10 = 0.444 (sig-value = 0.074), and r12 = 0.253 (sig-value = 0.328). It is clear to see that all the sig-value of these correlations are greater than 0.05, indicating that H0 in these cases are all accepted. That means there is sufficient evidence to conclude there is no significant association

23

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Table 2. FDI and institutional factors linear relation results Political Systems

1995-2011 LnFDI

Legal Systems

LnPolitical _risk

Property_rights

Freedom_ corruption

Pearson Correlation (r)

.466

.538*

.253

R

0.217

0.289

0.064

Sig. value (2-tailed)

.059

.026

.328

2

Economic systems 1995-2011 LnFDI

LnBusiness _freedom

LnMonetary _freedom

LnTrade_ freedom

TD2006

TD2008

Pearson Correlation (r)

.905**

-.267

.781**

-.036

.444

R2

0.819

0.071

0.610

0.0013

0.197

Sig. value (2-tailed)

.000

.301

.000

.892

.074

existing between FDI inflows to Vietnam and its political risks or monetary freedom level, the accession of Vietnam to WTO in 2006, the impact of the 2008 global economic crisis, or its freedom from corruption level. On the other hand, the correlation between FDI inflows and Business freedom level and between FDI inflows and Trade freedom level are r6 = 0.905 (very close to 1) and r8 = 0.781, respectively. Additionally, sig-value in both cases = 0.000 < 0.01, thus in both cases H0 is rejected at the 1% significance level implying that ρ is statistically significant different to zero. That means there is sufficient evidence to conclude there is a very strong, positive and statistically significant association between FDI inflows and Business freedom level, and between FDI inflows and Trade freedom level. The association here is that the greater the Business freedom level, the greater the FDI inflows to Vietnam, and the greater the Trade freedom level, the greater the FDI inflows into Vietnam. Furthermore, r62 = 0.819 implying that the 81.9% variation in FDI inflows can be explained by variation in Business freedom level estimated by the following model:

24

LnFDI = 9.117 + 3.281 LnBusiness_freedom r82 = 0.61 indicating that there is 61% variation in FDI inflows can be explained by variation in Trade business freedom level, estimated by the model: LnFDI = 5.335 + 4.112 LnTrade_freedom Table 2 also clarifies correlation between FDI inflows and the effectiveness of the host country property rights is r11 = 0.538; however, r112 = 0.289 implying that there is only 28.9% variation in FDI inflows can be explained by variation in the property rights variable based on the following model: LnFDI = 14.712 + 2.974 LnProperty_rights Additionally, sig-value = 0.026 < 0.05; thus, H0 is rejected at the 5% significance level implying that ρ is statistically significant different to zero. Therefore, it is sufficient to conclude that there is a positive, statistically significant, but at a moderate level of association between FDI inflows and the effectiveness of the host country property

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

rights. The association here is that the greater the effectiveness of the host country property rights, the greater the FDI inflows into Vietnam.

Multiple Regression Model After accomplishing step 2 in the data analysis framework of testing hypotheses to determine the locational determinants of FDI inflows to Vietnam and to recognize the most significant factors so as to achieve the objective 2 of this research, the authors take a further step to predict the value of FDI inflows from multi locational factors with the establishment of a multiple regression model. An estimated natural logarithm model in this study as shown earlier in the framework for data analysis section takes the form of Equation (3): LnFDI = α + β1 LnGDP_percapita + β2 LnInflation + β3 LnMonthly_income + β4 LnHuman_capital + β5 LnPolitical_risk + β6 LnBusiness_freedom + β7 LnMonetary_freedom + β8 LnTrade_freedom + β9 LnTD2007 + β10 LnTD2009 + β11 LnProperty_rights + β12 LnFreedom_corruption +ε Assuming that ε = 0 From the results in the hypotheses testing section, it is concluded that seven factors including GDP per capita, the host inflation rate, labor cost, human capital, business freedom level, trade freedom level, and the effectiveness of property rights all have a strong association with FDI inflows to Vietnam at a significant level of 5% or 1%. Therefore, only these variables are processed in the multiple regression model. The regression result is shown in the Table 3. Thus, Table 3 shows that sig-value of the seven factors are all greater than 0.05, indicating that the combination of these factors with the attempt of predicting FDI inflows cannot fit within a model. Norris et al. (2012) indicate the Multicollinearity problem can contribute to the insignificance of variables as a higher value of Multicollinearity would result in higher standard

errors and, therefore, leads to inappropriateness of the multiple regression model determined. Indeed, VIF and tolerance in the table indicate that variables considered have a potential collinearity apart from the inflation factor. It is reasonable as the variables collected are macroeconomic factors which reflect the host country’s economy, political, and legal systems and generally accompany each other. Therefore, predicting the value of FDI inflows can be based upon the simple regression model, especially the models between FDI and business freedom, GDP per capita or monthly income as they have very high r2.

DISCUSSION AND EVALUATION OF FINDINGS Among the seven significant locational factors that have been identified in the previous section to explain the FDI inflows to Vietnam, Business freedom level appears to have the strongest association with FDI inflows to Vietnam with r=0.905, closely followed by market size factor (r=0.899), and labor cost factor (r=0.844). Trade freedom level is in the fourth position with r=0.781, followed by the quality of human capital (r=0.585), and the effectiveness of property rights (r=0.538).

The Relationship between FDI Inflows and Traditional Factors In terms of market size factor, the result shows it is evident this factor is a significant determinant of FDI inflows to Vietnam, thus indicating a very strong association between these two variables. This is a conventional result which states that a considerable part of the FDI inflows to Vietnam is of a market seeking type. This result is supported by the extant literature and is consistent with previous empirical studies as discussed earlier showing the host market characteristics (e.g., market size) are significant determinants of FDI flows in many developing economies (UNCTAD, 1998). The

25

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Table 3. A summary of the natural logarithm model’s result Model

β

Sig-value

LnGDP_percapita

3.403

LnInflation

VIF

0.244

0.027

36.918

0.387

0.795

0.509

1.965

LnMonthly_income

0.407

0.711

0.010

100.664

LnHuman_capital

-1.046

0.109

0.046

21.584

LnTrade_freedom

1.923

0.266

0.070

14.253

LnBusiness_freedom

0.522

0.604

0.093

10.782

LnProperty_rights

0.808

0.324

0.339

2.946

enlargement in size of the market results in the increase of opportunities for investors regarding the resources’ efficient utilization and exploitation of economies of scale and scope via FDI (Moosa, 2002). Specifically, the growing economy presents a potential opportunity for specialization of the factors of production and could lead to the achievement of cost minimization as one of the most wanted factors of foreign investors engaging in cross-border activities (Willmore, 1976). The existence of a rapidly growing economy may also facilitate static and dynamic economies of scale that highly correlate with a growth in demand (Patibandla, 2001). Therefore, the results in this study support the theory that a potential and promising market like Vietnam with a considerable consumer demand and the fast pace of economic growth and development with cheap labor cost as well as labor-surplus would present more opportunities for creating profits than those economies with slower growth rates (Deng, 2004). Thus, it can be concluded the market size is a significant factor for the Vietnamese FDI inflows and should be promoted to attract more long-term investment capital from foreign MNEs in the future. Although the hypothesis H3 is not supported, the findings indicate that the higher labor cost stimulate greater FDI inflows to Vietnam confirming the findings in the research by Yang, Groenwold, and Tcha (2000). Moreover, the extant literature suggests higher labor costs might be indicative of

26

Collinearity Statistics Tolerance

higher or growing quality of labor force (Moosa, 2002); thus, the negative relationship between low wages and FDI in this case does not hold. The human capital in Vietnam, which is measured by the number of graduates from public universities and colleges, shows an obvious upward trend in the researched period with an impressive increase of 276,000 graduates from 58,500 candidates in 1995 to 334,500 candidates in 2011 (GSO, 2013). The increasing value of this variable is also found to be positively associated with the increasing value of FDI inflows to Vietnam despite being at a moderate level. This implies the increasing quality of human capital in Vietnam might be indicative of the higher labor cost, and that despite of the increase in labor costs, MNEs still decided to make their foreign investment decisions in Vietnam. In support of this fact, Dossani and Kenny (2003) found a very interesting result in India that explains this circumstance by showing that while foreign investors were initially attracted to the country’s low cost factor, the increasing quality of the workforce facilitated retention and expansion of the scales. Hence, along with maintaining a competitive labor cost, improving the quality of human capital is necessary for Vietnam to attract more foreign investments in the future and to boost economic development. Furthermore, as mentioned previously in this chapter, Vietnam possesses a locational advantage of having cheap labor costs compared to

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

other countries in the region. Hence, the minimal increase in labor costs in Vietnam should not affect the investment decisions by MNEs since the country has still considerable cost advantage in comparison with other destinations. Compared to other emerging countries in Asia such as China, Indonesia, Laos, Malaysia, Mongolia, Nepal, Philippines, Thailand, and Sri Lanka, Vietnam has a competitively cheaper labor cost of only US$1,000 per year on the criteria of average annual minimum wage. This number is approximately 80% cheaper than that of Malaysia, over 33% cheaper than the average minimum annual salary in China, and more than 5% cheaper than the annual average salary in Laos. Thus, this comparatively cheap labor cost in Vietnam may shape the investment decisions of MNEs to the country regardless the increase in the cost. The coefficient of inflation is statistically significant and positive which is contrary to the expectation of H2. Such a relationship may suggest that the moderate demand inflation in Vietnam makes it more attractive to foreign investors. It would be reasonable for this association to exist between the variables if assuming that moderate demand inflation accompanies economic growth (Buckley et al., 2007). It might also support the view that the foreign investment decisions of MNEs in Vietnam are unusually tolerant of the lower stability in the country regarding changing local economic conditions. This is contrary to the normal behavior of firms from profit maximizing industrialized countries, and again suggests that MNEs may be strongly attracted by other host country’s location-specific advantage factors.

The Relationship between FDI Inflows and Institutional Factors Results from the level of business freedom indicate this factor is a significant determinant of FDI inflows into Vietnam, thus demonstrating a very strong positive association between the variables. This is an interesting result as it is a new factor

regarding formal institutional precepts and so contributes to the existing literature discussed earlier. Thus, a country with growing business freedom level indicates the increase of efficiency of government regulations for business operation and as result contributes to the increase of FDI inflows. In fact, Vietnam is changing itself towards a market-oriented economy with a bureaucratic, but entrepreneurial business environment (von Glinow & Clarke, 1995); hence, it is improving its political, economic, and legal systems. The alterations in laws and regulations are now set to be equally essential to investors, embracing the creation of procedures for granting investment licenses and regulations regarding land lease, recruitment, salaries and taxation (van Arkadie & Mallon, 2003), and also to provide more support to private enterprises since 1999 (Tenev et al., 2003). Hence, although the political, economic and legal systems are not yet fully modernized, the country clearly shows a great effort in reforms which increases its attractiveness for MNEs as a potential investment destination. Vietnam is developing towards a strong market economy which is favored by many developed economies to liberalize FDI regulations (Peng & Myer, 2011; UNCTAD, 1997). Thus, not only is the business freedom level a significant locational determinant, the increase of the trade freedom level and the effectiveness of property rights in Vietnam are found to help to attract more FDI inflows to the host country as supported by the findings. This again contributes to the extant literature that a country with the growing trade freedom level is attributed to the increase of FDI inflows. Additionally, it also proves the existing literature in terms of the host country property rights that the greater the effectiveness of the host country’s property rights, the higher FDI inflows to the country (Van Arkadie & Mallon, 2003). The increase in the effectiveness of property rights in Vietnam, in fact, is clearly shown in recent efforts by completing its related laws and participating in bilateral agreements on the protection of IPRs as

27

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

discussed in the previous sections (Asian Coast Development, 2013). Furthermore, our findings indicate that political risk, monetary freedom level, and freedom from corruption tend to be insignificant factors for foreign investors. This implies that these explanatory variables do not affect the ultimate decisions of MNEs to invest in Vietnam and that the variables cannot be used to explain FDI inflows in Vietnam. This runs counter to the normal findings regarding political risks and to the expected result regarding monetary freedom level as well as freedom from corruption level (Dunning & Lundan, 2008). This can be explained by continuing efforts and rigorous government dedication to improving the underdeveloped political, economic, and legal aspects in Vietnamese governance to make the country more institutionally favorable location for MNEs. Additionally, the majority of foreign investors in Vietnam originate from Asian neighboring countries, accounting for nearly 80% of the total number of projects (GSO, 2013). Thus, businesses from these countries as a group record higher levels of political risk and the MNEs from these countries may not consider the Vietnamese political risky environment as a main discouraging factor for their investment decisions (Buckley et al., 2007). Finally, our findings also indicate that the Vietnamese WTO accession in 2006 and the global crisis in 2008 have no significant association with the variation of FDI inflows. This suggests that both events did not mark a significant change towards the volumes of FDI inflows. Indeed, IMF (2013) explains that, on average, MNEs in Asia are less exposed to a sustained growth slowdown risk as a consequence of the global financial crisis than MNEs in other regions. Hence, Vietnam may not strongly suffered from the crisis in comparison with developed countries in the West. Although Vietnam now is an official member of the WTO, its laws and regulations still require further modifications and harmonization with the more developed economies. Thus, perhaps the WTO accession

28

in 2006 has not yet shown a big change in the volumes of FDI inflows to the country.

CONCLUSION The growth of MNE activities in the form of FDIs has seen an impressive increase at a faster rate than most of other international transactions due to its compelling economic advantages. This leads to continuous substantial attention by international business literature to empirically examine the essential factors that drive FDI decisions of MNEs. However, given the fact that the determinants of location choice have been predominantly viewed through traditional theoretical lenses, the dominant factors in some emerging markets have not been sufficiently studied in the recent years by IB scholars. Additionally, locational factors which incorporate institutional context of the host country have been analysed in only a few studies. Therefore, this study provides a critical discussion about relevant fundamental theories, especially the OLI triad framework and extant institutional economic literature. These theories are an important foundation for this research that provides an explicit analysis of the specific locational factors and how they make an impact on FDI inflows to the host country. The literature indicated a wide range of locational factors that can influence MNE investment decisions and also showed discrepancies among previous researches about the key factors capable of explaining a country’s tendency to attract FDIs. The study on Vietnam takes an essential step in providing a greater insight into the debate on how locational factors influence MNEs’ investment decision in developing countries with the observed data during the period 1995 to 2011. Vietnam has now embarked on the globalization path with a very important stage of industrialization accompanied by economic development. The target of turning the country into an industrialized economy by 2020 could only be achieved

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

if the economic growth is kept at a high rate and industrialization proceeds at a rapid pace. The need for long-term investments and the improvement of human capital quality are two essential pillars for this ambitious government plan. The result of this research suggests that economic institutional factors such as business freedom and trade freedom level together with the effectiveness of property rights have a very strong and positive association with FDI inflows. Moreover, although political risks, monetary freedom level, and freedom from corruption appear to be insignificant in our study, all of these formal institutional factors are crucial elements for the long-term economic development of the country (Chakrabarti, 2001; Buckley et al., 2007). The above analysis also highlights that the malfunctioning of political, economic, and legal systems might attribute to this insignificance result. Moreover, the findings also suggest that the market size is a significant factor for Vietnam FDI inflows and it should be promoted to attract more of the investment capital from foreign partners in the future. The improvement of the political and economic stability and the amelioration of legal framework are very essential for the promotion of FDI inflows to Vietnam in the coming years. At least the following actions must be implemented. First, foreign investors should be treated equally to domestic companies in certain areas where Vietnamese companies unnecessary remain a privileged position. Second, the restrictions on the maximum foreign ownership stake should be discarded so as to permit more sectors to be open to FDI inflows. The World Bank (2013) also suggests that Vietnam establish a National Committee for Trade Facilitation (NCTF) to build and implement a sound national action plan in accordance with the country’s institutional capacity to enhance trade competitiveness of the country. This might involve the simplification of regulatory procedures to reduce time and cost, as well as improve the reliability of cross-border trade. Although Vietnam’s

Intellectual Property legislation saw improvements as a result of recent reforms and bilateral agreements and is regarded as comprehensive and in compliance with the international standards, the enforcement agencies have found it difficult to keep up with rapid changes in the law and administrative procedures (Intellectual Property Office, 2013). Moreover, while administrative action is the usual route for dealing with infringements which offers low-cost and quick results, this deterrent impact is only limited due to the low level of penalties and the lack of compensation (Intellectual Property Office, 2013). Therefore, further improvement in legislation and administrative enforcement is necessary. Action can be taken to cut off intermediate parties, assign an exclusive authority being responsible for this process, and revise laws regarding penalties and rewards for IPRs. Generally, regulations also need to be more transparent to investors. In this area, a broad dissemination of information about the investment environment together with investment promotion workshops can be used to reach potential investors and facilitate the best practices. Regarding recommendations for foreign investors in Vietnam, it is necessary to act accordingly and perform effectively with rapid changes in the economic, political, and legal systems in the country. Foreign investors should also establish a representative association in Vietnam where they can connect directly with the Vietnamese government to update and have their own voice in the changes. Given the fact that the one-party system might be the main challenge for many foreign investors, this establishment could bring a great advantage to the investors in negotiating relevant alterations in the country, and also to provide them with a thorough understandings in terms of the dynamic investing environment to ensure business success. Our findings also indicate that along with maintaining a competitive labor cost, improving the quality of human capital is necessary for Vietnam to attract more FDI in the future and to

29

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

accelerate the pace of economic development. Thus, government policies should be focused not only on nurturing an educated and skilled workforce, but also on maintaining the comparative advantage of labor cost with other countries in the region such as China, Philippines, Thailand, or Indonesia. This implication is strongly supported by this empirical study. First, the study seems to suggest that the country’s advantage has gradually moved from a low-unskilled labor force to more skilled human resources. Second, the literature supports that for long-term development prospects, extensive reliance on cheap labor costs without the consideration of human quality might be very risky and unsustainable (Barrel & Pain, 1996). This is proved in the study of Dossani and Kenny (2003) in India indicating that low cost factor can only initially attract investors, but the increasing quality of the workforce then becomes a crucial factor to retain and expand their economies of scale. Therefore, a low labor cost might be an advantage for Vietnamese economy now but not in the future. Accordingly, Cimoli, Dosi, and Stiglitz (2009) suggest that in developing countries, policies should be geared towards the improvement of not only the general level of education and training, but also to technological and engineering capabilities so as to accomplish the industrialization target as is evident in the case of India. In the case of Vietnam, this can be achieved by establishing technological and engineering colleges that provide practical knowledge and applications, not just on a theoretical basis. A range of state scholarships from the government for advanced studies or excellent students in these fields are also recommended to encourage more professionals (Cimoli & Di Maio, 2004). Besides, although over the past 20 years the improvement in literacy and numeracy skills has contributed to the country’s rapid economic growth and poverty reduction by helping workers move from low productivity agriculture to higher productivity non-farm jobs, Vietnam must increase its work-

30

force skillsets to become a modernized economy (Worldbank, 2014). In fact, with the fast pace of economic development and an increasing trend of inward FDI, many foreign companies in Vietnam require employees to have a firm skillset to include cognitive, social, behavioral, and technical aspects (Worldbank, 2014). However, such skills are seen as a big gap and shortage among the current workforce in Vietnam. Therefore, investment in education in which children can obtain a better school readiness from an early age, a cognitive and behavioral foundation in general education, and more practical vocational classes, might be a good opportunity for many foreign investors seeking new investments in Vietnam. This could make a big positive change in the quality of Vietnamese workforce, and would enable the workers to perform more practically and more competitively, and therefore be more conducive to attracting more FDI.

Research Limitations and Further Recommendations The main limitation in this research is the variables selected for exploration locational factors to attract FDI inflows to Vietnam. In fact, locational attractive determinants could be represented by many other factors which are not covered in this study such as the exchange rate, export, import, tax, trade deficit, or research & development (R&D). However, those factors have been widely and repeatedly researched by scholars; hence, undertaking research on these variables would provide less contribution to the existing literature. For this reason, only the most represented factors were chosen in this study. In addition, as Vietnam is a transition economy whose reforms initially concern primarily formal institutions at the central level, only formal institutions have been explored in this study. Due to the time restriction and limited resource availability, informal institution factors at the sub-national level are not included in this study.

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

It would be useful to investigate how foreign investors are affected by informal institutions existing in the form of norms, values, cultures or ethics in the host country. Subsequently, a link of formal and informal institutions can also merit further examination by observing the patterns of FDI in Vietnam. Future researchers may also consider the possibility of a combination of qualitative and quantitative study with the use of both primary data by adopting interviews or questionnaires to explore concerns and barriers experienced by foreign investors in Vietnam.

REFERENCES Acton, C., Miller, R., Fullerton, D., & Maltby, J. (2009). SPSS for Social Scientists (2nd ed.). London: Palgrave Macmillan. Allens. (2012). Legal Guide to Investment in Vietnam. Retrieved on September 8, 2013, from: http://www.vietnamlaws.com/pdf/LegalGuidetoInvestmentinVietNam.pdf Asia Times. (2004). Vietnam’s GDP growth rate reaches 7.7%. Retrieved on August 7, 2013, from: http://www.atimes.com/atimes/Southeast_Asia/ GA06Ae03.html Asian Coast Development, Ltd. (2013). Vietnam’s Economic Growth. Retrieved on August 7, 2013, from: http://www.asiancoastdevelopment.com/ vietnam-economic-growth.php Barnato, K. (2013, January 17). China Labor Cost Rise to Boost Rivals in Asia. CNBC Asia-Pacific News. Retrieved on August 8, 2013, from: http:// www.cnbc.com/id/100387910 Blomström, M., & Kokko, A. (2002). Multinational corporations and spillovers. Journal of Economic Surveys, 12(3), 247–277. doi:10.1111/14676419.00056

Bryman, A., & Bell, E. (2011). Business Research methods (3rd ed.). Oxford, UK: Oxford University Press. Buckley, P. J., Clegg, L. J., Cross, A. R., Liu, X., Voss, H., & Zheng, P. (2007). The determinants of Chinese outward foreign direct investment. Journal of International Business Studies, 38(4), 499–518. doi:10.1057/palgrave.jibs.8400277 Caves, R. E. (1996). Multinational firms and economic analysis (2nd ed.). Cambridge, UK: Cambridge University Press. Chakrabarti, A. (2001). The determinants of foreign direct investment: Sensitivity analyses of cross-country regressions. Kyklos, 54(1), 89–114. doi:10.1111/1467-6435.00142 Cimoli, M., & Di Maio, M. (2004). Has the Chilean Neo-Liberal Experiment Run Out of Fuel? A View on Specialisation, Technological Gaps and Catching-Up. Università degli Studi di Siena Dipartimento di Economia Politica. Retrieved September 5, 2013, from: http://papers.ssrn.com/ sol3/papers.cfm?abstract_id=1002590 Cimoli, M., Dosi, G., & Stiglitz, E. J. (2009). Industrial Policy And Development The Political Economy Of Capabilities Accumulation. Oxford, UK: Oxford University Press. Deng, P. (2004). Outward investment by Chinese MNCs: Motivations and implications. Business Horizons, 47(3), 8–16. doi:10.1016/S00076813(04)00023-0 Dunning, H. J. (2009). Location and the multinational enterprise:A neglected factor? Journal of International Business Studies, 40(1), 5–19. doi:10.1057/jibs.2008.74 Dunning, H. J., & Lundan, M. S. (2008). Multinational Enterprises and the Global Economy (2nd ed.). Cheltenham, UK: Edward Elgar Publishing Limited.

31

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Dunning, J. H. (1988). The Eclectic Paradigm of International Production: A Restatement and Some Possible Extensions. Journal of International Business Studies, 19(1), 1–31. doi:10.1057/ palgrave.jibs.8490372 Dunning, J. H. (1993). Multinational enterprises and the global economy. Reading: Addison Wesley. Dunning, J. H. (2000). The eclectic paradigm as an envelope for economic and business theories of MNE activity. International Business Review, 9(2), 163–190. doi:10.1016/S0969-5931(99)00035-9 Dunning, J. H. (2001). The Eclectic (OLI) Paradigm of International Production: Past, present and future. International Journal of the Economics of Business, 8(2), 173–190. doi:10.1080/13571510110051441 Egger, P., & Winner, H. (2005). Evidence on corruption as an incentive for foreign direct investment. European Journal of Political Economy, 21(1), 932–952. doi:10.1016/j.ejpoleco.2005.01.002 Euronews. (2014). European investors eye Vietnam as economy slowly opens up. Retrieved May 25, 2014, from: http://www.euronews. com/2014/01/15/europe-investors-eye-vietnamas-economy-is-slowly-opened-up/ Fetscherin, M., Voss, H., & Gugler, P. (2010). 30 Years of foreign direct investment to China: An interdisciplinary literature review. International Business Review, 19(3), 235–246. doi:10.1016/j. ibusrev.2009.12.002 General Statistic Office of Vietnam. (2013). Investment. Retrieved July 18, 2013, from: http://www. gso.gov.vn/default_en.aspx?tabid=471&idmid=3 Globerman, S., & Shapiro, D. (2003). Governance Infrastructure and U.S. Foreign Direct Investment. Journal of International Business Studies, 34(1), 19–39. doi:10.1057/palgrave.jibs.8400001

32

Graham, E. M., & Krugman, P. R. (1991). Foreign Direct Investment in the United States. Washington, DC: Institute for International Economics. Hair, J. F., Black, B., Babin, B., Anderson, R. E., & Tatham, R. L. (2006). Multivariate Data Analysis (6th ed.). Harlow, UK: Pearson Education. Heritage Foundation. (2013). 2013 index of economic freedom. Retrieved on September 27, 2013, from: http://www.heritage.org/index/visualize Hussain, F., & Kimuli, C. K. (2012). Determinants of foreign direct investment flows to developing countries. State Bank of Pakistan Research Bulletin, 8(1), 13–31. Hymer, S. H. (1976). The International Operations of National Firms: A Study of Direct Investment. Cambridge, MA: MIT Press. IMF. (2013). Vietnam. Retrieved on July 18, 2013, from: http://www.imf.org/external/pubs/ ft/weo/2013/01/weodata/weorept.aspx?sy=20 02&ey=2013&scsm=1&ssd=1&sort=countr y&ds=.&br=1&c=582&s=NGDP_R%2CNG DP_RPCH%2CNGDP%2CNGDPD%2CNGDP RPC%2CNGDPPC%2CNGDPDPC%2CPPPG DP%2CPPPPC%2CPCPI%2CPCPIPCH%2CP CPIE%2CPCPIEPCH%2CTM_RPCH%2CTX_ RPCH%2CLUR%2CLP&grp=0&a=&pr1. x=70&pr1.y=5 Intellectual Property Office. (2013). Intellectual Property Rights in Vietnam. Retrieved on July 18, 2013, from: http://www.ipo.gov.uk/ipvietnam.pdf John, S., & Bruce, R. (2006). Revolution, reform and regionalism in Southeast Asia: Cambodia, Laos and Vietnam. New York: Routledge. Kemp, M. C. (1964). The Pure Theory of International Trade. Englewood Cliffs, NJ: Prentice Hall. Kessel, A. R., & Alchian, A. A. (1962). Effects of Inflation. Journal of Political Economy, 70(6), 521–537. doi:10.1086/258714

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Khan, M. S., & Senhadji, A. S. (2001). Threshold effects in the relationship between inflation and growth. IMF Staff Papers, 48(1). Retrieved from http://www.ieo-imf.org/External/Pubs/FT/ staffp/2001/01a/pdf/khan.pdf Kindleberger, C. P. (1969). American Business Abroad: Six Lectures on Foreign Direct Investment. New Haven, CT: Yale University Press. Kogut, B., & Zander, U. (1993). Knowledge of the firm and the evolutionary theory of the multinational corporation. Journal of International Business Studies, 24(4), 625–646. doi:10.1057/ palgrave.jibs.8490248 Kok, R., & Ersoy, A. B. (2009). Analyses of FDI determinants in developing countries. International Journal of Social Economics, 36(1), 105–123. doi:10.1108/03068290910921226 Lou. (2001). Toward a cooperative view of MNChost government relations: Building blocks and performance implications. Journal of International Business Studies, 26(2), 281-299. Love, J. H., & Lage-Hidalgo, F. (2000). Analysing the Determinants of US Direct Investment in Mexico. Applied Economics, 32(10), 1259–1267. doi:10.1080/000368400404416 Luo, Y. (2001b). Determinants of entry in an emerging economy: A multilevel approach. Journal of Management Studies, 38(3), 443–472. doi:10.1111/1467-6486.00244 Luo, Y., & Tung, R. L. (2007). International expansion of emerging market enterprises: A springboard perspective. Journal of International Business Studies, 38(4), 1–18. doi:10.1057/palgrave.jibs.8400275 MacDougall, G. D. A. (1960). The benefits and costs of private investment from abroad: A theoretical approach. The Economic Record, 36(3), 13–35. doi:10.1111/j.1475-4932.1960.tb00491.x

Makino, S., Lau, C.-M., & Yeh, R.-S. (2002). Asset-exploitation versus asset-seeking: Implications for location choice of foreign direct investment from newly industrialized economies. Journal of International Business Studies, 33(3), 403–421. doi:10.1057/palgrave.jibs.8491024 McBurney, D. H. (2003). Research methods (6th ed.). London: Wadsworth. Menard, S. (1995). Applied logistic regression analysis. Thousand Oaks, CA: SAGE. Meyer, E. K., & Nguyen, V. H. (2005). Foreign investment strategies and sub-national institutions in emerging markets: Evidence from Vietnam. Journal of Management Studies, 42(1), 63–93. doi:10.1111/j.1467-6486.2005.00489.x Meyer, K. E. (2004). Perspectives on multinational enterprises in emerging economies. Journal of Management Studies, 34(4), 259–277. Meyer, K. E., Estrin, S., Bhaumik, S. K., & Peng, M. W. (2008). Institutions, Resources, and Entry Strategies in Emerging Economies. Strategic Management Journal, 30(1), 61–80. doi:10.1002/ smj.720 Meyer, K. E., & Sinani, E. (2009). When and where does foreign direct investment generate positive spillovers: A meta-analysis. Journal of Management Studies, 40(7), 1075–1094. Mody, A. (2007). Foreign Direct Investment and the World Economy. New York: Routledge. Mody, A., Dasgupta, S., & Sinha, S. (1998). Japanese Multinationals in Asia: Drivers and Attractors. Oxford Development Studies, 27(2), 149–164. doi:10.1080/13600819908424171 Moosa, A. I. (2002). Foreign direct investment Theory, evidence and practice. New York: Palgrave Macmillan. doi:10.1057/9781403907493

33

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Morsink, L. A. R. (1998). Foreign Direct Investment and Corporate Networking: A Framework for Spatial Analysis of Investment Conditions. Cheltenham, UK: Edward Elgar Publishing. Moussa, A. S. M. (2005). An Eclectic Approach to the Determinants of Foreign Direct Investment Flows to the Libyan Oil and Gas Sector. Retrieved on May 25, 2013, from: http://nrl.northumbria. ac.uk/1916/1/mousa.salem_phd.pdf Nachum, L., & Zaheer, S. (2005). The Persistance of Distance? The Impact of Technology on MNE Motivations for Foreign Investment. Strategic Management Journal, 26(8), 747–767. doi:10.1002/smj.472 Nguyen, D. T., Barrett, J. N., & Fletcher, R. (2006). Information internalisation and internationalisation—Evidence from Vietnamese firms. International Business Review, 15(6), 682–701. doi:10.1016/j.ibusrev.2006.09.001 Norris, G., Qureshi, F., Howitt, D., & Cramer, D. (2012). Introduction to Statistics with SPSS for Social Science. Harlow, UK: Pearson Education Limited. North, D. C. (1991). Institutions. The Journal of Economic Perspectives, 5(1), 97–112. doi:10.1257/jep.5.1.97 Noy, I., & Vu, T. B. (2007). Capital account liberalization and foreign direct investment. The North American Journal of Economics and Finance, 18(2), 175–194. doi:10.1016/j.najef.2007.04.001 OECD. (1996). OECD Benchmark Definition of Foreign Direct Investment (3rd ed.). Retrieved July 23, 2013, from: http://www.oecd.org/daf/inv/ investment-policy/2090148.pdf OECD. (2012). Executive Summary. Retrieved May 25, 2014, from: http://www.oecd.org/berlin/49592433.pdf

34

Patibandla, M. (2001). Pattern of Foreign Direct Investment in Emerging Economies: An Exploration. Department of International Economics and Management, Copenhagen Business School. Retrieved July 28, 2013, from: http://openarchive. cbs.dk/bitstream/handle/10398/6553/wp1-2001mp.pdf?sequence=1 Peng, M., & Meyer, K. (2011). International Business. London: Cengage Learning EMEA. Peng, M. W. (2003). Institutional transitions and strategic choices. Academy of Management Review, 28(2), 275–296. Peng, W. M., & Li, Y. (2008). Developing theory from strategic management research in China. Asia Pacific Journal of Management, 25(3), 563–572. doi:10.1007/s10490-007-9083-y Peng, W. M., Wang, Y.-L., & Jiang, Y. (2008). An institution-based view of international business strategy a focus on emerging economies. Journal of International Business Studies, 39(5), 920–936. doi:10.1057/palgrave.jibs.8400377 PetroVietnam. (2014). An attractive FDI in the region. Retrieved May 25, 2014, from: http://222.255.252.36/invest/News/Default.aspx ?Mod=ViewCategory&CateID=489 Pike, R., Neale, B., & Linsley, P. (2012). Corporate Finance and Investment Decisions and Strategies (7th ed.). Harlow, UK: Pearson Education Limited. Porter, E. M. (1994). The Role of Location in Competition. International Journal of the Economics of Business, 1(1), 35–40. doi:10.1080/758540496 Robson, A., Pemberton, J., & McGrane, A. (2012). Business Research Analysis (3rd ed.). Harlow, UK: Pearson Education Limited. Root, F. (1987). Entry strategies for international markets. Boston: Lexington Books.

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

Rowley, C., & Warner, M. (2006). Business and management in South East Asia: Studies in diversity and dynamism. Asia Pacific Business Review, 12(4), 389–401. doi:10.1080/13602380600616057

UNCTADSTAT. (2013). Inward and outward foreign direct investment flows. Retrieved July 18, 2013, from: http://unctadstat.unctad.org/ TableViewer/tableView.aspx?ReportId=88

Saunders, M., Lewis, P., & Thornhill, A. (2012). Research Methods for Business Students (6th ed.). Harlow, UK: Pearson Education Limited.

United Nations Conference on Trade and Development (UNCTAD). (2012). World Investment Report Towards a New Generation of Investment Policy 2012. Retrieved May 30, 2013, from: http:// unctad.org/en/PublicationsLibrary/wir2012_embargoed_en.pdf

Sethi, D., Guisinger, S. E., Phelan, S. E., & Berg, D. M. (2003). Trends in foreign direct investment flows: A theoretical and empirical analysis. Journal of International Business Studies, 34(4), 315–326. doi:10.1057/palgrave.jibs.8400034 Sparrow, J. (1989). Graphic displays in information systems: Some data properties influencing the effectiveness of alternate forms. Behaviour & Information Technology, 8(1), 43–56. doi:10.1080/01449298908914537 Stolper, W. F., & Samuelson, P. A. (1941). Protection and Real Wages. The Review of Economic Studies, 9(1), 58–73. doi:10.2307/2967638 Tenev, S., Calier, A., Chaudry, O., & Nguyen, Q. T. (2003). Informality and the Playing Field in Vietnam’s Business sector. Washington, DC: IFC. Retrieved on July 18, 2013, from: http://www.ifc. org/wps/wcm/connect/9aae680047adb52f9311f 7752622ff02/VN-informality-playing-field-VN. pdf?MOD=AJPERES UNCTAD. (1997). World Investment Report 1997. New York: United Nations. UNCTAD. (1998). World Investment Report 1998: Trends and Determinants. New York: United Nations. UNCTAD. (2012). Foreign Direct Investment (FDI). Retrieved July 25, 2013, from: http:// unctad.org/en/Pages/DIAE/Foreign-DirectInvestment-(FDI).aspx

USRT. (2013). Statement of the Ministers and Heads of Delegation for the Trans-Pacific Partnership Countries. Retrieved May 2, 2014, from: http://www.ustr.gov/tpp Van Arkadie, B., & Mallon, R. (2003). Vietnam: A Transition Tiger. Australia: Asia Pacific Press. Vernon, R. (1966). International Investment and International Trade in the Product Cycle. The Quarterly Journal of Economics, 80(2), 190–207. doi:10.2307/1880689 Vietnam – US Embassy. (2013). Protecting Intellectual Property Rights - Why It Is Important for Vietnam. Retrieved June 2, 2013, from: http:// vietnam.usembassy.gov/econ6.html Vietnam-US Trade. (2008). Intellectual Property Rights. Retrieved June 2, 2013, from: http://www. vietnam-ustrade.org/index.php?f=news&do=det ail&id=34&lang=english Willmore, L. (1976). Direct foreign investment in Central American manufacturing. World Development, 4(6), 499–517. doi:10.1016/0305750X(76)90035-8 World Bank. (2009). Vietnam Country Brief. Retrieved July 18, 2013, from: http://web.worldbank.org/WBSITE/EXTERNAL/COUNTRIES/ EASTASIAPACIFICEXT/VIETNAMEXTN/0, menuPK:387575~pagePK:141132~piPK:14110 7~theSitePK:387565,00.html

35

 Locational Determinants of Foreign Direct Investment in the Vietnamese Economy

World Bank. (2013). Trade Facilitation, Value Creation, and Competitiveness: Policy Implications for Vietnam’s Economic Growth. Retrieved September 5, 2013, from: http://www.worldbank.org/ en/news/feature/2013/07/04/trade-facilitationvalue-creation-and-competitiveness-policy-Implications-for-Vietnam-8217-s-Economic-Growth World Bank. (2013). Vietnam Overview. Retrieved July 18, 2013, from: http://www.worldbank.org/ en/country/vietnam/overview World Bank. (2014). Vietnam Development Report 2014 - Skilling up Vietnam: Preparing the workforce for a modern market economy. Retrieved May 28, 2014, from: http://www. worldbank.org/en/country/vietnam/publication/ vietnam-development-report2014-skilling-upvietnam-preparing-the-workforce-for-a-modernmarket-economy World DataBank. (2013). Vietnam. Retrieved July 18, 2013, from: http://databank.worldbank.org/ data/views/reports/tableview.aspx?isshared=tru e&ispopular=country&pid=13 Yang, J. Y. Y., Groenewold, N., & Tcha, M. (2000). The Determinants of Foreign Direct Investment in Australia. The Economic Record, 76(232), 45–54. doi:10.1111/j.1475-4932.2000.tb00004.x Zaheer, S., & Manrakhan, S. (2001). Concentration and dispersion in global industries: Remote electronic access and the location of economic activity. Journal of International Business Studies, 32(4), 667–686. doi:10.1057/palgrave.jibs.8490989 Zeng, P. (2009). A comparison of FDI determinants in China and India. Thunderbird International Business Review, 51(3), 263–279. doi:10.1002/tie.20264

36

KEY TERMS AND DEFINITIONS CIVETS: Are six favored emerging economies such as Colombia, Indonesia, Vitnem, Egypt, Turkey and South Africa. Economic Development: Institutional reforms and concerted actions of policy makers and communities that promote higher standard of living and economic growth. Foreign Direct Investment: Is a long-term investment in economy of one country by a company of another country. Institutions: Structures, mechanisms and interactions that constrain and govern human behaviour within societies. OLI Paradigm: A theory that provides a three-tiered framework (Ownership, Location, Internalization) for a company to follow when determining if it is beneficial to pursue direct foreign investment. Transition: A process of changing from centrally planned to a market based economy. Vietnam: one of the developing economies in South-East Asia.

37

Chapter 2

Global Market Trends William Amone Mbarara University of Science and Technology, Uganda

ABSTRACT This chapter provides a discussion of competitiveness, globalization, and trade, including their recent transformations. The global market has witnessed several changes including reductions in trade costs, increased global trade, growth of industrialization in developing countries, and a complete change in the nature of goods traded. The drivers of global market changes include shifts in production and consumption patterns, technological innovations, new ways of conducting business, and policy changes. Many governments have lately opened their economies to international trade, enabling them to reap several benefits. Openness to trade is believed to have supported the growth of many countries and has greatly contributed to the success of most Asian countries, especially China and India. Although the global market offers numerous benefits, many developing countries still face serous limitations to fully access it; they are constrained by factors such as quality inferiority, distance, quantitative restrictions, poor technical skills, bad governance, and border controls.

INTRODUCTION As the global market is changing so rapidly, the key drivers underpinning global market changes include shifts in production and consumption patterns, new technological innovations, new ways of conducting business, and policy changes. Technology is a key driver of these changes; new technology has tremendously improved transport and communications anchoring the fast integration of the world into a single market. Trade and foreign direct investment (FDI), together with a greater geographical spread of income growth and opportunity, will further integrate a growing DOI: 10.4018/978-1-4666-6551-4.ch002

number of countries into more extensive international exchange. According to the World Trade Organization (WTO) (2008), trade and globalization have generally brought enormous benefits to many countries and citizens. Trade has allowed nations to benefit from specialization and economies to produce at a more efficient scale. It has raised productivity and incomes, stimulated economic growth, supported the spread of knowledge and new technologies, and it has enriched the range of choices available to consumers. Global trade and the flows of goods and services are crucial for achieving sustained growth in developing countries. Alongside trade, growing

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Global Market Trends

flows of capital across national borders significantly contribute to economic growth and poverty reduction. The international mobility and division of labor also generates important distributional changes across countries (UNCTAD, 2012). Many governments in developing countries have lately opened their economies to international trade through the multilateral trading system, increased regional cooperation or as part of domestic reform programs. However, the benefits of trade and globalization have not necessarily reached all sections of society. Furthermore, although international trade is an integral part of the process of globalization, trade skepticism continues to rise in certain sections of society (Jacks, Meissner, & Novy, 2011). Despite the current global economic crisis, world trade has increased dramatically over the past decade, rising almost threefold since 2002 to reach about US$18 trillion in 2011. Developed countries continue to constitute the main players in international trade, while developing countries account for an increasing share. As of 2011, nearly half of world trade has originated from developing countries (up from about one-third in 2002). Although well performing as a group, developing countries’ integration into the global economy has been rather varied. East Asia continues to dominate developing countries trade flows, while other regions lag far behind. China has become an increasingly important trading partner for many other developing countries, not only in the East Asian region, but also in Sub-Saharan Africa and Latin America (UNCTAD, 2013). According to the WTO (2008), the dominant share of the United States in world trade in the early 1950s has eroded in subsequent decades. Although the automotive agreement between the United States and Canada in 1965 strengthened intra-North American trade, their combined share in world trade shrank by 10 percent between 1953 and 1973. During the following two decades, the share of regions in world merchandise exports varied largely due to the fluctuations of commodity prices

38

and exchange rates. The oil-exporting developing countries (especially those in the Middle East) increased their share between 1973 and 1983, but lost significantly when oil prices decreased thereafter. In 1993, after the disintegration of the Soviet Union and the demise of the Council of Mutual Economic Assistance (CMEA) industrial countries (i.e., Western Europe, North America, and Japan), the share of world merchandise exports reached a peak. Together with the Asian Newly Industrialized Economies (NIEs), they accounted for more than 80 percent of world trade in 1993 (WTO, 2008). In the 1990s, Japan’s share in world exports began falling due to the competitive pressures exerted by the NIEs and China. The stimulus provided by the creation of the North American Free Trade Agreement (NAFTA) in 1994 was not even sufficient to reverse the downward trend in the share of Canada and the United States in global trade. Similarly, the European integration process which continued to deepen and expand to cover the central European countries and the Baltic States could not halt the relative decline of European exports (WTO, 2008). World trade share drop of the industrial countries can be attributed to the rise of China, the recovery of the Commonwealth of Independent States (CIS), and in more recent years to the boom in commodity prices which boosted the trade shares of Middle East and Central/South America regions which export mostly minerals and other primary products. China initially concentrated on the manufacture and trade of textiles and other labour-intensive goods such as footwear and toys, but swiftly later its export basket diversified to include sophisticated electronics and data processing equipments. More recently, China’s biggest gains in market share have been in iron and steel products. China more than tripled its share in world exports between 1990 and 2007, and apparently China is the world’s most competitive exporter of merchandise (Nataraj & Tandon, 2011).

 Global Market Trends

According to the United Nations Economic Commission for Africa (2013), the share of Africa’s world trade has been steadily declining. Africa mainly exports commodities like coffee, copper, and diamonds, but these products have fallen in value relative to manufactured exports like clothing and computers in which many Asian countries have specialized; therefore, their share of world trade has risen dramatically. Across Africa, most countries produce and export mainly unprocessed crops or minerals, even though such raw materials attract lower prices on world markets. However, some are changing to consciously develop their manufacturing industries. Africa’s trade performance improved slightly in line with global trends in 2010, although its share in world trade remained constant at 3.2 percent. The persistent prevalence of lack of value addition in Africa’s predominantly raw material based export portfolio means the continent’s export fortunes are contingent on commodity price movements, exacerbating the continent’s susceptibility to external shocks (UNECA, 2013). Rich, economically advanced countries pledged to open their markets to the poor, but progress has been painfully slow in world trade talks. Special pledges have been made to assist Africa’s producers and manufacturers as they are offered duty free access to developed markets, but more must be done to improve Africa’s ports, roads, and airports, and to increase manufacturing exports. For instance, the European Union and United States have been providing massive agricultural subsidies by making large payouts to their biggest farmers. This has caused overproduction and export dumping, undermining poor producers overseas (Oxfam, 2005). By dodging their commitments to reduce the subsidies that harm poor farmers overseas, while at the same time forcing poor countries to open their markets to unfairly subsidized produce, the rich countries are likely to frustrate the developing world’s efforts in trade and ultimately these duplicities could undermine global trade.

MAJOR TRENDS IN GLOBAL MARKETS •

•

•

•

Decreases in international trade costs has anchored a mass increase in the volume of trade in the global market and is a key driving force behind today’s global trading system. Besides improvements in transports and communications, the progressive reduction in Tariffs since the establishment of the General Agreement on Tariffs and Trade (GATT) in 1948, and the removal of many Non-tariff barriers (NTBs) that represent a large category of import restrictions have contributed significantly to the falling international trade costs (WTO, 2014). In the last 30 years, world merchandise and commercial services trade have increased by about seven percent per year, reaching a peak in 2011 of US$18 trillion and US$4 trillion, respectively. In 2008, services accounted for about 20 percent of world exports if considered in gross terms, while the value-added measure reveals that the contribution of services is twice as high (WTO, 2013). Between 1980 and 2011, the share of exports of developing economies increased from 34 percent to 47 percent and their share in world imports from 29 percent to 42 percent (see World Trade Report, 2013). Asia is playing an increasing role in world trade. Japan and China are two major growing forces in world trade, supplying the global market with a wide variety of finished products. For a number of decades, world trade has grown on average nearly twice as fast as world production. This reflects the increasing prominence of international supply chains and hence the importance of measuring trade in value-added terms.

39

 Global Market Trends

•

•

•

•

40

According to the World Trade Report (2013), in a dynamic economic and open trade environment, developing countries are likely to outpace developed countries in terms of both export and GDP growth by a factor of two to three in future decades. By contrast, their GDP would grow by less than half this rate in a pessimistic economic and protectionist scenario, and export growth would be lower than in developed countries. With as a number of African countries now attempting to establish credible industrial policies as well as upholding structural transformation for industrialization, Africa is expected to emerge as a central region for global growth in the next few years (UNECA, 2014). According to the International Monetary Fund (2014), global activity and world trade augmented in the second half of 2013. Global economic growth during this period was stronger than anticipated in the October 2013 World Economic Outlook. Final demand in advanced economies expanded broadly as expected: much of the surprise in growth is due to higher inventory demand. In emerging market economies, an export rebound was the main driver behind better activity, while domestic demand generally remained subdued except in China. Considering projections, global growth is projected to be slightly higher in 2014 at approximately 3.7 percent, rising to 3.9 percent in 2015. Economic growth in the United States is expected to be 2.8 percent in 2014, an increase from 1.9 percent in 2013. Overall, growth in emerging market and developing economies is expected to increase to 5.1 percent in 2014 and to 5.4 percent in 2015. Growth in China rebounded strongly in the second half of 2013 largely due to acceleration in invest-

ment. This surge is expected to be temporary, partly because of policy measures aimed at slowing credit growth and raising the cost of capital. Growth in India picked up after a favorable monsoon season and higher export growth and is expected to firm further on stronger structural policies supporting investment. Many other emerging market and developing economies are now benefiting from stronger external demand in advanced economies and China (International Monetary Fund, 2014).

Global Competitiveness According to the Global Competiveness Report 2012-13, competitiveness refers to the set of institutions, policies, and factors that determine the level of productivity of a country. In turn, the level of productivity sets the level of prosperity that can be reached by an economy. Productivity level also determines the rates of return obtained by investments in an economy, which are the fundamental drivers of its growth rates. Therefore, a more competitive economy is one that is likely to grow faster over time. The concept of competitiveness thus involves static and dynamic components. Although the productivity of a country determines its ability to sustain a high level of income, it is also one of the central determinants of its returns on investment, which is one of the key factors explaining an economy’s growth potential (World Economic Forum, 2013). However, Michael Porter (1990) believes national prosperity is created and not inherited. Porter states a nation’s competitiveness depends on the capacity of its industry to innovate and upgrade; therefore, companies gain advantage against global competitors because of pressure and challenges, and that the companies benefit from having strong domestic rivals, aggressive home based suppliers, and constantly demanding local customers. Companies achieve competitive advantage through acts of innovations, and the

 Global Market Trends

only way to sustain a competitive advantage is to constantly upgrade (i.e., move to more sophisticated types). Companies approach innovation in its broadest sense including both new technologies and new ways of doing things. The Japanese auto makers practice this by initially penetrating foreign markets with small, inexpensive cars of adequate quality, but still continue to enhance their features. Private businesses and the government must work together to achieve national competitiveness (Porter, 1990). The Global Competitiveness Reports state that Switzerland with its outstanding competitiveness performs consistently well across the many areas that make a country productive and economically resilient. Compared to the challenges being faced by many advanced economies in Europe and elsewhere, and despite being surrounded by countries struggling with managing the euro’s difficulties, Switzerland has maintained an impressive growth performance and enviably low unemployment of only about 4%. While many qualities drive this exceptional performance, three of the most important drivers can be singled out: the excellence of its institutions, the dynamism of its markets and its strong capacity for innovation (World Economic Forum, 2013). Public institutions in Switzerland are among the most effective and transparent in the world. The country is unique in its governance structure. With seven members of the Federal Council acting more or less as a collective Head of State, the country is governed under a highly decentralized form of federalism which is able to achieve high degrees of engagement among voters. Its political system fosters the well formulating and implementing of long-term economic agendas. Switzerland’s enduring competitiveness is further explained by its highly sophisticated business environment which is supported by well-functioning labour and financial markets that help Swiss companies to offer high-quality products and compete across a very sophisticated product range (World Economic Forum, 2013).

However, Many African countries continue to feature among the least competitive economies in the world. Africa’s problems include barriers to increased trade, worsened by the poor states of infrastructure and legal and regulatory environment, limited innovations, and poor public-private partnerships. Both public and private institutions in most African countries are characterized by widespread corruption, and inefficient government spending that cast doubt on the countries’ ability to spend resources intended for fundamental projects. Furthermore, the countries’ infrastructures are the least developed globally, and the educational and health systems still need a lot of improvements (World Economic Forum, 2014).

BENEFITS OF ACCESSING THE GLOBAL MARKET Accessing the global market widens producers’ market opportunities and promotes further investments and growth. Trade also creates jobs, attracts new investments, attracts new technology and materials, and offers people of a country wider choice in products and services. A number of business persons in developing countries still lack the key skills that are necessary for conducting international businesses. Access to the global market anchors all the above benefits and provides a good learning ground for premium global businesses. As people earn money from trade, they spend, save, or pay taxes with the money. The government uses taxes to provide services which create more jobs. When people save, the capital markets lend money to others, who will spend it on consumer goods, or open/ expand a business, therefore creating new jobs. People’s expenditures and demands create jobs. Trade raises incomes; it provides more choice of products and qualities and stimulates economic growth (World Trade Organization, 2008). The specific benefits of accessing the global market include the following:

41

 Global Market Trends

•

•

•

•

42

Investments and Economic Growth: Increased exports generate foreign exchange which can be used to purchase foreign goods and services such as tractors, computers, milling machine, grinding machines. These goods (machines) may be used in other production processes that finally end up stimulating investments in the country. By competing with foreign firms, increased exportation also exposes domestic firms/business-persons to the latest product and process innovations in their particular sector. Market Access and Poverty Reduction: The global market offers local producers greater market opportunities for their goods and services, and it also increases domestic returns to factors of production, and expands exporters’ market horizons. The universal effect in this regard is that the local producers earn and learn more. The producers including farmers are therefore capable of moving out of poverty faster. Meeting Needs: Trade is always balanced if it is fair. Many businesses can create a surplus inventory of goods and services. For example, Rwandan farms produce more food than Rwandans can eat, and their service providers can provide services to other countries However, Rwandans cannot produce well-manufactured products like computers and televisions, so these products are mainly imported from Japan, China, the USA, or Europe. Both trading partners obtain something they need by trading something they do not require. Therefore, trade leads to specialization and exploitation of comparative advantage. Job Creation: Unlike the barter system of the past, businesses now receive money from selling their products or services to foreign markets. Exports are very important to a country as they create jobs for the people. Some foreign businesses that open

•

•

•

•

their branches in a country also employ many of the local people. Attracting Investment: Investment follows trade. Many foreign companies will invest in an office, factory, or distribution warehouse to simplify their trade and reduce cost. While these investments create employment, they also attract more other international investors. Related businesses will also develop alongside to supply inputs or purchase the outputs. New Technology and Materials: New technology promotes competitiveness and profitability. If a business could create a machine that works better, faster, or cheaper (or all three), the business will have produced a more competitive product for national and international markets. Efficient production means more products, lower production costs and better quality products. Diverse Products and Services: For instance, in most African countries people can use various forms of electronics imported from the USA, Japan, Germany, or China such as computers, phones, televisions, and radios of various qualities. Foreign trade turns the world into a giant market, delivering food, fashions, etc. New services such as banking, travel, and consultation are also available now. Business competition is no longer on a city scale; instead, businesses compete against worldwide businesses. The result is better quality goods, lower prices, and higher functional design. Improvement in infrastructure such as roads, railways, schools, and hospitals. Good roads and railways are required for delivery of goods in the markets. The families engaged in trade will also require hospital and schools services. All these will ultimately lead to the development of societies.

 Global Market Trends

•

• •

Government obtains revenues from various taxes and fees. The government uses the money to provide public goods and services like security, and build required infrastructures such as shopping malls or markets. Trade enables sale/disposal of surplus products of a particular country. Trade builds good relations between the trading partners, thereby reducing conflicts.

•

COSTS OF ACCESSING THE GLOBAL MARKET The global market has made it easy to buy and sell international goods; however, this situation presents both benefits and challenges. Such trade can cause countries to be prosperous for a short time, but leads to economic exploitation, loss of cultural identity, and even physical harm over the long-term. Understanding trade costs is essential for formulating policy interventions designed to reduce such costs (Moïsé & Le Bris, 2013) •

•

Fulfillment of Minority Interest: Great hardship can be caused when people make poor decisions about land use or surplus production for export, and do not take the general population’s welfare into consideration. For instance, in East Africa the Chinese and Indians are acquiring and owning many resources including minerals and land. Therefore, they can influence a number of decisions in the countries; however, many times their interests conflict with those of the local populace since they mainly value their businesses and profits and not public interests. In many circumstances, the wishes of the majority aboriginal peasants are ignored because they do not actually own the land or minerals. Specialization Leads to Over Dependency: When focusing on the pro-

•

•

•

duction of the goods in which a company possesses a comparative advantage and relying on supply of other goods from another country, the firm is at risk in case of a supply shortage or stoppage. Cultural Identity Issues: Culture is a major global export as it displays and promotes values and lifestyles worldwide. With global market access and contemporary globalization, many people have become overwhelmed by US-based ideas, especially youth around the world. People tend to copy/adopt the American ways of life including dressing, hairstyles, and accent: in the process they lose their own culture. Trade leads to diffusion of culture; others get lost while some people adopt new ones. Social Welfare Issues: Maintaining safety standards, minimum wages, worker’s compensation and health benefits are all social welfare issues that cost business money. Through trade, a number of products that can cause health defects get exported /imported. Dangerous goods like explosives, chemicals, and guns are also traded. The challenge here is that such trade causes death and injury to people. Similarly, some exported consumer goods that are of poor quality may undermine health standards of the consumers. Environmental Issues: In many developed countries, businesses are urged by the government and environmental groups through strict laws and regulations to keep air, land, and clean water. This is a costly process, so businesses decide to move their operations to poorer countries where it is less regulated, thus posing great damage to the environment. Political Issues: Precious commodities such as gold, diamond, oil or farmland are increasingly important for over which to retain control; poor management of these

43

 Global Market Trends

•

•

resources often leads to wars. Trade of these items has caused political alliances which do not assist people in the trading nations; instead, only powerful corporations control the commodities or resources. Depletion of Natural Resources: When the international demand for a given natural resource is high, it may be over-exploited and depleted in the attempt to meet world demand. This may even go against the will of the local people. Seizure of Power and Loss of Control: With trade, rich foreign investors will eventually controlling a number of local resources and possess more power and authority in a country than the natives of the land.

THE CHANGING PATTERN OF GLOBAL TRADE The composition (nature of products) of world trade has changed significantly; it is totally different from what it used to be about 50 years ago. What could have happened? Are people’s needs changing? Today communication and technological improvements have considerably shortened distances between countries, and nations are increasingly integrated economically (Jacks, Meissner, & Novy, 2011). The contemporary phenomenon of globalization seems to have gained speed, changing history daily, and is turning the entire globe into a single village. While some countries consider this matter a big problem, and therefore are missing the opportunities the situation offers, others have embraced it as a movement offering development potential to advance their growth and development. While some nations believe contemporary globalism is a dangerous process of exploitation where rich countries and big international corporations become larger and richer at the expense of poor ones, other nations see the situation as the final pin in the process

44

of positive socioeconomic, mutually beneficial, global integration. The entire process of globalization has actually changed the face of consumption and global trade; people fictitiously believe modem transportation and communications have abolished distance and that the world has become a small place. There is clearly some truth to these statements: the Internet makes instant and almost free communication possible between people thousands of miles distant while jet transport allows quick physical access to all parts of the globe. Generally, global market access has become easier and faster, and even the nature of items traded has significantly changed.

WHAT PRODUCTS DO COUNTRIES TRADE IN THE GLOBAL MARKET? When countries trade globally, they deal in products ranging from agricultural outputs such as coffee, maize, wheat, soya beans, and plantains to mineral products such as silver, copper, coal, or oil. They also trade manufactured products such as vehicles, computers, and finished garments. Finally, trade in various services has also developed. The industrial economies played a central role in world merchandise exports until the 1990s due to their very large share in exports of manufactured goods, the product category most in demand. The long-term shifts in the composition of world merchandise trade show a strong rise in the share of manufactured goods and a marked decline in agricultural products and non-fuels minerals. The share of agricultural products (including processed food) has declined from more than 40 percent in 1950 to less than 10 percent since 1999. The share of fuels in world merchandise exports has fluctuated sharply due to a marked variation in prices, with highest shares recorded in 1974, 1981, and 2007 (a total of 20 percent of world trade on each occasion) (WTO, 2008). Manufactured goods, iron, steel, and textiles have witnessed massive decline in their relative

 Global Market Trends

importance over the years. The share of clothing, however, increased in the first two decades after World War II and exceeded that of textiles after 1980. Road motor vehicles also increased their share in world trade between 1950 and 1973, while office and telecommunications equipment were the most dynamic products in the 1990s. However, due to falling prices and less buoyant demand, by 2001 office and telecom products could no longer expand their share in world exports of manufactured goods. According to the World Trade Report (2008), the industrial countries accounted for 85 percent of world exports of manufactured goods in 1955; however, their share declined to about two-thirds in 2006. The share of industrial countries in exports of agricultural products (including processed food) rose strongly from 40 percent in 1955 to roughly 60 percent in 2006. However, their share in world exports of fuels and other mining products was already low in 1955 (less than 40 percent) and further decreased to around 30 percent in 2006. Industrial countries’ share of world exports of clothing, textiles and office and telecommunications equipment decreased steadily after 1955. For iron, steel, and chemicals, the decline began in 1973. Generally, between 1955 and 2006, a decline occurred in the share of the industrial countries in world manufactured exports. On the opposite end of the relative decline of the industrial countries’ exports is the rise of a highly diverse group of developing economies that now account for more than two-thirds of world clothing exports and more than one-half of world exports of textiles and office and telecom equipment. A big increase in the share of developing countries was in office and telecom equipment, a sector in which the fragmentation of production has been the most visible. These developing countries (including China and India) have doubled their export shares over the past 25 years, exporting more than a third for all manufactured goods (Nataraj & Tandon, 2011).

PRODUCT COMPOSITION AND TRENDS OF DEVELOPING COUNTRIES’ EXPORTS In the past, primary products-agricultural and mining goods constituted a bigger proportion of world trade. In early 20th century Britain when it overwhelmingly exported manufactured goods and mainly imported primary products, today the United Kingdom manufactures dominate both sides of the trade scene. Meanwhile, the USA has transitioned from a trade pattern in which primary products were more important than manufactures on both sides to one in which manufactured goods dominate on both sides (Krugman & Obstfeld, 2009). According to the United Nations Environment Programme (2013), although gross agricultural trade has been growing in the recent decades, its growth rates have been significantly lower than those recorded in the manufacturing sector. The share of agricultural trade proportion to total global merchandise trade has declined. Today, agricultural trade accounts for approximately 10 per cent of total merchandise trade, compared to 30 percent 40 years ago (see Cheong et al., 2013). Nevertheless, agricultural trade remains particularly significant for developing countries, given the links between agricultural production, rural development, and poverty alleviation (UNEP, 2011a). In 2010, developing countries held a share of 37 percent in world exports of agricultural products, an increase from 30 percent in 1995. Most of the growth in agricultural trade is attributable to an increase in trade in processed agricultural products. This shift is observed in both developed and developing countries. It implies there has been greater specialization in the process of value addition. Countries with a very low share of processed products in their agricultural exports tend to be low-income countries (Cheong et al., 2013). The current situation in which manufactured goods dominate world trade is relatively new.

45

 Global Market Trends

Figure 1. The changing composition of developing country exports

A more recent transformation has been the rise of “Third World” manufacturing exports by developing countries. As recently as the 1970s, these countries in the so-called “Third World” mainly exported primary products. Since then, however, they have moved rapidly into exports of manufactured goods. Figure 1 shows the shares of agricultural products and manufactured goods in developing country exports since 1960. There has been an almost complete reversal of relative importance. More than 90 percent of the exports of China, the largest developing economy and a rapidly growing force in world trade, consist of manufactured goods. Generally over the last 40 years, the exports of developing countries have shifted toward manufacturing (UNCTAD, 2012). Over the years, trade openness has contributed considerably to enhancing developing countries’ participation in the global economy. The WTO (2014) states that between 1990 and 2008, the volume and value of exports from developing countries rose faster than exports from developed countries or the world as a whole. For example, between 2000 and 2008 the volume of developing countries’ exports almost doubled while world exports increased by only 50 percent. Even after

46

the recent global economic crisis, the decline in the value of developing country exports was smaller than developed country exports. The countries which have experienced strong export growth have lower levels of import protection than countries with stagnant or declining exports. It should be noted that not all developing countries participate equally in international trade. Asia is by far the most important exporting region in the developing country group, with a 10 percent share of world exports in 1990 (US$335 million) which increased to 21 percent (US$2.603 billion) in 2009. In contrast, Africa had the smallest share of world exports at three percent in both 1990 and 2009. Along with Africa, Latin America and the Middle East did not experience a notable increase in the share of world exports between 1990 and 2009. Simultaneously, the value of these three regions’ exports did increase over the period: African exports, for example, increased from US$106 million in 1990 to US$379 million in 2009. In addition, LDCs accounted for only 2.8 percent of the value of exports of the developing country group in 2009. This share has not changed much since 1990, although LDCs’ exports increased in

 Global Market Trends

Table 1. Biggest economies in the world Country

US

China

Japan

Germany

France

Brazil

U.K

Russia

Italy

India

GDP in trillion US Dollars

16.2

9.0

5.1

3.6

2.7

2.5

2.4

2.2

2.1

2.0

Source: International Monetary Fund, 2013

value, from US$18 million in 1990 to US$125 million in 2009 (WTO, 2014).

IS THE GLOBAL MARKET RIGGED AGAINST NEW ENTRANTS? The rather obsolete view that the world market is rigged against new entrants, preventing poor countries from accessing the global markets and hence becoming rich, has surprisingly turned out to be incorrect: A few Asian countries have proved to the world that any serious developing country can access the global market, generate wealth and expand its economy’s Gross Domestic Product (GDP) to any level. Today Japan, China, and India are among the world’s biggest economies. Just like any developing country, these three nations were equally poor. According to the International Monetary Fund (2013), China and Japan are the other world’s largest (richest) economies after the USA. Other economies with very high GDP include Germany and France. Table 1 shows the list of the top biggest economies in the world. In the 1950s and 1960s, it was widely believed that developing countries could create industrial bases only by substituting domestic manufactured goods for imports. However, from the mid-1960s it became increasingly clear there was another possible path to industrialization: via exports of manufactured goods primarily to advanced nations. The World Bank now refers to the group of countries that developed in this manner as the High Performance Asian Economies (HPAEs): they achieved spectacular economic growth, in some cases at more than 10 percent per year (Krugman & Obstfeld, 2009).

The Facts of East Asian Growth From 1965 to 1990, the 23 economies of East Asia grew faster than all other regions. Most of this achievement is attributable to seemingly miraculous growth in just eight economies: Japan; the “Four Tigers” of Hong Kong, the Republic of Korea, Singapore, and Taiwan, China; and the three newly industrializing economies (NIEs) of Southeast Asia – Indonesia, Malaysia, and Thailand. Amazingly, these eight economies have been unusually successful at sharing the gains of growth. Compared to other developing economies, they have had declining levels of inequality. Rapid growth and improving equity are the defining characteristics of the East Asian miracle and the eight high-performing East Asian Economies (HPAES) (World Bank, 1993). Kim and Lau (1994a) found that the postwar economic growth of the East Asian newly industrialized economies (NIEs)—Hong Kong, South Korea, Singapore, and Taiwan was mostly the result of the growth of tangible inputs: tangible capital and labor and not technical progress or equivalently the increase in total factor productivity. By contrast, the economic growth of the developed Group-of-Five (G-5) countries—France, West Germany, Japan, the United Kingdom, and the United States was mostly attributable to technical progress (Lau & Park, 2003). The World Bank’s definition of HPAEs contains three groups of countries whose “miracles” began at different times. 1. First is Japan which began rapid economic growth soon after World War II and now has

47

 Global Market Trends

per-capita income comparable to the United States and Western Europe. 2. In the 1960s, rapid economic growth began in four smaller Asian economies, often known as the “Four Tigers”: Hong Kong, Taiwan, South Korea, and Singapore. 3. Finally, in the late 1970s and the 1980s rapid growth began in Malaysia, Thailand, Indonesia, and, most spectacularly, in China. Each group achieved very high growth rates. Real gross domestic product in the “Tiger economies” grew at an average of 8-9 percent from the mid-1960s until the 1997 Asian financial crisis, compared to 2-3 percent in the USA and Western Europe. Recent growth rates in the other Asian economies have been comparable, and China has reported growth rates of more than 10 percent. The common fundamentals within the economic miracle were a commitment to education by the governments, sound fiscal policies, high domestic savings rates and a global outlook (Neelankavil, 2009). In addition to their very high growth rates, the HPAEs have another distinguishing feature: they are very open to global trade and they are establishing their bases in every corner of the world. Agreeably, economists have concluded that East Asia’s experience supports the proposition that liberalized markets are the best way to organize economies, developed or developing. The state should protect property rights and ensure the supply of public goods, but not impart directional thrust. More specifically, the state should create and sustain: (a) efficient, rent-free markets; (b) efficient, corruption-free public sectors able to supervise the delivery of a narrow set of inherently public services; and (c) decentralized arrangements of participatory democracy. The more these conditions are in place the more development and prosperity will follow (Wade, 2003). According to the World Bank (1993), the miraculous eight Asian economies used very different combinations of policies from hands-off to highly

48

interventionist. Thus, there is no single “East Asian model” of development. This diversity of experience reinforces the view that economic policies and policy advice must be country specific if they are to be effective. However, there are also some common threads among the high-performing East Asian economies. Rapid growth in each economy was primarily due to the application of a set of common, market-friendly economic policies, leading to both higher accumulation and better allocation of resources. While there is a correlation between rapid growth in exports and rapid overall economic growth, the correlation does not necessarily demonstrate that free trade policies have been the main reason for the high growth in the HPAEs. Instead, most economists who have studied the issue now believe that while the relatively low rates of protection in the HPAEs helped them to develop, they are only a partial explanation of the “miracle.” (Krugman & Obstfeld, 2009).

The Washington Consensus and East Asian Growth Coined in 1989 by English economist John Williamson, the Washington Consensus contains a set of 10 relatively specific economic policy prescriptions that were considered to constitute the “standard” reform package promoted for crisiswracked developing countries by Washington, D.C.–based institutions such as the International Monetary Fund (IMF), the World Bank, and the US Treasury Department. The prescriptions encompassed policies in such areas as macroeconomic stabilization, economic opening with respect to both trade and investment, and the expansion of market forces within the domestic economy (IMF, 2013). The policies include: • •

Fiscal discipline. A redirection of public expenditure priorities toward fields offering both high eco-

 Global Market Trends

• • • • • • • •

nomic returns and the potential to improve income distribution, such as primary health care, primary education, and infrastructure. Tax reform (to lower marginal rates and broaden the tax base). Interest rate liberalization. A competitive exchange rate. Trade liberalization. Liberalization of inflows of foreign direct investment. Privatization. Deregulation (to abolish barriers to entry and exit). Secure property rights.

The phrase “Washington Consensus” has become a lightning rod for dissatisfaction among anti-globalization protestors, developing country politicians and officials, trade negotiators, and numerous others. It is often used interchangeably with the phrase “neoliberal policies.” Today, it is quite outstanding that although the Washington Consensus package was confidently disseminated, there is virtually no good evidence that the creation of efficient, rent-free markets coupled with efficient, corruption-free public sectors is even close to being a necessary or sufficient condition for a dynamic capitalist economy. According to Wade (2003), almost all currently developed countries experienced different stages of industrial assistance policy before the capabilities of their firms reached the point where a policy of (more or less) free trade was declared to be in the national interest. Britain was protectionist when it attempted to be on par with the Netherlands. Germany was protectionist when trying to catch up with Britain. The United States was protectionist when trying to compete on par with Britain and Germany right up to the end of the World War II. Japan was protectionist for most of the 20th century until the 1970s, and Korea and Taiwan was the same until the 1990s. Hong Kong and Singapore are the great exceptions in international trade in that they did have

free trade and they did eventually develop on par with other developed nations. Today’s fast and populous economic entities include mainly China, India, and Vietnam which have certainly benefited from the more open markets and international investment of the past two decades. However, they began their fast economic growth well before their fast trade growth and even longer before their trade liberalizations. They have constrained their trade liberalizations by considerations of the capacities of domestic firms to compete against imports, in just the manner List recommended (Wade, 2003).

India’s Boom With a population of more than 1.2 billion people, India is the world’s second-most populous country after China with a population of about 1.4 billion (World Bank, 2014). A generation ago, India was a very minor player in world trade and its sluggish economy had little participation in world trade. After the country achieved independence in 1948, its leaders adopted a particularly extreme form of import-substituting industrialization as their development strategy. India imported almost nothing that it could produce domestically, even if the domestic product was far more expensive and of lower quality than what could be bought abroad. High costs, in turn, crimped exports, so India was a very “closed” economy. In the 1970s, imports and exports averaged only about five percent of GDP, close to the lowest levels of any major nation. (Sharma, 2000). Until about 1980, India endured very low rate of economic growth of about 3% per annum which was sometimes mocked as the “Hindu rate of growth”. After 1980, India’s growth accelerated dramatically: GDP per capita, which rose at an annual rate of only 1.3 percent from 1960 to 1980, grew at close to four percent annually since 1980. And India’s participation in world trade surged as

49

 Global Market Trends

tariffs were lowered and import quotas were removed. By 2005, exports and imports were 20.3 and 23.3 percent of GDP, respectively (Virmani, 2004). India is a growing force in world trade, especially in new forms of trade that involve trade in information rather than in physical goods, thus apparently permitting it to become a high-performance economy. Although it remains a rather poor country, it is rapidly growing richer and has begun to compete with China as a focus of world attention. India is also aggressively pushing for a more liberal global trade regime, especially in services. It has assumed a leadership role among developing nations in global trade negotiations, and played a critical part in the Doha negotiations (World Bank, 2013). Today India is the 10th world’s largest economy with a GDP of US$2.0 trillion, per-capita income of US$1,500, and life expectancy at birth at 65 years (World Bank, 2013; IMF 2013).

Chinese Economic Growth Two hundred years ago, China was the world’s greatest power in terms of both economic muscle and geographical territory. Although the concept of GDP did not exist at that time, Angus Maddison estimated that China in 1820 accounted for about one-third of the world’s GDP. However, such economic dominance did not last as the Chinese economy suffered greatly under colonial exploitation and Mao’s extreme economic policies. In the 19th century, China suffered from complacency that the historian David Landes has called an “ineffable stillness of immobility.” (Malkiel, 2009). The World Bank (2014) states that since initiating market reforms in 1978, China has shifted from a centrally planned to a market based economy and experienced rapid economic and social development. The country’s GDP growth, averaging about 10 percent each year, has lifted more than

50

500 million people out of poverty. All Millennium Development Goals have been reached or are within reach. With a population of 1.4 billion, China recently became the second largest economy and is increasingly playing an important and influential role in the global economy. China remains a developing country since its per capita income is still a fraction of that in advanced countries and its market reforms are incomplete. Official data shows that about 98.99 million people still lived below the national poverty line of RMB 2,300 per year at the end of 2012. With the second largest number of poor in the world after India, poverty reduction remains a fundamental challenge (World Bank, 2014). However, amidst the country’s economic success there is also skepticism about the future as not everyone is convinced China will continue on its rapid growth path. Indeed, many China experts see a plethora of serious problems, and some have even forecast a meltdown. Rapid economic ascendance has brought on many challenges as well, including high inequality; rapid urbanization; challenges to environmental sustainability; and external imbalances. China also faces demographic pressures related to an aging population and the internal migration of labor (Malkiel, 2009). Significant policy adjustments are required in order for China’s growth to be sustainable. Experience shows that transitioning from middle-income to high-income status can be more difficult than moving up from low to middle income. China’s 12th Five-Year Plan (2011-2015) attempts to addresses these issues. It highlights the development of services and measures to address environmental and social imbalances, setting targets to reduce pollution, to increase energy efficiency, to improve access to education and healthcare, and to expand social protection. Its annual growth target of seven percent signals the intention to focus on quality of life rather than on pace of growth (World Bank, 2014).

 Global Market Trends

The East Asian growth and trade experience seems to challenge some key beliefs regarding economic development that are widely accepted: 1. First, the presumption that industrialization and development must be based on an inwardlooking strategy of import substitution is clearly false. On the contrary, the success stories of development have all involved an outward-looking industrialization based on exports of manufactured goods. 2. Second, the pessimistic view that the world market is rigged against new entrants, preventing poor countries from becoming rich, has turned out to be incorrect. With correct policies and suitable investments by governments, economies can get transformed, become prosperous, and change the living standards of its populace.

WHICH COUNTRIES TRADE MORE AND WHY? A DISCUSSION BEYOND THE GRAVITY MODEL The Gravity Model of World Trade According to the Gravity Model of World Trade, the value of trade between any two countries is proportional, other things equal, to the product of the two countries’ respective GDPs, and diminishes with the distance between the two countries. The model implies a country with a big economy such as that of the USA would trade more with another giant economy such as Germany or Japan, and trade less with a smaller economy like Sweden. It also means the USA is likely to trade more with its neighbors: Canada and Mexico than even big European countries even though the neighbors may be smaller economies. In fact, Canada, whose economy is roughly the same size as Spain’s, trades as much with the USA as does all of Europe (Krugman & Obstfeld, 2009).

Considering global trade as a whole, economists use an equation of the following form to predict the volume of trade between any two countries fairly accurately, Tij =

k ×Yi ×Yj Dij



(1)

where k is a constant term, T ij is the value of trade between country i and country j, Yi is country i’s GDP, Yj is country j’s GDP, and Dij is the distance between the two countries. Therefore, ceteris paribus, the value of trade between any two countries is proportional, to the product of the two countries’ GDPs, and diminishes with the distance between the two countries. The equation (1) above is known as a Gravity Model of world trade. The reason for the name is the analogy to Newton’s law of gravity: Just as the gravitational attraction between any two objects is proportional to the product of their masses and diminishes with distance, trade between any two countries is, other things equal, proportional to the product of their GDPs and diminishes with distance (Krugman & Obstfeld, 2009). Economists often estimate a somewhat more general gravity model of the following form: Tij =

k ×Yia ×Yjb Dijc



(2)

This equation states the three things that determine the volume of trade between two countries are the size of the two countries’ GDPs and the physical distance between the countries, without specifically assuming that trade is proportional to the product of the two countries’ GDPs and inversely proportional to distance. Instead, a, b, and c are chosen to fit the actual data as closely as possible. If a, b, and c were all equal to 1, this would be the same as equation (1). In fact,

51

 Global Market Trends

estimates often find that equation (1) is a rather solid approximation. Does the gravity model really hold? Generally, large economies tend to spend large amounts of money on imports because they have large incomes. They also tend to attract large shares of other countries’ spending because they produce a wide range of products. Therefore, trade between any two economies is larger with the larger being either economy. For instance, the USA trade and investment relationship with European countries is the largest in the world and this should not be complex. These countries have big economies, large incomes and they have various needs in common. Similarly, USA goods and services trade with Japan totaled US$267 billion in 2011. Exports totaled US$113 billion while Imports totaled US$154 billion. The USA trade deficit with Japan was US$40 billion in 2011. Japan was the USA’s fourth largest goods trading partner with US$195 billion in total (two ways) during 2011. Therefore, the Gravity Model justifies this trade trend (USTR, 2014). Although the Gravity Model fits the data on USA trade with European countries fairly well, it may not work perfectly well for other counties. Often trade between two countries may be either much more or much less than what the gravity model predicts. Why should this be the case? The answer to the above question is that there are many factors affecting trade between two countries and are not captured by the Gravity Model. Some of these factors include the following: 1. Investment in Physical Infrastructure: This can facilitate the integration of new players into international supply chains. The accumulation of capital and the build-up of knowledge and technology associated with investment, particularly foreign direct investment, can also enable countries to climb the value chain by altering their comparative advantage. Well-built and efficient physi-

52

2.

3.

4.

5.

cal infrastructures reduce the cost of doing business, and anchors larger volume of trade. Demographic Composition and Change: This affects trade through its impact on a nation’s comparative advantage and on import demand. An ageing population, migration, educational improvements and women’s participation in the labor force will all play a role in the future, as will the continuing emergence of a global middle-class. Very youthful or very elderly populations may not favor trade. Research and Development (Technological Progress): Countries representing 20 percent of the world’s total population accounted for about 70 per cent of research and development (R&D) expenditure in 1999, but only about 40 percent in 2010 (see World Trade Report, 2013). Technology spillovers are largely regional and stronger among countries connected by production networks. In addition to the traditionally R&D intensive manufacturing sectors, knowledge-intensive business services are emerging as key drivers of knowledge accumulation. Transport Costs: Ample opportunities exist for policy actions at the national and multilateral level to reduce transportation costs and offset the effect of higher fuel costs in the future – thus improving the quantity and quality of transportation infrastructure, and introducing more competition on transport routes, and supporting innovation are likely to foster more trade. Institutional Operational Quality: Notably in relation to contract enforcement, clearance and legal support can reduce the costs of trade. Institutions are also a source of comparative advantage, and trade and institutions strongly influence each other.

 Global Market Trends

WHICH COUNTRIES ARE TRADING MORE TODAY AND WHY? According to the Economist (2014), China is currently leading in global trade. The weekly publication reports China’s export value at more than US$2.21 trillion, thus leading the world in international trade in goods in 2013. Its combined imports and exports amounted to almost US$4.2 trillion, exceeding that of the USA for the first time. However, some skeptics of China’s trade highlight that many of its seemingly sophisticated exports include valuable imported components. According to the WTO and the OECD, China itself adds only 67% of the value of its exports while the USA adds 89%. Indeed, if one considers only the value that a country adds to its exports, then export figures for the USA are roughly equal to those of China’s (Economist, 2014). India and China, which are now powerful in global trade, share a number of key common elements. First, they share the same continent. Next, demographically they both possess populations exceeding one billion. Third, the two countries have a rich and long history, making them world leaders until the 19th century. Last, they are also similar in economic development trends with just a few differences. The main difference between the two giants is probably their differing political systems as democracy is much more rooted in India than in China (Malkiel, 2009). It is clear the increasing degree of trade openness, especially regarding exports, and the liberalization of imports, has favored a surge in trade in both China and India. In addition, huge foreign direct investment inflows, mainly attracted by much lower labor costs, probably engendered spillover effects and contributed to transformation of the production specialization in both countries. The hypothesis that “openness” of the economy plays a positive role in economic growth has been largely analyzed in the theoretical and empirical literature (see Frankel & Romer, 1999; Bensidoun

et al., 2009). Most empirical studies confirm the positive effects of “openness” on trade and growth.

WHAT FACTORS HAVE LIMITED MOST DEVELOPING FROM ACCESSING AND BENEFITING FROM THE GLOBAL MARKET? Although global market offers numerous benefits to the potential trading nations, most developing countries cannot have ample access to it. According to the WTO (2014), poor nations have limited access to the global market due to factors such as quality inferiority, distance, quantitative restrictions, limited technical skills, bad governance, terrorism threats, and border controls. Specific limitations include the following: •

•

•

Quality: Most developing countries export primarily agricultural unprocessed products such as coffee, cotton, and wheat. They also export unprocessed minerals such as copper ore, silver, and crude oil. These types of products provide these countries with low foreign exchange and yet the cost of transporting and delivering them to the destined markets are very high. For the few processed products coming from the developing countries, their quality is usually so low that they are hardly accepted into many developed countries. Distance: A larger volume of world trade takes place outside Africa where the majority of developing countries are housed. This makes it more difficult for them to participate in the global market trade, as long distance increases the cost of trade for these countries. If they must travel there to engage in trade, they are affected by transportation costs. Quantitative Restrictions: Many developed countries impose quantitative restrictions on imports entering their countries.

53

 Global Market Trends

•

•

These restrictions limit the volume of trade that can be conducted, especially by developing countries that must strive to search for markets. Technical Skills: Most traders in developing countries including farmers and miners lack international exposure, and are often caught unprepared by new trade policies that sometimes do not favor their businesses. As such, they are often not as strategic in business as their counterparts in developed counties. This limitation in technical skills undermines the volume of potential trade they can effectively conduct. Bad Governance: Traders in most developing countries are normally subjected to unhealthy trade policies, unacceptable beaurocratic processes, baseless political interference, and tainted images abroad. All these factors combined downplay their trade potential.

WAYS OF INCREASING GLOBAL MARKET ACCESS TO DEVELOPING COUNTRIES As discussed earlier, accessing the global market improves a county’s terms of trade. Improvement in the terms of trade raises the profitability of exporters, creating more incentives for investments. Labor and other factors of production switch from other sectors to their most productive sectors. In turn, all of these lead to economic growth and development. We have also seen that most developing countries do not yet benefit much from global trade due to bottlenecks that restrain their full access to the global markets. To tap into trade-growth opportunities and global trade benefits, developing counties must diversify in several ways: they need to become less dependent on the stagnating markets of their traditional trading partners in the developed world, and simultaneously they must

54

lower their dependence on the export of commodities vulnerable to price shocks (International Trade Centre, 2012). This section provides a discussion on how developing counties should be supported in order to enable them gain full access to the global market. The key supports include the following: •

•

Reduction in Export Tariffs: If possible, developed countries should reduce the level of tariffs on developing countries’ exports to levels below (or further below) those faced by other exporting countries. This difficult action may require a lot of negotiations and lobbying. More potential markets for developing countries’ exports exist in the developed countries since most developing countries produce products of similar nature. Most-Favored Nation (MFN) Tariff Reduction: Developed countries should not discriminate against developing countries using tariffs. Under the MFN treatment/rule, countries agree not to discriminate against other WTO member countries. Thus, if a country offers low tariffs on, for example, computer imports (e.g., 5%), then it must charge 5% on computer imports from all other WTO members. Discrimination or preferential treatment for some countries is not allowed. However, the country is free to charge a higher tariff on imports from non-WTO members. The MFN rule is the first article of the General Agreement on Tariffs and Trade (GATT), which governs trade in goods and is also priority in the General Agreement on Trade in Services (GATS) (Article 2) (WTO, 2009). Non-discrimination will encourage increased volume of exports, and it will also indirectly improve the terms of trade of those developing countries exporting their commodities

 Global Market Trends

•

•

•

•

•

Higher Export Quotas: Another factor to consider for increasing global market access to developing countries is an increase in (i.e., a relaxation of) the level of quotas set by some (or all) developed countries on a particular developing country’s exports. In most cases, the effect of a higher export quota is a higher volume of exports, and increased domestic relative price of the exported commodity. Improvement in Infrastructures: Governments of developing countries should invest in all sorts of exports enabling infrastructures. Existence of first class airports or seaports, with good local roads and railways networks, will foster fast and reliable shipment of exports to the international markets. This will make trade easier and faster for developing counties. Export Subsidies: Provision or granting an export subsidy usually raises the domestic relative price of the export commodity. Export subsidies can take various forms, including subsidized credit and/or intermediate inputs, fiscal incentives, support with technological upgrade and/or quality control in order to meet product health and/ or safety standards. Export Favorable Policies and Procedures: Governments in developing countries should institute local policies/ laws that favor exporters and simultaneously they should negotiate for favorable international policies for the traders. Good policies should encourage and protect traders, and also ease the process of trade clearance. Restraining policies with lengthy and bureaucratic processes will constrict traders, hence limiting their global market access. Peace and Democracy: All governments are concerned about the health, safety and peace of their people. Most governments in developed countries feel more comfortable

to trade with people who do not pose health and safety risk in their country. Traders and goods from a non-peaceful and undemocratic country may suffer skepticism or even sanctions in many markets.

CONCLUSION The global market has witnessed various changes especially in the last four decades. There has been a complete change in the nature of goods traded in the global market from mostly agricultural products to manufactured products. Most countries have also heeded to the changing demand in the global marketplace, and are therefore supplying fully finished/processed products. Accessing the global market could potentially help to alleviate poverty as the long-term benefits from improved resource allocation and efficiency resulting from trade liberalization are well documented. Openness to trade is believed to have been central to the remarkable growth of developed countries since the mid-20th century and an important factor in economic growth and poverty alleviation, as demonstrated by the experience of some Asian countries, especially China and India. The global market appears to be open for access to all countries including developing countries without any form of rigging or bias. Developing countries are slowly improving the quality of their products to satisfy international demand, thereby gaining access to the global market, and gradually contributing to global economic growth. A number of developing countries are already reaping the benefits of accessing the global marketplace.

REFERENCES Anderson, E., Ayala, F., & Bird, K. (2005). The Social Impact of Improved Market Access and Export Promotion in Agriculture. London: ODI.

55

 Global Market Trends

Bairoch, P. (1993). Economics and World History. London: Harvester. Cheong, D., Jansen, M., & Peters, R. (2013). Shared Harvests: Agriculture, Trade, and Employment. International Labour Office and United Nations Conference on Trade and Development. Economist. (2014). Picking the world champions of trade. The Economist. Frankel, J. A., & Romer, D. (1999). Does Trade Cause Growth? The American Economic Review, 89(3), 379–399. doi:10.1257/aer.89.3.379 Frankel, J. A., & Rose, A. (2002). An Estimate of the Effect of Common Currencies on Trade and Income. The Quarterly Journal of Economics, 117(2), 437–466. doi:10.1162/003355302753650292 International Monetary Fund (IMF). (2014). World Economic Outlook (WEO). Washington, DC: International Monetary Fund. International Trade Centre. (2012). Africa’s Trade Potential: Export Opportunities. In Growth Markets. Geneva: International Trade Centre. Kim, J.-I., & Lau, L. J. (1994). The sources of economic growth of the East Asian newly industrialized countries. Journal of the Japanese and International Economies, 8(3), 235–271. doi:10.1006/jjie.1994.1013 Krugman, P., & Obstfeld, M. (2009). International Economics: Theory and Policy. New York: Pearson. Lau, L., & Park, J. (2003). The Sources of East Asian Economic Growth Revisited. Stanford, CA: Stanford University Press. Malkiel, B. G. (2009). The Chinese Economic Miracle: Can it Last? Princeton, NJ: Princeton University Press. Nataraj, G., & Tandon, A. (2011). China’s Changing Exports structures: A factor Based Analysis. New Delhi: Ganapathy Agencies.

56

Neelankavil, P. J. (2009). The Asian Tiger Economies: What Went Wrong. New York: Hofstra University Press. Oxfam. (2005). Rich countries set to fail poor at world trade talks. Retrieved on April 3, 2014, from: http://www.oxfam.org/en/node/324 Sharma, K. (2000). Export Growth in India: Has FDI Played a Role. New Haven, CT: Economic Growth Center. UNCTAD. (2012). Trade, Income Distribution and Poverty in Developing Countries: A Survey. Geneva: UNCTAD. UNCTAD. (2012). Trade and Development Report, 1981–2011: Three Decades of Thinking Development. Retrieved on January 8, 2014, from: http://unctadxiii.org/en/SessionDocument/ gds2012d1_en.pdf UNECA. (2013). Report on International and Intra-African Trade. Addis Ababa: UNECA. UNEP. (2011a). Towards a Green Economy: Pathways to Sustainable Development and Poverty Eradication – A Synthesis for Policy Makers. Retrieved on January 3, 2014, from: http://www. unep.org/greeneconomy/Portals/88/documents/ ger/2.0_Agriculture.pdf United Nations Conference on Trade and Development. (2013). Key Trends in International Merchandise Trade. Geneva: UNCTAD. United Nations Environment Programme. (2013). Agriculture: Trends, Challenges and Opportunities. Nairobi: UNEP. USTR. (2014). US-Japan Economic Harmonization Initiative. Retrieved on February 27, 2014, from: http://www.ustr.gov/countries-regions/ japan-korea-apec/japan

 Global Market Trends

Virmani, A. (2004). India’s Economic Growth: From Socialist Rate of Growth to Bharatiya Rate of Growth. Retrieved on March 3, 2014, from: http://www.icrier.org/pdf/wp122.pdf Wade, R. (2003). Governing the Market: Economic Theory and the Role of Government in East Asian Industrialization (2nd ed.). Princeton, NJ: Princeton University Press. World Bank. (1993). The East Asian Miracle: Economic Growth and Public Policy. Washington, DC: World Bank. World Bank. (2013). India: Foreign Trade Policy. Washington, DC: World Bank. World Bank. (2014). China overview. Washington, DC: World Bank. World Economic Forum. (2013). The secret of Switzerland’s competitiveness. Geneva: WEF. World Economic Forum. (2014). The Global Competitiveness Report 2013–2014. Geneva: WEF. World Trade Organization (WTO). (2012). World Trade Report 2012. Geneva: WTO. World Trade Organization (WTO). (2013). World Trade Report 2013: Factors shaping the Future of World Trade. Geneva: WTO. World Trade Organization (WTO). (2014). Millennium Development Goals: Trade and development. Retrieved on April 3, 2014, from: http:// www.wto.org/english/thewto_e/coher_e/mdg_e/ development_e.htm

KEY TERMS AND DEFINITIONS

Developing Country (Less-Developed Country): A nation with a lower living standard, underdeveloped industrial base, and low Human Development Index (HDI) relative to other countries. Economic Development: A multidimensional process that involves major changes in social structures, popular attitudes, and national institutions as well the acceleration of economic growth, the reduction of inequality and the eradication of poverty. Economic Growth: The increase in the market value of the goods and services produced by an economy within a given time period; it is measured as the percentage rate of increase in real gross domestic product. Global Market: The market in which goods and services of one country are traded (purchased or sold) to people of other counties. Globalization: The increasing integration of national economies into expanding international markets, involving the process of advancement and increase in interaction among the world’s countries and people. Gross Domestic Product (GDP): The total final output of goods and services (in monetary terms) produced by a country within its territory by the residents and non-residents, regardless of its allocation between domestic and foreign claims. Poverty: The lack of basic needs and services such as food, clothing, beddings, shelter, paraffin, basic health care, roads, markets, education, information and communication. Trade Liberalization: The removal or reduction of restrictions or barriers on the free exchange of goods between nations; may involve dismantling of tariff as well as non-tariff barriers.

Competitiveness: The set of institutions, policies, and factors that determine the level of productivity of a country; a more competitive economy is one that is likely to grow faster over time.

57

58

Chapter 3

Turkey:

A Rising CIVETS Star? Efe Efeoğlu Adana Science and Technology University, Turkey

ABSTRACT The Republic of Turkey represents solid business opportunities for Foreign Direct Investment (FDI) and local investors within the so-called CIVETS (Colombia, Indonesia, Vietnam, Egypt, Turkey, South Africa) economic bloc, an entity which has relatively little coverage in extant academic literature. This chapter outlines 12 disruptive industries that can play a major role in Turkey’s future economic development by providing business and job opportunities from project-based export-import activities. The chapter also covers other important subjects such as human resource management, building global Turkish brands, and education/training. The chapter concludes with some suggestions for future research directions regarding research and development, diversity management, English as a Foreign Language training, and cultural intelligence.

INTRODUCTION The Republic of Turkey, a natural land bridge located between Europe and the Middle East, represents a solid business opportunity for Foreign Direct Investment (FDI) participants and others due to a variety of factors such as the following: • • • • •

Geopolitical location. Waterways to major markets. Young, trainable workforce. Superb technical universities. Cost-of-Living Cost-of-Doing-Business.

and

With a population of approximately 82 million and a Gross Domestic Product (GDP) of US$1.167 trillion (at Purchasing Power Parity or PPP) as of 2013-14 (CIA Factbook, 2014), Turkey is one of the next generation of “Tiger economies” known as CIVETS (Colombia, Indonesia, Vietnam, Egypt, Turkey, South Africa) (Greenwood, 2011; Allen, 2011). John Bowler, Director of Country Risk Service at the Economist Intelligence Unit in London, England, believes the sizeable populations of some of these countries and the wealth of natural resources in others may make them economic powerhouses in the next decade.

DOI: 10.4018/978-1-4666-6551-4.ch003

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Turkey

Within this context, Turkey represents one of the most geopolitically important of the CIVETS nations – as well as in the world – due mainly to the highly strategic Bosphorous Strait linking the Black Sea (via the Marmara Sea) to the north with the Mediterranean Sea to the south. This connection permits access to many markets beyond Turkey such as Bulgaria, Georgia, Romania, Russia, and the Ukraine in the northern region to Lebanon, all of Northern Africa, and many European nations (e.g., Greece, Italy, Spain) in the southern region. As the gatekeeper of the Bosphorous and the connecting Dardanelles, the so-called Turkish Straits are governed by the 1936 Montreaux Convention in which Turkey regulates the transit of naval warships from non-Black Sea nations (e.g., USA) and guarantees free passage of civilian ships during peacetime. The significance to international trade in the region is self-evident. As this chapter is intended to be primarily for a business practitioner audience, the structure will follow a somewhat different pattern than is common in strictly academic-oriented work. First, I outline Foreign Direct Investment (FDI) and international trade in Turkey. Next, I provide a brief outline of CIVETS of which Turkey is one of the rising members of this economic block which has received fairly sparse recognition in extant academic literature. Third, we discuss the various global realities that affect all nations in contemporary globalism, and how these realities could potentially alter business opportunities in Turkey and beyond. Fourth, I review the major challenges and opportunities in Turkey which I believe shall exist at least through 2020. Fifth, I explore a potential project-based business opportunity as representative of enhancing Turkish economic sustainability and providing business opportunities in the years to come. Last, I provide a Conclusion and Future Research Directions for business academics and practitioners alike to consider.

Foreign Direct Investment (FDI) and International Trade in Turkey There is a plethora of information available on FDI flows into Turkey and international trade to and from the country. In 2013, international direct investments to the country amounted to US$12.7 billion (YASED, 2013). In 2012, Turkey ranked 24th among countries attracting the most FDI in the world, 14th among developing nations, and 1st in the West Asia region (YASED, 2013). The Central Bank of Turkey (as seen in YASED, 2013) reports that during the period 2009 – 2013 in which a grand total of US$59.7 billion of FDI Inflows occurred, Industry represented the largest FDI flow into the country (US$25 billion), followed closely by Services (US$24 billion). Although the 2013 World Investment Report from the United Nations Conference on Trade and Development (UNCTAD) states the deterioration of the global economic crisis depressed investor confidence in launching cross-border investment initiatives during 2012, the United States (US) Embassy in Ankara, Turkey and the US-based financial services firm Standard & Poor’s see strong and sustainable growth in Turkey (US Commercial Service Turkey, 2014; Standard & Poor’s Financial Services, 2013). Some of the favored market opportunities include telecommunications services and equipment, safety and security equipment and services, automotive parts, medical equipment, transportation, and higher education services (US Embassy Turkey, 2014). However, as will be presented below, the author suggests project-based export-import activities be pursued beyond the straight-forward processing of export- and import-related business. Specific industries and suggested projects will be discussed in detail below. Although Turkish exports grew by 17% during 2012, and Turkey has succeeded in diversifying its range of products into fast-growing foreign regions such as MENA (Middle East and North Africa) (Standard & Poor’s Financial Services, 2013), I believe the country should

59

 Turkey

Table 1. CIVETS nations: A brief comparison Country

Population (millions)

GDP (PPP) (US$ billion)

Real Growth Rate (%)

Per Capita GDP (PPP) (US$)

Unemployment Rate (%)

Foreign Reserves (US$ billions)

Colombia

46.2

526.5

4.2

11,100

9.7

43.74

Indonesia

253.6

1,285

5.3

5,200

6.6

83.45

Vietnam

93.4

358.9

5.3

4,000

1.3

32.49

Egypt

86.9

551.4

1.8

6,600

13.4

17.03

Turkey

81.6

1,167

3.8

15,300

9.3

117.6

South Africa

48.4

595.7

2.0

11,500

24.9

48.46

Source: CIA Factbook (2014)

pursue higher profit-margin industries to remain economically sustainable over the long-term.

CIVETS: A Brief Overview An acronym originally coined in 2009 by Robert Ward, then the Global Forecasting Director at the Economist Intelligence Unit in London, the CIVETS group of nations has received much attention in the business world. However, there remains relatively little mentioned about the diverse entity in extant academic literature. Each of the six countries comprising the group has its own advantages and disadvantages within contemporary globalism, ranging from infrastructure considerations and economic stability to geopolitical matters and social unrest. CIVETS is a concept which recognizes the rise of a second generation of emerging nations beyond the British economist Jim O’Neill’s so-called BRIC countries comprised of Brazil, Russia, India, and China he established in 2001. Table 1 shows general facts related to CIVETS countries:

Global Realities Today Peter Drucker viewed contemporary globalism as one of profound transition —potentially even more influential than the extensive structural changes triggered by the Great Depression of the 1930s or even World War II (Drucker, 2002). He coined

60

“Five Certainties” which would form the core of business strategy in the 21st century: 1) global competitiveness; 2) the collapsing birthrate in the developed world; 3) a redefinition of corporate performance; 4) major shifts in the distribution of disposable income; and 5) the growing incongruence between economic and political reality. Today, these very issues are transforming the global workplace very quickly in ways relatively few people today truly understand (Greenspan, 2008; Tyson, 2009). Therefore, developing workers in Turkey (and in other nations) with the skillsets and qualities to compete on par with other workers in entities such as CIVETS and BRICs will be imperative to sustainable economic, national, and worker success. This issue within itself presents business opportunities within the education and training fields in Turkey. It is also important to consider other effects of accelerating globalization such as rising environmental concerns, threats to social stability and order, the expanding impact of technology, and the imperative to increase productivity especially in the advanced economies (IBM, 2008). All of these factors will make destabilizing cycles of volatility more likely than ever before (McKinsey Quarterly, 2010). It should be noted the first half of the 21st century will be the first time in 200 years when emerging-market nations such as Turkey and Indonesia will contribute more to growth than the

 Turkey

developed countries such as those found in Asia, Europe, and the Americas (McKinsey Quarterly, 2010). Scientific knowledge and technological expertise promote the wealth of nations, and the scientific productivity of a country correlates more strongly with gross national income per capita than its technological sophistication (Jaffe, 2014). Additionally, marketing capabilities have been identified as major determinants of firm performance because they address a specific criteria of assets known as VRIN (Valuable, Rare, Imitable, Non-substitutable) (Kamasak, 2014). Finally, international diversity management provides leverage (and competitive advantage) in human resource management and organizational performance (Vassilopoulou, et. al., 2013). I believe all of the above are key factors for economic sustainability in Turkey and elsewhere as they include fundamental considerations which are critical in an era of global hypercompetition (Christiansen, 2012; Ohmae, 2005). These global realities can unexpectedly affect business operations anywhere, including Turkey. Therefore, the reader should consider these issues in any long-term business planning in the country within the context of this chapter.

Turkey: Major Challenges and Opportunities There are a number of challenges and opportunities inherent in the Turkish economy I believe will exist at least over the remainder of this decade as aspects of continued growth and prosperity in the country within the realm of contemporary globalism. These are as follows after which some detail for each will be provided: • • • • •

Human Resource Management. Education/Training. Heavy vs. Light Manufacturing. Building Global Turkish Brands. Disruptive Industries.

Within the Human Resource Management (HRM) function, the malady of “employee burnout” captures one of the top concerns in Turkey in academic circles, but not nearly as much attention in the business practitioner area. High levels of Work-Family Conflict (WFC) are related to dysfunctional outcomes for both the individual and the organization in the form of absenteeism, tardiness, and loss of talented employees (Efeoğlu & Ozcan, 2013). Considering their respective professional and academic positions in Turkey over the years, the author caution against sustained worker burnout with regards to long-term productivity and the critical element of employee turnover. Additionally, the increasing globalization of business worldwide has required to manage their workforces effectively, and this includes managing diverse workforces comprised of different nationalities (Bal & Bozkurt, 2013). Numerous foreign firms have either moved into Turkey or have acquired Turkish firms over the past decade (primarily in Istanbul). This fact has often meant foreign managers have been required to interact with local staff who do not always have the language skills or overseas experience to fully understand their new colleagues. Therefore, cross-cultural training for both groups has become a necessity over time, such as that provided by The Cultural Intelligence Center in Michigan, USA or the Center for Leadership and Cultural Intelligence in Singapore. Related to the HRM concern is the issue of Education and Training in Turkey, particularly regarding English as a Foreign Language (EFL) training. Education in Turkey is a state-supervised system which has its roots in the Atatürk Reforms following the Turkish War of Independence (19191923). The Ministry of National Education governs pre-school, primary school, and secondary school education, while the Council of Higher Education (YÖK) plans, coordinates, and supervises higher education (Turkish Fulbright Commission, 2012). Compulsory education begins at the age of six and continues to age 14 regardless of gender. It

61

 Turkey

is free-of-charge in state schools. The Primary Education Diploma (Ilköğretim Diploması) is awarded upon successful completion of the 8-year basic education program. Secondary education in Turkey has been a duration of four years since 2006, and is categorized into General, Vocational, and Technical High Schools. The so-called “Anatolian High Schools” are unique in that they provide regular class lessons in a foreign language—namely, English, French, or German—and are also divided into Fine Arts and Religious (Imam-Hatip) entities. Vocational High Schools focus on a certain profession such as tourism or industry, while Technical High Schools focus on science education (Turkish Fulbright Commission, 2012). Since 2010, high school graduates sit for the Transition to Higher Education Examination (YGS) in April; successful YGS candidates can then take a second-round examination in June—the Undergraduate Placement Examination (LYS). Those students who pass only the YGS exam can enter 2-year (associate) degree programs, while successful candidates of the LYS exam may enter traditional 4-year undergraduate degree (Lisans) programs. Students are placed in programs according to their scores on these two examinations, although this approach does not necessarily guarantee student suitability for a particular degree program – a fact we believe can inhibit future employee productivity. There is currently debate in Turkey regarding the general quality of Turkish primary and secondary schools to prepare students adequately for the university entrance examinations as well as for the widening “global skills gap” (Christiansen & Sezerel, 2013: 138), which includes EFL teaching and learning as further discussed in the Conclusion section. Particularly in the business field (as well as others such as engineering), I believe it is necessary to provide more practical training over the heavier theoretical focus as is common today in Turkey and other nations such as China (Farrell & Grant, 2005). Therefore, opportunities exist to supplement post-university business education

62

in Turkey via corporate training-style activities. My practical business experience shows specific fields in particular include (international) marketing & sales, entrepreneurship, and export-import operations. Manufacturing presents several opportunities beyond the light manufacturing activities which constitute a large segment of Turkish economic activity today. Upgrading manufacturing capabilities remains the route to higher productivity and rising living standards for economically developing countries such as Turkey (McKinsey Global Institute, 2012). Therefore, any FDI or domestic investment activities can and should consider higher-level manufacturing operations beyond light manufacturing such as plastic parts, jewelry, home accessories, or apparel in which all processing takes place within an enclosed building. Below I shall outline a realistic opportunity as an example for heavy manufacturing within Turkey. It is important to remember that collaboration between academia and industry is a crucial element to create scientific knowledge or to develop effective solutions for production-based problems (Kaymaz & Eryiğit, 2011; GE, 2013). Therefore, I recommend the reader consider developing university as well as industry contacts in Turkey during the discovery or planning phase(s) in any major project-based investment initiatives for long-term benefit. Two specific universities in Turkey involved in such collaboration include the state-owned institutions of Middle East Technical University (METU) in the capital of Ankara and Boğaziçi University in Istanbul. Other possibilities in private universities include Koç University and Sabanci University which are both located in Istanbul. Building truly global Turkish brands such as Turkish Airlines remains a solid opportunity for domestic and international marketing companies. Many Turkish firms have been transforming themselves from simply exporters to international retailers and manufacturers since a devastating financial crisis that rocked the country in 2001

 Turkey

(Financial Times, 2013). However, more work must be conducted in this regard, and initiatives such as Turquality are an example of the country moving in the right direction. Brand concepts which differentiate organizations provide a competitive advantage to businesses (Lassar, et. al., 1995), and brands that include logos, symbols, or a combination of these provide a positive image to firms for consumers (Palumbo & Herbig, 2000). Therefore, I suggest Turkish firms engage in the further development of major local brands such as Arçelik, İstikbal, and Türkcell on the international stage to enhance the long-term global brand equity of the country’s products and services. A report from the New York-based global branding consultancy, Interbrand, shows no Turkish company is yet in the Top 100 worldwide (Interbrand, 2013); therefore, branding companies have ample opportunities in this field. According to the McKinsey Global Institute (2013), there are 12 disruptive industries today which will transform daily life over the coming years which Turkish industry and foreign investors can consider for long-term growth. These include the following: • • • • • • • • • • • •

Mobile Internet. Automation of Knowledge Work. The Internet of Things. Cloud Technology. Advanced Robotics. Autonomous and Near-Autonomous Vehicles. Next-Generation Genomics. Energy Storage. 3D Printing. Advanced Materials. Advanced Oil and Gas Exploration and Discovery. Renewable Energy.

As mentioned earlier, scientific knowledge and technological expertise promote the wealth of nations, and the scientific productivity of a

country correlates more strongly with gross national income per capita than its technological sophistication. Therefore, investors should consider scientific advancement as a primary direction for long-term growth in Turkey. I have highlighted those disruptive industries above which I believe are the most suitable to pursue in Turkey given the country’s human and natural resources. General entrepreneurship skills in Turkey will need to be further developed to pursue the higher profit-margin opportunities within disruptive and other industries as listed above. One of the ways in which this could be achieved would be to establish institutional entrepreneurship within Turkish businesses such as that which exists at 3M Corporation in Minnesota, USA. Defined as the process of building a different constitution within the enterprise to foster entrepreneurial spirit (Sanal & Efeoğlu, 2013), institutional entrepreneurship leads to transformation and modernism which will further develop Turkey’s competitiveness worldwide. Other options can include university programs in collaboration with local industry as mentioned earlier in this section and corporate training programs provided either in-house or via third party providers.

Potential Business Projects for Economic Sustainability As mentioned earlier, I believe business activities or projects with sustainable, higher profit-margins such as those provided by disruptive industries as outlined above or heavy manufacturing (e.g., shipbuilding) should be the primary targets for Turkish and foreign businessmen over the long-term. Before outlining some business project concepts for the reader to consider, it is important to review Turkey’s competitiveness on the global stage. The 2014 Global Economic Forum held at Davos, Switzerland provided the latest Global Competitiveness Index rankings in which Turkey was listed in 44th place in 2013 (World Economic Forum, 2014) behind such nations as the USA,

63

 Turkey

Japan, Germany, and Switzerland. Despite the relatively strong showing on this Index, Turkey must still improve its global competitiveness to further develop and maintain a prominent global position in today’s globalization. A nation’s longterm competitiveness depends on the capacity of its industry to innovate and upgrade (Porter, 1990); therefore, developing Turkey’s innovation capacity beyond the country’s current level is desirable and provides a variety of business opportunities within itself (see, for example, Christiansen & Basılgan, 2014 or Christiansen, Yıldız, & Yıldız, 2014). Following I present a scenario as a general guide for potential FDI and domestic investors alike. This scenario has substantial personal research I have invested over a 6-year period with some others in the academic and business practitioner fields. Therefore, the reader can consider it to be authoritative in nature. However, any serious investors should also do their own due diligence before engaging in any activities per standard business practice.

Bursa Project (Heavy Manufacturing) Bursa is an industrial city south of Istanbul on the Marmara Sea and is the fourth most populous city in Turkey. The center of the Turkish automotive industry (e.g., Fiat), Bursa is also host to the country’s textile, beverage, and food processing industries. Home to two public universities and one private university, Bursa was the first capital of the Ottoman Empire from 1335 to 1413. Due to the special circumstances surrounding the Turkish textile industry, I shall use this field on which to base the following business scenario for reader consideration. According to Hoovers/ Dunn & Bradstreet, there were 22,629 primary and secondary textile manufacturers in all of Turkey as of October, 2013. The largest is Kordsa Global located in Istanbul which has 4,200 employees and annual revenues of US$835 million. While according to the US Embassy in Ankara there were approximately 3,000 operating textile

64

manufacturing plants in Bursa in early 2009, as of October, 2013 there are 700 primary manufacturers (Hoovers/Dunn & Bradstreet data). The country’s textile industry has gradually been pushed from western to eastern Turkey focusing on the cities of Gaziantep and Kahramanmaras due largely to the European economic crisis which has only recently appeared to have abated somewhat. However, the main challenge with this development is that these cities are not located near water which is the primary advantage of operating in Bursa. Therefore, transportation costs in eastern Turkey are higher than those of the western part of the country as the primary method is trucking. It should also be noted that these two eastern Turkish cities are near troubled areas such as Syria and Iraq. Although the bulk of the plants in Bursa are too small for large-scale manufacturing of higher profit-margin products, the smaller plants could serve as research and support offices for other business activities. However, the primary focus of the Bursa Project remains industries that require use of the larger existing buildings that were or are currently being used by large-scale textile manufacturers. Alternative energy products such as wind power generators and solar panels are being produced in various countries such as Canada, China, and the USA, and can also be considered in Turkey (Erdoğdu & Karaca, 2014: 57). However, in many cases the manufacture and effective distribution of these products have several challenges that can include: 1) lead times; 2) cost of sales / labor; 3) transportation costs to market; 4) implementation expertise; and/or 5) product quality. The Bursa Project effectively rectifies many of these challenges due to factors related specifically to Turkey as mentioned above: • • • •

Geopolitical location. Waterways to major markets. Young, trainable workforce. Technical universities / graduates.

 Turkey

•

Cost-of-Living (especially compared to Europe).

The potential scope of the Bursa Project involves manufacturing projects ideally in the range of US$50 – 100 million. Since 2000, many foreign investments in Bursa have been above US$500 million in size, such as the Ford Motor Company manufacturing plant. However, as the global economy has weakened, thus diminishing the need for cars even in the Turkish market, such a large investment has become more of a burden than an asset. Therefore, smaller investments such as that suggested above in more promising industries lessen business risk significantly. Regarding business risk, one of the major benefits of the Bursa Project concept is that investors can use existing buildings already present in a manufacturing environment. Therefore, there is no need for this major capital expense. Instead, investors can concentrate on developing disruptive industry-related products and getting them to market as inexpensively as possible using existing shipping lanes and structures. Retraining the manufacturing workforce already in Bursa is another major benefit of the project. Although it is certainly possible for investors to use their own manufacturing and support workforces, using existing talent in areas new to non-local workers has often proven to be a better option in the long-term.

General Requirements As mentioned above, the Bursa Project would require venture capital firms and/or private investors who are in a position to get involved in capital projects between US$50-100 million in size over a period of at least three years. The Return-OnInvestment (ROI) obviously depends on the size of the project and the nature of the product being produced in Bursa. I conservatively estimate the potential ROI range to be 15-40%.

It should be noted here that foreign investors are provided significant tax and other breaks with regards to issues such as customs and funds levies, Value-Added-Tax (VAT) on machinery and equipment, and so forth. Furthermore, an investment allowance includes corporate tax exemptions for (existing) buildings, machinery, freight, and installation. Within these general parameters, the Bursa Project potentially involves hiring expertise at least in the following areas: • • • • • • • • •

Manufacturing. Engineering (especially Electronic). Training. Accounting and Finance. Human Resources. Alternative Energy. General Management. Taxation. Marketing/Sales.

The Bursa Project can also eventually encompass marketing and distribution in Eastern Europe for solar panels, generators, and related energy products due to that region’s energy problems from the Russia-Ukraine gas disputes in 2007 and 2008, in addition to recent conflicts between those two nations in 2014. Therefore, interested parties who wish to capitalize on these natural strengths of Turkey can get involved in a long-term, profitable project in a well-established manufacturing city largely using existing buildings and transportation networks in the growing markets of Eastern Europe and the Middle East which also includes Turkey. It is also possible later to consider opportunities in Europe and Africa within the context of the Bursa Project.

CONCLUSION AND FUTURE RESEARCH DIRECTIONS The global marketplace is characterized by various changes occurring in economic, social, natural,

65

 Turkey

and technological areas (Denktas-Sakar, et. al., 2014). Turkey presents an excellent destination for FDI and domestic investment pursuits due to its geopolitical location, waterways to major markets, a young workforce, superb technical universities, and cost-of-living and cost-of-doing business. Lessons from the Turkish Financial Crisis of 2001 and the Global Financial Crisis of 2008 have strengthened many aspects of the Turkish economy, especially the banking sector (Dufour & Orhangazi, 2007). Therefore, I contend investors both domestic and foreign can pursue a variety of projects in Turkey with confidence. I suggest several directions for future research within the context of this chapter. First, exploring options available to Turkey regarding Research and Development (R&D) in disruptive industries such as those mentioned above would be highly advisable. A cursory review of current (doctoral) research projects at major Turkish institutions such as Boğaziçi University, Middle East Technical University, and Istanbul Technical University (ITU) show significant promise in this area. These universities can also engage in joint research activities with similar institutions outside Turkey such as Massachusetts Institute of Technology (MIT) in the USA and the University of Cambridge in the United Kingdom. Next, an empirical study on intrinsic motivation in Turkish EFL students would provide highly valuable input for future English language programs in the country. I firmly advocate that EFL training in many non-English-speaking countries (particularly Turkey) must be completely overhauled. Some critical specifics include: 1) more student- vs. teacher-centered instruction; 2) abandonment of the so-called “grammar or translation methods” in favor of the communicative method based on listening and speaking supported by reading and writing; 3) more positive vs. negative reinforcement in teaching; 4) development of a standardized TEFL curriculum with less focus on testing and much more stress on actual skill performance, especially speaking. This aspect

66

of education is highlighted here because English remains the world’s main language for communication worldwide. Notably, strong English skills are also required for admissions acceptance in English-speaking countries with top universities such as those in Canada, the UK, and the USA, or in student and teacher exchange efforts such as the European-based Erasmus Program. And, at least one commonly used foreign language is needed to follow technological and scientific developments around the world – English remains that common language (Şen, 2012). Last, empirical research specifically on Cultural Intelligence (CQ) within Diversity Management (DM) in Turkey would provide some meaningful insights to provide business managers both foreign and local with the ability to enhance worker productivity among diverse groups which continue to develop in Turkey-based organizations – especially in Istanbul. The globalization of today adds an additional layer of complexity to human resource management which broadens the scope of operations worldwide that are subject to various employement laws and multiple languages (Briscoe, et. al., 2009). Therefore, investigating how to develop CQ and DM within Turkey has become much more of a necessity than a convenience for management. Campbell et al. (2012) have proposed a comprehensive framework of human capital-based advantage which can be used as a starting point for such a study.

REFERENCES Allen, K. (2011, November 20). The CIVETS: A guide to the countries bearing the world’s hope for growth. The Observer. Retrieved on 24 March, 2014, from: www.guardian.co.uk/business/2011/ nov/20/civets-guide

 Turkey

Bal, Y., & Bozkurt, S. (2013). Globalization and Human Resources Management: Managing the Diverse Workforce in Global Organizations. In B. Christiansen, E. Turkina, & N. Williams (Eds.), Cultural and Technological Influences on Global Business (pp. 1–13). Hershey, PA: IGI Global. doi:10.4018/978-1-4666-3966-9.ch001 Briscoe, D. R., Schuler, R. S., & Claus, L. (2009). International human resource management: Policies and practices for multinational enterprises (3rd ed.). New York: Routledge. Campbell, B. A., Coff, R., & Kryscynski, D. (2012). Rethinking sustained competitive advantage from human capital. Academy of Management Review, 37(3), 376–395. doi:10.5465/ amr.2010.0276 Central Intelligence Agency (CIA) Factbook. (2014). Retrieved on February 3, 2014, from: https://www.cia.gov/library/publications/theworld-factbook/index.html Christiansen, B. (2012). Cultural Variations and Business Performance: Contemporary Globalism. Hershey, PA: IGI Global. doi:10.4018/978-146660-306-6 Christiansen, B., & Basılgan, M. (2014). Economic Growth, Game Theory, and Technology in Emerging Markets. Hershey, PA: IGI Global. Christiansen, B., & Sezerel, H. (2013). Diversity Management in Transcultural Organizations. Global Business Perspectives. Doi: doi:10.1007/ s40196-013-0013-8 Christiansen, B., Turkina, E., & Williams, N. (2013). Cultural and Technological Influences on Global Business. Hershey, PA: IGI Global. doi:10.4018/978-1-4666-3966-9 Christiansen, B., Yıldız, S., & Yıldız, E. (2014). Transcultural Marketing for Incremental and Radical Innovation. Hershey, PA: IGI Global.

IBM Corporation. (2008). Government 2020 and the perpetual collaboration mandate: Six worldwide drivers demand customized strategies. Somers, NY: IBM Global Business Services. Denktas-Sakar, G., Karatas-Cetin, C., & Saatcioğlu, O. Y. (2014). Discovering the Nexus between Market Orientation and Open Innovation: A Grounded Theory Approach. In B. Christiansen, S. Yıldız, & E. Yıldız (Eds.), Transcultural Marketing for Incremental and Radical Innovation (pp. 1–42). Hershey, PA: IGI Global. Drucker, P. (2002). Management Challenges for the 21st Century. New York: ButterworthHeinemann. Dufour, M., & Orhangazi, Ö. (2007). The 20002001 Financial Crisis in Turkey: A Crisis for Whom? Retrieved on 16 April, 2014, from: http:// mpra.ub.uni-muenchen.de/7837/1/MPRA_paper_7837.pdf Efeoğlu, I. E., & Ozcan, S. (2013). Work-Family Conflict and Its Association with Job Performance and Family Satisfaction among Physicians. Australian Journal of Basic and Applied Sciences, 7(7), 43–48. Erdoğdu, M., & Karaca, C. (2014). A Road Map for a Domestic Wind Turbine Manufacturing Industry in Turkey. In B. Christiansen & M. Basılgan (Eds.), Economic Behavior, Game Theory, and Technology in Emerging Markets (pp. 57–90). Hershey, PA: IGI Global. Farrell, D., & Grant, A. (2005, October). Addressing China’s Looming Talent Shortage. New York: McKinsey & Company. Financial Times. (2013, November 27). Turkish businesses build global reputations. Retrieved on April 7, 2014, from: http://www.ft.com/ cms/s/0/ffb15f54-4d40-11e3-9f40-00144feabdc0.html#axzz2yHI2WVjK

67

 Turkey

Friedman, G. (2009). The Next 100 Years: A Forecast for the 21st Century. New York: Anchor. Fulbright Commission. (2012). The Turkish Education System. Retrieved on February 13, 2014, from: http://www.fulbright.org.tr/en/servicesand-information/for-american-students-andscholars/the-turkish-education-system General Electric (GE). (2013). GE global innovation barometer. Retrieved on April 9, 2014, from: http://www.ideaslaboratory.com/projects/ innovation-barometer-2013/ Greenwood, J. (2011, September 19). After BRICs, CIVETS? The Wall Street Journal. Retrieved on March 17, 2014, from: http://online.wsj.com/ news/articles/SB1000142405311190471660457 6546632573895382 Institute for the Future for the University of Phoenix Research Institute. (2011). Future Work Skills: 2020. Retrieved January 17, 2014, from: http:// cdn.theatlantic.com/static/front/docs/sponsored/ phoenix/future_work_skills_2020.pdf Interbrand. (2013). Best Global Brands 2013. Retrieved on April 10, 2014, from: http://www. interbrand.com/Libraries/Branding_Studies/ Best_Global_Brands_2013.sflb.ashx International Investors Association of Turkey (YASED). (2013, June 26). Retrieved on March 27, 2014, from: http://www.yased.org.tr/webportal/ English/haberler/basin_bultenleri/Documents/ YASED_UNCTAD_2013_Raporu_EN.pdf Jaffe, K. (2014). The Relevance of Science in Development: Scientific Development Favors Economic Prosperity, but Not Necessarily through its Effect on Technological Knowledge in Middle Income Countries. In B. Christiansen & M. Basılgan (Eds.), Economic Behavior, Game Theory, and Technology in Emerging Markets (pp. 1–17). Hershey, PA: IGI Global.

68

Kamasak, R. (2014). How Marketing Capabilities Create Competitive Advantage in Turkey. In B. Christiansen, S. Yıldız, & E. Yıldız (Eds.), Transcultural Marketing for Incremental and Radical Innovation (pp. 234–254). Hershey, PA: IGI Global. Kaymaz, K., & Eryiğit, K. Y. (2011). Determining factors hindering university-industry collaboration: An analysis from the perspective of academicians in the context of entrepreneurial science paradigm. International Journal of Social Inquiry, 4(1), 185–213. Lassar, W., Mittal, B., & Sharma, A. (1995). Measuring customer-based brand equity. Journal of Consumer Marketing, 12(4), 11–19. doi:10.1108/07363769510095270 McKinsey, Q. (2010). Five forces reshaping the global economy: McKinsey Global Survey results. Retrieved on January 23, 2014, from: www. mckinseyquarterly.com/Five_forces_reshaping_ the_global_economy_McKinsey_Global_Survey_results_2581 McKinsey Global Institute. (2012). Help wanted: The future of work in advanced economies. Retrieved on February 16, 2014, from: www.mckinsey.com/Insights/MGI/Research/Labor_Markets/ Future_of_work_in_advanced_economies McKinsey Global Institute. (2013). Disruptive technologies: Advances that will transform life, business, and the global economy. Retrieved on April 2, 2014, from: http://www.mckinsey.com/ insights/business_technology/disruptive_technologies Ohmae, K. (2005). The Next Global Stage: The Challenges and Opportunities. In Our Borderless World. Philadelphia: Wharton School of Publishing.

 Turkey

Palumbo, F., & Herbig, P. (2000). The multicultural context of brand loyalty. European Journal of Innovation, 3(3), 116–124. doi:10.1108/14601060010334876 Porter, M. E. (1990, March/April). The Competitive Advantage of Nations. Harvard Business Review. Sanal, M., & Efeoğlu, I. E. (2013). A Research on Relationship of Institutionalization and Institutional Entrepreneurship. International Review of Management and Marketing, 3(2), 58–62. Şen, Z. (2012). Engineering science and philosophy. International Research Journal of Engineering Science. Technology and Innovation, 1(1), 14–29.

Vassilopoulou, J., Da Rocha, J. P., Seierstad, S., April, K., & Özbilgin, M. (2013). International Diversity Management: Examples from the USA, South Africa, and Norway. In B. Christiansen, E. Turkina, & N. Williams (Eds.), Cultural and Technological Influences on Global Business (pp. 14–28). Hershey, PA: IGI Global. doi:10.4018/978-1-4666-3966-9.ch002 World Economic Forum. (2014). The Global Competitive Index 2013-2014. Retrieved on April 9, 2014, from: http://www3.weforum.org/docs/ GCR2013-14/GCR_Rankings_2013-14.pdf

Standard & Poor’s Financial Services LLC. (2014). RatingsDirect. Retrieved on March 28, 2014, from: http://www.standardandpoors.com/ products-services/RatingsDirect-Global-CreditPortal/en/us Tyson, L. (2009). World economic forum. Switzerland: Davos. United States (US) Commercial Service Turkey. (2014). Retrieved on March 4, 2014, from: http:// export.gov/turkey/ United States (US) Embassy Turkey. (2014). Doing business in Turkey. Retrieved on March 4, 2014, from: http://turkey.usembassy.gov/doing_business_in_turkey.html

69

70

Chapter 4

Cultural Management for Multinational Enterprises Christian Zuber Technische Universität Darmstadt, Germany Hans-Christian Pfohl Technische Universität Darmstadt, Germany

ABSTRACT Due to the dynamics in international business, it has become increasingly complex for the Multinational Enterprise (MNE) to find a balance between worldwide standardisation of operational processes and the usage of local advantages. The foreign subsidiary’s managers and employees are stuck in the middle of environmental requirements, defined by the parent company on the one hand and the local social environment on the other hand. To ensure organizational efficiency in foreign subsidiaries, the rising conflict between corporate and country cultural characteristics can be solved through active cultural management. This chapter describes fundamentals of culture on corporate and country level and deduces a framework for cultural management. Furthermore, strategies are presented to close the gap between a subsidiary’s external requirements and the internal implementation.

INTRODUCTION Increased business opportunities provided by a multipolar world order with rising markets in China, Brazil, or India involve increasing risks of legal certainty, political decisions, or inhuman labour conditions (Kolodko, 2003). Thus, management is confronted with a growing complexity. This complexity is intensified by an increasing volatility of the markets, as well as by local or global crises such as terrorism, natural catastrophes, or systemic financial and economic crises. The crises follow

each other in shorter periods with an increasing impact. The time of constant product life cycles or the possibility to consciously take market risks seems to have concluded (Friedman, 2005; Kotler & Caslione, 2009). Kotler and Caslione describe today’s challenge for companies as “[t]he business of managing and marketing in the age of turbulence” (Kotler & Caslione, 2009: title). Hence, to make global business opportunities usable, the complexity of international market activities and global value creation must be decreased in terms of controlling the entrepreneurial environment

DOI: 10.4018/978-1-4666-6551-4.ch004

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Cultural Management for Multinational Enterprises

and its heterogeneity. Regional concepts such as local-to-local, near shoring, or the concentration of general manufacturing in industry clusters are becoming more and more popular with Multinational Enterprises (MNE). The massive investment of the German automotive industry in Middle and Eastern Europe is one example of this development (PwC, 2013). For example, the direct investment of German manufacturers in Middle and Eastern Europe is two times higher than in China (Deutsche Bundesbank, 2013; Zuber, 2013). Lower market entry barriers caused by higher knowledge about specific market conditions and lower cultural distinctions lead to higher regional investment of Small and Middle-sized companies (SMEs) in their function as suppliers of MNEs as well. Higher direct investments in a region lead to higher cross-border resource transfer as well. Besides know-how transfer, the exchange of employees is one of the most discussed topics in the extant literature (Edström & Glabraith, 1977; Hebert & Beamish, 2005). In an international context, this is mostly done to ensure effective value creation in foreign subsidiaries. Although the term ‘culture’ relates to norms and practices in a company and in countries, most literature concentrates respectively only on one aspect: Research about the effects of country culture focuses on management level and international leading skills, whereas on a corporate level the alignment of two different corporate cultures is discussed in detail (e.g., merger and acquisition or M&A). Hence, the objective of this chapter is to describe the complex field of different cultural approaches and to present a framework of cultural management to overcome the different challenges of country and corporate culture alignment. The first part of this chapter describes in detail the diversity of culture in MNEs and their environment. Starting with the perspective on the design of international value creation networks (Caves, 1974; Dunning, 1980; Hennart, Kim, & Zeng, 1998; Levy, 1997), it is most important to find the correct balance of local advantages (i.e., low

labour costs) and advantages by standardisation (i.e., economies of scale and scope) (Prahalad & Doz, 1987). From the perspective of international neoclassical economic theory, the aspiration for an efficient resource allocation is most important. Regarding the value creation processes in manufacturing, this is mainly measured by X-efficiency under the presumption of optimal performance of workers (Coelli et al., 2005; Leibenstein, 1966). Results from research in industrial psychology and sociology show this presumption excludes a not directly measurable impact of organizational efficiency. Organizational learning ability, efficient team coordination, and the integration of employees are the main factors that make an optimal performance of workers possible (Dodgson, 1993; Gagliardi, 1986; Muchinsky, 2006). These factors are elements of corporate culture. Consequently, the definition of corporate culture, its elements, functions, and impact on corporate performance (mainly discussed since the 1990s) form the basis for the cultural framework from the corporate side (Alvesson, 2002; Cameron & Quinn, 2006; Frost et al., 1985; Smircich, 1983) which is presented here. The role and effects of corporate culture take on special significance in an international context. The socialisation of managers from the host country conflicts with the norms and practices of employees in foreign subsidiaries (Fayerweather, 1969; Johanson & Vahlne, 1977). Even though cross-cultural studies address the field of management in different cultures (House et al., 2004; Hofstede, 2001; Trompenaars & Hampden-Turner, 2002; Schwartz, 1992), they do not discuss the interaction of the host institution’s environment, corporate culture of the foreign subsidiary lived by the employees, and their country-specific mind-sets and behaviours. Therefore, the effects of cultural management will be discussed on two different environmental levels in the second part of this chapter: requirements from the parent company (e.g., standards for value creation processes, recruitment, or

71

 Cultural Management for Multinational Enterprises

information systems) and requirements from social environment (meaning of secure livelihood, family-friendly policies, or material comfort). In the international context, the requirements can be characterised by the meaning of the foreign subsidiary (Ferdows, 1989) and international management strategies on corporate level (Perlmutter, 1969). Requirements from the social environment are characterised by dimensions of country culture (House et al., 2004; Hofstede, 2001), whereas the standard management instruments only have an effect on the requirements at corporate level; however, in a cultural context they also affect the social environment (Zuber, 2013). With the construct of subcultures, the handling of corporate requirements from the parent company on the one hand and the social environment of the foreign employees on the other hand can be explained (DiMaggio, 1994; Erez & Gati, 2004; Zuber, 2013). Finally, three types of management strategies in culturally diversified environments can be derived and their effects on coordination and identification of the corporate culture will be discussed:

UNDERSTANDING THE DIVERSITY OF CULTURE IN MNES AND THEIR ENVIRONMENT

•

Fundamentals of Cultural Approaches

•

•

Instruments with an impact to the environment (e.g., private consulting services, family days). Adoption of requirements concerning the capabilities of new employees (e.g., social capabilities or adaptability to new situations). Configuration of cultural exchange programs (e.g., delegation on different corporate levels, common social activities of the host institution and the foreign subsidiary).

The conclusion provides general recommendations for the implementation of cultural management in international business.

72

Research in the area of culture is characterised by many different disciplines. This can be derived from the multitude of different definitions of terms and studies. Prasad & Prasad (2009) structure the research particularly with regard to epistemology and ontology, beginning with national and leading to organizational cultural orientation. In the process, a close reference to psychology is ascribed to the quantitative approaches (e.g., Hofstede, 1998; Hofstede, 2010), while qualitative approaches are influenced particularly by anthropological and sociological questions (e.g., Turner, 1986; van Maanen, 1988). A further differentiation can be made regarding an integrating or differentiating perspective of culture (Prasad & Prasad, 2009; Frost, 1996; Martin & Frost, 1996). In the following section of the chapter, the different approaches are presented and a definition of the concept of culture is discussed through specifics of corporate and country culture.

The core of cultural research is formed by anthropologists attempting to identify culture as belonging to humans on the one hand and ethnologists attempting to explain the history of mankind with cultural developments on the other hand. Therefore, the researching of culture is per se located at the interface to many scientific disciplines: Psychology and sociology traditionally must be named here as well as – more recently – linguistics, history, or economic sciences. The diversity of the conceptualisation already shows itself in the survey by Kroeber & Kluckhohn, who compiled and discussed ca. 160 definitions of ‘culture’ in 1952 (Kroeber & Kluckhohn, 1952). The definition by Kluckhohn (1951) forms the basis of many chronologically following defini-

 Cultural Management for Multinational Enterprises

tions (e.g., Deal & Kennedy, 1982; Geertz, 1993; Hofstede, 2001; House et al., 2004; Pettigrew, 1979; Schein, 1983b). A differentiation is made between definitions which take an integrating understanding of culture as a basis and those that take a differentiated view on culture. Early integrating definitions, such as by Deal & Kennedy (1982) or Pettigrew (1979), view culture as a compilation of values valid and shared within a group, which lead to a community. In contrast, according to the differentiating perspective, culture is formed by different subcultures which develop due to varying pressure from the environment of the community. Besides the heterogeneity of culture, the dynamic plays an important part. It is not assumed that culture is static, but is repeatedly redefined through the meeting and interaction of different subcultures. This dynamic, therefore, also leads to the development of the influenceability of culture, or rather its versatility (Martin & Frost, 1996; Prasad & Prasad, 2009). Weber can be seen as the prime father of explicit perspectives on culture in economics due to the discussions about morality and ethical principles in economics and business processes (Weber, 1904a; 1904b). Furthermore, he introduces specifics of the different developments in North America and West Europe (de Jong, 2009). The first concrete cultural approach interprets culture as a variable. The article, The changing culture of a factory, by Jaques is considered to be the origin of cultural approaches in business administration (Jaques, 1951). Jaques and further authors see culture as an impact factor on a company’s strategy, HR development, or overall success (Deal & Kennedy, 1982; Peters & Waterman, 1982). The number of a company’s observable elements such as rites are in focus. They are used to deduce different cultural characteristics. Cultural values are not considered. In contrast, culture can be seen as a root metaphor. In this case, companies are cultures or the culture is seen as an organizational variable (Smircich, 1983). The causes of the cultural origins and the determination of a company through the culture

are in focus (Sackmann, 1985). This includes a rejection of the idea that culture can be influenced or changed (Sackmann, 1985; Schein 1984b). The dynamic approach is a mixture of both approaches. A company has a common sense system that can be influenced and changed, but the grade of influence is very limited. An exact pattern of action or specific cultural characteristics is not feasible. The possible cultural changes are longterm oriented. This is caused by the long duration of the change of values and in consequence of patterns of actions on an individual level (Nystrom & Starbuck, 1984; Zuber, 2013). For cultural management, the definition of culture must also consider the dynamic approach. Furthermore, the cultural understanding of cultural management must consider the different meaning of values and actions in social and corporate environments and it must allow the defining of social entities by cultural differences. In conclusion, for cultural management the definition of House & Javidan supports all these requirements: [C]ulture is defined as shared motives, values, beliefs, identities, and interpretations or meanings of significant events that result from common experiences of members of collectives that are transmitted across generations. (House & Javidan, 2004: p. 9). Following the dynamical approach of culture, culture has an influence on corporate factors. DiMaggio (1994) describes the basis for that through the necessity to understand each other on what allows appropriate acting. The intention and acting of an individual must be understood to react appropriately. This constitutive form of culture is the basis for the likelihood of individuals being able to come along together without major problems (DiMaggio, 1994; de Jong, 2009). Thus, culture has a regulating and controlling effect through values, norms, or rites. Cultural values and actions have an impact on the integration of a social

73

 Cultural Management for Multinational Enterprises

entity. They facilitate a differentiation of social entities through different cultural characteristics.

The Meaning of Subcultures Based on the differentiating character of the culture’s definition, the definition of different subcultures is possible. This definition can be based on national, regional, linguistic, religious, gender, generational, or social affiliation on an individual level. On an institutional level, the definition can be made through the affiliation with an industry or through the stage of the value-added process (DiMaggio 1994; Hofstede, 2010; Hofstede & Peterson, 2000). As the example of regional and country culture shows, subcultures can overlap (Hill, 2008; Morschett, Schramm & Klein, 2009). Therefore, an employee is part of a corporate and a local or country culture. This makes a transfer of cultural values and actions from the social environment to the corporate environment and vice versa possible. The acceptance of different cultural values occurs either consciously through acculturation or subconsciously through enculturation (Berry, 1994; Sackmann, 1992). The existence of subcultures in companies has been proved by Barley, Meyer & Gash (1988). The differentiation of culture can be discussed by the concept of multi-culturality in a company (Gregory, 1983; Martin & Siehl, 1983; Meyerson & Martin 1987; Trice, 1993). The multi-culturality arises through intensive social and communicational exchange between a company’s social entities. The basic cultural characteristics of subcultures need not be much different to the corporate culture in general (van Maanen & Barley, 1985). Reasons for the development of subcultures in a company can be: segmentation (e.g., specialisation), imports (e.g., by fusions), technological innovations (e.g., new production processes), ideological differentiation (e.g., competing interpretations), countercultural movements (e.g., initiated by crisis), or different career paths (van Maanen & Barley, 1985). Hence,

74

the organizational differentiation of social entities in a company including departments, functional areas, project groups, or even companies does not need to be the relevant factor to differentiate subcultures in a company. What is decisive is the informal common bond in social entities (Hofstede, 1998; van Maanen & Barley, 1985; Trice, 1993). This is expressed in the proximity of individuals in a subculture and by the grade of trust among one another which implies that a differentiation of subcultures in a company is not only leveraged by the profession of the employees (Trice, 1993). The affiliation of employees to different social, religious, gender, ethnical, or cultural groups can be even more important, if those groups deliver a common understanding of values, norms, and rites for the legitimation of action during work. Cultural patterns from those environmental social groups cause needs and requirements concerning the workplace and the social interaction in the company. This results in a confrontation with the requirements of efficient operational actions at the workplace. It describes the conflict between subcultures and implementations of the organizational structure and processes. A loss of formal and informal privileges (e.g., caused by a reallocation of resources) leads to disorder of the commonly shared values and legitimation of action in subculture and thus to a normative dissatisfaction in the social entity. Lower willingness to perform and integration are the consequence (Erez & Gati, 2004; Folger & Skarlicki, 1999). In general, the introduction of new entrepreneurial concepts and strategies will influence the subcultures of a company. Furthermore, it will affect the common understanding of values, norms and actions in the social entity. An example for these coherences is the change of production philosophies from Taylorism to Lean Production (Rother, 2010). Besides the change of operational processes, the requirement of a higher transparency of the execution and coordination of working processes have lead to a different

 Cultural Management for Multinational Enterprises

self-perception of group-leaders and workers in terms of lower self-determination. Less informal possibilities to coordinate the work processes and to react flexibly to unexpected situations require different cultural patterns of the employees. If those cultural patterns are not given in a company, no social monitoring and control is possible. Costly formal control mechanisms must be implemented. Informal patterns of action of social entities become invalidated. Whether new cultural patterns can develop in a social entity of the company depends on the characteristics of values, beliefs, and norms of environmental groups (Zuber, 2013). Thus, the cultural environment of employees has to be considered in the management of foreign subsidiaries and the coordination of operational processes, too (Zuber, 2013). A country- and corporate-specific understanding and a differentiation between different cultural manifestations are necessary to deduce requirements for cultural management.

Corporate Culture First insights into corporate culture were provided by Deal & Kennedy (1982) or Mayo (1945) and Barnard (1938) and their studies about informal organization: They all had the idea of an interrelation between formal structures and well defined working processes on the one hand and attitude and motivation of workers on the other hand (Smircich, 1983). Regarding the general understanding of culture, it must be considered that corporate culture can change. This cultural change is evolutionary and hardly open to influence. Per definition, corporate culture cannot be controlled or developed to a specific kind of manifestation. In general, it depends on the people working in the MNE what the specifics of corporate culture are (Sackmann, 1985; 1992). Two of the most important concepts of corporate culture are from Schein (1984) and Osgood (1951). Schein (1984, p. 3) defines corporate culture as:

“the pattern of basic assumptions that a given group has unvented, discovered, or developed in learning to cope with the problems of external adaptation and internal integration, and that have worked well enough to be considered valid and, therefore, to be taught to new members as the correct way to perceive, think and feel in relation to those problems.” The main point of this definition is tension between external adaptation and internal integration. First, members of a company must be aware of how to solve problems that come from a company’s environment (e.g., changing customer requirements, legal specifications, or increased public pressure). That becomes most important if working instructions cannot highlight a way to handle a specific situation. This leads to the second part of problem orientation in corporate culture which is concerned with the way in which people can do things together. If there is an accepted rational and emotional correct approach how to cope with the problems and challenges from the inside and the outside, a strong corporate culture is given. The elements of corporate culture exist on different levels. Fundamental premises are on the lowest level. They consider subconscious attitudes and conceptions as well as cognitions and feelings. They are like a collective subconscious of the company as a cultural entity (Schein, 1984). The fundamental premises are the basis for a level of values which is dominated by manifested values. These could be conscious ideas about company’s objectives and strategies. These two levels are wellproven in companies (Schein, 1999). A third level exists by artefacts which can be observed by the members of the cultural entity as well as by people from the outside. This third level is dominated by structures and processes of the company and the resulting actions. Therefore, the legitimation of a company’s action is based on the manifested values from the second corporate culture level (Schein, 1999). It must be considered that the evolutionary development of specific values and fundamental

75

 Cultural Management for Multinational Enterprises

premises is influenced by the problems with which the company must cope and by employees with a high reputation. In contrast to Schein, the concept of Osgood (1951) differentiates between only two levels: concepta and percepta. The concepta level consists of fundamental premises and the collective conscious of a company (e.g., values and norms). Values and norms function as orientation for the actions and influence objectives and strategies of companies (Agle & Caldwell, 1999; Davis & Rasool, 1988; Ng et al., 1982). If the actions are accepted (e.g., by the group of company members), they are to be called norms. They can exist implicitly or be formulated explicitly as binding codes of behaviour. Examples are laws, prohibitions, or administrative regulation. In addition to norms, faith and attitudes towards situations, persons or actions are also part of the concepta level. They are much closer to emotions forced by interactions with other people in a company. In contrast, beliefs are not provable for people. They are simply taken for granted. The percepta level consists of the observable elements of a culture. The elements can be symbols or observable behaviour of a social entity. Symbols can be the architecture of a building, the design of offices and workplaces, as well as linguistic symbols like specific wordings used in a company or the stories told in a social entity of a company. According to Schein (1999), a part of observable behaviour as abstract elements of the percepta level could be artefacts, strategies, processes, and structures. Comparing the two approaches of Osgood and Schein, it is important to consider that corporate culture has at least a subconscious and a conscious level: values and norms at the first level with actions and rites at the second level. In the context of cultural management, it must be discussed which impact corporate culture has on organizational efficiency as a substitute for corporate success. In a first step, the usage of management and leadership instruments in the context of a

76

specific corporate culture’s characteristics is in focus. It must be understood how an impact of corporate culture on a company’s success arises (Denison & Mishra, 1995; Fey & Denison, 2003; Fulmer, Gerhart & Scott, 2003; Marcoulides & Heck, 1993; Petty et al., 1995; Rousseau, 1990; Sørensen, 2002). The key elements are primary functions of corporate culture: coordination and identification. Those two functions have a direct impact on the grade of integration of a social entity inside the company on the one hand and on the willingness to perform on the other hand. This is based on the consideration that every element of a company, like the company’s strategy or objectives, working instructions, hierarchy, etc., has a direct reference to the corporate culture and determines its characteristics (de Jong, 2009; Peters & Waterman, 1982). A shared understanding of values and norms regarding the coordination function of corporate culture is necessary (DiMaggio, 1994). Via common beliefs and derived senses about the ‘right’ behaviour and appropriate actions in a social entity, a social monitoring and controlling mechanism is given. Therefore, structural or formal monitoring and controlling is not necessary to generate an employee’s specific patterns of action. Besides this informal coordination of operating processes, a distinctive corporate culture improves decisionfinding processes. By the socially accepted values and norms, a common interpretation of individual beliefs, comments, or arguments is more likely. Decisions can be communicated more easily to affected employees based on common values and norms. Identification with a social entity as the second primary function of corporate culture leads to higher willingness to perform and to high self-reliance. By the identification with the social entity, a connection between individual and social values and beliefs becomes possible. A fit between the individual values and beliefs and the company’s philosophy, enterprise policy, or a company’s mission generates the motivation to

 Cultural Management for Multinational Enterprises

achieve personal work-related objectives, if they are accepted in the culturally shaped society (O’Reilly, 1989; O’Reilly & Chatman, 1986). Furthermore, a strong identification facilitates an orientation for new members of a social entity. By the orientation towards other’s actions, a legitimation is given to act in the same way. This can lead to an adoption of the common understanding of values by the new member. Distinctive communication structures to exchange ideas and beliefs about the how and why of actions and a high pressure to conform are essential. Hence, the primary functions affect characteristics of corporate culture, such as anchoring of practices and rites, homogeneity of values, norms, and beliefs, systems compatibility of values, norms, and beliefs and environmental compatibility with company-related organizational entities (e.g., suppliers, customers, or foreign subsidiaries) (Saffold, 1988; Zuber, 2013). The first three characteristics address the internal integration of a social entity in a company. While anchoring and homogeneity describe the intensity of corporate cultural elements as presented above, the systems compatibility describes the intensity of compatibility between the corporate cultural elements and organizational structures and operational processes (e.g., work instructions). However, the environmental compatibility generates a cultural connectivity to branch cultural or country cultural characteristics. It is the interface for external adaptation, as described by the definition of corporate culture above. The manifestation of the system and environmental compatibility is very important for the impact of corporate culture on a company’s success, because it defines requirements concerning the characteristics of corporate culture for smoothly running operations in the company and between different social entities (Saffold, 1988; Sathe, 1985; Schein, 1985). The integration by cultural manifestation can also lead to negative effects. The ignorance of necessary changes is caused by a solid and in the past functioning value-basis. Thus, for a positive effect of

corporate culture on the company’s success the manifestation of culture must be considered to avoid social barriers against patterns of thought and action in a company (Courpasson, Dany & Clegg, 2011; Janis & Mann, 1977; Oreg, Vakola & Armenakis, 2011; Schreyögg & Steinmann, 1987; Shrivastava, 1985). Thus, for a framework of cultural management, a deeper insight into the different effects of corporate culture is necessary. As described in the Introduction, a company’s success is directly linked to organizational efficiency. Denison & Mishra (1995) validated by a mixed-method approach that corporate culture affects organizational efficiency and a company’s success directly (Fey & Denison, 2003; Kotrba et al., 2012). In terms of internal integration, they identified with the elements involvement and consistency comparable cultural characteristics as discussed above. In terms of external adaptation, they used the concepts of adaptability and mission. These represent more concrete elements how to influence a system’s general compatibility as well as its environmental compatibility. In addition to the differentiation between internal integration and external adaptation, Denison & Mishra (1995) raise a continuum between change/ flexibility and stability/direction. Adaptability to external requirements and the grade of involvement in terms of internal integration allow a change and more flexibility of a social entity’s cultural manifestation, whereas mission and consistency lead to a required stability of and certainty about social actions and the bounded rites, norms, values, and beliefs. This is consistent with the underlying understanding of culture - that culture is stable in long terms but can be shaped by evolutionary processes. By the meaning of primary functions of corporate culture and the derived necessity of internal integration and external adaptation, two guiding principles can be set for the impact of corporate culture on organizational efficiency:

77

 Cultural Management for Multinational Enterprises

1. External adaptation to environmental requirements to gain target-oriented and successful entrepreneurial action is based on the inclusion of the cultural environment in terms of country culture. 2. Internal integration and the identification with the company lead to consistent actions of the employees. This has an impact to the willingness to perform and efficiency of coordination by the means of social monitoring and control. Empirical studies validate this impact by positive correlations. However, those studies do usually not consider the effects of country cultural influences. For example, corporate culture is often analysed of American companies in the USA. Effects of country culture on corporate culture are discussed from the side of cross-cultural studies, but an integrated perspective of the interplay between country culture and corporate culture and the impact on a company’s success is barely discussed.

Country Culture The most comprehensive cultural study is the World Value Survey. It is a longitudinal study including not only the working environment, but also further living spaces of individuals such as school, family, friends, or religion. In contrast to the other studies discussed here, the data are raised via interviews allowing for a deep analysis. However, in combination with the different levels of measurement this also makes the analysis very complex. Nevertheless, the World Value Survey facilitates a comprehensive view on cultural change in societies (e.g., the cultural world map) (Inglehart & Welzel, 2005, 2010), through its range of different societal areas and its conception as longitudinal study. The change of cultural differences caused by global communication possibilities and the usage of new media is also analysed as cultural integration for a peaceful world or the effects of

78

economic interests and public aids (Arikan, 2011; Norris & Inglehart, 2009; Reher, 2011). In contrast to the World Value Survey, most other studies concentrate on specific cultural groups such as one of the first cultural studies from Kluckhohn & Strodtbeck (1961) which is limited to a cultural view of the USA, or are limited to specific contexts such as the cultural studies from Hall & Hall (1990) that focus on the communication processes in and between different cultures. The cultural study from Schwartz (1992, 1994) and Schwartz & Bilsky (1990) is dedicated only to a country cultural perspective. A connection to cultural management is hardly possible. The first substantial cross-cultural study connected to business management is the study by Hofstede (2001). In contrast to most other crosscultural studies, his deduction of cultural dimensions is only based on empirical cognitions which explain noticed variances between subcultures. The subcultures are defined by the differentiation of 40 countries. Participants were 116,000 IBM employees from management levels as well as from the administrative area of operations and engineers (Hofstede, 2010). In a second round, the study was enhanced by 23 Asian countries, whereas no employees were surveyed but 100 students in each country by a different survey. The survey was developed by the Chinese Culture Connection to consider a different cultural understanding and response to the questions of a survey. The six cultural dimensions of power distance, individualism vs. collectivism, masculinity vs. femininity, uncertainty avoidance, long-term orientation, and indulgence vs. restraint build the basis for differentiated strategies in so-called country clusters. Here, there are fewer data about the last cultural dimension, so mostly the first five are mentioned and discussed in literature. In regard to the organizational structures of Mintzberg (1978, 1983), Hofstede deduces different management strategies for some cultural dimensions in different countries.

 Cultural Management for Multinational Enterprises

In contrast to the cross-cultural study by Hofstede, the Global Leadership and Organizational Behavior Effectiveness (GLOBE) research program by House et al. (2004) was conducted in 59 countries in different industries: food, finance, and telecommunications. These industries can be found in almost all countries. The study addresses individuals as well as organisations, industries, and countries, and the analysis is theory-based. The influence of different country-cultural characteristics on leadership is described by a hypothesesbased model. In a further step, the influence of managers on the performance of employees and the influence of country cultural characteristics on the relationship between organizational efficiency and organizational practices should also be tested (House & Javidan, 2004). The deduction of the hypotheses is based on several theories. In the case of the relation between country culture and corporate culture, the Social Network Theory has been used as well as the Resource Dependency Approach, and the Neo-Institutional construct of Isomorphy (Brodbeck et al., 2004). Thus, the significant influence of the social system and the industry on the corporate culture has to be evaluated (Brodbeck et al., 2004). The understanding of culture differs a little from the approaches presented above. The GLOBE study differentiates only between values and practices on a social (country-based) or organizational (corporate) level. Analogical to the theory-based deduction of the study’s hypotheses are the cultural dimensions deduced from theory. The main basis are the cultural dimensions from Hofstede’s crosscultural study, the approaches by Kluckhohn & Strodtbeck (1961) and McClelland (1961), as well as the behavioural approach by Cyert & March (1963): uncertainty avoidance, power distance, gender egalitarianism, institutional collectivism, in-group collectivism, human orientation, future orientation, assertiveness orientation, and performance orientation. The cultural dimensions are surveyed on management level in the three formerly mentioned industries, because of the

strong leadership orientation of the GLOBE-study and its hypotheses. A total of 10 different cultural clusters are defined (Javida, House, & Dorfman, 2004): Eastern Europe, Germanic Europe, Northern Europe, Latin America, Anglo Saxon, Confucian Asia, South Asia, Middle East, and sub-Saharan Africa. Thereby, the high manifestation of power distance on practice level in most of the observed countries is as conspicuous as the higher closeness on practice level compared to a high differentiation on value level. Furthermore, the manifestations of power distance and assertiveness orientation are much higher on value level than on practice level. Finally, the study validates a high influence of country culture’s values and practices on the practices of corporate culture, whereas an influence of the industry on corporate culture could not be validated. The GLOBE project group conducted a second cross-cultural study with a smaller sample of 25 countries and with a more qualitative research approach. Thus, a deeper understanding of relations between different cultural levels (values and practices) and cultural dimensions as well as the influence of leadership by cultural manifestations could be generated (Chhokar, Brodbeck, & House, 2008). Furthermore, it is positive that a team of more than 170 international experts developed the survey so that cultural self-reverences and misinterpretations could mostly be excluded. The GLOBE-study provides a very consistent concept to generate cultural manifestations on country and corporate level from the perspective of cultural management.

Objectives of and Requirements for Cultural Management With the fundamentals about culture, objectives of and requirements for a cultural management can be derived. The importance of cultural management is reasoned by the impact of cultures on the efficiency of management. On the one hand,

79

 Cultural Management for Multinational Enterprises

possibilities to increase the grade of standardisation through efficient coordination across foreign subsidiaries – and along with it across different cultures – must be generated (Phatak, 1981; Phatak, Bhagat, & Kashlak, 2005). The object is to realize economies of scale and learning curve effects. In terms of corporate culture, it means an adoption of mind-sets and specific actions in foreign subsidiaries. Values, beliefs, norms, and practices of foreign employees shaped by their social environment are not considered. Ideally, at best, an MNE-wide standard of mind-sets and actions arises for the purpose of transcultural employees, which limits the influence of different social and cultural origins. On the other hand, mostly foreign subsidiaries are confronted with the chances of cultural differences. How to increase the local capability to solve problems under local circumstances or the setup of a strong local culture for a high internal integration of employees is the goal. This very often leads to a preservation of local interests and country cultural characteristics against the standards of the MNE. In this conflict between standardisation and localisation on a cultural level, cultural management has to be arranged. The main topic of cultural management is the planning, processing, monitoring, and controlling of management functions in an international and cross-cultural context. This includes the assignability of management concepts from one country to another, the areas of international human resources such as the organisation of secondments, or intercultural communication (Black & Gregersen, 1999; Boxall & Putcell, 2003; Chen et al., 2010; Delios & Beamish, 2001; Edström & Galbraith, 1977; Gong, 2003; Hebert & Beamish, 2005; Kostova & Kendall, 2003; Nahapiet & Ghoshal, 1998). As the consideration of general management concepts leads to an enhancement of their culture-specific usability, cultural management addresses the minimisation of cultural conflicts for an increased organizational efficiency. In consequence, propositions about the design of interrelations between a parent company

80

and their foreign subsidiaries can be deduced on a cultural level. Cultural management provides an additional perspective on the general concepts of international management, like the EPRG-profile of Perlmutter (1969), the orientations of Bartlett & Ghoshal (1986), or role-typologies of Ferdows (1997). Basis for the analysis in the context of cultural management is the ascertainability of cultural manifestations and the identification of cultural differences. Qualitative and quantitative approaches are used for an analysis equally (Alasuutari, 1995). While qualitative approaches allow a deep insight into specific cultural manifestations of a single case (e.g. in foreign subsidiaries or otherwise defined social groups), quantitative approaches allow the comparison of different subcultures in different regions, in different subsidiaries, or even at different points of time (Hofstede et al., 1990). Thereby, the aggregation of cultural manifoldness to measurable indicators and dimensions is the basis for an operationalization of the variables that describe the manifestation of a culture (Alasuutari, 1995). In consequence, cultural management must consider the possibility of a general differentiation of cultural manifestations across socially defined groups (e.g., country based), as well as a detailed analysis of cultural settings on corporate and environmental level in a concrete defined case (e.g., a specific foreign subsidiary and its environment). Nevertheless, a differentiation of cultural manifestations is the basis for cultural management. Generally accepted are approaches that aggregate cultural characteristics through cultural dimensions (Boyacigiller et al., 2004; Shenkar, 2012). The indicators for describing cultural manifestations, which are mostly deduced from theory, are aggregated by cluster and/or factor analysis on the basis of mean averages. By the simplification of cultural characteristics as cultural dimensions a bypass is given, which creates connections between general concepts and strategies of international management (Kogut & Singh,

 Cultural Management for Multinational Enterprises

1988; Shenkar, 2012). For example, one relevant factor for the decision about the form of ownership is the cultural distance between the MNE and the future foreign organizational entity. In the case of cultural closeness between the parent company and a foreign subsidiary, fewer conflicts on a management level are to be expected, whereas a high cultural distance may indicate cooperation with a partner company that is aware of how to handle management issues in foreign countries. Hence, the interplay of corporate and country culture must be discussed. What part the country culture has as an impact factor for corporate cultures has been the point of interest in follow-up studies to the cross-cultural studies discussed above. Shane, Venkataraman and Macmilan (1995) discovered that social differences represented by uncertainty avoidance, power distance, and individualism correlate with the manifestation of championing behaviour in different countries. Hayes & Prakasam (1989) identified a special meaning of power distance for the business relation between consultants and their customers. However, they do not present an explanation why this correlation is given. The theory-based approach of the GLOBEstudy can deliver such an explanation about the impact of country culture on corporate culture (Dickson, BeShears, & Gupta, 2004). Regarding the Cultural Immersion Theory, patterns of behaviour are more likely to be used if they are used frequently and by different people. It can be seen as a self-reinforcing system that generates an acceptance for specific behaviours in a social entity and with it a common value system (Erez & Earley, 1993; Hanges, Lord, & Dickson, 2000; Lord & Maher, 1991). Corporate culture can be influenced by people who bring socially accepted patterns of behaviour into the company. This effect is validated by different studies (e.g., Jang, 1997; Meschi & Roger, 1994; Schuler & Rogovsky, 1998). Very important are key persons like executive managers or founders of a company. On the one hand, they will prefer to

work with people with the same value system, and on the other hand, they will decide about the design of organizational structures and operational processes for the purpose of their value system (Hanges, Lord, & Dickson, 2000; Locke, 1991; Lord, Brown, & Freiberg, 1999; Miller, Kets de Vries, & Toulouse, 1982). In a more general way, the concepts and constructs of Neo-Institutional theory provide explanations for the diffusion of cultural values and the imitation of cultural practices in social entities. Even though the concepts like isomorphism are described in an institutional and not in a cultural context (Dickson, BeShears, & Gupta, 2004), it has high potential for a deeper understanding of opposing effects of country and corporate culture. In the context of MNEs the key question of cultural management includes the following: 1) whether foreign subsidiaries’ corporate cultures should be close to the corporate culture of the parent company in order to realise organizational efficiency by MNE-wide standardization; or 2) if foreign subsidiaries’ corporate cultures should be close to the country cultures to realise organizational efficiency through a higher external adaptation and internal integration of the subsidiary. To conclude, the following propositions about culture on corporate and country level must be considered for the development of a cultural management framework: 1. Stability and heterogeneity of country cultures confront the homogenisation of corporate cultures and border-crossing values. 2. For an integrated view of country and corporate culture, an integrated concept is needed. Subcultures as social entities and their social and corporate environment are the linking element. 3. Cultural values and actions have to be taken into account to be able to explain impacts on organizational efficiency holistically.

81

 Cultural Management for Multinational Enterprises

A FRAMEWORK FOR CULTURAL MANAGEMENT The basis for a cultural framework is an understanding of how culture may be influenced and what are included in the main change processes. In the following sections, cultural change approaches and the framework for cultural management will be described.

Cultural Change No matter which concept of cultural management is preferred, achieving organizational efficiency in an MNE requires a change of cultural characteristics either on corporate level or on subcultural level in the context of country culture. Versatility is very important for the sustainable success of companies (e.g., in the subject of innovation management). Change must be seen as a positive factor, meaning – by implication – openness to different cultural values and actions (Deal & Kennedy, 1982; Hedberg, Nystrom, & Starbuk, 1976; Kanter, 1992). Culture and its manifestation are in a steady flow on a long-term perspective. The reason is that new and different problems and challenges arise for which new patterns of behaviour and actions are developed. In companies, this is more important than in the social environment because the corporate environment is much more dynamic (Pascale, 1990; Schoenberger, 1998). Regarding the interrelationship of country and corporate culture, it is necessary to differentiate the different causes for cultural change and to describe the different dynamics in social and corporate environment. A basic framework for cultural change is described by Williamson (2000) and de Jong (2009). They identified five different levels which are relevant for understanding actions and their consequences: The first level focuses on the development of the mind. The second level comprises cultural aspects like the implicit characteristics. This contains informal control systems, rites, and

82

norms as well as regional aspects and values. This level determines the institutional environment which consists of formal rules and actions concerning ownership and possession. Finally, the fifth level describes the implementation of the formal rules and actions. They allow the allocation of marginal resources. In consequence, culture as shared values and informal control systems is a restraining factor for the development of formal rules and actions. De Jong (2009) describes the possibility that higher levels can also influence lower levels. Therefore, culture can be influenced by formal institutions like work instructions or economic principles. Classifying a company on the institutional level, the communication in social entities enables cultural changes (Smircich, 1983). Entrepreneurs or subcultures initiate the change of cultural values and actions. Through the expression of values by communication, a notification of these is possible. Schein (1983a, 1984b) and Cameron & Quinn (2006) identified a high importance of the behaviour of leaders and rites and actions for the legitimation of employees to also behave in a similar way. If the legitimation of patterns of action is shared in a social community, the manifestation of cultural values and actions is supported. The development of different subcultures in a company is based on the different meaning of symbols and rites in different social entities of a company (Howard-Grenville et al., 2011; Kunda, 2006; Louis, 1983; Martin & Siehl, 1983; Martin, 2002; Meyerson & Martin, 1987; Sackmann, 1992; van Maanen & Barley, 1984). Therefore, it is necessary that for a change of cultural values and actions the awareness of the problems and disadvantages of actually accepted values and actions and their alternatives are given. Furthermore, every involved individual must be conscious of this fact. In its absence, a collective change of shared values and patterns of actions, which are represented by rites and symbols, is not possible. The group of individuals who are conscious of the

 Cultural Management for Multinational Enterprises

Figure 1. Culture as influencing and influenced factor (de Jong, 2009: p. 35)

problems and disadvantages of the status quo are enablers for cultural change. Therefore, the initiators and enablers are necessary to make cultural change possible. The main concepts for cultural change are Lundberg’s (1985) learning cycle model, Dyer’s (1985)evolution model, Schein’s (1984b) lifecycle model, and Gagliardi’s (1986) model of organizational change. For an example, see Dyer’s model in Figure 2. Four main points describe the basis of all models for cultural change: 1. Generally, the notifications of crisis or comparable situations in which problems and challenges are hardly solvable for a social entity or an individual are the cause for the beginning of cultural change. 2. Strong and accepted leaders are usually initiators of the change process. 3. A consolidation takes place through the notification of the advantages that rise caused by the change. 4. The diffusion of the change has to be supported by activities that support the retraining of habits and patterns of action. Regarding Williamson (2000) and de Jong (2009), causes for the cultural change in a company can be the conversion of country cultural manifestations or developments in the environment. Intercultural capabilities are necessary to understand and support cultural change (Phatak, Bhagat, & Kashlak, 2005).

A cultural change not caused by crisis (cultural shocks) but by differences within a subculture is discussed by Howard-Grenville et al. (2011) based on Swidler (1986). The consideration of the different functions of culture (e.g., coordination and identification) leads to an understanding that culture and its elements can be experienced in a different way. Seeing cultural values and actions as cultural resources, in a subculture as social collective a common understanding about legitimated action, arises through a common understanding about the usage of the cultural resources. Furthermore, the legitimation and acceptance of new cultural values and actions on an individual level depends on a cultural manifoldness of the social entity. The more different cultural resources are accessible for an individual, the easier it is to accept change and new patterns of action. Furthermore, the intersection of different cultural resources leads to stability and convergence in actions and strategies (Howard-Grenville et al., 2011; Swidler, 1986; Swidler, 2001; Weick & Quinn, 1999). This approach of cultural change on an individual level is relevant if change is initiated by the isolation for a formally known environment. This makes reflective rethinking of an individual about their own cultural values and actions comparable to the values and actions of other individuals or social entities and their cultural resources. This leads to a cultural adaptation based on the legitimation of the own cultural values and actions by the social entity. However, this leads to a separation from the former cultural environment (Howard-Grenville et al., 2011; Lewin, 1947; Turner, 1967, 1977, 1982,

83

 Cultural Management for Multinational Enterprises

Figure 2. Dyer’s evolution based model for cultural change (Dyer, 1985: p. 211)

1987). In this case of cultural change, neither a (cultural) crisis in the environment nor an important leader has a dominant role in the cultural change process, even though the impulse for change from the outside is necessary. Most important are the members of a subculture as social entity who have an overview about cultural values and actions that are acceptable for the members of that specific subculture. Those enablers do know which cultural values and actions will be legitimated by the social entity and in conclusion will be taken into the cultural resources of belonging individuals. Whether new cultural values and actions will be accepted depends on their awarded potential to solve individual problems and challenges in the daily routine (e.g., at work) (Howard-Grenville et al., 2011). Compared to Dyer’s evolution model, the approach of Howard-Grenville is different concerning the cause of cultural change, important actors for the change process, and the diffusion of different (new) cultural values and actions (see Table 1). This approach is appropriate to explain cultural change in the interplay of corporate and country cultural characteristics.

84

Managing Culture in Multinational Enterprises Regarding the previously discussed fundamentals about corporate culture and country culture as well as cultural change, the framework for a cultural management in MNEs must be described as follows: The efficiency of a company is caused by corporate culture. The identification with corporate objectives and actions of the company and the coordination through social control and monitoring are the main functions of corporate culture which are most important for organizational efficiency. Necessary for that goal is an internal integration of cultural values and actions and the external adaptation to environmental requirements. Regarding House et al. (2004), a differentiation of cultural values and actions is necessary. Further elements, mainly discussed by the other quoted authors like rites, norms, or symbols, are main indicators for identifying the manifestation of cultural values and actions on corporate and country level. The same definition of corporate and country cultural elements leads to the possibility of using subcultures as the linking pin between both environments. Subcultures as social entities of a company bring

 Cultural Management for Multinational Enterprises

Table 1. Comparison of different cultural change approaches Evolution Model (Dyer)

Cultural Differences (Howard-Grenville)

Cause of cultural change

(Cultural) Crisis in the environment

Noticeable differences of cultural values and actions

Important actors

Leaders as initiators of the change process and role models

Enablers who understand the readiness for the acceptance of different cultural values and actions as cultural resources

Diffusion of different cultural values and actions

Retraining of habits and patterns of actions

Separation from the former environment and becoming aware of the advantages for individual problem solving

cultural values and actions of the social environment into the company. The subcultures as social entities inside the company can, but do not need to be derived by common occupation. Regarding Williamson (2000) and de Jong (2009), another necessity for cultural adaptation exists on an institutional level. The parent company must be seen as a relevant part of the foreign subsidiary’s environment. Objectives, strategic alignment, and other characteristics of the parent-subsidiary relationship such as those found in Perlmutter (1969), Bartlett & Ghoshal (1986), or Ferdows (1997), determine patterns of thought and action which the subsidiary must consider. For example, the constraint of having to implement a specific production system such as Kaizen, Just-in-Time (JIT), or Just-in-Sequence (JIS) as a part of production philosophies like lean production in an off-shore or source subsidiary (Ferdows, 1997) makes a change of view about working processes and work organization necessary. The employees must understand and internalize the ideas about a production philosophy. This has been the primary reason behind the success of Toyota’s production philosophy (Rother, 2010). On an institutional level, the corporate culture as part of the subsidiary’s environment is given. This becomes very important if managers are provided from the parent company to the subsidiary to assume a leadership position. Therefore, the parent company influences the subsidiary through making objectives, transferring technology and rules

for work processes, and through human resource transfer. As a result, the possibility for foreign subsidiary’s employees arises to observe different cultural characteristics in forms of patterns of thought and action. Thus, for cultural change we follow the approach of Howard-Grenville (2011) which states that not only crisis can initiate cultural change, but also the notification of differences in cultural resources and the advantages that other cultural values and actions may have for individual problem solving. Regarding the different levels discussed by Williamson (2000) and de Jong (2009), different cultural manifestation can lead to a change of formal action that is institutionalised in companies. To describe the characteristics of cultural manifestation in different subcultures, the cultural dimensions of the GLOBE study provide the best possibilities. This is due to several reasons. First, other cultural studies are taken into consideration and the cultural dimensions are validated by different theories. Second, the study is based on international and intercultural teamwork so that that the general cultural characteristics tend to be free from empirical biases. Last, the questionnaire and the procedure for evaluating cultural characteristics are available, making it possible to execute one’s own cultural studies (e.g. Zuber, 2013). This is necessary to find out about specifics of cultural mind-sets in a foreign subsidiary and in the parent-subsidiary relationship, respectively. The differentiation between cultural values

85

 Cultural Management for Multinational Enterprises

and actions supports a better understanding of the intensity of integration (e.g. of patterns of thoughts and actions). This is important if not only management levels are analysed, but also value-creating professions as a specific subculture in the company. In conclusion to the theoretical fundamentals of cultural management discussed above, the following elements must be considered: subcultures, social environment, environmental influences of the parent company, and the corporate culture of a foreign subsidiary. Subcultures are social entities situated in a company. Their members have common cultural values and actions. They understand each other through informal rules. The legitimation for the ‘right’ action results from believing in shared values. A good indicator for the differentiation of sub-cultures in a corporate environment is the profession. However, the differentiation does not have to be identical with formal organizational units. Informal ties between employees across different units are common. The characteristics of subcultures can be described through cultural dimensions, (e.g., from the GLOBE-study) (House et al., 2004). The characteristics of cultural dimensions are mainly shaped by the social environment. This is caused by the socialisation processes during upbringing. Therefore, the strong social background dominates the legitimation of patterns, thoughts and actions in the corporate environment. However, in general, cultural characteristics can be shaped even though a differentiation needs to be made between those cultural values that can be changed and those that cannot be changed (Zuber, 2013). A total cultural alignment with corporatedominated culture is more unlikely for professions with contact with organizational units from other countries (e.g., the parent company of an MNE as well as suppliers or customers). Therefore, an alignment to corporate culture is more likely for managers than for workers in production.

86

As described above, the influence of a parent company is not limited to objectives and other requirements. The design of the resource transfers on technological as well as on human level are very important for a cultural management. In particular, the human transfer from a parent company to a foreign subsidiary or vice versa allows delegated employees to gain new cultural experiences. Those people are likely to take the role of gatekeepers who support cultural change in a subculture. With the implementation of new technologies, a change of work processes and how to handle problems also exists. Therefore, the patterns of thought and action in a subsidiary should change. Inefficiencies will arise if those patterns are not legitimated by cultural values. Patterns that do not fit lead to disbelief in the rightness of actions. A legitimation of the action desired by the corporate side is not given by the subculture. In consequence, formal control and monitoring is needed, because social and informal control as part of the corporate culture’s coordination function does not work. Internal integration and external adaptation are not in balance. Organizational inefficiency would be the consequence. This leads to the final question of what corporate culture really is. That it can described through at least two different levels (here: cultural values and actions) has been discussed above. However, the theories do not differentiate between a lived corporate culture through the subcultures and patterns of thoughts and actions which should be internalised through the necessity of changing patterns of actions in the work processes. As mentioned in the extant literature on lean management, the most important point is to make people understand why it is necessary and to make them believe in the necessity of change. This is close to a change of cultural beliefs in values and actions (Zuber, 2013). However, there remains the question of how to adapt external requirements in a way that they are at least not contrary to the internal integration.

 Cultural Management for Multinational Enterprises

Figure 3. A framework for a cultural management (Zuber, 2013: p. 130)

In conclusion, the following requirements for a cultural management that increases organizational efficiency in a MNE can be deduced: •

•

•

The relationship between parent company and foreign subsidiaries must be known and described. In which organizational entities are exchanges usual and which further exchange on technological, communicational, or human level is existent? For an effective cultural management, the cultural characteristics of parent companies and foreign subsidiaries must be known on an institutional level. Furthermore, subcultures must be differentiated on a cultural level to address change activities in a target-oriented manner. The country culture of the foreign subsidiary’s workers must be known and the role of family and friends, status symbols, or other emphases of private life should be considered.

•

•

Controlling the possibility of making observations of cultural differences. Gatekeepers who are accepted in the subculture and who can make cultural experiences about different ways to solve problems and to coordinate work processes play an important role. Be aware that the manifestation of some cultural dimensions cannot be changed. The integration in the social environment is too strong to get them affected through cultural management. If they are opposed to corporate patterns of thought and action, it may lead to inefficiencies or even ineffectiveness. Especially in geo-culturally far-flung organizational entities, an imbalance between external adaptation and internal integration is more likely.

87

 Cultural Management for Multinational Enterprises

STRATEGIES OF CULTURAL MANAGEMENT The discussion about the relationship between corporate and country culture shows that a cultural management must consider the environment of subcultures or of the social entities respectively. The key element is the interplay of external adaptation and internal integration. So strategies, which can influence the organizational efficiency positively, must support the balance of external adaptation and internal integration. Without external adaptation, the general output would not be as important. Additionally, without a high level of internal integration, the efficiency of an organizational unit would not be as expected which is caused by additional effort for formal controlling and monitoring. Three main strategies of cultural management for MNEs can be derived: 1. Influencing the requirements of the employees’ and foreign subsidiary’s external environment. 2. Extending the cultural resources of subsidiary’s subcultures. 3. Changing the cultural resources of subsidiary’s subcultures.

Considering the External Environment The first strategy of a cultural management can be used in cases where a cultural change is unlikely or combined with high effort. This is the case if the manifestations of non-influenceable basic cultural dimensions are in a conflict with forced workrelated patterns of thought and actions. In this case, the only chance to realize organizational efficiency by informal controlling and social monitoring is to influence the requirements from the external environment. In the words of corporate culture, it is to make the external adaptation more likely. The relevant external environment of employees and foreign subsidiaries consists of the

88

social environment such as family or friends, the national environment on an institutional level including local and governmental authorities or non-governmental organizations, and the objectives and requirements from the parent company. In the social environment, the country culture and the manifestation of country-cultural dimensions are very important. For example, the requirements from the side of the family exist regarding future security. The employee must be able to provide for his family adequately. In cultures in which the avoidance of uncertainty is highly manifested, the requirement should also have a higher impact on the employee. In consequence, every forced change of the patterns of thought and action (e.g., the introduction of a production technology) that affects the working process of employees in such a country should be introduced carefully. Any indication that an employee may not be able to handle the change leads to his resistance. An alternative way would be to use the high internal integration of employees in the foreign subsidiary and to integrate them during the development and design process. Another example is a high manifestation of masculinity. In such societies, status symbols are very important. Company-related gifts or good payment lead to a high reputation of the employee in his social environment and to a high reputation of the company indirectly. Higher motivation to stay in the company, compared with a higher internal integration, is the consequence on a personal level. Through the higher reputation of the company, the chances for the foreign subsidiary on the labour market may improve as well. All things considered, the requirements of families and friends of an employee have to be taken into account. They will be different if different cultural manifestations are given. For cultural management, it is important to know, as a first step, about the social environment and different subcultures which a subsidiary comes from. In a second step, instruments of cultural management should be evaluated because the

 Cultural Management for Multinational Enterprises

same instrument could have reverse effects in a different cultural manifestation. It must be evaluated if an instrument would reduce the necessity of external adaptation (e.g., requirements from the social environment) or strengthens the internal integration (e.g., acceptance of forced patterns of thought and action). Some examples of instruments that affect the social environment include: • • • • • •

Monetary incentives and bonuses (e.g., cafeteria-system). Company-related gifts. Family days (e.g., open house days, Christmas parties, summer festivals). Donation for cultural or sports activities. Private consulting (e.g., in financing). Medical and social care (e.g., child-care).

Requirements from the national environment on an institutional level are defined by regulations or social pressure. On governmental side, rules about tax-changes, bonus systems, social activities of companies, or regarding operational safety do have effects mostly on the internal integration. For example, if the company is blamed for a reduced net income, even though the cause was an increased tax on wages, cutting of bonuses, or cutting exemptions for tax-free income, the acceptance of other requirements regarding the work processes will regress. The informal coordination becomes more complex and the internal integration less intensive. Again, in cultures which have a high longterm orientation towards masculinity, this effect is more likely than in countries with a lower manifestation. It is important to counteract such effects for effective cultural management. Informing the employees about work-related changes in their national environment may help to make the employees understand where the conformation options of the company end and the responsibility of governmental institutions begins. Furthermore, it may be possible to influence the decision-making of governmental institutions, especially if they are

locally responsible. Setting up public transport possibilities or the enhancement of childcare are two examples. Success depends on the power the company possesses. One possibility to increase the power is to find associates on a corporate level that have the same interests facing the same governmental authorities. In the case of foreign direct investments (FDI), those associates could be found in the industry-cluster which is built around a focal company. Somewhat different in nature is the influence of non-governmental groups. They express strong opinions which influence the employee’s belief in the legitimation of their work-related actions. This leads to an imbalance of external adaptation and internal integration. In this case, the theory and instruments of Public Affairs Management deliver good solutions to reduce this environmental influence (e.g., Corley, Cochran & Comstock, 2001; Getz, 2001). The relationship between parent company and foreign subsidiary includes external and internal effect which must be considered as discussed below. The external aspects refer to the requirements that can be deduced from the objectives or the resource transfer. The introduction of new technology that shapes the necessary patterns of thought and action for efficient operational processes is one example mentioned above. Regarding the cultural diversity on national and subcultural level, the consideration of cultural basic dimensions is very important. Basic dimensions cannot be influenced through cultural management, so they build restrictions for the setup of the introduction of new technologies or the character of a company’s objectives. This is most important for decision-makers in the parent company. Local experience as well as intense communication and trust between managers from the parent company and the foreign subsidiary are indispensable. Therefore, personal deployment policies are a very important instrument, so it is more likely that an understanding of the foreign subsidiary’s cultural characteristics arises if exchange pro-

89

 Cultural Management for Multinational Enterprises

grams are implemented on a managerial as well as operational level. This provides management in the parent company the possibility to verify requests communicated by the subsidiary (e.g., to change objectives or the introduction of new technologies based on culturally caused conflicts in the work processes). If an employee of the parent company can confirm there are relevant differences between the parent company and the foreign subsidiary, it will be more likely that the parent company’s manager becomes sensitive to the cultural differences and tries to find alternative solutions. Furthermore, an active communication about the cultural situation and imbalances with subcultural manifestations between the parent company and the foreign subsidiary is necessary to avoid cultural barriers during the change process. The following instruments to influence the parent company’s requirements are some examples: •

• •

Personal deployment policies (e.g., a frequent exchange program or introducing managers from the foreign subsidiary into the parent company for a longer period). Sensitising the parent company for cultural difference and specifics. Periodic exchange programs (e.g. on different working levels).

In the end, it will be a decision about what is better for the overall company’s success: considering cultural specifics and using efficiency effects on the basis of informal controlling and social monitoring, or using formal instruments to control the work processes.

Changing Cultural Resources The second strategy of cultural management addresses internal integration. The objective is to generate possibilities of changing cultural resources. Cultural resources are the ability of a subculture’s member to legitimate their thoughts

90

and actions through cultural characteristics. Cultural management should influence the manifestation of cultural values and actions to make them comparable to work-related patterns of thought and action in different subcultures. As shown above, cultural change can be initiated through the observation of advantages from alternative processing (patterns of thought and action to solve problems). Thus, the task of cultural management is to make those observations more likely. Situations in which different approaches to solving problems can be observed are, for example, the delegation of employees from the foreign subsidiary to the parent company. A shorter stay to learn about new technologies and the change of work processes helps in a later phase when the new technology and work processes must be implemented in the foreign subsidiary. The local employees can multiply their observations in the subculture of workers and make an acceptance of new patterns of thoughts and action more likely. The legitimation of individual actions and the belief in the rightness of their own actions lead to the cultural change. The distribution of different cultural observations and experiences is a second critical point. Members of a subculture that could not make the observation of an alternative’s advantages can only be convinced through gatekeepers of their subculture whom they trust. The identification of those gatekeepers is very important for making a cultural management workable. Because of the informal character of culture and its functions, the gatekeepers do not have to be leaders of organizational units. More important is the role in the social entity defined by the subcultural manifestation. Consequently, the choice of employees who will be sent out should consider cultural sensitivity and the capability to tell people about experiences and observations in the host unit after returning. Their special social status helps to generate legitimation of alternative patterns of thought and action. Therefore, the adaptation to external requirements

 Cultural Management for Multinational Enterprises

becomes more likely through a higher internal integration. The design of exchange programs for employees is just one possibility to raise the likelihood of observing cultural differences and differences in patterns of thoughts and action. Every instrument that supports the cross-border exchange between different organizational units may help to get external adaptation and internal integration in balance: •

• • •

Common social activities of groups from the subsidiary and the parent company (e.g., sports championships or milestone celebrations). Information about news from the whole MNE (e.g., company-wide newsletter). Company-wide education programs (e.g., trainee programs). Information events about the status and role of a specific subsidiary’s group in the MNE and its contribution to overall success.

It has to be considered that not all cultural dimensions may be changeable, caused by a strong socialisation and deep integration of the employees into their social environment. In that case, the cultural characteristics should be used and requirements should be adapted.

Extending Cultural Resources Changing the cultural resources is one way to influence the internal integration of corporate culture. A second possibility is to extend the cultural resources and to facilitate the access to them. This can mainly be implemented by a culture-oriented design of the employment structure. The most relevant factors include the age of employees, the duration of the employment, and the given experience with other cultures (Zuber, 2013). The main objective of cultural management in this case is to

use the benefits of the different capabilities which come along with different demographic factors. The combination of younger and older employees facilitates a knowledge transfer. This is based on the higher capabilities and experience in solving problems. Different approaches as a reaction to unexpected and new situations are observable for younger employees, so that their repertoire of patterns of thoughts and action is more likely to become extended. However, the older employees also benefit from the pure operational performance of younger employees. An advantage that new employees deliver is the general openness to change. Due to the new job, they must now adjust to characteristics of the corporate culture. Therefore, the employment of new people can support the implementation of new technologies or other requirements from the social and corporate environment which make an external adaptation necessary. The success of new employees regarding cultural change depends on the subcultural manifestation. A solid openness in teams to new members makes it much easier to integrate employees in a social entity. It should raise a belief in the capabilities of the new employee and that with his help the changing requirements can be handled more easily. Of course, the lower productivity of new employees must be considered, so new employments should be target-oriented. The third demographic factor brings new elements to the cultural resources. Experience in former positions of different companies helps to bring in new patterns of thoughts and action, thus making work processes easier. If those new patterns of thoughts and action are legitimated by a subculture, the cultural characteristics change. A general acceptance of the new employee and the development of trust in their cultural experiences are necessary. At least new employees with a high cultural experience do bring a high sensitivity to cultural differences into the foreign subsidiary or into the parent company. Therefore, culturallycaused barriers in work processes between the

91

 Cultural Management for Multinational Enterprises

two organizational units are more likely to be identified.

CONCLUSION The differences inherent in the three strategies of cultural management show the complexity regarding the right way to increase organizational efficiency in MNEs. A higher complexity arises with the fact that each foreign organizational entity of an MNE has to be seen as a single case. This is caused by different culture’s basic dimensions of the national and social environment of employees working in a foreign subsidiary. However, in conclusion the following general recommendations for the cultural management can be made: •

•

•

•

•

92

New employees should be validated by their cultural and international experience even though they will not have tasks with international relevance. Working groups on different operational levels should combine employees with different grades of (cultural) experiences and capabilities. The cultural exchange between parent company and foreign subsidiaries must be implemented separately on different operational and management levels. Cultural gatekeepers should be used to make external adaptation more likely. Gatekeepers must be identified by their social status in a subculture. They have to be sensitive to cultural differences on national and corporate level. The interfaces between parent company and foreign subsidiary should be limited and transparent. The intensity of requirements concerning the foreign subsidiary should be planned patiently considering the influences of the organizational efficiency. Instruments that include the social environment of employees should be used.

•

These instruments should address the cultural values and actions of the employees in their social environment. In this case, the effects on organizational efficiency are indirect. This includes the support of activities of corporate subcultures in their social environment. The design of the payment- and bonus-system has to consider cultural characteristics. This is not only important for the direct effects to the willingness to work. An indirect effect arises regarding the requirements of the employee’s social environment.

Challenges in the future research of cultural management will be to consider the effects of different geo-cultural distances. The integration of operational processes in global supply chains generates compatibility on an institutional level, whereas the approximation of peoples on a cultural level needs much more time. Consequently, it is a self-interest of companies to support intercultural sensibility to reduce cultural barriers and conflicts for a higher organizational efficiency. Hence, for MNEs an active cultural management is as important as management on the operational level.

REFERENCES Agle, B. R., & Caldwell, C. B. (1999). Understanding research on values in business. Business & Society, 38(3), 326–387. doi:10.1177/000765039903800305 Alasuutari, P. (1995). Researching culture: Qualitative method and cultural studies. London, UK: Sage Publications. Alvesson, M. (2002). Understanding organizational culture. London: Sage Publications. doi:10.4135/9781446280072

 Cultural Management for Multinational Enterprises

Arikan, G. (2011). Economic Individualism and Government Spending. World Values Research, 4(3), 73–96.

Cameron, K. S., & Quinn, R. E. (2006). Diagnosing and changing organizational culture. San Francisco: Jossey-Bass.

Barley, S., Meyer, G. W., & Gash, D. (1988). Cultures of Culture: Academcis, Practitioners, and the Pragmatics of Normative Control. Administrative Science Quarterly, 33(1), 24–60. doi:10.2307/2392854

Caves, R. E. (1974). The causes of direct investment: Foreign firms’ shares in Canadian and U.K. manufacturing industries. The Review of Economics and Statistics, 56(3), 279–293. doi:10.2307/1923965

Barnard, C. J. (1938). The Functions of the Executive. Cambridge.

Chen, G., Kirkman, B. L., Kim, K., Farh, C. I. C., & Tangirala, S. (2010). When does cross-cultural motivation enhance expatriate effectiveness? A multilevel investigation of the moderating roles of subsidiary support and cultural distance. Academy of Management Journal, 53(5), 1110–1130. doi:10.5465/AMJ.2010.54533217

Barney, J. B. (1986). Organizational Culture: Can It Be a Source of Sustained Competitive Advantage? Academy of Management Review, 11(3), 656–665. doi:10.5465/AMR.1986.4306261 Berry, J. W. (1994). Acculturation and psychological adaptation: An overview. In A. Bouvy, F. J. R. van de Vijver, P. Boski, & P. Schmitz (Eds.), Journeys into cross-cultural psychology (pp. 129–141). Amsterdam: Swets & Zeitlinger. Black, J. S., & Gregersen, H. B. (1999). The right way to manage expats. Harvard Business Review, 77(2), 52–62. Boxall, P., & Putcell, J. (2003). Strategy and human resource management. New York: Palgrave Macmillan. Boyacigiller, N. A., Kleinberg, J., Phillips, M. E., & Sackmann, S. A. (2004). Conceptualizing culture: Elucidating the streams of research in international cross-cultural management. In B. J. Punnett & O. Shenkar (Eds.), Handbook for international management research (2nd ed., pp. 99–167). University of Michigan Press. Brodbeck, F. C., Hanges, P. J., Dickson, M. W., Gupta, V., & Dorfman, P. W. (2004). Societal culture and industrial sector influences. In R. J. House, P. J. Hanges, M. Javidan, P. W. Dorfman, & V. Gupta (Eds.), Culture, leadership, and organizations: The GLOBE study of 62 societies (pp. 654–668). Thousand Oaks, CA: Sage Publications.

Chhokar, J. S., Brodbeck, F. C., & House, R. J. (Eds.). (2008). Culture and leadership across the world the GLOBE book of in-depth studies of 25 societies. Mahwah, NJ: Lawrence Erlbaum Associates. Coelli, T. J., Rao, D., O’Donnell, C. J., & Battese, G. E. (2005). An introduction to efficiency and productivity analysis (2nd ed.). New York: Springer. Corley, K. G., Cochran, P. L., & Comstock, T. G. (2001). Image and the impact of public affairs management on internal stakeholders. Journal of Public Affairs, 1(1), 53–67. doi:10.1002/pa.50 Courpasson, D., Dany, F., & Clegg, S. (2011). Resisters at Work: Generating Productive Resistance in the Workplace. Organization Science, 23(3), 801–819. doi:10.1287/orsc.1110.0657 Cyert, R. M., & March, J. G. (1963). A Behavioral Theory of the Firm. Rochester, NY: Social Science Research Network. Davis, H., & Rasool, S. A. (1988). Values research and managerial behavior: Implications for devising culturally consistent managerial styles. Management International Review, 28(3), 11–20.

93

 Cultural Management for Multinational Enterprises

de Jong, E. (2009). Culture and economics: on values, economics and international business. London: Routledge. Deal, T., & Kennedy, A. A. (1982). Corporate cultures, the rites and rituals of corporate life. Reading, MA: Addison Wesley. Delios, A., & Beamish, P. W. (2001). Survival and Profitability: The Roles of Experience and Intangible Assets in Foreign Subsidiary Performance. Academy of Management Journal, 44(5), 1028–1038. doi:10.2307/3069446 Denison, D. R., & Mishra, A. K. (1995). Toward a theory of organizational culture and effectiveness. Organization Science, 6(2), 204–223. doi:10.1287/orsc.6.2.204 Deutsche Bundesbank. (2013). Foreign direct investment stock statistics. Deutsche Bundesbank. Dickson, M. W., BeShears, R. S., & Gupta, V. (2004). The impact of societal culture and industry on organizational culture: Theoretical explanations. In R. J. House, P. J. Hanges, M. Javidan, P. W. Dorfman, & V. Gupta (Eds.), Culture, leadership, and organizations: The GLOBE study of 62 societies (pp. 74–90). Thousand Oaks, CA: Sage Publications. DiMaggio, P. (1994). Culture and economy. In N. J. Smelser & R. Swedberg (Eds.), The handbook of economic sociology (pp. 27–57). Princeton, NJ: Princeton University Press. D o d g s o n , M . ( 1 9 9 3 ) . O rg a n i z a t i o n al Learning: A Review of Some Literatures. Organization Studies, 14(3), 375–394. doi:10.1177/017084069301400303 Dunning, J. H. (1980). Toward an eclectic theory of international production: Some empirical tests. Journal of International Business Studies, 11(1), 9–31. doi:10.1057/palgrave.jibs.8490593

94

Dyer, W. G. J. (1985). The cycle of cultural evolution in organizations. In R. H. Kilmann, M. J. Saxton, & R. Serpa (Eds.), Gaining control of the corporate culture (pp. 200–229). San Francisco: Jossey-Bass. Edström, A., & Galbraith, J. R. (1977). Transfer of managers as a coordination and control strategy in multinational organizations. Administrative Science Quarterly, 22(2), 248–263. doi:10.2307/2391959 Erez, M., & Earley, P. C. (1993). Culture, self-identity, and work. New York: Oxford University Press. doi:10.1093/acprof:o so/9780195075809.001.0001 Erez, M., & Gati, E. (2004). A dynamic, multilevel model of culture: From the micro level of the individual to the macro level of a global culture. Applied Psychology, 53(4), 583–598. doi:10.1111/j.1464-0597.2004.00190.x Fayerweather, J. (1969). International business management: A conceptual framework. New York: McGraw-Hill. Ferdows, K. (1989). Mapping International Factory Networks. In Managing International Manufacturing (pp. 3–21). Amsterdam: Elsevier Science Publishing Company. Ferdows, K. (1997). Making the Most of Foreign Factories. Harvard Business Review, 75(2), 73–88. Fey, C. F., & Denison, D. R. (2003). Organizational culture and effectiveness: Can American theory be applied in Russia? Organization Science, 14(6), 686–706. doi:10.1287/orsc.14.6.686.24868 Folger, R., & Skarlicki, D. P. (1999). Unfairness and resistance to change: Hardship as mistreatment. Journal of Organizational Change Management, 12(1), 35–50. doi:10.1108/09534819910255306 Friedman, T. L. (2005). The world is flat: A brief history of the twenty-first century. Princeton, NJ: Recording for the Blind & Dyslexic.

 Cultural Management for Multinational Enterprises

Frost, P. J. (1996). Cross roads. Organization Science, 7(4), 444–445. doi:10.1287/orsc.7.4.444 Frost, P. J., Moore, L. F., Reis, L. M., Lundberg, C. C., & Martin, J. (1985). Organizational culture. Beverly Hills, CA: Sage Publications. Fulmer, I. S., Gerhart, B., & Scott, K. S. (2003). Are the 100 best better? An empirical investigation of the relationship between being a “great place to work” and firm performance. Personnel Psychology, 56(4), 965–993. doi:10.1111/j.1744-6570.2003.tb00246.x Gagliardi, P. (1986). The Creation and Change of Organizational Cultures: A Conceptual Framework. Organization Studies, 7(2), 117–134. doi:10.1177/017084068600700203 Geertz, C. (1993). The interpretation of cultures : selected essays. London: Fontana Press. Getz, K. A. (2001). Public affairs and political strategy: Theoretical foundations. Journal of Public Affairs, 1(4), 305–329. doi:10.1002/pa.77 Gong, Y. (2003). Toward a dynamic process model of staffing composition and subsidiary outcomes in multinational enterprises. Journal of Management, 29(2), 259–280. doi:10.1177/014920630302900207 Gregory, K. L. (1983). Native-view paradigms: Multiple cultures and culture conflicts in organizations. Administrative Science Quarterly, 9(2), 359–376. doi:10.2307/2392247 Hall, E. T., & Hall, M. R. (1990). Understanding Cultural Differences. Boston: Intercultural Press. Hanges, P. J., Lord, R. G., & Dickson, M. W. (2000). An information processing perspective on leadership and culture: A case for connectionist architecture. Applied Psychology, 49(1), 133–161. doi:10.1111/1464-0597.00008

Hayes, J., & Prakasam, R. (1989). Culture: The efficacy of different modes of consultation. Leadership and Organization Development Journal, 10(1), 24–32. doi:10.1108/EUM0000000001132 Hebert, L., & Beamish, P. W. (2005). Expatriation as a bridge over troubled water: A knowledgebased perspective applied to cross-border acquisitions. Organization Studies, 26(10), 1455–1476. doi:10.1177/0170840605057067 Hedberg, B., Nystrom, P. C., & Starbuck, W. (1976). Camping on Seesaws: Prescriptions for a SelfDesigning Organization. Administrative Science Quarterly, 21(1), 41–65. doi:10.2307/2391877 Hennart, J.-F., Kim, D.-J., & Zeng, M. (1998). The impact of joint venture status on the longevity of Japanese stakes in U.S. manufacturing affiliates. Organization Science, 9(3), 382–395. doi:10.1287/orsc.9.3.382 Hill, C. (2008). Global business today (5th ed.). Boston: Mc Graw-Hill. Hofstede, G. (1998). Identifying organizational subculutres: An empirical approach. Journal of Management Studies, 35(1), 1–12. doi:10.1111/1467-6486.00081 Hofstede, G. (2001). Culture’s consequences : comparing values, behaviors, institutions, and organizations across nations (2nd ed.). Thousand Oaks, CA: Sage Publications. Hofstede, G., Neuijen, B., Ohayv, D. D., & Sanders, G. (1990). Measuring Organizational Cultures: A Qualitative and Quantitative Study across Twenty Cases. Administrative Science Quarterly, 35(2), 286–316. doi:10.2307/2393392 Hofstede, G., & Peterson, M. F. (2000). National values and organizational practice. In N. Ashkanasy, C. P. M. Wilderom, & M. F. Peterson (Eds.), Handbook of organizational culture & climate (pp. 401–416). Thousand Oaks, CA: Sage Publications.

95

 Cultural Management for Multinational Enterprises

Hofstede, G. H. (2010). Cultures and organizations: software of the mind: intercultural cooperation and its importance for survival (3rd ed.). New York: McGraw-Hill. House, R. J., Hanges, P. J., Javidan, M., Dorfman, P. W., & Gupta, V. (Eds.). (2004). Culture, leadership, and organizations: The GLOBE study of 62 societies. Thousand Oaks, CA: Sage Publications. House, R. J., & Javidan, M. (2004). Overview of GLOBE. In R. J. House, P. J. Hanges, M. Javidan, P. W. Dorfman, & V. Gupta (Eds.), Culture, leadership, and organizations: The GLOBE study of 62 societies (pp. 9–28). Thousand Oaks, CA: Sage Publications. Howard-Grenville, J., Golden-Biddle, K., Irwin, J., & Mao, J. (2011). Liminality as Cultural Process for Cultural Change. Organization Science, 22(2), 522–539. doi:10.1287/orsc.1100.0554 Inglehart, R., & Welzel, C. (2005). Modernization, Cultural Change, and Democracy: The Human Development Sequence. Cambridge, UK: Cambridge University Press. Inglehart, R., & Welzel, C. (2010). Changing Mass Priorities: The Link Between Modernization and Democracy. Perspectives on Politics, 8(2), 551–567. doi:10.1017/S1537592710001258 Jang, H.-Y. (1997). Cultural differences in an interorganizational network: Shared public relations firms among Japanese and American companies. Public Relations Review, 23(4), 327–341. doi:10.1016/S0363-8111(97)90049-7 Janis, I. L., & Mann, L. (1977). Decision making: A psychological analysis of conflict, choice and commitment. New York: Free Press. Jaques, E. (1951). The changing culture of a factory. London: Tavistock Publications.

96

Javidan, M., House, R. J., & Dorfman, P. W. (2004). A nontechnical summary of GLOBE findings. In R. J. House, P. J. Hanges, M. Javidan, P. W. Dorfman, & V. Gupta (Eds.), Culture, leadership, and organizations: The GLOBE study of 62 societies (pp. 29–48). Thousand Oaks, CA: Sage Publications. 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. doi:10.1057/palgrave.jibs.8490676 Kanter, R. M. (1992). The change masters (9th ed.). New York: Simon and Schuster. Kluckhohn, C. (1951). Values and value-orientations in the theory of action: An exploration in definition and classification. In T. Parsons & E. A. Shils (Eds.), Toward a General Theory of Action (pp. 388–433). New York: Harper and Row. doi:10.4159/harvard.9780674863507.c8 Kluckhohn, F. R., & Strodtbeck, F. L. (1961). Variations in value orientations. Elmsford: Row, Peterson. Kogut, B., & Singh, H. (1988). The effect of national culture on the choice of entry mode. Journal of International Business Studies, 19(3), 411–432. doi:10.1057/palgrave.jibs.8490394 Kolodko, G. W. (2003). Globalization and catching-up in emerging market economies. In G. W. Kolodko (Ed.), Emerging market economies: Globalization and development (pp. 3–45). Burlington, VT: Ashgate. Kostova, T., & Kendall, R. (2003). Social capital in multinational corporations and a micro-macro model of its formation. Academy of Management Review, 28(2), 297–317.

 Cultural Management for Multinational Enterprises

Kotler, P., & Caslione, J. A. (2009). Chaotics: The business of managing and marketing in the age of turbulence. New York: American Management Association. Kotrba, L. M., Gillespie, M. A., Schmidt, A. M., Smerek, R. E., Ritchie, S. A., & Denison, D. R. (2012). Do consistent corporate cultures have better business performance? Exploring the interaction effects. Human Relations, 65(2), 241–262. doi:10.1177/0018726711426352 Kroeber, A. L., & Kluckhohn, C. (1952). Culture: A Critical Review of Concepts and Definitions. Cambridge: The Museum. Kunda, G. (2006). Engineering culture : control and commitment in a high-tech corporation (Rev. ed.). Philadelphia, PA: Temple University Press. Leibenstein, H. (1966). Allocative efficiency versus “X-Efficiency”. The American Economic Review, 58(3), 392–415. Levy, D. L. (1997, Winter). Lean Production in an International Supply Chain. Sloan Management Review, 94–102. Lewin, K. (1947). Field Theory in Social Science: Selected Theoretical Papers. New York: Harper & Brothers. Locke, E. A. (1991). The motivation sequence, the motivation hub, and the motivation core. Organizational Behavior and Human Decision Processes, 50(2), 288–299. doi:10.1016/07495978(91)90023-M Lord, R., & Maher, K. J. (1991). Leadership and information processing: Linking perceptions and performance. Boston: Unwin Hyman. Lord, R. G., Brown, D. J., & Freiberg, S. M. (1999). Understanding the dynamics of leadership: The role of follower self-concepts in the leader/ follower relationship. Organizational Behavior and Human Decision Processes, 78(3), 167–203. doi:10.1006/obhd.1999.2832 PMID:10343063

Louis, M. R. (1983). Organizations as culturebearing milieux. In L. Pondy, G. Frost, G. Morgan, & T. Dandridge (Eds.), Organizational Symbolism (pp. 39–54). Greenwich, CT: Dept. of Administrative Sciences, Naval Postgraduate School. Marcoulides, G. A., & Heck, R. H. (1993). Organizational culture and performance: Proposing and testing a model. Organization Science, 4(2), 209–225. doi:10.1287/orsc.4.2.209 Martin, J. (2002). Organizational Culture: Mapping the Terrain. Thousand Oaks, CA: Sage. Martin, J., & Frost, P. (1996). Organizational Culture War Games. In S. R. Clegg, C. Hardy, & W. R. Nord (Eds.), Handbook of Organization Studies (pp. 599–621). London: Sage. Martin, J., & Siehl, C. (1983). Organizational culture and counterculture: An uneasy symbiosis. Organizational Dynamics, 12(2), 52–64. doi:10.1016/0090-2616(83)90033-5 Mayo, E. (1945). The Social Problems of Industrial Civilization. Boston: Harvard University. McClelland, D. C. (1961). The achieving society. Princeton, NJ: D. Van Nostrand Company. doi:10.1037/14359-000 Meschi, P.-X., & Roger, A. (1994). Cultural context and social effectiveness in international joint ventures. Management International Review, 34(3), 197–215. Meyerson, D., & Martin, J. (1987). Cultural change: An integration of three different views. Management Studies, 24(6), 623–647. doi:10.1111/j.1467-6486.1987.tb00466.x Miller, D., Kets de Vries, M. F., & Toulouse, J. (1982). Top excecutive locus of control and its relationship to strategy-making, structure, and environment. Academy of Management Review, 25(2), 237–353. doi:10.2307/255988

97

 Cultural Management for Multinational Enterprises

Mintzberg, H. (1978). Patterns in Strategy Formation. Management Science, 24(9), 934–948. doi:10.1287/mnsc.24.9.934 Mintzberg, H. (1983). Structure in fives: Designing effective organizations. Englewood Cliffs, NJ: Prentice-Hall. Morschett, D., Schramm-Klein, H., & Zentes, J. (2009). Strategic international management: Text and cases. Wiesbaden: Gabler. doi:10.1007/9783-8349-8332-9 Muchinsky, P. M. (2006). Psychology applied to work: an introduction to industrial and organizational psychology (8th ed.). Belmont: Thomson, Wadsworth. Nahapiet, J., & Ghoshal, S. (1998). Social capital, intellectual capital, and the organizational advantage. Academy of Management Review, 23(2), 242–266. Ng, S. H., Hossain, A. B. M., Ball, P., Bond, M. H., Hayashi, K., Lim, S. P., & Yang, K. S. (1982). Human values in nine countries. In R. Rath, H. S. Asthana, D. Sinha, & J. B. H. Sinha (Eds.), Diversity and unity in cross-cultural psychology (pp. 196–205). Lisse: Swets and Zeitlinger. Norris, P., & Inglehart, R. (2009). Cosmopolitan Communications: Cultural Diversity in a Globalized World. New York: Cambridge University Press. doi:10.1017/CBO9780511804557 Nystrom, P. C., & Starbuck, W. H. (1984). To Avoid Organizational Crises, Unlean. Organizational Dynamics, 12(4), 53–65. doi:10.1016/00902616(84)90011-1 O’Reilly, C. (1989). Corporations, culture, and commitment: Motivation and social control in organizations. California Management Review, 31(4), 9–25.

98

O’Reilly, C. I., & Chatman, J. (1986). Organizational Commitment and Psychological Attachment: The Effects of Compliance, Identification, and Internalization on Prosocial Behavior. The Journal of Applied Psychology, 71(3), 492–499. doi:10.1037/0021-9010.71.3.492 Oreg, S., Vakola, M., & Armenakis, A. (2011). Change Recipients’ Reactions to Organizational Change: A 60-Year Review of Quantitative Studies. The Journal of Applied Behavioral Science, 47(4), 461–524. doi:10.1177/0021886310396550 Osgood, C. (1951). Culture: Its Empirical and Non-Empirical Character. Southwestern Journal of Anthropology, 7(2), 202–214. Pascale, R. T. (1990). Managing on the edge. New York: Simon and Schuster. Perlmutter, H. V. (1969). The Tortuous Evolution of the Multinational Corporation. The Columbia Journal of World Business, 4(1), 9–18. Peters, T. J., & Waterman, R. J. (1982). In search of excellence: Lessons from America’s best-run companies. New York: Harper & Row. Pettigrew, A. M. (1979). On studying organizational cultures. Administrative Science Quarterly, 24(4), 570–581. doi:10.2307/2392363 Petty, M. M., Beadles, N. A. II, Lowery, C. M., Chapman, D. F., & Connell, D. W. (1995). Relationships between organizational culture and organizational performance. Psychological Reports, 76(2), 483–492. doi:10.2466/pr0.1995.76.2.483 PMID:8559874 Phatak, A. V. (1981). International dimensions of management (2nd ed.). Boston: Kent Publishing Company. Phatak, A. V., Bhagat, R. S., & Kashlak, R. J. (2005). International management: Managing in a diverse and dynamic global environment. New York: McGraw-Hill/Irwin.

 Cultural Management for Multinational Enterprises

Prahalad, C. K., & Doz, Y. L. (1987). The multinational mission. Balancing local demands and global vision. New York: Free Press. Prasad, P., & Prasad, A. (2009). Endless Crossroads: Debates, Deliberations and Disagreement on Studying Organizational Culture. In D. A. Buchanan (Ed.), Handbook of Organizational Research Methods (pp. 128–142). London: Sage Publications. PwC. (2013). Investing Guide Hungary. Budapest: PwC (PriceWaterhouseCoopers). Reher, S. (2011). Peace Through Integration or Peace Through Seperateion? World Values Research, 4(4), 97–119. Rother, M. (2010). Toyota kata: Managing people for improvement, adaptiveness, and superior results. New York: McGraw Hill. Rousseau, D. M. (1990). Normative beliefs in fundraising organizations: Linking culture to organizational performance and individual responses. Group & Organization Management, 15(4), 448–460. doi:10.1177/105960119001500408 Sackmann, S. A. (1985). Cultural knowledge in organizations: The link between strategy and organizational processes. Los Angeles, CA: Sage Publications. Sackmann, S. A. (1992). Culture and subcultures: An analysis of organizational knowledge. Administrative Science Quarterly, 37(1), 140–161. doi:10.2307/2393536 Saffold, G. S. (1988). Culture traits, strength, and organizational performance: Moving beyond „strong“ culture. Academy of Management Review, 13(4), 546–558. Sathe, V. (1985). Culture and related corporate realities. Homewood, IL: R.D. Irwin. Schein, E. H. (1983a). Organization Development: Theory. Plano, TX: Practice, and Research.

Schein, E. H. (1983b). The role of the founder in creating organizational culture. Organizational Dynamics, 12(1), 13–28. doi:10.1016/00902616(83)90023-2 Schein, E. H. (1984). Coming to a new awareness of organizatioal culture. Sloan Management Review, 25(2), 3–16. Schein, E. H. (1999). The Corporate Culture Survival Guide. San Francicso. Jossey-Bass. Schoenberger, E. (1998). The cultural crisis of the firm. Cambridge, UK: Blackwell. Schreygg, G., & Steinmann, H. (1987). Strategic control: A new perspective. Academy of Management Review, 12(1), 91–103. Schuler, R. S., & Rogovsky, N. (1998). Understanding compensation practice variations across firms: The impact of national culture. Journal of International Business Studies, 29(1), 159–177. doi:10.1057/palgrave.jibs.8490030 Schwartz, S. H. (1992). Article. In M. Zanna (Ed.), Universals in the content and structure of values: Theoretical advances and empirical tests in 20 countries (Vol. 25, pp. 1–65). San Diego, CA: Academic Press. Schwartz, S. H. (1994). Are there universal aspects in the content and structure of values? The Journal of Social Issues, 50, 19–45. doi:10.1111/j.1540-4560.1994.tb01196.x Schwartz, S. H., & Bilsky, W. (1990). Toward a theory of the universal content and structure of values: Extensions and cross cultural replications. Journal of Personality and Social Psychology, 58(5), 878–891. doi:10.1037/0022-3514.58.5.878 Shane, S., Venkataraman, S., & MacMilan, I. (1995). Cultural differences in innovation championing strategies. Journal of Management, 21(5), 931–952. doi:10.1177/014920639502100507

99

 Cultural Management for Multinational Enterprises

Shenkar, O. (2012). Cultural distance revisited: Towards a more rigorous conceptualization and measurement of cultural differences. Journal of International Business Studies, 43(1), 1–11. doi:10.1057/jibs.2011.40 Shrivastava, P. (1985). Integrating strategy formulation with organizational culture. The Journal of Business Strategy, 5(3), 103–111. doi:10.1108/ eb039080 PMID:10299875 Smircich, L. (1983). Concepts of Culture and Organizational Analysis. Administrative Science Quarterly, 28(3), 339–358. doi:10.2307/2392246 Sørensen, J. B. (2002). The strength of corporate culture and the reliability of firm performance. Administrative Science Quarterly, 47(1), 70–91. doi:10.2307/3094891 Swidler, A. (1986). Culture in action: Symbols and strategies. The Sociological Review, 51(2), 273–286. doi:10.2307/2095521 Swidler, A. (2001). Talk of Love: How Culture Matters. Chicago: University of Chicago Press. Trice, H. M. (1993). Occupational subcultures in the workplace. Ithaca, NY: ILR Press. Trompenaars, F., & Hampden-Turner, C. (2002). Riding the waves of culture : understanding cultural diversity in business (2nd ed.). London: N. Brealey Publishing. Turner, B. (1986). Sociological aspects of organizational symbolism. Organization Studies, 7(1), 101–115. doi:10.1177/017084068600700202 Turner, V. W. (1967). The Forest of Symbols: Aspects of Ndembu Ritual. Ithaca, NY: Cornell University Press. Turner, V. W. (1977). Variations on a theme of liminality. In S. F. Moore & B. G. Meyerhoff (Eds.), Secular Ritual (pp. 36–52). Assen: Van Gorcum.

100

Turner, V. W. (1982). From Ritual to Theater: The Human Seriousness of Play. New York: Performing Arts Journal Publications. van Maanen, J. (1988). Tales of the Field. Chicago: University of Chicago Press. van Maanen, J., & Barley, S. R. (1984). Occupational communities: Culture and control in organizations. In B. Staw & L. Cummings (Eds.), Research in Organizational Behaviour (Vol. 6, pp. 287–365). Greenwich: JAI Press. van Maanen, J., & Barley, S. R. (1985). Cultural organizations. In P. J. Frost, L. F. Moore, M. R. Louis, C. C. Lundberg, & J. Martin (Eds.), Organizational culture (pp. 31–53). Beverly Hills, CA: Sage Publications. Weber, M. (1904a). Die “Objektivität” sozialwissenschaftlicher und sozialpolitischer Erkenntnis. Archiv für Sozialwissenschaft und Sozialpolitik, 19, 22–87. Weber, M. (1904b). Die protestantische Ethik und der “Geist” des Kapitalismus. Erkenntnis. Archiv für Sozialwissenschaft und Sozialpolitik, 20, 1–54. Weick, K. E., & Quinn, R. E. (1999). Organizational Change and Development. Annual Review of Psychology, 50(1), 361–386. doi:10.1146/annurev.psych.50.1.361 PMID:15012461 Williamson, O. E. (2000). The new instituional economics: Taking stock, looking ahead. Journal of Economic Literature, 38(3), 595–613. doi:10.1257/jel.38.3.595 Zuber, C. (2013). Kulturelle Vernderungen bei international handelnden Unternehmen: Der Bedarf eines kulturellen Managements im internationalen Wertschöpfungsverbund. [Cultural Change in Multinational Companies: The need for cultural management in international value chains.]. Lohmar: EUL Verlag.

 Cultural Management for Multinational Enterprises

KEY TERMS AND DEFINITIONS Cultural Management: Cultural management includes the planning, processing, monitoring, and controlling of management functions in an international and cross-cultural context. Cultural management addresses the minimization of cultural conflicts for an increased organizational efficiency considering manifestations of corporate and country culture. Cultural Resources: Cultural Resources are cultural values, rites, norms, or actions which lead in a subculture to a common understanding and which can be used to legitimize meanings, interpretations, and actions. Multi-Culturality: Multi-culturality develops through intensive social and communicational exchange between social entities. Social Environment: The social environment is mainly defined through the socialization processes during upbringing. So the strong social background dominates the legitimation of patterns, thoughts, and actions in other environments, e.g. in a corporate environment. Subculture: Subcultures in a corporate environment are social entities which are situated in a company. Their members have common cultural values and actions.

101

102

Chapter 5

Globalization of Latecomer Asian Multinationals and Theory of Multinational Enterprise Wiboon Kittilaksanawong Nagoya University of Commerce and Business, China Weiqi Dai Zhejiang University of Finance and Economics, China

ABSTRACT The fast globalization of latecomer multinationals from Asian emerging economies with impetus has appeared to challenge the established theories of Multinational Enterprise (MNE). This chapter reviews extant theories of MNE and provides areas of refinement and extension to these theories to reflect highly contextualized and unique internal and external conditions of these MNEs. In particular, this chapter provides an analysis of the key theoretical perspectives of MNE and highlights four areas that extend existing theories. These areas include country-of-origin effects, ownership advantages, learning processes, as well as global and industry context for internationalization. These areas of refinement are then illustrated by seven case studies of MNEs from mainland China and Taiwan in their accelerated internationalization and their focus on acquisitive growth strategy in terms of speed of internationalization, target countries, and mode of entry.

1. INTRODUCTION The fast globalization of multinational enterprises from emerging economies (EEMNEs), particularly in Asia, appears to challenge the established theories of MNEs (Cuervo-Cazurra, 2012; Deng, 2012; Luo & Tung, 2007; Luo & Wang, 2012; Mathews, 2006; Meyer & Thaijongrak, 2013; Ramamurti, 2012). Although these MNEs are

the latecomers, they have quickly become world leaders in their respective industries. Given the particularities in the context of Asian emerging economies, such phenomenon has resulted in a rising interest of scholars and practitioners on how business management in this context potentially changes the traditional understanding of MNEs. Some scholars have argued that a novel theory is required to elucidate behaviors of these MNEs

DOI: 10.4018/978-1-4666-6551-4.ch005

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Globalization of Latecomer Asian Multinationals

(e.g., Guillen & Garcia-Canal, 2009; Luo & Tung, 2007; Mathews, 2006), while others have asserted that existing theories are sufficient to explain this phenomenon (e.g., Dunning, Kim, & Park, 2008; Rugman, 2010). Nevertheless, many scholars have suggested the study of EEMNEs helps to extend existing theories (e.g., Child & Rodrigues, 2005; Cuervo-Cazurra, 2012; Luo & Wang, 2012; Meyer & Thaijongrak, 2013; Ramamurti, 2009, 2012). This chapter, therefore, reviews the extant theories of MNEs and provides areas of refinement and extension to the theories to reflect highly contextualized and unique internal and external conditions of these EEMNEs. This chapter combines critical elements of extant perspectives on outward foreign direct investment (OFDI) and new insights from unique conditions within the home country of EEMNEs from Asia. In fact, apart from host country influence, impacts of particularities in home country of these EEMNEs on their idiosyncratic internationalization behaviors cannot be underestimated (Luo & Wang, 2012). When these home country conditions exert significant influence, extant theories of MNEs, which are mainly developed in the context of advanced economies, may not provide appropriate predictions on OFDIs of these EEMNEs. Particularly, the traditional conceptualization that MNEs arise from home-based ownership advantages (Dunning, 1980, 1988) and home country-specific characteristics (Rugman, 1981; Rugman & Verbeke, 2003), and that MNEs utilize home-based operational advantages in global competition (Porter, 1990) may not be completely relevant to EEMNEs. For example, EEMNEs may invest overseas to avoid poor institutional environments at home (Boisot & Meyer, 2008; Cuervo-Cazurra & Genc, 2008; Witt & Lewin, 2007; Yamakawa, Peng, & Deeds, 2008). Essentially, difficulties of conducting business due to such disadvantages at home strengthen the capability of EEMNEs that subsequently becomes their competitive advantages when venturing overseas.

This chapter contributes to the ongoing debates on the theories of MNE and, in particular, the OFDIs and entry strategies of EEMNEs from Asia in several ways. First, this chapter provides an analysis of the key theoretical perspectives of MNEs, and suggests these perspectives provide powerful explanation on globalization behaviors of EEMNEs but with some refinements. Second, this chapter employs seven case studies of firms in mainland China and Taiwan that undertook OFDIs in recent years to illustrate how their accelerated internationalization and focus on acquisitive growth strategy are considered inconsistent with the traditional perspectives on MNEs in terms of internationalization speed, target countries, and mode of entry. Third, this chapter outlines how the OFDIs of these EEMNEs from Asia can be used to refine and extend the existing theories of MNEs. In particular, this chapter highlights four areas that extend existing theories including country-of-origin effects, ownership advantages, learning processes, as well as global and industry context for internationalization. Based on theoretical perspectives and case studies, this chapter also provides implications for managers of MNEs from emerging and advanced economies in the pursuit of their globalization as well as relevant policy makers.

2. THEORETICAL PERSPECTIVES ON MNES Key theoretical perspectives on MNEs include internalization theory (Aliber, 1970; Buckley & Casson; 1976; Hennart; 2009; Hymer; 1976), the ownership, location, and internalization advantages (OLI) paradigm (Dunning, 1977, 1980, 1988; Porter; 1990; Rugman, 1981), the internationalization process model (Johanson & Vahlne, 1977; Johanson & Wiedersheim-Paul, 1975; Welch & Luostarinen, 1988), the Linkage-Leverage-Learning (LLL) paradigm (Mathews, 2002, 2006; Li, 2007), and the springboard perspective (Andreff,

103

 Globalization of Latecomer Asian Multinationals

2003; Lecraw, 1993; Luo & Tung, 2007; Luo & Rui, 2009). This section reviews these theoretical perspectives on the international entry strategy based on their major assumptions, key explanations on MNE behaviors, and contributions of the OFDIs made by EEMNEs to the theories. Major assumptions for each theoretical perspective are associated with behaviors of individuals, objective of foreign expansion, as well as impact of home and host country conditions. MNE behaviors are explained in terms of target countries, speed of internationalization, and mode of entry.

2.1 Internalization Theory and OLI Paradigm The emergence of MNEs as conceptualized in Dunning’s eclectic paradigm (Dunning, 1993, 1998) relies on the combined impact of ownership, location, and internalization advantages (OLI). Ownership advantage or firm-specific advantage (Rugman, 1981; Rugman & Verbeke, 2001) refers to the possession of intangible resources including technological, marketing, and managerial knowledge and capabilities. These resources and capabilities are transferable among different units of an MNE around the world to coordinate and control various transactions across borders. Ownership advantage allows firms to cope with the liabilities of foreignness (Hymer, 1976; Zaheer, 1995) and to compete with indigenous firms and other MNEs in the host country. Essentially, the possession of competitive advantages or firmspecific advantages in terms of superior technologies, brands, or managerial practices has been an integral part in explaining the existence of MNEs irrespective of their origin. Location advantage is manifested by the comparative cost of inputs such as materials, labor, and natural resources in a specific country that are accessible by enterprises operating in that country or by the cost of trade barriers between that country and other countries. The primary

104

motivations on the location aspect in Dunning’s eclectic paradigm include market seeking, efficiency (cost reduction) seeking, strategic asset seeking, and natural resource seeking (Dunning, 1993). Internalization advantage applies when a firm can minimize the transaction costs associated with the transfer of proprietary knowledge and capabilities via the exploitation of its ownership advantage internally, rather than by inter-firm licensing or other collaborative arrangements (Buckley & Casson, 1976; Rugman, 1981).

2.2 Internationalization Process Model Many studies have identified the internationalization process of firms that move from initial steps overseas to building necessary resources and capability, continuing increasing their resource commitment, and becoming major players on the global stage (Johanson & Vahlne, 1977). This incremental or stages process begins with international operations in locations geographically and psychically close to the home market or prior experience (Johanson & Wiedersheim-Paul, 1975). Essentially, firms usually internationalize through specific stages in terms of the sequence of countries and the operation modes (Bilkey & Tesar, 1977; Czinkota, 1982). Managers select the mode of operation in a country to limit the perceived risk and exposure while learning how to operate in that country. Based on experiential knowledge, they begin to export using agents, subsequently establishing sales subsidiaries, and eventually placing production subsidiaries in the host country. Strategic decisions within such process are often emergent and dependent on a combination of rational analysis, decisions under high uncertainty, and opportunistic reaction to new events (Mintzberg & Waters, 1985; Santangelo & Meyer, 2011). The process model has been extended to consider not only context in the host country, but also network positions of the firm (Johanson & Vahlne,

 Globalization of Latecomer Asian Multinationals

2009). Particularly, a firm initially makes commitments to a position in the network in a foreign market. Such commitments refer to an amount of resources committed (e.g., size of investment) and the degree of commitment (e.g., difficulty for an alternative use of such resources) (Johanson & Vahlne, 1977). Through continuing cross-border resource commitments, a firm gains experiential knowledge about operating in foreign markets. Such local knowledge strengthens the firm’s ability to assess its current business activities, the level of existing market commitment, and the potential further investments (Johanson & Vahlne, 1990). This experiential learning process allows the firm to gradually develop the required level of local capability and market knowledge to become a successful performer in the local market.

2.3 Springboard Perspective and the LLL Paradigm Built on the context of EEMNEs, international expansion is viewed as a springboard for these MNEs to quickly acquire strategic resources to compete against their global rivals at home and abroad, and to reduce the vulnerability to institutional hardship and market constraints at home (Luo & Tung, 2007; Luo & Wang, 2012). These EEMNEs overcome their latecomer disadvantages and compensate for their competitive weaknesses through non-evolutionary aggressive and risk-taking behaviors such as acquiring critical assets from MNEs in institutionally distant and advanced economies (Luo & Tung, 2007; Luo & Rui, 2009). These strategic resources include advanced technology, brand name, managerial expertise, and access to customers in key foreign markets. Such springboard also allows EEMNEs to bypass stringent trade barriers by investing directly in the target country or via the other third country (Luo & Tung, 2007; Luo & Wang, 2012). In a similar vein, the international expansion of these firms is essentially a pursuit of acquiring critical resources and capabilities rather than

exploiting existing resources (Luo & Tung, 2007; Mathews, 2006). An alternative Linkage-Leverage-Learning framework (LLL) suggests that such international expansion is driven by resource linkage, leverage, and learning (Mathews, 2006). Particularly, the competitive advantage of these latecomers is not primarily derived from their own advantages, but rather from the advantages they can acquire externally. By linking with firms in advanced economies and leveraging their own resources and capability in combination with new resources, EEMNEs can gain access to required critical resources (Luo & Wang, 2012; Mathews, 2006). As the latecomer, by repeatedly engaging in this process, EEMNEs are able to overcome their liabilities of foreignness in foreign countries (Mathews, 2006; Li, 2007). Therefore, the global market becomes an important source of advantages for the latecomer. Such a global outlook, however, is not a critical option for the incumbent who already possesses such advantages. Because seeking to acquire resources and other complementary assets in foreign markets are associated with problems of market intelligence and uncertainty regarding the quality of available knowledge, joint ventures and other forms of collaboration become an effective mode of entry in these foreign markets. Importantly, while the latecomer employs such collaborative arrangements as a key vehicle for reducing risks in international expansion, the incumbent views them as a source of leakage of proprietary assets and knowledge. This motive of resource access is indeed an attempt to offset weaknesses of the investor (Chen & Chen, 1998). While the incumbent attempts to delay the entry by competitors via creating barriers for imitation, transfer, or substitution of their resources and capabilities, the latecomer seeks how such barriers may be quickly overcome (Mathews, 2006). Therefore, the focal point of the international expansion of the latecomer is the manner in which links can be established with incumbents or potential partners so that required

105

 Globalization of Latecomer Asian Multinationals

resources and capabilities can be leveraged. The application of such linkage and leverage is a repetitive process that allows the firm to learn to operate more effectively. The repeated process of linkage, leverage, and learning in a cumulative fashion importantly essentially explains the accelerated internationalization of the latecomer Asian multinationals (Mathews, 2006).

3. CONTRIBUTIONS OF EEMNES TO MNE THEORIES The rise of MNEs from emerging economies has challenged the traditional theoretical perspectives of MNEs. To discover areas in which existing theories can be refined or extended, this section looks deliberately for circumstances in which the reality appears to be inexplicable based on what is known about MNEs from advanced economies on which such theories were mostly built. Based on such reality, this section highlights four areas that potentially extend the explanation of existing theories on the OFDIs of EEMNEs. These areas are: country-of-origin effects, ownership advantages, learning processes, and global / industry context for internationalization.

3.1 Country-of-Origin Effects The analysis of EEMNEs demonstrates that a decision to internalize a transaction is determined by the ability of the company to manage transaction costs rather than the comparative transaction costs between firm and market per se (CuervoCazurra, 2012). Firms from emerging economies are likely to possess higher tolerance for the level of transaction costs because of their experience in dealing with poor institutions and thus high transaction costs at home. When internationalized, these firms perceive transaction costs differently from their counterparts in advanced economies. Especially, EEMNEs are more capable of managing in an external environment characterized by

106

a less-developed judicial system or contractual enforcement. Such institutional hardship at home, insufficient protection of intellectual property rights, regional protectionism, and frequent governmental interference, also reduce the success for firms to develop and maintain valuable and inimitable ownership advantages (Child & Rodrigues, 2005; Kalotay & Sulstarova, 2010). Particularly, rising transaction costs associated with uncertainty in legal, political, and regulatory sectors, as well as arbitrary fees imposed by various government agencies, have become a catalyst to push EEMNEs to venture overseas (Luo & Tung, 2007). Complying with the institutional arbitrage logic (Boisot & Meyer, 2008), when transaction costs associated with inefficient institutions become too excessive, EMNEs tend to expand sooner with a larger scale in advanced economies where the institutions are more complete to protect and maintain their market position. The processes model strongly emphasizes the risks but not the benefits of internationalization (Nordstrom, 1991). The analysis of EEMNEs, however, demonstrates that market attractiveness in a country may become a priority rather than psychic distance as suggested by the processes model (Cuervo-Cazurra, 2012). For example, EEMNEs may choose first expanding into an advanced economy that has high market attractiveness, but also has high psychic distance because of the different institutions and customer preferences, rather than entering into another developing country with low psychic distance (Cuervo-Cazurra, 2011b). EEMNEs may also expand abroad directly via high commitment modes such as acquisitions or greenfield investments rather than follow an incremental entry process. Therefore, managers of EEMNEs are indeed not risk averse and better at dealing with risk because of their experience in the higher levels of uncertainty and crises at home. The higher ability to handle internationalization risk enables them to begin internationalization in psychically distant countries.

 Globalization of Latecomer Asian Multinationals

3.2 Ownership Advantages Scholars have argued that internationalization of EEMNEs is not a result of firm-specific ownership advantages, but rather of comparative location advantages associated with inexpensive labor or natural resources (e.g., Rugman, 2009). In fact, EEMNEs possess valuable ownership advantages that are not in the form of cutting-edge technology or global brands as suggested in traditional perspectives (Dunning, Kim, & Park, 2008; Kittilaksanawong, Chen, & Duan, 2013; Ramamurti, 2012). Despite the fact that EEMNEs are inferior to their counterparts in advanced economies in terms of original technology and innovation, they have developed expertise in mass production of technologically standardized products and used international expansion as a springboard to exploit such competitive advantage overseas (Luo & Tung, 2007). These firms rely on unique strengths well established and accrued at home to overcome competitive weaknesses overseas, and to compete more effectively with their counterparts from advanced countries (Luo & Wang, 2012). Built on transaction costs (Williamson, 1975, 1985), many firms in emerging economies become MNEs because the hierarchical governance is more efficient than market transactions without having to possess competitive advantages as in firms from advanced economies (Hashai & Buckley, 2014). Essentially, the ability to create linkage and leverage, rather than ownership advantages per se, are critically the mechanism for the emergence of MNEs from emerging economies (Mathews, 2006). The internationalization of firms from emerging markets is, indeed, to acquire the lacking ownership advantages such as valuable technologies, brands, or managerial expertise through such linkage and leverage (e.g., Luo & Tung 2007; Madhok & Keyhani, 2012; Mathews, 2006). In fact, international expansion of EEMNEs is not only influenced by the external environment at home such as intense competition, institutional

incompleteness, and economic growth potential. It is also influenced by their home country operations including inward internationalization, business development stage, and innovation-orientation to determine the target countries, speed of internationalization, and mode of entry (Luo & Wang, 2012). Particularly, inward internationalization such as original equipment manufacturing (OEM), international strategic alliances, and export and outsourcing services provide experiential learning opportunities for EEMNEs by linking with MNEs in advanced economies prior to their own international expansion. These collaborations develop EEMNEs’ capabilities to manage internal and external relationships, thereby enhancing their unique transactional advantages (Rugman & Verbeke, 2003). Such interactions provide valuable opportunities for EEMNEs to access advanced technological knowledge, international standards, and managerial knowledge, and thereby subsequently develop their own advantages for overseas investment in the future (Child & Rodrigues, 2005; Luo & Tung, 2007; Welch & Luostarinen, 1993). International expansion is indeed a springboard for EEMNEs to gain or enhance their global competitiveness, while these EEMNEs still maintain their presence in home markets where the opportunities and profit potential remain attractive (Ramamurti & Singh, 2009). Therefore, ownership advantages in a unique form different from those of firms from advanced economies are still a prerequisite for EMNEs engaging in internationalization. Such advantages are embedded in home country operations, including the ability to contend with uncertainty and harsh institutions in the distinctive conditions of the firm’s home market (Boisot & Meyer, 2008; Cuervo-Cazurra & Genc, 2008). This home country context importantly shapes the ownership advantages of EMNEs in such a manner that these firms exploit such advantages in their foreign expansion differently. These ownership advantages are at least the ability to understand customer needs in emerging markets, to function in

107

 Globalization of Latecomer Asian Multinationals

difficult business environments, to make products and services at very low costs, and to develop good enough products for local customers (CuervoCazurra & Genc, 2008; Cuervo-Cazurra, 2012; Govindarajan & Ramamurti, 2011; Guillen & Garcia-Canal, 2009; Ramamurti, 2012). One of the advantages of state-owned enterprises in China, for example, is the access to inexpensive capital to finance their internationalization as a result of the government’s ‘go global’ policy (Buckley, Clegg, Cross, Liu, Voss, & Zheng, 2007).

3.3 Learning Processes Although EEMNEs possess certain operational advantages developed at home, most of them initially lack critical resources and capabilities in foreign countries. Rather than purely exploiting existing internal advantages, they have to adopt novel means of linkage-leverage learning to achieve new competitive advantages abroad (Lu & Beamish, 2001; Mathews, 2006; Tallman, 1991). While many EEMNEs overcome their global latecomer disadvantages via the springboard, this accelerated internationalization is not completely path independent (Luo & Tung, 2007; Luo & Wang, 2012; Ramamurti & Singh, 2009). The knowledge and capability to manage complexity in foreign competitive environment are importantly developed via their prior operations at home (Cuervo-Cazurra, 2011a). In particular, OFDIs made by these EEMNEs with respect to timing, location, and scale are pathdependent based on their home environments and home operations (Luo & Wang, 2012). Essentially, new competitive advantages acquired abroad by means of linkage-leverage learning are combined and reconfigured with advantages built at home in a path dependent and evolutionary fashion. The processes model suggests a gradual increase of resource commitment along with a firm’s competences and focuses on internally gradual learning of market knowledge (Forsgren, 2002). However, some internationalization patterns of

108

MNEs from emerging markets have appeared to challenge this established theory. Particularly, these MNEs are not necessary to internationalize through each of stages suggested by the model. The focus of psychic distance in the traditional model has become more irrelevant because of much reduced barriers in the globalization than in the past. While the internationalization patterns of EEMNEs do not strictly follow stages models, the underlying processes of experiential learning remain the core to understanding the evolution of these EEMNEs (Meyer & Thaijongrak, 2013). In particular, each step of foreign investment decision is still derived from the firm’s previous actions and accumulated learning. Because the internationalization process of many EEMNEs is shaped by acquiring local units that already possess the required market knowledge, such learning processes may occur at a fast speed via a broader range of mechanisms. Essentially, EEMNEs accelerate such processes of capabilities building for internationalization through not only internal learning, but also external acquisition of knowledge-based resources. This timecompression learning (Johanson & Vahlne, 2006, 2009) can be a result of external learning through business networks, learning by observing peers, learning through local joint ventures and acquisitions, as well as learning through strategic-assetseeking type of foreign direct investments (Meyer & Thaijongrak, 2013). Such external learning mechanisms are importantly complementary to internal learning mechanisms emphasized in the traditional processes model. Business networks provide firms with access to complementary knowledge and resources (Johanson & Mattson, 1988). To some extent, these networks via inter-personal interactions are a conduit for transferring tacit knowledge that can supplement a firm’s experiential learning (Forsgren, 2002). Many Chinese and Indian firms begin exporting through the network of foreigninvested partners aiming at large markets in their home country, or establish an overseas affiliate

 Globalization of Latecomer Asian Multinationals

to supply these partners in a third country (Buck, Liu,Wei, & Liu, 2009; Kumraswamy, Mudambi, Saranga, & Tripathy, 2012). Such network linkages provide opportunities for domestic firms not only to learn about international business, but also to establish reputation with their potential foreign partners. The networks and knowledge held by partners in these networks grow along with a firm’s international expansion in such a manner that experiential learning and external learning by access to a larger knowledge base reinforces each other, thereby supporting a firm’s internationalization (Meyer & Skak, 2002). The imitation of market leaders provides a source for learning, for reducing uncertainty and for gaining legitimacy from stakeholders (Guillén, 2002), thereby accelerating the speed of internationalization (Forsgren, 2002; Schwens & Kabst, 2009). Particularly, late entrants in a foreign context have an opportunity to observe and learn from successes and failures of their earlier entrants. They can incorporate such knowledge in the design and implementation of their own international operations. Imitative behaviors are more common in emerging Asia as a driver of internationalization (Chan & Makino, 2007; Guillén, 2002; Lu, 2002; Makino, Lau, & Yeh, 2002; Yiu & Makino, 2002). High uncertainty in the Asian business environment may be attributed to such imitative behaviors (Meyer & Thaijongrak, 2013). Learning in the processes model influences sequences of major and more risky commitments to obtain required knowledge and assets held by a local firm such as acquisitions and joint ventures. Potential investors must engage in due diligence requiring a considerable search for local knowledge before making these commitments. However, prior experience in a target country may accelerate the processes and reduce the need for such local knowledge. This interactive learning process is able to explain sequences of progressively larger acquisition projects made by EEMNEs. The accelerated learning is also a result of overseas investments made by EEMNEs to acquire

strategic assets that are fungible, and thus can be utilized in other parts of the operations within the acquirer’s worldwide organization (Anand & Delios, 2002; Deng, 2009; Rui & Yip, 2008). These assets include, for example, technology, management or marketing expertise, access to distribution networks, and brands (Chung & Alcacer, 2002; Dunning, 1993). As coined in the springboard and LLL perspective, this type of cross-border investments aims for building the competitive advantage of the acquiring firms themselves by combining such strategic assets with their existing assets for further exploitation (Luo & Tung, 2007; Luo, Zhao, Wang, & Xi, 2011).

3.4 Global and Industry Context for Internationalization Firms from developing countries are emerging to catch up quickly with their counterparts in advanced economies despite their origin disadvantages. This phenomenon is reflected in the accelerated speed and the reliance on highcommitment modes of internationalization, as well as the choice of target countries. In fact, the rapid internationalization may well be a reflection that the world has become flatter, making it easier for firms to obtain the necessary resources to internationalize (Williamson & Zeng, 2009). Thus, rapid internationalization by these emerging market firms may be caused by changes in the global business environment rather than in their innate organizational traits (Ramamurti, 2012). Furthermore, many EEMNEs are acting as a global consolidator in many mature industries in advanced economies such as personal computers, auto parts, chemicals, cement, steel, beverages, processed foods, and meats (Ramamurti & Singh, 2009). While these firms seldom own advanced technologies in these sunset industries, their organizational innovation is superior in terms of efficiently delivering mature open technologies (Luo, Sun, & Wang, 2011), quickly leveraging inexpensive open architecture resources (Zeng

109

 Globalization of Latecomer Asian Multinationals

& Williamson, 2007), and strategically linking with external firms (Mathews, 2006). The key success factor of these firms in foreign markets relies heavily on the ability to develop new and more efficient productive processes and to invent higher quality products made to specific customer requirements (Cassiman & Golovko, 2011; Kittilaksanawong et al., 2013). Especially, established EEMNEs at home are likely to be superior to their competitors in terms of customer relationship, brand awareness, market share, distribution coverage in certain geographic areas (Porter, 1985). Their monopolistic power, industrial experience, and market development abilities developed at home are likely to be exploited in their future expansion in similar developing countries. Through acquisitions rather than greenfield investments in advanced economies, these EEMNEs are able to develop scales of economy, obtain advanced technologies, and develop brands without adding capacity in these mature industries. Therefore, emerging market firms invest in these countries which are physically or economically distant not only to exploit differences particularly labor cost arbitrage across countries (Ghemawat, 2007), but also to move up the value curve in terms of critical technologies or brands as depicted in the smiling curve (Bartlett & Ghoshal, 2000). Table 1 summarizes the key theoretical perspectives of MNE in terms of their major assumptions, key explanations on MNE behaviors, and contributions of OFDIs made by EEMNEs to these theoretical perspectives. Key explanations on MNE behaviors are associated with the location advantages between home and host countries (Dunning, 1988), the benefits and costs associated with timing and speed of entry into a foreign market (Lieberman & Montgomery, 1988; Porter, 1985), and the monopolistic advantages derived from investment scale and mode of entry (Hennart, 2009; Hymer, 1976). The predictions of each theoretical perspective on these three aspects of FDI are built on the assumptions associated with

110

behaviors of individuals, objectives of foreign expansion, and impacts of home and host country conditions (Cuervo-Cazurra, 2012, Luo & Wang, 2012; Ramamurti, 2012). An optimal strategy for foreign expansion that may be translated into competitive advantage is determined by a combination of location, entry timing, and entry scale (Buckley & Casson, 1981; Johanson & Vahlne, 1977; Rivoli & Salorio, 1996). For example, early investments made by developing country firms frequently occur in psychically closer countries where relational assets or networks of relationship can be established and exploited (Lecraw, 1993; Wells, 1998). Being a first mover in an overseas market may allow firms to gain advantages from preemptive market opportunities, quick market penetration, as well as precedence in brand awareness and established relationships with local partners (Isobe, Makino, & Montgomery, 2000). Being a late mover may, however, allow firms to mitigate risks associated with operational costs and environmental uncertainty in their foreign operations (Mascarenhas, 1992; Welch & Luostarinen, 1988). When the competition in a target foreign market is intense, a large scale of OFDI through a high level of resources committed in the market and a high level of control over such investment may allow firms to gain market power as their competitive advantage. Based on the investigation of OFDIs made by EEMNE, Table 1 also presents their deviant behaviors and potential contributions to the mainstream theoretical perspectives of MNE. For example, the foreign expansion of EEMNEs is critically determined by the relative costs of intraregional operations and the costs of inter-country operations rather than by the attractiveness of markets abroad only (Boisot & Meyer, 2008). An increasing number of scholar have also concurred that EEMNEs possess ownership advantages that are different from the traditional advantages of their counterparts in the advanced economies (Bonaglia, Glodstein, & Mathews, 2007; Buckley et al., 2008). Particularly, these special ownership

 Globalization of Latecomer Asian Multinationals

Table 1. Theoretical perspectives of MNE and their extensions from OFDI behaviors of EEMNEs Theoretical Perspectives of MNE

Major Assumptions

Internalization theory (Aliber, 1970; Buckley & Casson, 1976; Hennart, 2009; Hymer, 1976)

→Decisions on internationalization are boundedly rational with imperfect information and information asymmetry and these decisions are based on asset specificity. →Market expansion is based on using technology developed at home. →Firm develops technology in order to compete at home while the transaction protection in the host country determines the use of either firm or market governance. In particular, firms invest abroad if the benefits of exploiting such firm-specific advantages are over the costs of the operations abroad. Therefore, firms develop their own internal markets whenever the associated costs of transactions can be made lower within the firm.

OLI paradigm (Dunning, 1977, 1980, 1988; Porter, 1990; Rugman, 1981)

→Decisions on internationalization are fully rational with imperfect information and information asymmetry. →Market expansion is based on building home-based ownership advantages and transferring them to benefit from overseas location advantages. →Firms internalize activities abroad to realize such firm-specific or ownership advantages and location advantages.

Internationalization process model (Johanson & Vahlne, 1977; Johanson & WiedersheimPaul, 1975; Welch & Luostarinen, 1988)

→Decisions on internationalization are boundedly rational with imperfect information and information asymmetry. →Market expansion is based on using specific knowledge developed at home. →The transfer of knowledge between home and host countries is limited by their different conditions. →The entry is induced by the host country. →The investment abroad is associated with gradual learning and the development of market knowledge over time. Particularly, the internationalization is an evolutionary and sequential process of building up foreign commitments over time.

LLL paradigm (Mathews, 2002, 2006; Li, 2007)

→OFDIs made by firms are not only based on their ownership advantages, but also on the advantages that these firms can leverage and link externally. →Firms repeat the application of linkage and leverage processes to enhance their organizational learning.

Springboard perspective (Andreff, 2003; Lecraw, 1993; Luo & Tung, 2007; Luo & Rui, 2009)

→International expansion is used systematically and recursively as a springboard to compensate for a firm’s competitive disadvantages and in particular, latecomer disadvantages.

Theoretical Perspectives of MNE

Key Explanations on MNE Behaviors Locations/Target Countries

Timing/Speed of Internationalization

Investment Scale/Mode of Entry

Internalization theory

The target countries are likely to have lower adjustment or transaction costs associated with for example, information and currency.

The timing and speed of internationalization is determined by economies of scale and monopoly advantages derived from internalization of activities associated with overseas expansion as well as the degree and nature of competition at home and abroad.

MNEs use a hierarchy mode of governance in their cross-border transactions when the costs of using contracts exceed the costs of internalizing the transactions. In particular, firms internalize imperfect or missing external markets until the costs of further internalization outweigh its benefits.

OLI paradigm

MNEs set up overseas production facilities when they possess ownership advantages at home, and location advantages abroad. Such location-specific advantages include for example, natural resources, the quality and size of the labor force, cultural factors, tariff and nontariff barriers, public policies etc.

Firms internationalize when the competitive advantages derived from their ownership, location, and internalization advantages are sufficient to compensate for the costs of setting up and operating a foreign value-adding operation.

MNEs set up overseas production facilities when they possess internalization advantages of keeping the foreign operations within the firm boundary. Such advantages are derived from their home-specific benefits such as property, technologies, knowledge, managerial or marketing abilities. The decision to internationalize depends on the marginal internalization costs and benefits.

111

 Globalization of Latecomer Asian Multinationals

Internationalization process model

Internationalization starts in a country with less psychic distance, with networks in which the firm already has positions. The target countries are also determined by the amount of experiential knowledge the firm possesses and the uncertainty associated with such decision to internationalize. The location selection is essentially path dependent

MNEs internationalize incrementally in a sequential step to minimize risks and to obtain experiential knowledge from abroad. Thus, the timing and speed of internationalization is determined by the amount of experiential knowledge the firm possesses and the uncertainty associated with the decision to internationalize.

The internationalization is proceeded in a sequential and successive process that starts with a relatively lower to a relatively higher commitment such as from exports to overseas subsidiaries and overseas production respectively.

LLL paradigm

The expansion focuses on countries that firms can derive required resources through linkages with other external firms. Particularly, these countries are likely to allow firms to leverage external linkages and learn from such external firms.

The tendency for timing and speed is early and accelerated, depending on the extent to which firms need to gain linkages with external firms to overcome latecomer disadvantages.

The scale and mode of investments depend on the extent to which firms need to gain linkages and leverage and learn from their potential external firms.

Springboard perspective

The target countries are likely those that firms can acquire strategic resources as well as those that they can reduce institutional hardship and market constraints at home. The location selection is path breaking rather than path dependent.

The overseas expansion is likely to be accelerated in large scales with leapfrog trajectories. Such decisions are propelled internally by corporate entrepreneurship and supported externally by their home governments.

The scale and mode of overseas investments are relatively large with leapfrog trajectories

Theoretical Perspectives of MNE

Contributions of OFDIs Made by EEMNEs to MNE Theories

Internalization theory

EEMNEs have a greater tendency to internalize operations overseas because of their experience of a relatively higher level of transaction costs at home. Therefore, the attitudes toward transactions costs are different among managers from different countries.

OLI paradigm

EEMMNEs expand overseas not only to exploit distinct ownership advantages developed at home, but also to search for ownership advantages. Such expansion involves the search of location advantages without moving their production abroad. Therefore, types of ownership and location advantages derived from internationalization rely on the country of origin. EEMNEs not only internationalize to gain these advantages but also to mitigate the disadvantages at home.

Internationalization process model

EEMNEs choose between a country with lower psychic distance but with less attractive market or a country with greater psychic distance but with more attractive market. EEMNEs have a higher level of tolerance for risk. Therefore, OFDI behaviors of EEMNEs contribute to the separation of psychic distance from market attractiveness in decisions on the target countries. The level of risk aversion in selecting target countries and entry mode is influenced by home country.

LLL paradigm and Springboard perspective

EEMNEs must have ownership advantages before they can internationalize. Such ownership advantages, however, are different from those of MNEs from advanced economies and are based on the distinctive conditions of their home market. EEMNEs internationalize to bring back technologies and brands for subsequent exploitation in the home and other markets. Their internationalization is also based on exploiting differences rather than similarities across countries. Many of them globalize into sunset industries. EEMNEs behave in a different way not only because of their roots in emerging markets, but also because of the learning processes and the global and industry context for internationalization.

Sources: Adapted from Cuervo-Cazurra (2012); Luo & Wang (2012); Ramamurti (2012).

advantages are derived from the embeddedness in their home country.

112

Such embeddedness stimulates EEMNEs to expand into culturally or geographically closer

 Globalization of Latecomer Asian Multinationals

locations to their home markets. However, for aspiring EEMNEs, their special ownership advantages also drive them to actively expand into more distant advanced economies to acquire advanced and radical proprietary technology and other strategic assets such as brand name, distribution channels, and management capabilities (Buckley, Clegg, & Wang, 2007; Deng, 2004; Li, 2007).

4. ILLUSTRATIONS OF MNES FROM MAINLAND CHINA AND TAIWAN This section illustrates EEMNEs who start as a small company, lack resources, and are distant from major markets challenge and displace incumbents who are established and well-known on the global stage. The most active examples of these MNEs are undisputedly those from China. Many companies in mainland China and Taiwan have successfully internationalized and in several cases become global leading firms in their respective industries. Such MNEs to be illustrated in this section include the IT product manufacturers (e.g., Lenovo and Acer), the telecommunication equipment manufacturers (e.g., Huawei), the home appliances manufacturers (e.g., Haier and Midea), and the automobiles and parts manufacturers (e.g., Geely and Wanxiang). These firms started as latecomers on the global stage without any of the advantages already possessed by the incumbent industry leaders, but astonishingly overcame their deficiencies at home to emerge as industry leaders within short periods of time. The rise of these EEMNEs is less driven by cost factors per se, but rather by a search for markets and technological innovations to compete in the global economy. They turn their initial disadvantages into sources of advantage. Particularly, these EEMNEs aggressively acquire advanced technologies or leverage their way into new markets through collaborations with potential partners. By such linkage and leverage learning which accelerate their internationalization,

EEMNEs see the world as full of resources to be imitated and transferred, while global incumbents see the world as full of competitors to imitate their success (Mathews, 2006). In the Information Technology (IT) industry, unlike typical Chinese companies that based their competitive advantage on low labor costs, Huawei overcame the challenge initially as a successful low-cost manufacturer to move up the technology value chain, successfully building a global brand. The success was essentially built on the principal growth strategy that focused on research and development through a number of partnerships with global incumbents. From a distributor of imported computers initially unknown to the world, Lenovo grew to be a global technology giant after the acquisition of IBM’s PC division. The acquisition not only created two new global Lenovo and IBM brands, but also provided Lenovo with IBM management expertise and global reach. Acer, founded as a tiny IT company in Taiwan began its internationalization through large acquisitions that nearly bankrupted the company. It then regrouped and pursued an incremental strategy of expansion through partnerships with local firms in target markets and innovative organizational forms. In the home appliances industry, Haier began as a contract manufacturer for multinational brands. Following a nontraditional expansion strategy, the company first entered in the world’s most demanding markets like the USA. and Europe, learned from these markets, then moved on to other less difficult developing economies. Both greenfield investments and acquisition of rival manufacturers were employed to expand overseas production capacity. Midea with overseas production and marketing branches of home appliances around the world, acquired air-conditioning business of Carrier in Latin America after several of collaboration to expand its geographical reach there. In the automobile industry, by acquiring Volvo from Ford Motor, Geely gained access to a global dealership network, sophisticated automotive technology, and management know-how. An

113

 Globalization of Latecomer Asian Multinationals

integration of Volvo helped Geely improve its own line of cars for global markets. Wanxiang operated manufacturing plants across the USA, Canada, Mexico, and Europe with the focus on technology and personnel development. The internationalization began when it developed a supplier relationship with an American auto-part manufacturer for universal joints and later acquired this company when it faced financial difficulties. While fierce competition and institutional hardship at home propel EEMNEs to seek better opportunities from OFDIs, the relatively attractive economic growth potential at home also reduces such incentive to aggressively expand abroad (Luo & Tung, 2007; Melin, 1992). In fact, the potential growth of home markets and consumer demands still provide incentives for EEMNEs to place a great strategic focus and resource commitment to the home markets (Kumar, 2009). The attractiveness of home markets may defer their decision on international expansion. By capitalizing on such opportunities, EEMNEs can use resources and experiences accumulated from the promising business opportunities at home to support their future international expansion (Mathews & Zander, 2007). Therefore, when making international entry decisions, EEMNEs must balance opportunities and risks abroad and at home. High economic growth potential at home not only requires that EEMNEs maintain competitive positions domestically, but such rapidly increasing competition also propels EEMNEs to open up new markets abroad. Before the acquisition of IBM’s PC division, Lenovo, despite having a leadership position at home, was struggling to maintain corporate sales to Chinese government ministries and schools due to the rapidly maturing PC market and fierce competition with world leaders like Dell, IBM, Toshiba, and HP. The company was considering tapping into international markets as well as exploring product diversification strategies at home. By acquiring IBM’s PC division, the company grew quickly toward globalization with a strong

114

competitive position among its competitors in the thin-margin computer industry. Through the acquisition of Volvo, Geely was able to create and expand Volvo manufacturing in China and develop new luxury cars for the China market. In fact, Volvo’s new management announced to increase global sales to more than double by 2020, with half of the volume coming from sales in China. Particularly, the integration of Volvo not only positioned Geely as a unique brand in the fiercely competitive Chinese automobile industry but also improved its own line of cars for global markets. To leverage extensive successful experience in acquiring numerous companies, entering and retaining new markets, restructuring the organization, and managing subsidiaries at home and around the world, Haier had to figure out which of the lessons learned from international operations should be implemented in China and which skills learned at home could be best applied abroad. For example, although the company was the first in China to be named by the Financial Times as one of the most admired companies, when taking over the Yellow Mountain television factory in the distant Hefei province, the workers there held a strike against the Haier culture. In India, while Haier received credibility to offer more sophisticated products at a premium price because of the global presence, the Indian consumers had yet to develop the willingness to embrace such high-priced China-made products. The lesson from India’s good-enough market was confirmed when the sales and profitability of Haier in India gradually turned into a positive direction after the company undertook a significant change in pricing strategies. These acquisitions provide a fastest means for EEMNEs to catch up with the global incumbents. However, most acquisitions made by these companies were targeted at the firms in advanced economies in financial difficulty. Such acquisitions include, for example, the acquisition of IBM’s PC division by Lenovo when the industry was in decline, the acquisition of Volvo by Geely when

 Globalization of Latecomer Asian Multinationals

Ford had continually lost money in Volvo, and the acquisition of several distressed companies in the USA including Zeller Corporation by Wanxiang. Most Chinese acquirers lack experience which begins from due diligence to post-acquisition integration. Therefore, the challenge for these Chinese firms is the implementation of the longterm plan for integration and growth in order to reverse losses in the acquired company to become a profitable one. Because of the globalization and liberalization that had lowered protectionist barriers in many emerging economies, MNEs from North America, western Europe, and Japan had rushed into these markets to establish their presence. Many local companies faced increasing pressure competing with these established MNEs at home. Some lost market share or sold off businesses. However, the companies illustrated in this section fought back by restructuring their businesses and building competitive advantage to exploiting new opportunities at home and abroad despite facing institutional voids associated with expansion capital, sophisticated R&D, and top-quality talent in their home markets. Some companies capitalized on their knowledge of the local product markets to develop distinct competitive advantages of operating directly there. Others exploited their knowledge of local talent and capital markets, thereby serving customers both at home and abroad in a cost-effective manner. From the perspective of the Chinese government, Geely’s acquisition of Volvo from Ford Motor Company would be a major step in achieving technology transfer on an ongoing basis. Geely’s China operations would be able to quickly adopt Volvo’s cutting-edge production operations and safety features. The intervention of the Chinese government on the industry development in the case of Geely is seen positive by the domestic company in terms of technology transfer and opportunity to catch up with global companies. However, in the case of Huawei, the role of Chinese government rather creates the negative image

on the domestic company abroad. Huawei had attempted to enter and acquired assets in telecommunication industry in the USA, but there were issues involved in understanding foreign market risk and the political challenges of internationalization in this incompletely open industry with strong government intervention. The Committee on Foreign Investment in the USA had twice denied Huawei’s acquisition of a U.S. computer and telecommunication company. Huawei had to transform its company image and reputation, changing from a Chinese company with Chinese characteristics into a global corporation equivalent to Cisco Systems or Ericsson.

5. CONCLUSION The focus of current debates on the emergence of MNEs has been shifted to whether the rise of latecomer Asian multinationals are a new type of MNE that should be explained by a new theory or by existing theories. These debates are triggered by two main puzzles (Ramamurti, 2012). The first puzzle is why MNEs have increasingly emerged from developing countries given their relatively inferior economic and technological development. The second puzzle is why these latecomer multinationals have appeared to internationalize at an accelerated speed and employ high-commitment and high-risk modes such as mergers and acquisitions in the early stages, rather than other lowrisk and low-commitment options. These MNEs even enter into physically distant or economically advanced countries before other more proximate and similar countries. This chapter has highlighted the country of origin in emerging markets, the idiosyncratic ownership advantages, the learning processes, and the global and industry context as four critical factors that explain the “deviant behaviors” of EEMNEs with respect to their internationalization speed, target countries, and modes of entry. The main goal of many EEMNEs going abroad with

115

 Globalization of Latecomer Asian Multinationals

such behaviors is to bring back technologies, brands, or managerial expertise for exploitation in the home market or elsewhere. Such motive for strategic-assets seeking is to exploit differences rather than similarities across countries (Ramamurti, 2012). To realize such strategic intent, many EEMNEs globally consolidates sunset industries via their efficient production capability developed and accumulated at home while other companies begin as a contract manufacturer or a supplier for advanced economy firms and then via such inward internationalization learn and develop to become a large and independent MNE on the global stage. The analysis of EEMNEs demonstrates that a firm from developing countries may become MNEs not only by using the traditional ownership advantages such as advanced technology or wellknown brand name as suggested by traditional theories of MNE, but also by employing efficient processes and business model innovations. In fact, many EEMNEs expand abroad to reduce their ownership and location disadvantages. They move abroad by acquiring external firms to improve their ownership advantages at home. EEMNEs may enter advanced economies to escape location disadvantages associated with poor institutions at home or to obtain location advantages such as advanced technology, or management expertise to compete at home without having to establish production subsidiaries there. Furthermore, many firms from emerging economies are often originating from highly imperfect markets. To fill voids in these markets, they often employ networking as an important strategy in their OFDIs (Elango & Pattnaik, 2007; Musteen, Francis, & Datta, 2010; Prashantham & Dhanaraj, 2010; Tan & Meyer, 2010; Zhou, Wu, & Luo, 2007). To compete effectively on the global stage, firms from emerging markets frequently use acquisitions as a means to reduce their knowledge gap (Deng, 2009; Elango & Pattnaik, 2011; Luo & Tung, 2007; Luo, Zhao, Wang, & Xi, 2011; Mathews, 2006; Yang, Sun, Lin, & Peng, 2011). While all MNEs, irrespective of their origin,

116

determine OFDI strategies via market arbitrage, EEMNEs delicately employ institutional arbitrage in their OFDI strategies. Such institutional arbitrage allows EEMNEs to avoid home country institutional hardship by investing in other countries that are categorized by more favorable institutional environments (Boisot & Meyer, 2008; Martin, 2014). Therefore, in addition to the acquisition of knowledge to overcome the liability of being a latecomer (Mathews, 2006), these home-based institutional effects are also a critical driver for the initial steps of internationalization by emerging economy firms that are highly successful at home (Bartlett & Ghoshal, 2000).

5.1 Managerial Implications Due to high economic growth potential, developing countries have become a competitive battlefield for any MNE to acquire or maintain their global competitive advantages. Meanwhile, for aspiring EEMNEs, the pervasive institutional hardship at home also drives them to seek locations that give them opportunities to move up the value chain and catch up with MNEs from advanced economies. EEMNEs, therefore, have increasingly experienced intense competition at home due to privatization and liberalization on investments in various sectors. Avoiding direct competition with superior rivals at home by seeking new market abroad is more appropriate than direct head-on competition (Porter, 1985). In particular, an EEMNE may venture in other undefended developing countries that have higher profit potential. The move for overseas venturing may be early and on a larger scale to quickly build a monopoly advantage when the profit margins in the domestic market are being trimmed and the new market is not currently served by existing competitors (Luo & Wang, 2012). Through the success in such foreign markets, an EEMNE may subsequently enhance its competitive position at home (Buckley, Clegg, Cross, Liu, Voss, & Zheng, 2007).

 Globalization of Latecomer Asian Multinationals

EEMNEs should fully understand what is truly required in their target company for the acquisition. Importantly, if buying the brand, the acquirer should undertand it is the previous organizational capabilities that built the brand (Yeung, Xin, Pfoertsch, & Liu, 2011). Therefore, the brand will depreciate over time after the acquisition unless it is appropriately maintained or enhanced. Many EEMNEs bid higher to acquire assets in advanced economies because of managerial hubris, national pride, and poor corporate governance. EEMNEs are likely to announce high-profile deals while they lack of internationally experienced managerial talents to manage the integration. Particularly, these EEMNEs do not usually possess effective processes for target identification, valuation, and post-merger integration. For example, acquirers from China often allow acquired target companies to retain autonomy, keep the top management intact, and gradually encourage interaction between the two sides (Yeung et al., 2011). To increase the likelihood of post-acquisition success, the acquirers from emerging economies should consider adopting a temporary partnership model. After the acquisition, two parties may establish a form of strategic collaborations. For example, after the acquisition, IBM invested in some equity in Lenovo and signed a cooperation agreement in terms of marketing, services, and the license of IBM brand for an extended period of time. In exchange, IBM received the licensing fees and commissions for use of its sales channels during the cooperation. This temporary partnership model benefits both the acquirer from emerging economies and the target in advanced economies. In particular, the acquirer was able to smooth the integration process by maintaining the continuity of key management and technical personnel and meanwhile benefit the most from brand and technical values from the target. The target was able to exit an unattractive business while still participate in ongoing revenue with minimal business risks and to gain opportunity to access the growing emerging market of the acquirer.

Managers of EEMNEs should realize that country-of-origin effects exert influence on timing, location, and scale of their internationalization strategies. Managers of incumbent firms in advanced economies should also be aware of such effects to better understand and predict the strategies of their rivals from developing countries. On the competitive aspects, managers of incumbent firms dealing with EEMNEs that potentially challenge their market position should be aware the newly arrived subsidiaries of EEMNEs may have to stay and absorb short-term losses for an extended perio to forge their integration and localization (Peng, 2012). However, as these subsidiaries actually start their local production, these incumbents should be prepared to compete by driving the cost down or to collaborate with them. The usual means of antidumping duties on low-cost imported products from their home country will then become irrelevant.

5.2 Policy Implications Governments in developing countries continue to offer incentives to foreign investors to attract inward domestic investments and to domestic businesses to encourage OFDIs, therefore reverse investments usually occur when these firms first invest abroad and then invest back home for such preferential treatments (Luo & Tung, 2007; Luo & Wang, 2012; Peng, 2012). Policy makers in these countries should be aware that such unequal treatments between domestic and foreign firms like in China will drive some local firms abroad and increase the likelihood of such round-tripping capitals. Additionally, policymakers in developing countries such as in China should also play their positive role in OFDIs by sharing state-controlled resources fairly with both state-owned enterprises (SOEs) and privately-owned enterprises (POEs). One-sided support of SOEs may be at the expense of unmet needs of POEs, thereby giving rise of the suspicion of political motives behind some SOEs (Peng, 2012). When these SOEs venture abroad,

117

 Globalization of Latecomer Asian Multinationals

such suspicion may become a particular concern by the host country government. The governments of developing countries have long desired to develop certain industries in the nations critical to their economic development. For example, in the Chinese automotive industry, the initial steps involve the creation of joint ventures in which government-owned firms become partners of foreign privately-owned companies. Although these joint ventures are usually very financially successful, ongoing differences in management preferences between the collaborative partners are likely to create a continual tension within the joint ventures. Such tension is especially associated with a desire of the government to ensure that its new automotive industry can quickly adopt the latest advances in technologies from these foreign partners. Therefore, policy makers should be aware of such tension and negotiate appropriately to ensure the sustainable transfer of technology from foreign partners. Policymakers in host countries should consider both pros and cons of inward FDIs and approve inward FDIs when their benefits outweigh their costs (Peng, 2011), such as following the global financial crisis, unemployment in the USA, Europe, and elsewhere is high and global FDI volume is significantly lowered. During the period of such crisis, however, Chinese companies had continued to invest abroad to build the factories in those regions, thus creating new jobs in the regions (Prasso, 2010). Therefore, creating and maintaining an attractive investment climate is beneficial to the host country.

ACKNOWLEDGMENT This study is supported by the grant from National Natural Science Foundation of China (Project No. 71202173), Zhejiang Provincial Natural Science Foundation of China (Project No. LY12G02011), and China Scholarship Council (Project No. 201308330363).

118

REFERENCES Aliber, R. Z. (1970). A theory of foreign direct investment. In C. P. Kindleberger (Ed.), The International Corporation. Cambridge, MA: MIT Press. Anand, J., & Delios, A. (2002). Absolute and relative resources as determinants of international acquisitions. Strategic Management Journal, 23(2), 119–134. doi:10.1002/smj.215 Andreff, W. (2003). The newly emerging TNCs from economies in transition: A comparison with third world outward FDI. Transnational Corporations, 12(2), 73–118. Bartlett, C. A., & Ghoshal, S. (2000). Going global: Lessons from late movers. Harvard Business Review, 78(2), 132–142. Bilkey, W. K., & Tesar, G. (1977). The export behaviour of smaller-sized Wisconsin manufacturing firms. Journal of International Business Studies, 8(1), 93–98. doi:10.1057/palgrave.jibs.8490783 Boisot, M. H., & Meyer, M. W. (2008). Which way through the open door? Reflections on the internationalization of Chinese firms. Management and Organization Review, 4(3), 349–365. doi:10.1111/j.1740-8784.2008.00116.x Bonaglia, F., Glodstein, A., & Mathews, J. (2007). Accelerated internationalization by emerging markets’ multinationals: The case of the white goods sector. Journal of World Business, 42(4), 369–383. doi:10.1016/j.jwb.2007.06.001 Buck, T., Liu, X., Wei, Y., & Liu, X. (2009). The trade development path and export spillovers in China. Management International Review, 47(5), 683–706. doi:10.1007/s11575-007-0040-2 Buckley, P. J., & Casson, M. C. (1976). The Future of the Multinational Enterprise. London: Macmillan.

 Globalization of Latecomer Asian Multinationals

Buckley, P. J., & Casson, M. C. (1981). The optimal timing of a foreign direct investment. The Economic Journal, 91(361), 75–87. doi:10.2307/2231697 Buckley, P. J., Clegg, J., Cross, A. R., Liu, X., Voss, H., & Zheng, P. (2007). The determinants of Chinese outward foreign direct investment. Journal of International Business Studies, 38(4), 499–518. doi:10.1057/palgrave.jibs.8400277 Buckley, P. J., Clegg, J., & Wang, C. (2007). Is the relationship between inward FDI and spillover effects linear? An empirical examination of the case of China. Journal of International Business Studies, 38(3), 447–459. doi:10.1057/palgrave. jibs.8400274 Buckley, P. J., Cross, A. R., Tan, H., Xin, L., & Voss, H. (2008). Historic and emergent trends in Chinese outward direct investment. Management International Review, 48(6), 715–748. doi:10.1007/s11575-008-0104-y Cassiman, B., & Golovko, E. (2011). Innovation and internationalization through exports. Journal of International Business Studies, 42(1), 56–75. doi:10.1057/jibs.2010.36 Chan, C. M., & Makino, S. (2007). Legitimacy and multi-level institutional environments: Implications for foreign subsidiary ownership structure. Journal of International Business Studies, 38(4), 621–638. doi:10.1057/palgrave.jibs.8400283 Chen, H., & Chen, T. J. (1998). Network linkages and location choice in foreign direct investment. Journal of International Business Studies, 29(3), 445–467. doi:10.1057/palgrave.jibs.8490002 Child, J., & Rodrigues, S. B. (2005). The internationalization of Chinese firms: A case for theoretical extension. Management and Organization Review, 1(3), 381–410. doi:10.1111/j.17408784.2005.0020a.x

Chung, W., & Alcacer, J. (2002). Knowledge seeking and location choices of foreign direct investment in the United States. Management Science, 48(12), 1534–1554. doi:10.1287/ mnsc.48.12.1534.440 Cuervo-Cazurra, A. (2011a). Selecting the country in which to start internationalization: The non sequential internationalization argument. Journal of World Business, 46(4), 426–437. doi:10.1016/j. jwb.2010.10.003 Cuervo-Cazurra, A. (2011b). Selecting the country in which to start internationalization: The non sequential internationalization argument. Journal of World Business, 46(4), 426–437. doi:10.1016/j. jwb.2010.10.003 Cuervo-Cazurra, A. (2012). Extending theory by analyzing developing country multinational companies: Solving the goldilocks debate. Global Strategy Journal, 2(3), 153–167. doi:10.1111/ j.2042-5805.2012.01039.x Cuervo-Cazurra, A., & Genc, M. (2008). Transforming disadvantages into advantages: Developing country MNEs in the least developed countries. Journal of International Business Studies, 39(6), 957–979. doi:10.1057/palgrave.jibs.8400390 Czinkota, M. R. (1982). Export development strategies: U.S. promotion policy. New York: Praeger. Deng, P. (2004). Outward investment by Chinese MNCs: Motivations and implications. Business Horizons, 47(3), 8–16. doi:10.1016/S00076813(04)00023-0 Deng, P. (2009). Why do Chinese firms tend to acquire strategic assets in international expansion? Journal of World Business, 44(1), 74–84. doi:10.1016/j.jwb.2008.03.014 Deng, P. (2013). Chinese Outward Direct Investment Research: Theoretical Integration and Recommendations. Management and Organization Review, 9(3), 513–539. doi:10.1111/more.12030

119

 Globalization of Latecomer Asian Multinationals

Dunning, J. H. (1977). Trade, location of economic activity, and the MNE: a search for an eclectic approach. In B. Ohlin, P. O. Hesselborn, & P. M. Wijkman (Eds.), The International Allocation of Economic Activity (pp. 395–418). London: Macmillan. Dunning, J. H. (1980). Toward an eclectic theory of international production: Some empirical results. Journal of International Business Studies, 11(1), 9–31. doi:10.1057/palgrave.jibs.8490593 Dunning, J. H. (1988). The eclectic paradigm of international production: A restatement and some possible extensions. Journal of International Business Studies, 19(1), 1–31. doi:10.1057/palgrave. jibs.8490372 Dunning, J. H. (1993). Multinational Enterprises and the Global Economy. Reading, MA: AddisonWesley. Dunning, J. H. (1998). Location and the multinational enterprise: A neglected factor? Journal of International Business Studies, 29(1), 45–66. doi:10.1057/palgrave.jibs.8490024 Dunning, J. H., Kim, C., & Park, D. (2008). Old wine in new bottles: A comparison of emergingmarket TNCs today and developed-country TNCs thirty years ago. In K. P. Sauvant (Ed.), The Rise of Transnational Corporations from Emerging Markets: Threat or Opportunity? (pp. 158–179). Cheltenham, UK: Edward Elgar. doi:10.4337/9781848441460.00017 Elango, B., & Pattnaik, C. (2007). Building capabilities for international operations through networks: A study of Indian firms. Journal of International Business Studies, 38(4), 541–555. doi:10.1057/palgrave.jibs.8400280 Elango, B., & Pattnaik, C. (2011). Learning before making the big leap: Acquisition strategies of emerging economy firms. Management International Review, 51(4), 461–482. doi:10.1007/ s11575-011-0085-0

120

Forsgren, M. (2002). The concept of learning in the Uppsala internationalization process model: A critical review. International Business Review, 11(3), 257–278. doi:10.1016/S09695931(01)00060-9 Ghemawat, P. (2007). Redefining Global Strategy. Boston: Harvard Business School Press. Govindarajan, V., & Ramamurti, R. (2011). Reverse innovation, emerging markets, and global strategy. Global Strategy Journal, 1(3/4), 191–205. doi:10.1002/gsj.23 Guillén, M. F. (2002). Structural inertia, imitation, and foreign expansion: South Korean firms and business groups in China, 1987-1995. Academy of Management Journal, 45(3), 509–525. doi:10.2307/3069378 Guillen, M. F., & Garcia-Canal, E. (2009). The American model of the multinational firm and the ‘new multinationals’ from emerging markets. The Academy of Management Perspectives, 23(2), 23–35. doi:10.5465/AMP.2009.39985538 Hashai, N., & Buckley, P. J. (2014). Is competitive advantage a necessary condition for the emergence of the multinational enterprise? Global Strategy Journal, 4(1), 35–48. doi:10.1111/j.20425805.2013.01069.x Hennart, J.-F. (2009). Theories of the multinational enterprise. In A. Rugman (Ed.), The Oxford Handbook of International Business (2nd ed.). Oxford, UK: Oxford University Press. Hymer, S. H. (1976). The International Operations of National Firms: A Study of Foreign Direct Investment. Cambridge, MA: MIT Press.

 Globalization of Latecomer Asian Multinationals

Isobe, H., Makino, S., & Montgomery, D. (2000). Resource commitment, entry timing, and market performance of foreign direct investments in emerging economies: The case of Japanese international joint ventures in China. Academy of Management Journal, 43(3), 468–484. doi:10.2307/1556405 Johanson, J., & Mattson, L. G. (1988). Internationalization in industrial systems. In N. Hood & J.-E. Vahlne (Eds.), Strategies in global competition. New York: Croom Helm. Johanson, J., & Vahlne, J.-E. (1977). The international process of the firm: A model of knowledge development and increasing foreign market commitments. Journal of International Business Studies, 8(1), 23–32. doi:10.1057/palgrave. jibs.8490676

Kalotay, L., & Sulstarova, A. (2010). Modeling Russian outward FDI. Journal of International Management, 16(2), 131–142. doi:10.1016/j. intman.2010.03.004 Kittilaksanawong, W., Chen, X. D., & Duan, C. Q. (2013). What drives the strategic alliance formation of transitioneconomy small and mediumsized enterprises? The moderating role of intermediary organizations. In T. S. Chan & G. Cui (Eds.), Multinationals and Global Consumers: Tension, Potential and Competition (p. 4057). New York: Palgrave Macmillan. doi:10.1057/9781137307293.0008 Kumar, N. (2009). Competing with giants: Survival strategies for local companies in emerging markets. Harvard Business Review, 87(5), 115–121.

Johanson, J., & Vahlne, J.-E. (1990). The mechanism of internationalization. International Marketing Review, 7(4), 11–24. doi:10.1108/02651339010137414

Lecraw, D. J. (1993). Outward direct investment by Indonesian firms: Motivation and effects. Journal of International Business Studies, 24(3), 589–600. doi:10.1057/palgrave.jibs.8490247

Johanson, J., & Vahlne, J.-E. (2006). Commitment and opportunity development in the internationalization process: A note on the Uppsala internationalization process model. Management International Review, 46(2), 165–178. doi:10.1007/ s11575-006-0043-4

Li, P. (2007). Toward an integrated theory of multinational evolution: The evidence of Chinese multinational enterprises as latecomers. Journal of International Management, 13(3), 296–318. doi:10.1016/j.intman.2007.05.004

Johanson, J., & Vahlne, J.-E. (2009). The Uppsala internationalization process model revisited: From liability of foreignness to liability of outsidership. Journal of International Business Studies, 40(9), 1411–1431. doi:10.1057/jibs.2009.24 Johanson, J., & Wiedersheim-Paul, F. (1975). The internationalization of the firm: Four Swedish cases. Journal of Management Studies, 12(3), 305–322. doi:10.1111/j.1467-6486.1975. tb00514.x

Lieberman, M. B., & Montgomery, D. B. (1988). First-mover advantages. Strategic Management Journal, 19(12), 41–58. doi:10.1002/ smj.4250090706 Lu, J., & Beamish, P. (2001). The internationalization and performance of SMEs. Strategic Management Journal, 22(6/7), 565–586. doi:10.1002/ smj.184 Lu, J. W. (2002). Intra- and inter-organizational imitative behavior. Journal of International Business Studies, 33(1), 19–37. doi:10.1057/palgrave. jibs.8491003

121

 Globalization of Latecomer Asian Multinationals

Luo, Y., & Rui, H. (2009). An ambidexterity perspective toward multinational enterprises from emerging economies. The Academy of Management Executive, 23(4), 49–70.

Mascarenhas, B. (1992). Order of entry and performance in international markets. Strategic Management Journal, 13(7), 499–510. doi:10.1002/ smj.4250130703

Luo, Y., Sun, J., & Wang, S. L. (2011). Emerging economy copycats: Capability, environment, and strategy. The Academy of Management Perspectives, 25(2), 37–56. doi:10.5465/ AMP.2011.61020801

Mathews, J. A. (2002). Competitive advantages of the latecomer firm: A resource-based account of industrial catch-up strategies. Asia Pacific Journal of Management, 19(4), 467–488. doi:10.1023/A:1020586223665

Luo, Y., & Tung, R. L. (2007). International expansion of emerging market enterprises: A springboard perspective. Journal of International Business Studies, 38(4), 481–498. doi:10.1057/ palgrave.jibs.8400275

Mathews, J. A. (2006). Dragon multinationals: New players in 21st century globalization. Asia Pacific Journal of Management, 23(1), 5–27. doi:10.1007/s10490-006-6113-0

Luo, Y., & Wang, S. L. (2012). Foreign direct investment strategies by developing country multinationals: A diagnostic model for home country effects. Global Strategy Journal, 2(3), 244–261. doi:10.1111/j.2042-5805.2012.01036.x Luo, Y. D., Zhao, H. X., Wang, Y. H., & Xi, Y. M. (2011). Venturing abroad by emerging market enterprises: A test of dual strategic intents. Management International Review, 51(4), 433–460. doi:10.1007/s11575-011-0087-y Madhok, A., & Keyhani, M. (2012). Acquisitions as entrepreneurship: Asymmetries, opportunities, and the internationalization of multinationals from emerging economies. Global Strategy Journal, 2(1), 26–40. doi:10.1002/gsj.1023 Makino, S., Lau, C. M., & Yeh, R. S. (2002). Assetexploitation versus asset-seeking: Implications for localization choice of foreign direct investment from newly industrialized economies. Journal of International Business Studies, 33(3), 403–422. doi:10.1057/palgrave.jibs.8491024 Martin, X. (2014). Institutional Advantage. Global Strategy Journal, 4(1), 55–69. doi:10.1111/j.20425805.2013.01072.x

122

Mathews, J. A., & Zander, I. (2007). The international entrepreneurial dynamics of accelerated internationalisation. Journal of International Business Studies, 38(3), 387–403. doi:10.1057/ palgrave.jibs.8400271 Melin, L. (1992). Internationalization as a strategy process. Strategic Management Journal, 13, 99–118. Meyer, K. E., & Skak, A. (2002). Networks, serendipity and SME entry into Eastern Europe. European Management Journal, 20(2), 179–188. doi:10.1016/S0263-2373(02)00028-2 Meyer, K. E., & Thaijongrak, O. (2013). The dynamics of emerging economy MNEs: How the internationalization process model can guide future research. Asia Pacific Journal of Management, 30(4), 1125–1153. doi:10.1007/s10490012-9313-9 Mintzberg, H., & Waters, J. A. (1985). Of strategies, deliberate and emergent. Strategic Management Journal, 6(3), 257–272. doi:10.1002/ smj.4250060306

 Globalization of Latecomer Asian Multinationals

Musteen, M., Francis, J., & Datta, D. K. (2010). The influence of international networks on internationalization speed and performance: A study of Czech SMEs. Journal of World Business, 45(3), 197–205. doi:10.1016/j.jwb.2009.12.003

Rugman, A. (2009). Theoretical aspects of MNEs from emerging markets. In R. Ramamurti & J. V. Singh (Eds.), Emerging Multinationals in Emerging Markets (pp. 42–63). Camridge, UK: Cambridge University Press.

Nordstrom, K. A. (1991). The Internationalization Process of the Firm: Searching for New Patterns and Explanations. Stockholm, Sweden: Stockholm School of Economics.

Rugman, A. M. (1981). Inside the Multinationals: The Economics of Internal Markets. New York: Columbia University Press.

Peng, M. W. (2011). Global Business. Cincinnati, OH: South-Western Cengage Learning. Peng, M. W. (2012). The global strategy of emerging multinationals from China. Global Strategy Journal, 2(2), 97–107. doi:10.1002/gsj.1030 Porter, M. E. (1985). Competitive Advantage. New York: Free Press. Porter, M. E. (1990). The Competitive Advantage of Nations. New York: Free Press. Prashantham, S., & Dhanaraj, C. (2010). The dynamic influence of social capital on the international growth of new ventures. Journal of Management Studies, 47(6), 967–994. doi:10.1111/j.14676486.2009.00904.x Prasso, S. (2010, May). American made . . . Chinese owned. Fortune, 84–92. Ramamurti, R. (2012). What is really different about emerging market multinationals? Global Strategy Journal, 2(1), 41–47. doi:10.1002/ gsj.1025 Ramamurti, R., & Singh, J. V. (2009). Emerging Multinationals in Emerging Markets. Cambridge, UK: Cambridge University Press. doi:10.1017/ CBO9780511576485 Rivoli, P., & Salorio, E. (1996). Foreign direct investment and investment under uncertainty. Journal of International Business Studies, 27(2), 335–357. doi:10.1057/palgrave.jibs.8490138

Rugman, A. M. (2010). Do we need a new theory to explain emerging market MNEs? In P. Sauvant, W. A. Maschek, & G. A. McAllister (Eds.), Foreign Direct Investments from Emerging Markets: The Challenges Ahead. New York: Palgrave McMillan. Rugman, A. M., & Verbeke, A. (2001). Subsidiary specific advantages in multinational enterprises. Strategic Management Journal, 22(3), 237–250. doi:10.1002/smj.153 Rugman, A. M., & Verbeke, A. (2003). Extending the theory of the multinational enterprise: Internalization and strategic management perspectives. Journal of International Business Studies, 34(2), 125–137. doi:10.1057/palgrave.jibs.8400012 Rugman, A. M., & Verbeke, A. (2003). Extending the theory of the multinational enterprise: Internalization and strategic management perspectives. Journal of International Business Studies, 34(2), 125–137. doi:10.1057/palgrave.jibs.8400012 Rui, H., & Yip, G. S. (2008). Foreign acquisitions by Chinese firms: A strategic intent perspective. Journal of World Business, 43(2), 213–226. doi:10.1016/j.jwb.2007.11.006 Santangelo, G., & Meyer, K. E. (2011). Extending the internationalization process model: Increases and decreases of MNE commitment in emerging economies. Journal of International Business Studies, 42(7), 894–909. doi:10.1057/jibs.2011.25

123

 Globalization of Latecomer Asian Multinationals

Schwens, C., & Kabst, R. (2009). How early opposed to late internationalizers learn. International Business Review, 18(5), 509–522. doi:10.1016/j. ibusrev.2009.06.001 Tallman, S. B. (1991). Strategic management models and resource-based strategies among MNEs in a host market. Strategic Management Journal, 12, 69–82. Tan, D., & Meyer, K. E. (2010). Business groups’ outward FDI: A managerial resources perspective. Journal of International Management, 16(2), 154–164. doi:10.1016/j.intman.2010.03.006 Welch, L. S., & Luostarinen, R. K. (1993). Inwardoutward connections in internationalization. Journal of International Marketing, 1(1), 44–56. Wells, L. T. (1998). Multinationals and developing countries. Journal of International Business Studies, 29(1), 101–114. doi:10.1057/palgrave. jibs.8490027 Williamson, O. (1975). Markets and Hierarchies. New York: Free Press. Williamson, O. (1985). The Economic Institutions of Capitalism. New York: Free Press. Williamson, P., & Zeng, M. (2009). Chinese multinationals: emerging through new gateways. In R. Ramamurti & J. V. Singh (Eds.), Emerging Multinationals in Emerging Markets (pp. 81–109). Cambridge, UK: Cambridge University Press. Witt, M. A., & Lewin, A. Y. (2007). Outward foreign direct investment as escape response to home country institutional constraints. Journal of International Business Studies, 38(4), 579–594. doi:10.1057/palgrave.jibs.8400285 Yamakawa, Y., Peng, M. W., & Deeds, D. (2008). What drives new ventures to internationalize from emerging to developed economies? Entrepreneurship Theory and Practice, 32(2), 59–82.

124

Yang, H., Sun, S. L., Lin, Z., & Peng, M. W. (2011). Behind M&As in China and the United States: Networks, learning, and institutions. Asia Pacific Journal of Management, 28(2), 239–255. doi:10.1007/s10490-009-9188-6 Yeung, A., Xin, K., Pfoertsch, W., & Liu, S. (2011). The Globalization of Chinese Companies: Strategies for Conquering International Markets. Hoboken, NJ: John Wiley & Sons. Yiu, D., & Makino, S. (2002). The choice between joint venture and wholly owned subsidiary: An institutional perspective. Organization Science, 13(6), 667–683. doi:10.1287/orsc.13.6.667.494 Zaheer, S. (1995). Overcoming the liability of foreignness. Academy of Management Journal, 38(2), 341–363. doi:10.2307/256683 Zeng, M., & Williamson, P. J. (2007). Dragons at Your Door: How Chinese Cost Innovation is Disrupting the Rules of Global Competition. Boston: Harvard Business School Press. Zhou, L. X., Wu, W. P., & Luo, X. M. (2007). Internationalization and the performance of born-global SMEs: The mediating role of social networks. Journal of International Business Studies, 38(4), 673–690. doi:10.1057/palgrave. jibs.8400282

KEY TERMS AND DEFINITIONS Country of Origin: The country of manufacture, production, or growth where a product or service comes from. Eclectic Paradigm: A theory in economics, also known as the OLI Framework, where O, L, and I refer to ownership advantages, location advantages, and internalization advantages respectively. Emerging Market: A country that has some characteristics of a developed market but is not yet a developed market.

 Globalization of Latecomer Asian Multinationals

Globalization: The tendency of investment funds and businesses to move beyond domestic and national markets to other markets around the world. Internalization Theory: A theory in economics that applies to a multinational corporation in shifting assets between subsidiaries across border. Internationalization Process Model: A theory in economics that explains how firms gradually intensify their activities in foreign markets. Merger and Acquisition: A merger is a combination of two companies to form a new company, while an acquisition is the purchase of one company by another in which no new company is formed. Multinational Corporation: A corporation that has its facilities and other assets in at least one country other than its home country. Outward Foreign Direct Investment: A business strategy where a domestic firm expands its operations to a foreign country via a green field investment, acquisition, and/or expansion of an existing foreign facility.

125

Globalization of Latecomer Asian Multinationals

APPENDIX: CASE STORIES

Zhejiang Geely Holding Group Company Limited Geely was founded as a refrigerator manufacturer in 1986 in China’s Zhejiang province. In the following years, Geely entered into motorcycle parts, then whole-body motorcycles and scooters. While the company aspired to become a passenger car manufacturer, as a private company there was little chance to be awarded a license in this highly regulated industry. The three main players in the industry were the central government, the local governments, and the automakers. To overcome this obstacle, the company acquired an auto factory in Sichuan province, which was on the edge of bankruptcy, together with the official vehicle production certificate. Such a certificate, however, was not for passenger cars, but instead for trucks and buses. With the support of both Sichuan and Zhejiang provincial governments in subsequent years, the company eventually gained permission to produce passenger cars. Geely cars were characterized by inexpensive cars with low quality, reliability, and safety. Despite the small company size, Geely produced a variety of product lines with unique designs. The company entered into a joint venture with foreign renowned automobile companies to produce and sell cars at home. The company was often criticized for copying the European automotive platforms. Geely acquired Volvo from Ford Motor Company in 2010. Under Ford’s ownership, Volvo lacked the scale necessary for major development and investment in new models because of the flat sales and profitability. With the acquisition of Volvo, Geely gained access to a global dealership network, sophisticated automotive technology, and management know-how, thereby improving its own line of cars for global markets and positioning Geely as a unique brand in the fiercely competitive automobile industry at home.

Wanxiang Group Corporation Wanxiang was founded in China’s Zhejiang province in the late 1970s. The company grew by filling market niches overlooked by state-owned enterprises. The company operated 20 manufacturing plants across the USA, Canada, Mexico, and Europe. A major opportunity emerged in 1979 from a nationwide process of economic reform. The company realized the market potential in the plan of the central government to produce 160,000 automobiles and dramatically increase truck production by 1981, and thus decided to abandon all product lines except universal joints. Because of the superior product quality, the company was selected as one of the three surviving universal joint producers in China following the consolidation plan initiated by Ministry of Machinery Industry. The company invested a significant portion of annual revenue on research and development to improve product quality and to nurture higher personnel standards. The path toward internationalization began in 1984 when the company first sold 30,000 units of universal joints to an American auto-part manufacturer Zeller Corporation which was, by the year 2000, acquired by Wanxiang because of financial difficulties. The acquisition allowed Wanxiang to gain access to a strong local brand and sales infrastructure. Its U.S. subsidiary counted General Motors, Ford, and Chrysler among its biggest clients and partners. With the goal of becoming a global supplier of automobile parts, Wanxiang entered the U.S. by acquiring and reviving ailing U.S. companies.

126

Globalization of Latecomer Asian Multinationals

In the USA, Wanxiang was not a manufacturing company but rather a matchmaker with the philosophy of producing at China’s cost, but selling at prices in the USA. The company’s overseas operations were strengthened by localization strategy. The company seldom intervened in the daily operations of its overseas subsidiaries, but rather controlled by suggesting performance targets. The localization process was emphasized in four major areas including talent, product, capital, and management system. In terms of product development, the company delegated the authority to operations in each local subsidiary to meet local client demand. To ensure the longevity of the acquired brands, Wanxiang did not promote the Wanxiang name to position itself as an unthreatening partner to its key customers.

Huawei Technologies Company Limited Huawei was founded in 1987 as a private Chinese multinational company, headquartered in Shenzhen providing networking and telecommunications equipment and services. It was the largest telecommunications equipment maker in the world in 2012. Huawei had over 140,000 employees, around 46% of whom are engaged in research and development. The company began as a sales agent for a Hong Kong company producing private branch exchange (PBX) switches. After accumulating knowledge and resources on the PBX business, Huawei achieved its first breakthrough into the mainstream telecommunications market in 1992. In 1997, the company won its first overseas contract to providing fixed-line network products in Hong Kong. From 1998 to 2003, the company contracted with IBM for management consulting, and underwent significant transformation of its management and product development structure, resulting in an increased speed of overseas expansion. In 2005, the international contract orders exceeded its domestic sales for the first time. In July, 2010, the company was included in the Global Fortune 500 for the first time. Huawei focused on expanding its mobile technology and networking solutions through a number of partnerships. The company was ranked as the largest applicant under WIPO’s Patent Cooperation Treaty (PCT) with 1,737 applications published in 2008. Huawei faced many charges involving infringing on patents of other companies and illegally copying source code used in its routers and switches. Huawei had been challenged many times due to concerns of the security officials in the USA, the United Kingdom, Canada, Australia, and India that Huawei-made telecommunications equipment is designed to allow unauthorized access by the Chinese government.

Lenovo Group Limited Lenovo was founded in 1984 as a technology company by Liu and a group of 10 engineers in Beijing with start-up capital of RMB 200,000. The company had grown to become the world’s largest personal computer vendor by unit sales in 2013. Each of the founders was middle-aged members of the Institute of Computing Technology, Chinese Academy of Sciences. Soon after the establishment, the company successfully developed a circuit board that allowed IBM-compatible PC to process Chinese characters. The early difficulties were that its staff was mostly scientists and technical personnel who had little business and management experience. Lenovo acquired IBM’s PC business including the ThinkPad laptop and tablet lines in 2005. The acquisition accelerated the company’s access to foreign markets and meanwhile improved both its branding and technology. The original IBM’s ThinkPad’s computers had doubled in sales since the acquisition with operating margins above 5%. Although the industry was in the sunset stage with thin margins, the company believed the personal computer was still relevant and to avoid

127

Globalization of Latecomer Asian Multinationals

commodity pricing, the company pursued a variety of innovative new designs. Instead of outsourcing to contract manufacturers as an industry practice, the company focused on vertical integration to avoid excessive reliance on original equipment manufacturers and to keep the costs down. Meanwhile, vertical integration was a key to product innovations and differentiation. The company developed a different set of strategies for emerging markets like China, India, and Brazil, and mature markets such as the USA, Japan, and Europe.

Acer Incorporated Acer was established in 1976 with the primary business in the marketing of Information Technolog (IT) products. Europe was one of the company’s most important and most successful markets. Acer aspired to build up own-brand products in the global market. Initially, however, the company also received OEM orders from international renowned brands. The early internationalization success was mainly contributed by its strong technological capability. Due to a lack of international business and management experience, the company formed joint ventures with local companies, hired experienced professionals from outside, and meanwhile decentralized the control from headquarters in unfamiliar overseas markets. In response to the fierce competition in the global IT in the beginning of 1990s, the company made a structural reform by centralizing control in its subsidiaries at the headquarters to realize economy of scale and cost leadership positioning. Acer had recreated itself from an IT product manufacturer into a global own-brand company and meanwhile heavily invested in R&D to develop innovative technology. The company adopted an innovative client-server business model where the overseas subsidiaries and headquarters assumed the role of client and server, respectively. Instead of exporting a complete system of products, the company assembled imported parts at the local selling points. However, these assembly units were later consolidated to ensure the consistent product quality. The client-server model was abandoned in the late 1990s to avoid the conflicts of transfer pricing between marketing and manufacturing function. To focus on global brand building, the company integrated most of the business units into one company, under one brand, and managed by one global team. The global and regional headquarters were assigned as the cost and profit center, respectively. The regional subsidiaries were transformed into the point of sales that reported to the respective regional headquarters. Regional headquarters fed marketing information in the region to the global headquarters.

Haier Group Haier was founded in 1984 with a defunct refrigerator factory in China’s Qingdao City. The company had grown into the largest home appliance manufacturer in the country. In the early 1990s, the company began to venture into overseas markets as a contract manufacturer for multinational brands. The company entered the U.S. market in 1994 and successfully gained over 30% market share in its highly competitive compact refrigerators within three years. The success from a rigorous blind quality test conducted by a German magazine was a turning point for the recognition of its products in the global markets. In 1997, the company announced a goal of having revenue coming equally from goods produced and sold at home, goods produced at home but sold overseas, as well as goods produced overseas and sold overseas. While aggressively expanding overseas, the company also maintained industry leadership at an attractive home market. The challenge required the company to determine which of the lessons learned from

128

Globalization of Latecomer Asian Multinationals

international operations should be applied at home, and which of the skills developed at home could be best exploited abroad. Initially, despite overwhelming market demand and soaring prices for refrigerators, Haier resisted ramping up output, but instead focusing on quality and brand building. The strategy in the USA was to manufacture quality products and sell them at a premium price. The company opted to enter the difficult advanced markets first and, only after proving itself there, went after the relatively easy emerging markets. The company mostly used local people who worked for top brands before and emphasized local thinking to fulfill the needs of the local customers. Multinationals competing in China, however, tended to use local Chinese who often had not worked with major brands before. While many multinationals were banking on the emergence of a replacement market in the large cities, Haier emphasized the future in the second-line and third-line markets of rural population in counties and townships. Haier also sought to expand its share of foreign markets by acquiring rival white-goods OEMs and by expanding overseas production capacity.

Midea Group Established in China’s Guangdong province in 1968, the Midea Group was a large diversified group of companies with the main business in home electrical appliances. Midea was one of China’s major producers and exporters of white goods. The group employed 150,000 people and owned more than 10 product brands. The production bases were located in 16 cities throughout the country. The overseas production bases were in six countries including Vietnam, Belarus, Egypt, Brazil, Argentina, and India. The company not only had strong and large marketing networks in the country, but also had over 60 overseas branches around the world to serve the customers in over 200 countries and regions. Midea collaborated with Carrier in Latin America as one of its overseas operational platform to penetrate the air conditioning markets there. Recognized as the world’s air conditioning expert, Carrier, a subsidiary of United Technologies, operated across six continents in more than 170 countries. Through years of cooperation with Carrier in Latin America, Midea announced in November, 2011 that it had acquired 51% of the equity in Carrier’s air conditioning business in Latin America with the approval from the Chinese central government. The company also acquired Miraco, an exclusive licensee, distributor, and partner of Carrier in Egypt after several years of collaboration for market expansion in Africa. These international entries were not only to promote the brand development in the Latin America and Africa markets, but the acquisitions were also to expedite the market entry and to mitigate various trade frictions in these markets.

129

130

Chapter 6

Leveraging Business Model Innovation in the International Space Industry Alessandra Vecchi University of Bologna, Italy Louis Brennan Trinity College of Dublin, Ireland

ABSTRACT This chapter provides insights on the dynamics of the space industry, which, despite its remarkable potential, tends to remain an under-studied sector within the field of business studies. By drawing on our existing work on the space industry, this chapter investigates the leveraging of innovative business models in the industry utilizing three case studies. The findings demonstrate that all three companies (Virgin Galactic, Mars One, and Unilever with the Axe/Lynx Apollo campaign) have extensively relied on business model innovation by leveraging specific design elements: content, structure, and governance. The findings highlight that business model innovation is an imperative to operate successfully in the space industry. Furthermore, a wide variety of private actors appear to be particularly resourceful in adopting novel business models that address the involvement of non-space actors and rely on non-space revenues.

1. INTRODUCTION During times of economic downturn, firms often make substantial efforts to innovate their processes and products to achieve revenue growth and to maintain or to improve their profit margins. Innovations to improve processes and products are, however, often expensive and time-consuming. They require considerable investments ranging from research & development (R&D) to special-

ized resources, new assets, and often entire new business units. Even so, future returns on the upfront investments are always uncertain. Nonetheless, innovation is particularly important during times of economic downturn. When faced with declining revenues and severe pressure on profit margins, many firms resort to drastic cost-cutting to survive. As part of these broad cost-cutting measures, many investments in product and process innovation and into market expansion can be

DOI: 10.4018/978-1-4666-6551-4.ch006

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Leveraging Business Model Innovation in the International Space Industry

significantly reduced or even eliminated. This is often accompanied by labour-cutting measures to improve organizational efficiency by reducing labour costs. While such cost-cutting efforts are often necessary and understandable as they can put firms on a more solid economic footing, they often cause considerable anxiety among employees, thereby reducing employee motivation, commitment, and productivity, and may even hinder the long-term competitiveness of some firms. Within this context, Zott and Amit (2007, 2010) suggest there is a way for managers to innovate in their existing markets with their existing products by utilizing their existing resources and capabilities. Firms can extract more value from their firms’ existing resources, without having to make significant investments in plant, property, and equipment or in R&D. In other words, firms can do more with the resources and capabilities they have by simply designing a new, or modifying the firm’s, extant activity system – a process to which Zott and Amit refer to as business model innovation. The Zott and Amit framework (2010) can provide many invaluable insights into the most innovative business models that currently proliferate in the space industry as the result of the decrease in military and government spending and the idiosyncratic boom of its commercial sector. In particular, this type of industrial setting is particularly interesting for several reasons. First, fully reaping the benefits of future space innovations should be a concern for society at large (OECD, 2011). A growing number of nations now express interest in space for strategic as well as for commercial reasons. While their efforts can help to foster the development of new applications, they can also lead to overcrowding in key segments by thus heightening the overall competitive pressure in the industry. Second, although space technology has many potential uses, it has proved very difficult to develop financially viable applications. In particular, the transition from publicly funded activities to applications relying largely on private resources has been hindered by a deep-seated

culture of risk aversion (Space Foundation, 2013). Third, as the range of commercial applications increases and as ever more countries become active in space, there is a growing need, at both national and international levels, for an institutional and regulatory environment that fully considers the sector’s expanding commercial component and that fully supports its growth. This situation is leading a number of countries that are already active in space to reassess their overall space strategy. Many are facing difficult choices in terms of the overall level of effort that should be devoted to space activities, how that effort should be allocated, and the role that the private sector might play. Overall, these developments have led firms in the industry to fundamentally change the ways they “do business,”; in particular, the ways they organize and conduct exchanges and activities across the firm and the industry with customers, vendors, partners, and other stakeholders (Brennan & Vecchi, 2011). In this very dynamic context, it becomes an imperative for managers in the industry to introduce innovative business models by utilizing their existing resources and capabilities. As such, the space industry provides a valuable opportunity to conduct further research on business model innovation (Zott & Amit, 2010) and the most innovative business models within the industry. By drawing on our existing work on the space industry (Vecchi & Brennan, 2010; Brennan & Vecchi, 2011) this chapter investigates the most innovative business models utilizing three case studies in six sections. The second section outlines the main features characterising the space industry. The third section provides a review of the extant literature on business model innovation and introduces the theoretical framework adopted for this research. The fourth section outlines the methodology, and the fifth section presents the three case studies. The final section provides the conclusion, the managerial implications stemming from the findings, and directions for further research.

131

 Leveraging Business Model Innovation in the International Space Industry

2. THE SPACE INDUSTRY Ever since the dawn of the space age, spectacular missions such as the launching of Sputnik in 1957, the landing on the Moon in 1969, and the first images from Mars Pathfinder in 1997 have all ignited the imagination of billions of people around the world. At the same time, disasters such as the loss of the space shuttle Columbia have made headlines while cost overruns, delays in meeting stated objectives, and unfulfilled promises have raised questions about the value of space programmes, their direction and, more generally, the benefits of space ventures for humanity at large (Suzuki, 2007). However, space is not just a showroom for nations to demonstrate their technical proficiency. The deployment of space technology has contributed to an unprecedented increase in our understanding of the universe in which we live, and the strategic value of space as an asset is increasingly recognised (Brennan & Vecchi, 2011). Indeed, the development of civil and commercial applications has had a growing impact on the lives of hundreds of millions of individuals. Lives and property have been saved through the use of satellite-based meteorological and emergency services, tens of millions of households worldwide are able to enjoy a broad choice of television offerings beamed by satellite broadcasting operators directly to their homes whether they live in urban, rural or remote areas, and a growing number of businesses and individuals have come to rely on space-based positioning and navigation systems. As further progress is made over a broad range of space-related technologies in the coming decades, the body of potential civil space applications, both public and private, is likely to increase substantially. If properly harnessed, these advances can have a major impact worldwide, in terms both of stimulating economic growth and of responding to social and environmental needs (OECD, 2011). However, fully reaping the benefits of future space innovations will not be easy. States are still the

132

major players at the time of writing, however, and continue to cooperate, the most prominent example being the International Space Station. During the 1990s, the commercial space industry began to flourish, and ties to the military lessened. In particular, the space market has expanded into new niche sectors: space tourism and travel, mining of resources, manufacturing opportunities, and satellite technology all representing a shift toward privatization of the sphere. The new century is an important time in the history of space not just for science, but also in the opportunities it offers for space firms and for the commercialization of space products and services. According to Suzuki (2007), during the 20th century, investment in space technology was at the infant stage and needed to be boosted by enthusiasm. Dreams and visions helped people to support a significant amount of investment. However, 21st century space activity will be quite different from the past, and must align with society’s new social values. The social values of the 21st century are not just environmental and humanitarian; they also include efficiency of investment or, in other words, ‘value for money’. In today’s world, the financing of space business is quite different from that of 1957. Private actors are beginning to invest in space and wealthy individuals are paying for their tickets to travel into space, while national governments face severe constraints on their spending policies. According to the 2013 edition of The Space Report, the world space economy has grown to over US$304 billion, up 6.7% from the previous year, and 37% since 2007. Of that total, nearly three quarters consisted of non-government commercial enterprises which grew by 6.5% for commercial space products and services and 11% for commercial space infrastructure and support industries. Government spending worldwide in that year grew only by 1.3% (Space Report, 2013). On one hand, the globalization of financial markets, the introduction of the single currency in Europe, and neo-liberal market-oriented policies

 Leveraging Business Model Innovation in the International Space Industry

have imposed a very narrow choice of policies on governments wanting to spend their budget. On the other hand, it is no longer necessary for a person with a dream of going into space to be a ‘national’ astronaut; these days, s/he needs to be a millionaire. Additionally, private actors are investing in satellite systems through Public–Private Partnership (PPP) schemes in Europe (Brocklebank, Spiller, & Tapsell, 2000), and in the transportation system through the Commercial Orbital Transportation System (COTS) framework in the USA (Sawamura & Radke, 1992). The role of states and national space agencies is to adapt to this new social value of the efficiency of investment. It is not the State which responds to people’s dreams, but the market and private capital. Investment in space, therefore, must be more responsive to social needs because it needs to return benefits to taxpayers. Today, not all taxpayers appreciate the ‘progress’ and ‘dream’ aspects of space flight, but almost all taxpayers benefit from a better environment and safer navigation. Thus, according to Suzuki (2007) it is imperative for everyone involved in the space industry to recognize and understand the name of the game has changed. Space activities must adjust to the values of the 21st century, including ‘value for money’. Those who wish to go into space and believe in ‘progress’ can no longer depend on State-sponsored space activity. After all, many of the latest technologies and progressive ideas have been realized through market interactions, and space is becoming one of them. Before the 21st century, manned spaceflight was the preserve of government agencies and their contractors in what used to be called ‘the military’. As the US aerospace journalist Michael Belfiore recounts in his book, Rocketeers, ‘a motley crew of business adventurers are investing hundreds of millions of dollars in private spacecraft’ (Foust, 2003). The frontrunner among the private entrepreneurs was Burt Rutan, a designer of innovative aircraft since the 1960s. On 21 June 2004, his SpaceShipOne became the first privately-funded craft to enter space. Many space entrepreneurs

grew up at a time when it seemed reasonable for boys to assume that manned flights to the moon and beyond would be routine by the 21st century. They feel cheated by the way things have turned out and now wish to use their wealth to make space tourism viable while they are still around to enjoy it. As Rutan states, private enterprise, not government funding, will conquer the final frontier (Rutan, 2006)1. Entrepreneurs are thus currently embodying the great pioneers who enable humankind to advance. Many of them are persuaded by Rutan’s words. They fund prizes to stimulate research2. The most progressive of these companies such as SpaceX, Virgin Galactic, Bigelow Aerospace, and Blue Origin, are largely self-funded efforts. Many of the business models these space start-ups are proposing are not new, and most of their business models have been considered for many years in the space community (Stratford, 2013). However, in the last several years, we have seen the rise of many new space companies offering a wide range of services ranging from short suborbital hops (e.g., Virgin Galactic, Zero G Corporation, XCore Aerospace, Blue Origin, and Armadillo Aerospace), orbital flights (Space Adventures) new commercial satellite services (e.g., Telesat launch of its commercial service) to one-way trips to Mars (MarsOne Foundation), orbital hotels (e.g., the Barcellona-based firm Galactic Suite Limited), and lunar tourism (the British-based firm Excalibur Almaz). Some have quite near term and practical plans, such as development of new propulsion or space vehicle designs (e.g., Boeing, SpaceX, Blue Origin and Sierra Nevada are developing and testing vehicles and launch systems as part of NASA’s Commercial Crew Development Program), while others propose more complex and speculative revenue models such as sales of media rights (e.g., Mars One, the Dutch-based venture seeks to send people to Mars permanently in hopes of establishing a permanent settlement whose initial missions would be partly funded by selling media

133

 Leveraging Business Model Innovation in the International Space Industry

rights and with an astronaut selection process for a reality television show), asteroid mining (e.g., Deep Space Industries and Planetary Resources), low cost missions (e.g., India’s first mission to Mars), or crowdfunding (e.g., STAR Systems or Hyper-V). Overall, these private firms have formed a wealth of very fascinating ideas from asteroid detection and mining operations to human exploration and settlement of the Moon and Mars. The picture that emerges for successful new space ventures follows similar patterns of being self-funded, serving real or closely emerging markets, and providing diverse products and services sometimes not even related to space (e.g., the three companies under the Elon Musk banner of Tesla Motors, SolarCity, and SpaceX, or Blue Origin and Amazon owned by Jeff Bezos). Non-space businesses can provide revenue support and ongoing capital injections for new space businesses. Within this extremely dynamic context, characterised by a new range of actors and new strategies it becomes crucial to gain a fuller understanding of the most innovative business models implemented by the industry.

3. THE INCREASING IMPORTANCE OF BUSINESS MODEL INNOVATION Scholars have conceptualized business models in different ways and viewed them from various theoretical angles. Chesbrough and Rosenbloom (2002) link the business model to extant technology management literature by emphasizing its role in linking technology to market outcomes. Consistent with this perspective, Casadesus-Masanell and Ricart (2010) argue that one important component of business models are the choices made by management concerning how the organization operates in terms of compensation practices, procurement contracts, location of facilities, or regarding the assets employed. Another component of business models, according to this view, relates to the

134

consequences of these choices, such as low cost or the culture of frugality, which tend to describe the logic of the firm. Other scholars have promoted a more parsimonious view of the business model. For example, McGrath (2010) suggests thinking about business models by using two core ideas concerning managerial choices: units of business (i.e., what you are selling that someone is prepared to pay for), and the set of activities employed to sell those units. Indeed, the idea of business models as boundary-spanning systems of transactions and activities has been developed in a series of articles by Zott and Amit to capture the essence of how firms do business (Zott & Amit, 2007, 2010)3. These researchers have begun to describe the business model as a source of innovation; for example, when it connects previously unconnected parties, links transaction participants in new ways, or introduces new transaction mechanisms. Business model innovation thus conceived may complement innovation in products and services, methods of production, distribution or marketing, and markets. An innovative business model can either create a new market or allow the firm to create and exploit new opportunities in existing markets. More precisely, Zott and Amit defined the business model as “the content, structure, and governance of transactions designed so as to create value through the exploitation of business opportunities.” Transaction content refers to what is being exchanged, transaction structure refers to how the exchanges are linked, and transaction governance refers to issues of control. Much of the prior research on business model innovation, moreover, has considered the extent to which business models are novel (i.e., new to the state-of-the-art), and not just new to the firm (Birkinshaw, Hamel, & Mol, 2008). Nidumolu, Prahalad, and Rangaswami (2009) view the development of new business models as a key step in their five-stage model of corporate transformation to become environmentally sustainable. They support the idea that the main challenge is

 Leveraging Business Model Innovation in the International Space Industry

“to find novel ways of delivering and capturing value, which will change the basis of competition” (2009: 60). According to the authors, opportunities for business model innovation lie in developing new delivery technologies that change the value chain, in combining digital and physical infrastructures, or in turning products into services. Similarly, Johnson, Christensen, and Kagermann (2008) focus on novel business models, based on the belief that there is “no point in instituting a new business model unless it is not only new to the company, but in some way game-changing to the industry or market” (2008: 58). However, according to Zott and Amit (2010), changes to business model design can be subtle; they may not have the potential to disrupt an industry, but could still yield important benefits to the innovator. Other firms might wish to change their business models in similar incremental ways, or follow a business model innovator in their industry in order to achieve competitive parity. Zott and Amit (2007) focus on a particular organization design issue which is, namely, the design of an organization’s set of boundary-spanning transactions that refer to as business model design, and ask how business model design affects the performance of entrepreneurial firms. Specifically, by extending and integrating theoretical perspectives that inform the study of boundary-spanning organization design, the authors propose hypotheses about the impact of efficiency-centered and novelty-centered business model design on the performance of entrepreneurial firms. To test these hypotheses, Zott and Amit (2007) developed and analyzed a data set of 190 entrepreneurial firms that were publicly listed on the U.S. and European stock exchanges. Their empirical results show that novelty-centered business model design matters to the performance of entrepreneurial firms. The analysis also shows this positive relationship is remarkably stable across time, even under varying environmental regimes. Additionally, they find indications of potential diseconomies of scope in design; that

is, entrepreneurs’ attempts to incorporate both efficiency and novelty-centered design elements into their business models may be counterproductive. Overall the findings suggest that is better to pursue one type (either novelty or efficiency-centered) business model design at the time, but not both. Some scholars have suggested very broad domains for business model innovation, in line with their corresponding definitions of the business model concept. Mitchell and Coles (2003), for example, propose that business model innovation involves modifications in the “who,” “what,” “when,” “why,” “where,” “how,” or “how much” involved in providing products and services to customers. Similarly, Johnson, Christensen, and Kagermann’s (2008) notion of business model innovation involves the firm’s value proposition, target customers, product and service offering, resources, revenue model, cost structure, processes, rules and norms. Although such broad views of the domain of business model innovation can have their merits, Zott and Amit (2010) define a business model as the bundle of specific activities that are conducted to satisfy the perceived needs of the market, along with the specification of the parties that conduct these activities (i.e., the focal firm and/or its partners), and how these activities are linked to each other. This definition captures the essence of the business model concept; namely, a focus on the how of doing business, as opposed to the what, when, or where; A holistic perspective on how business is conducted, rather than a focus on any particular function such as product market strategy, marketing, or operations; An emphasis on value creation for all business model participants, as opposed to an exclusive focus on value capture; and a recognition that partners can help the focal firm conduct essential activities within its business model. According to Zott and Amit (2010), interdependencies exist when activities, taken together, have a different impact on an objective function (e.g., performance) than each of the activities considered in isolation. Interdependencies are

135

 Leveraging Business Model Innovation in the International Space Industry

Table 1. Business model innovation’s design elements Design Element The content

The content of an activity system refers to the selection of activities to be performed. These activities could be beyond typical once the firm identifies new market needs. The structure needs to be reconfigured to perform the new activities.

The structure

The structure of an activity system describes how the activities are linked (e.g., the sequencing of activities and the exchange mechanisms among the linked activities). Changing structure implies changes in the way in which parties interact or by which products and services are sold.

The governance

The governance of an activity system refers to who performs the activities. Changing governance implies engaging in new forms of cooperation.

(Source: Zott & Amit, 2010)

created by entrepreneurs or managers in several ways: when they choose the set of organizational activities they consider relevant to satisfying a perceived market need; when they design the links that weave activities together into a system; and when they shape the governance mechanisms that hold the system together. The business model thus captures how the focal firm through its activity system is embedded in its “ecology”, which is its multiple networks of suppliers, partners, and customers. The business model also defines who are the firm’s potential suppliers, partners, customers, and competitors. These important consequences of a firm’s business model design choice have obvious ramifications on its ability to create and capture value. The stronger the competition implied by the choice of the business model, for instance, the more difficult value creation becomes. Important design elements that characterize an activity system are its content, structure, and governance as depicted in Table 1. These three elements can be leveraged – individually as well as jointly – to engender business model innovation. According to Zott and Amit (2010), there are two types of interdependencies within the business model innovation. On one hand, there are interdependencies among business model design elements. These three business model design elements (content, structure and governance) can be highly interdependent.

136

Accordingly, managers can innovate on all three business model design elements (i.e., content, structure, and governance) individually as well as jointly. On the other hand, there are the interdependencies between the business and revenue model. The revenue model refers to the specific ways a business model enables revenue generation for the focal firm. It is the way in which the focal firm appropriates some of the value that is created by the business model for all its stakeholders. A revenue model complements a business model design, just as a pricing strategy complements a product design. Although the concepts of business and revenue model may be quite closely related and are sometimes even inextricably intertwined, a business model is geared toward total value creation for all parties involved. It lays the foundations for the focal firm’s value capture by co-defining (along with the firm’s products and services) the overall “size of the value pie” which can be considered an upper limit to the firm’s value capture. The business model also co-determines the focal firm’s bargaining power. The greater the total value created, and the greater the focal firm’s bargaining power, the greater the amount of value that the focal firm can appropriate. How much of the possible total value is actually captured, however, depends on its pricing strategy or its revenue model.

 Leveraging Business Model Innovation in the International Space Industry

4. METHODOLOGY In line with the exploratory nature of the study, the current research relied on comparative case study research to critically assess the business model innovation of three space ventures. Case studies represent a methodology that is ideally suited to creating managerially relevant knowledge (Gibbert & Ruigrok, 2010). They are considered the most appropriate as tools in the critical, early phases of a new management theory when key variables and their relationships are being explored (Eisenhardt, 1989; Yin, 2008). Therefore, case study research is particularly useful in the early stages of theory development in which key themes and categories have yet to be empirically isolated (Eisenhardt, 1989; Yin, 2008). Although we acknowledge the richness of adopting a single case study, multiple case studies provide a more solid basis for generalization and can provide substantial opportunities for theory-building (Dyer & Wilkins, 1991). As illustrated in Table 2, we purposefully selected three case studies of different space ventures to illustrate some emblematic examples of the most innovative business models implemented within the space industry. These space ventures were chosen to reflect the wide variety of business initiatives and models undertaken by privately-funded firms (Brennan & Vecchi, 2011). They all operate in radically different segments of the industry. Virgin Galactic operates in the business travel segment of the industry, Mars One is planning to establish the first human settlements on Mars and plans to broadcast the mission in the form of a reality TV show, the AXE/Lynx Apollo partnership is a collaborative project amongst Unilever, a non-space actor, and several space firms (U.S. company XCOR Aerospace and the tourism firm Space Expedition Curacao). In light of both the exploratory nature of the study and the wide variety of the actors within the space industry, three case-studies were deemed as adequate to provide rich and in-depth insights in the business model innovation in the

space industry. The industry was deemed as an ideal industry setting since it is characterized by very interesting dynamics involving a wide range of space (and non-space) actors that tend to rely on very innovative business models as the result of the drastic decrease of military spending and the idiosyncratic boom of its commercial sector (Brennan & Vecchi, 2011). In order to produce three robust case studies, we relied on a wide variety of secondary sources such as newspapers, industry reports, and grey literature. In order to contextualize the space actor, we collected information about the space actor’s business model and its background on the basis of the publically available data. This study dimension was investigated by mostly consulting secondary sources such as news and industry reports and grey literature.

5. CASE STUDIES 5.1 Virgin Galactic An example of an innovative business model in terms of innovative content has been adopted by Virgin Galactic. By capitalising on the extensive experience of Virgin Atlantic in the airline industry, Virgin Galactic is a company within Richard Branson’s Virgin Group which plans to provide suborbital spaceflights to space tourists, suborbital launches for space science missions, and orbital launches of small satellites. Further in the future, Virgin Galactic hopes to offer orbital human spaceflights as well but also to eventually offer point-to-point rocket travel around the globe, as well as to space hotels, and trips to the Moon (David, 2006). Virgin Galactic’s spacecraft is launched from a large aeroplane, giving the spacecraft more initial speed and altitude than if it were launched from the ground. Built from lightweight carbon composite materials and powered by a hybrid rocket motor, SpaceShipTwo (SS2) is based on the Ansari X PRIZE-winning SpaceShipOne (SS1) concept

137

 Leveraging Business Model Innovation in the International Space Industry

Table 2. Case studies’ overview Company

Short Description

Virgin Galactic

Virgin Galactic is a company within Richard Branson’s Virgin Group which plans to provide sub-orbital spaceflights to the paying public, along with suborbital space science missions and orbital launches of small satellites. Further into the future Virgin Galactic hopes to offer orbital human spaceflights as well.

Mars One

Mars One is a non-profit organization that plans to establish a permanent human colony on Mars by 2025. The private spaceflight project is led by Bas Lansdorp, who announced plans for the Mars One mission in May 2012. In 2024, Mars One intends launching four carefully selected applicants in a Mars-bound spaceflight to become the first residents on Mars. Every step of the crew’s journey will be documented for a reality television program that will broadcast for its entire duration.

AXE/Lynx Apollo

The men’s personal care product company AXE/Lynx has teamed up with Buzz Aldrin to send 22 people into space. On January 9th 2013 the company launched its new AXE Apollo Space Academy, an online contest that promises to send 22 winners to a suborbital flight aboard a private spaceship. The winning space travelers will launch aboard a suborbital Lynx space plane built by the U.S. company XCOR Aerospace and operated by the tourism firm Space Expedition Curacao.

built by Scale Composites – a rocket plane that is lifted initially by a carrier vehicle before blasting skywards. SS1 became the world’s first private spaceship with a series of high-altitude flights in 2004. Its successor is twice as large, measuring 18 meters (60 feet) in length. Whereas SS1 only had a single pilot, SS2 will have a crew of two and room for six passengers. The company’s founder, entered into a partnership in 2005 with Scale Composites creating The Spaceship Company to build a fleet of commercial suborbital spaceships and launch aircraft The White Knight Two that is a special aeroplane which functions as the mothership and launch-platform for the spacecraft SS2. The mother ship is a large fixed-wing aircraft with two hulls linked together by a central wing. Sir Branson unveiled the rocket plane on December 7, 2009. SS2 has being undergoing testing since before taking ticketed individuals on short-hop trips just above the atmosphere. More than 400 people were reported to have signed up for a flight as of early 2011, at a ticket price of US$200,000 per person with a US$20,000 deposit. The ticket price was raised to US$250,000 in early May, 2013, and is slated to remain at that price until at least 1,000 passengers have signed

138

up (Wall, 2013). It was announced on June 17, 2013 that the 600th ticket had been sold to fly with Virgin Galactic (Branson, 2013) and that 640 people had signed up by August, 2013. Tickets are available from more than 140 “space agents” worldwide4. Each passenger will experience approximately six minutes of weightlessness during what will be a 2-hour end-to-end flight. It may be at least a year before Virgin Galactic’s future passengers fly to suborbital space, but some of them recently got a chance to experience weightlessness on a ZERO-G flight. Officials at Zero Gravity Corporation said 80 Virgin Galactic customers flew on chartered trips aboard their G-FORCE ONE plane during two flights on September 26 and one on September 27 in Burbank, California (Gannon, 2013). The ZERO-G flights coincided with a gathering of Virgin Galactic’s paying space tourists on September 25 in the Mojave Desert. Over 300 of the prospective passengers gathered to see SS2. The most important event of the day was supposed to be a test flight of the SS2 a take-off from the Mojave runway and a climb, glide and landing. However, the test flight was cancelled due to high desert winds (Kluger, 2013)5.

 Leveraging Business Model Innovation in the International Space Industry

Sir Branson intends to run the first flights out of the US state of New Mexico before extending operations around the globe (Branson, 2013). Lofting six passengers and two pilots up to the edge of space means putting safety in the front seat, and a rigorous testing and shakeout program of hardware is envisioned. The fundamental requirement is producing the safest, best-performing ship, then an operational structure must be put in place. Facilities are required to handle early operations in Mojave, California, USA, and at Spaceport America in New Mexico. A team of exceptionally competent and skilled personnel to operate the spaceliners are also required. There will be a Virgin Galactic cadre of spaceliner pilots drawn from Virgin’s network of airlines (Branson, 2013). Virgin intends to attract some of the best pilots with those selected for space travel duty picked after a meticulous training and preparation course. Hundreds of spaceships might be needed to handle passionate passengers from around the world that hunger for space travel. If this is the case beyond the New Mexico spaceport, once the case for safety and turnaround time is made with the SS2, perhaps semi-permanent facilities, even local municipal airports, could handle space travel operations. It is clearly a goal of Virgin Galactic to be a spaceline operator not only for same-point-to-same-point space tourism, but also to go point-to-point on the planet. Getting cheap access to low Earth orbit will be leveraged from the ability to globally hop about. This is where the company sees the real market (David, 2006).

5.2 Mars One An example of an innovative business model in relation to introducing an innovative structure has been implemented by Mars One, a non-profit organization that plans to establish a permanent human colony on Mars by 2025. The private spaceflight project is led by Dutch entrepreneur Bas Lansdorp who announced plans for the Mars One mission in May, 2012 (Moskvitch, 2013). He worked for

five years at Delft University of Technology and in 2008 founded Ampyx Power to develop a new, viable method of generating wind energy. In 2011, Landsdorp sold part of his shares in Ampyx in order to launch Mars One. Bas Lansdorp came up with the idea of establishing the first permanent human colony on Mars during his studies at the University of Twente. His primary focus was not on overcoming the technological challenges, rather the business model. Until 2013, he financed almost the entire project himself (Mars One, 2013). In 2024, Mars One intends launching four carefully selected applicants in a Mars-bound spaceflight to become the first residents on Mars. Every step of the crew’s journey will be documented for a reality television program that will broadcast for its entire duration (Moskvitch, 2013). As depicted in Table 3, the organization has mapped out the next several years in order to highlight major plans and goals for the mission. Mars One plans to establish the first human settlement on Mars. According to their schedule, the first crew of four astronauts would arrive on Mars in 2025 following a 7-month journey from Earth. Further teams would join their settlement every two years, with the intention that by 2033 there would be over twenty people living and working on Mars. The astronaut selection process began on April 22, 2013, and the project is endorsed by Nobel Prize-winning physicist Gerardt Hooft (Mars One, 2013). Applications were open from April 22 – August 31, 2013. In April, 2013, the Astronaut Selection Program was launched at press conferences in New York and Shanghai. Round 1 is an online application open to all nationalities. The selection program proceeds with three additional rounds over the course of two years. The application consists of applicant’s general information, a motivational letter, a résumé, and a video. Mars One plans to hold several other application periods in the future6. At the end of the application process, some six teams of four individuals are selected for training. A new batch of the Astronaut Selection Program

139

 Leveraging Business Model Innovation in the International Space Industry

Table 3. Mars One’s mission plan Year

Milestone

2011

Mars One began planning of Mars One in 2011. The company researched the feasibility of the idea with specialists and expert organizations, and discussed the financial, psychological and ethical aspects of it.

2013

In December 2013, mission concept studies for a 2018 Mars mission were contracted with Lockheed Martin and Surrey Satellite Technology for a 2018 demonstration mission to provide proof of concept for a subset of the key technologies for a later permanent human settlement on Mars. A replica of the settlement is being built for training purposes.

2015

By July the astronaut selection process will be completed; six teams of four.

2018

The original concept plans called for a supply mission to be launched in January (arriving in October) with 2,500 kilograms (5,500 lb) of food in a 5-metre (16 ft) diameter variant of the SpaceX Dragon. The fallback if this is not ready in time is either to use a 3.8-metre (12 ft) Dragon or to delay by two years. The first communication satellite will be produced. An exploration vehicle was projected to launch to assist in selecting the location of the settlement.

2020

In 2020, a settlement rover will explore the terrain of Mars in search of the ideal location for humans to reside.

2021

Six additional Dragon capsules and another rover will launch with two living units, two life support units and two supply units.

2022

In 2022, the rovers will prepare to assemble the landing of six separate units to sustain human life. Two living units, two life support units, another supply unit, and a third rover will all arrive in this year. A SpaceX Falcon Heavy will launch with the first group of colonists.

2024

By 2024, the first Mars One team, consisting of four carefully selected applicants, will be launched where they will become the first expected residents of the Red Planet in 2025.

2025

The first colonists will arrive on Mars in a modified Dragon capsule.

2026

By 2026, a new four-person Mars One crew will be sent for residency.

2027

A second group of four colonists will arrive. Every two years, an additional group of four colonists will arrive.

2033

The colony will reach 20 settlers.

(Source: Mars One, 2013)

begins every year to replenish the training pool regularly. A replica of the Mars settlement is to be constructed on Earth for technology testing and training purposes. Selected candidates must then provide a medical statement of good health from a physician. Medically-cleared candidates will then be interviewed by one of the 300 regional

140

selection committees who will select applicants to continue to the next step. The regional selection could be broadcast on TV and Internet in countries around the world. In each region, 2040 applicants will participate in challenges that demonstrate their suitability to become one of the first humans on Mars. The audience will select

 Leveraging Business Model Innovation in the International Space Industry

one winner per region, and the experts can select additional participants, if needed, to continue to the international level. This international event will be broadcast throughout the world. The Mars One selection committee will create international groups from the individual candidates. The groups will receive their first short-term training in a replica of the Mars outpost. Whole teams and individuals might be deselected during training when they prove not to be suitable for the mission. Mars inhabitants will be prepared for the mission by a full-time extensive training program. The ability to cope with the difficult living environment on Mars will be an important selection criterion. The astronauts will be initially chosen for their inherent ability to cope with these environments, and will receive training on most effectively dealing with them. By 2015, six to ten teams of four people each will be selected for seven years of full-time training. The selected people will become fulltime employees of the Mars One astronaut corps. Given the extraordinary symbolic and historic significance of this issue, the selection process will involve a democratic decision where “The people of Earth will have a vote on which group of four will be the first Earth ambassadors to Mars” (Mars One, 2013). A one-way trip, excluding the cost of maintaining four astronauts on Mars until they die, is claimed to cost approximately US$6 billion (Moskvitch, 2013). Mars One, the not-for-profit foundation, is the controlling stockholder of the for-profit Interplanetary Media Group. A global reality-TV media event is intended to provide most of the funds to finance the expedition. It should begin with the astronaut selection process (with some public participation) and continue on through the first years of living on Mars (Mars One, 2013). On August 31, 2012, company officials announced that funding from its first sponsors had been received. Corporate sponsorship money will be used mostly to fund the conceptual design studies provided by the aerospace suppliers. Sponsors

and contributors for Mars One include a wide variety of actors from the space industry. Since December 2012 and the official announcement of their conversion to a Stichting, Mars One has been accepting one off and regular monthly donations through their website. As of December 20, 2013, Mars One has received US$183,870 in donations and mechandise sales, the majority of this contribution from the USA (Mars One, 2013). On December 10, 2013, Mars One set up a crowdfunding campaign on Indiegogo to fund their 2018 demonstration mission. The 2018 mission includes a lander and communications satellite, and aims to prove several mission critical technologies in addition to launch and landing. The campaign goal was to raise US$400,000 by January 25, 2014 (Indiegogo, 2013). In the first 24 hours of their campaign, they had already raised US$34,7207. Mars One has stated it will retain ownership of technology developed for its mission, and that subsequent licensing fees from this technology will help fund future missions. The business model has been criticised for being unrealistic. Chris Welch, director of Masters Programs at the International Space University, has argued that ignoring the potential mismatch between the project income and its costs and questions about its longer-term viability, the Mars One proposal does not demonstrate a sufficiently deep understanding of the problems to give real confidence the project would be able to meet its very ambitious schedule (BBC News, 2012). Some have been critical of the project’s high-profile call for astronauts willing to accept a one-way mission, saying that it is an unethical and unnecessary measure that is incompatible with modern values. Others simply criticise their schedule and funding plans, claiming that the Mars One foundation cannot possibly do what it claims with the time, talent, and money it has available. The venerable Lockheed Martin entered the scene on December 13, 2013. Lockheed is no stranger to collaborating on Mars missions as they have fathered MAVEN, a probe sent to

141

 Leveraging Business Model Innovation in the International Space Industry

study the Martian atmosphere. For approximately US$250,000, the aerospace giant will provide its talent, but perhaps more importantly its name behind the fledgling space program (Templeton, 2013). Lockheed’s services will come in the form of a “mission concept study” to help design and plan the unmanned mission slated for 2018. The mission plan will have to incorporate elements of both missions, as the first unmanned venture will function as both reconnaissance and early set-up for the manned one to follow. Being so inextricably linked, the two missions must be treated with equal, or near-equal, gravitas. A further US$80,000 is slated for a British company called Surrey Satellite Technology to be used for designing a geosynchronous satellite for relaying communications from the lander to Earth and back again. That is an essential part of lander design, as the practical limitations on transmission power and line of sight make direct communication with Earth impossible. Mars One knows it will be forced to turn to private philanthropists and other charitable sources to meet its projected US$6 billion goal for the manned mission (Mars One, 2013). Even then, many analysts have scoffed at this figure, saying it is off by more than an order of magnitude; various researchers and professionals have taken their own stabs at estimating a final mission cost, which some say could top US$1 trillion (Templeton, 2013).

5.3 Axe/Lynx Apollo An example of an innovative business model concerning innovative governance is the collaboration established by Unilever, XCOR Aerospace and Space Expedition Curacao around the promotion of Axe/Lynx Apollo branded products. Axe (also known as Lynx in the United Kingdom, the Republic of Ireland, Australia, and New Zealand8) is a brand of male grooming products owned by the British–Dutch company Unilever and marketed towards the young male demographic. The men’s personal care product company, AXE, has collabo-

142

rated with Buzz Aldrin, the second person ever to walk on the moon during NASA’s 1969 Apollo 11 mission in 1969, to send 22 people into space. On January 9, 2013, the company launched its new AXE Apollo Space Academy, an online contest that promises to send 22 winners on a suborbital flight aboard a private spaceship. Officials with the company asked people across the globe to enter via social media. Hopeful spaceflyers built campaigns around themselves, asking people visiting the website to help them win the chance for a coveted ticket by voting for them. Other space fans used unique codes found on AXE products to enter the contest (Kramer, 2013). The contest has been open to men and women in more than 60 countries who signed up on the AXE Apollo Space Academy website (AXEApollo.com) and write about why they should be chosen to fly in space while others will vote on the entries. The winning space travellers will launch aboard a suborbital Lynx space plane built by the U.S. company XCOR Aerospace and operated by the tourism firm Space Expedition Curacao. Winning space travellers will fly, one at a time, aboard Lynx space planes once Space Expedition Curacao begins operational flights. The reusable space planes are designed to fly two people — one pilot and a passenger to an altitude of 62 miles (100 kilometres) during suborbital flights. The rocket plane is built to take off and land horizontally on a runway. Space Expedition Curacao will oversee commercial Lynx flights from the Caribbean island of Curacao. Tickets for a flight are set at US$95,000. XCOR Aerospace is expected to begin the first test flights of a high-altitude Lynx design sometime later this year, and the first passenger flights could begin in 2014. “The AXE Apollo launch is the biggest and most ambitious in the AXE brand’s 30-year history,” AXE’s global vice president Tomas Marcenaro said. “For the first time, we’re simultaneously launching one global competition in over 60 countries offering millions of people the oppor-

 Leveraging Business Model Innovation in the International Space Industry

tunity to win the most epic prize on Earth. A trip to space — yes, actual space” (Kramer, 2013). Since December 1st, more than 100 participants from over 60 countries around the world have taken part in mental aptitude tests, combat training in a fighter jet and zero-gravity flights to distinguish themselves as the most worthy ones for one of the coveted tickets to space. Two women and 20 more men from 21 different countries — including Canada, South Africa, Thailand, and China — also won tickets to fly aboard Lynx. Four women competed in the space academy alongside 105 men. While recruits from some countries were in direct competition with one another, other nations had different metrics for choosing their winner (Kramer, 2013). The space competition has been designed with the idea of enhancing AXE brand visibility as the brand has experienced several marketing controversies in recent times. Adverse publicity has been generated by the product’s advertisements with claims that they encouraged sexual promiscuity and sexism. The campaign for a Commercial-Free Childhood claimed that Bartle Bogle Hegarty’s work on AXE “epitomizes the sexist and degrading marketing that can undermine girls’ healthy development” (Harris, 2006). Additionally, on January 12, 2008, 12-year old Daniel Hurley from Derbyshire, England died in a hospital five days after collapsing at his home. The medical coroner ruled that he had suffered from cardiac arrhythmia and died from heart failure as a result of spraying large amounts of Lynx in a confined space. Videos on social networking sites depicted teens lighting themselves on fire. The trend resulted in multiple injuries (Dolan, 2008). After these incidents occurred, the company created two ads, one against the use of Axe as an inhalant, and the other warning of its flammability. The brand has launched the space competition to regain its popularity.

6. CONCLUSION The original contribution of this chapter is twofold. First, building on prior work (Vecchi & Brennan, 2010; Brennan & Vecchi, 2011), the chapter further provides insights on the dynamics of the space industry which, despite its remarkable potential, tends to remain an under-studied sector within the field of business studies. Second, by relying on Zott and Amit’s framework (2010), the chapter outlines the crucial importance of business model innovation by providing some anecdotal evidence from the space industry. In particular, from the findings it emerges that all the three companies Virgin Galactic, Mars One, and Unilever with the AXE/Lynx Apollo campaign have extensively relied on business model innovation by leveraging specific design elements. Table 4 highlights the design elements that were leveraged by the three companies and provides a short description on how such leverage happened in practice. As can be seen from Table 4, managers can individually innovate on all three business model design elements—content, structure, and governance—as well as jointly. For example, consider again Mars One and the recent involvement of Lockheed Martin to strengthen the credibility of the project. Initially, Mars One had mostly leveraged the structure of its business model by introducing very creative revenue streams (the selection process where applicants have to pay a fees, by resorting on philanthropists and sponsorships, by setting up a crowdfunding campaign) to support the core mission of establishing a permanent human colony on Mars. Within this context, the interdependency between the business model adopted by the company and its revenue model is particularly visible since these two seem to be inextricably intertwined. More recently, the company has resorted to the establishment of a partnership with Lockheed Martin to gain public consensus and enhance the credibility of the project which was undermined by much criticism. The partnership also co-

143

 Leveraging Business Model Innovation in the International Space Industry

Table 4. Business model innovations Design Element

Case Study

The content

Capitalising on the growing thirst for space tourism and by relying on the extensive experience of Virgin Atlantic, Virgin Galactic decided to provide sub-orbital spaceflights to paying customers along with suborbital space science missions and orbital launches of small satellites. In the future Virgin Galactic hopes to offer orbital human spaceflights as well. These activities tend to be beyond typical as space travel previously was confined to military missions and space exploration. In order for the firm to deliver the content, the structure had to be also reconfigured and an operational structure put in place. Facilities are required to handle early operations in Mojave, California and at Spaceport America in New Mexico. A team of exceptionally competent and skilled personnel to operate the spaceliners are also needed. There will be a Virgin Galactic cadre of spaceliner pilots. They are being drawn from Virgin’s network of airlines.

The structure

Mars One is a non-profit organization that plans to establish a permanent human colony on Mars by 2025. In 2024, Mars One intends launching four carefully selected applicants in a Mars-bound spaceflight to become the first residents on Mars. Every step of the crew’s journey will be documented for a reality television program that will broadcast for its entire duration. The mission plan illustrated in section 5.2 outlines how the sequencing of the different activities are linked and how the organization intends to monetise the TV rights associated with the production of the reality show.

The governance

The partnership established by Unilever, XCOR Aerospace and Space Expedition Curacao around the promotion of Axe/Lynx Apollo branded products by means of a competition to win a ticket for a suborbital flight.

determines Mars One’s bargaining power. The greater the total value created, and the greater the focal firm’s bargaining power, the greater the amount of value that the Mars One can appropriate. How much of the possible total value is actually captured, however, depends on its pricing strategy and by its revenue model. However, within this context it becomes particularly difficult to make accurate forecast of the costs. The timeframe for the completion of the project is quite vast (from 2011 to 2035) and it inevitably entails many costly uncertainties. This is particularly evident by assessing the gap between Mars One’s own estimate (US$6 billion) and the estimate made by other professionals in the field (US$1 trillion). Nonetheless, from the findings it emerges that Zott & Amit’s theoretical framework (2010) is particularly valuable to provide in-depth insights on the space industry. Within this context, our findings support the idea that business model innovation becomes an imperative to operate successfully in the space industry and a wide variety of private actors seem to be particularly

144

resourceful in adopting novel business models that begin see the involvement of non-space actors (as in the case of Unilever) and rely on non-space revenues (as in the case of the sales of the AXE/ Lynx Apollo male grooming products). As such, there is a very valuable opportunity both for firms within the same industry and for firms from different industries to gain some useful lessons on the importance of business model innovation and to learn about the most innovative business models within the industry. In this sense, the space industry can pave the way for the application of innovative business models that could be adequately modified to work either in relation to different sectors of the industry as well as in other industries. Space related opportunities abound for both actors within and outside the space sector and space-related innovation can lead to the giants of the future and to the future success of those societies that have the capacity to grasp the opportunities (Brennan, 2013). The challenge in capitalizing on those opportunities is twofold: firstly in developing innovative business and secondly in establishing

 Leveraging Business Model Innovation in the International Space Industry

the associated revenue streams. In relation to the former challenge, this paper has demonstrated that Zott & Amit’s theoretical framework (2010) provides a useful conceptual basis that can assist in the development of innovative business models. Further research on innovative business models can contribute to ensuring that space related actors can capitalize on space related opportunities by providing them with frameworks and tools directed towards the development and implementation of viable business models for space.

REFERENCES Birkinshaw, J., Hamel, G., & Mol, M. (2008). Management Innovation. Academy of Management Review, 33(4), 825–845. doi:10.5465/ AMR.2008.34421969 Branson, R. (2013, July 2). The next generation of women in space. Accessed April 2, 2014, from: http://www.virgin.com/richard-branson/the-nextgeneration-of-women-in-space Brennan, L. (2013, January 12). Space exploration is a necessity for the human species. Financial Times. Brennan, L., & Vecchi, A. (2011). The Business of Space: The Next Frontier of International Competition. New York: Palgrave Macmillan. doi:10.1057/9780230305922 Brocklebank, D., Spiller, J., & Tapsell, T. (2000). Institutional Aspects of a Global Navigation Satellite System. Journal of Navigation, 53(02), 261–271. doi:10.1017/S0373463300008869 Casadesus-Masanell, R., & Ricart, J. E. (2010). From Strategy to Business Models and on to Tactics. Long Range Planning. Special Issue on Business Models, 43(2-3), 195–215.

Chesbrough, H., & Rosenbloom, R. (2002). The Role of the Business Model in Capturing Value from Innovation: Evidence from Xerox Corporation’s Technology Spinoff Companies. Industrial and Corporate Change, 11(3), 533–534. doi:10.1093/icc/11.3.529 David, L. (2006, November 10). Virgin Galactic: Anatomy of a Business Model. Accessed on April 2, 2014, from: http://www.space.com/3097-virgingalactic-anatomy-business-model.html Dolan, A. (2008, November 20). Boy, 12 collapsed and died after using too much Lynx deodorant. Accessed on April 2, 2014, from: http://www. dailymail.co.uk/news/article-1087772/Boy-12collapsed-died-using-Lynx-deodorant.html Dyer, W. G., & Wilkins, A. L. (1991). Better stories, not better constructs, to generate better theory: A rejoinder to Eisenhardt. Academy of Management Review, 16(3), 613–619. Eisenhardt, K. M. (1989). Building theories from case study research. Academy of Management Review, 14(4), 532–550. Foust, J. (2003). The Space Review: What is the “space industry”? Accessed on April 2, 2014, from: http://www.thespacereview.com/ article/34/1 Gannon, M. (2013, October 8). Virgin Galactic’s Private Spaceship Passengers’ Taste Weightlessness on Zero-G Flight. Accessed on April 2, 2014, from: http://www.space.com/23117-virgingalactic-zero-gravity-flight.html Gibbert, M., & Ruigrok, W. (2010). The “What” and “How” of Case Study Rigor: Three Strategies Based on Published Work. Organizational Research Methods, 13(4), 710–737. doi:10.1177/1094428109351319

145

 Leveraging Business Model Innovation in the International Space Industry

Harris, P. (2006, July 9). The Menaissance: The American male is learning to flex his muscles again. Accessed on April 2, 2014, from: http:// www.theguardian.com/world/2006/jul/09/paulharris.theobserver

Moskvitch, C. (2013, December 4). Life on Mars: How a one-way Martian colony project could work. Accessed on April 2, 2014, from: http://www.space.com/23838-mars-one-colonymartian-volunteers.html

Indiegogo. (2013). Accessed on April 2, 2014, from: http://www.indiegogo.com/projects/marsone-first-private-mars-mission-in-2018

News, B. B. C. (2012, June 20). Can the Dutch do reality TV in space? Accessed on April 2, 2014, from: http://www.bbc.co.uk/news/worldeurope-18506033

Johnson, M., Christensen, C., & Kagermann, H. (2008). Reinventing your Business Model. Harvard Business Review, 86(12), 58. Kluger, J. (2013, September 25). The Hour is Nigh for Tourists in Space. Accessed on April 2, 2014, from: http://science.time.com/2013/09/25/virgingalactic-the-hour-is-nigh-for-tourists-in-space/ Kramer, M. (2013, December 3). Astronaut hopefuls face off for Apollo’s free trip to space this week. Accessed on April 2, 2014, from: http://www. space.com/23816-axe-apollo-space-academyastronaut-training.html Kramer, M. (2013, December 5). Suiting up for the AXE Apollo Space Academy. Accessed on April 2, 2014, from: http://www.space.com/23845-apollospace-academy-flight-suit.html Kramer, M. (2013, December 8). 23 Axe Apollo fans with the Right Stuff win Free Space Trips. Accessed on April 2, 2014, from: http://www. space.com/23866-axe-apollo-space-academyspaceflight-winners.html Mars One. (2013). Accessed on April 2, 2014, from: http://www.mars-one.com/en/ McGrath, R. G. (2010). Business Models: A Discovery Driven Approach. Long Range Planning. Special Issue on Business Models, 43(2-3), 247–261. Mitchell, D., & Coles, C. (2003). The Ultimate Competitive Advantage of Continuing Business Model Innovation. The Journal of Business Strategy, 24(5), 15–21. doi:10.1108/02756660310504924

146

Nidumolu, R., Prahalad, C. K., & Rangaswami, M. R. (2009). Why Sustainability Is Now the Key Driver of Innovation. Harvard Business Review, 87(9), 57–64. OECD. (2011). The Space Economy at a Glance. Accessed on April 2, 2014, from: http://www. oecd.org/sti/futures/space/48301203.pdf Rutan, B. (2006). Why Space Needs You. Accessed on April 2, 2014, from: http://money. cnn.com/magazines/business2/business2_archive/2006/03/01/8370591/index.htm Sawamura, B., & Radke, K. (1992). Future manned systems advanced avionics study COTS for space. In Proceedings of the IEEE/AIAA 11th Digital Avionics Systems Conference. IEEE. doi:10.1109/ DASC.1992.282108 Space Foundation. (2013). The Space Report 2013. Accessed on April 2, 2014, from: http:// www.spacefoundation.org/programs/researchand-analysis/space-report Stratford, F. (2013, April 22). The Business of Space Travel. Accessed on April 2, 2014, from: http://www.thespacereview.com/article/2281/1 Suzuki, K. (2007). Space and modernity: 50 years on. Space Policy, 23(3), 144–146. doi:10.1016/j. spacepol.2007.06.004

 Leveraging Business Model Innovation in the International Space Industry

Templeton, G. (2013, December 13). Lockheed Martin receives $250,000 from ambitious Mars project. Accessed on April 2, 2014, from: http://www.geek.com/science/lockheed-martinreceives-250000-in-ambitious-mars-one-project-1579513/ Vecchi, A., & Brennan, L. (2010). Conceptualising the business of space: A globalisation perspective. In Proceedings of the Academy of International Business 37th Conference. Academic Press. Wall, M. (2013, April 30). Ticket Price for Private Spaceflights on Virgin Galactic’s SpaceShipTwo Going Up. Accessed on April 2, 2014, from: http://www.space.com/20886-virgin-galacticspaceshiptwo-ticket-prices.html Yin, R. K. (2008). Applied Social Research Methods Series: Applications of Case Study Research (vol. 34). Newbury Park, CA: Sage. Zott, C., & Amit, R. (2007). Business model design and the performance of entrepreneurial firms. Organization Science, 18(2), 181–199. doi:10.1287/orsc.1060.0232 Zott, C., & Amit, R. (2010). Business model design: An activity system perspective. Long Range Planning, 43(2), 216–226. doi:10.1016/j. lrp.2009.07.004

Content: The content of an activity system refers to the selection of activities to be performed. These activities could be beyond typical once the firm identifies new market needs. The structure needs to be reconfigured to perform the new activities. Governance: The governance of an activity system refers to who performs the activities. Changing governance implies engaging in new forms of cooperation. Innovation: The process of translating an idea or invention into a product or a service that creates value for the company or for which the customers will pay. Space Industry: The space industry includes all the companies involved in the space economy, that provide goods and services related to space. Structure: The structure of an activity system describes how the activities are linked. Changing structure implies changes in the way in which parties interact or by which products and services are sold.

ENDNOTES

1

KEY TERMS AND DEFINITIONS Business Model: The plan implemented by a company to generate revenue and make a profit from its operations. The model includes the components and functions of the business, as well as the revenues it generates and the expenses it incurs. Case Study: A case study is a detailed account of a company, industry or project over a given amount of time. The content within a case study may include information about company objectives, its strategies, challenges, results and recommendations.



2

He presented his vision at cnnmoney.com in an interview given on 24 February 2006 (http://money.cnn.com/magazines/business2). “Entrepreneurs have always driven our technical progress – and, as a result, our economy. They tend to be more innovative, more willing to take risks, and more excited about solving difficult problems. They seek breakthroughs, they have the courage to fly them, and they know how to market them. They will now provide the solutions and the hardware needed to enable human spaceflight with an acceptable risk – at least as safe as the early airliners” (Rutan, 2006). For example, the Orteig Prize was a US$25,000 reward offered on 19 May 1919, by New York hotel owner, to the first allied aviator(s) to fly non-stop from New

147

 Leveraging Business Model Innovation in the International Space Industry

York City to Paris or vice-versa. On offer for five years, it attracted no participants. Orteig renewed the offer for another five years in 1924, when the state of aviation technology had advanced to the point where numerous competitors vied for the prize. In more recent times, the Ansari X PRIZE was a space competition in which the X PRIZE Foundation offered a US$10,000,000 prize for the first non-government organization to launch a reusable manned spacecraft into space twice within two weeks. It was modeled after early-twentieth-century aviation prizes, and aimed to spur development of low-cost spaceflight. The prize was won on 4 October 2004, the 47th anniversary of the Sputnik 1 launch, by the Tier One project designed by Burt Rutan and financed by Microsoft co-founder Paul Allen, using the experimental space plane SpaceShipOne. US$10 million was awarded to the winner, but more than US$100 million was invested in new technologies in pursuit of the prize. The fourth X PRIZE was announced in September 2007. Google founders, Sergey Brin and Larry Page, are using company money to fund this, the fourth X-PRIZE, to create a private race to the moon (X PRIZE Foundation 2009). The challenge calls for privately-funded teams to compete in successfully launching, landing, and then traveling across the surface of the moon while sending back to Earth specified photo and other data. The X PRIZE will award US$20 million to the first team to land a robot on the moon that travels more than 500 meters and transmits back high-definition images and video. The X PRIZE US$20 million first-place prize is on offer until 31 December 2012; thereafter offers US$15 million until 31 December 2014. NASA has started to award prizes under its Centennial Challenges scheme to spur technological development to enable lunar exploration, while in the same

148



3



4



5



6



7



8

vein the Northrop Grumman Lunar Lander Challenge has been running since 2006. According to this view, the overall objective of a firm’s business model is to satisfy a perceived need in order to create value for the focal firm and its partners. That objective is called “the value-creating insight on which the firm turns,” and it is reflected in the customer value proposition. A focal firm’s business model is defined as an activity system that is designed and enabled by a focal firm, but which transcends the focal firm and spans its boundaries. It encompasses activities that are conducted either by the focal firm or by its partners, customers, or vendors. Passengers who have already submitted their deposit include Stephen Hawking, Tom Hanks, Ashton Kutcher, Katy Perry, Brad Pitt, and Angelina Jolie. The business plan is for 50,000 people to visit space over a ten year time period (David, 2006). The flight test was then successfully conducted on December 11th. Anyone over the age of 18 may apply, as long as the application is submitted in one of the 11 most used languages on the Internet: English, Spanish, Portuguese, French, German, Russian, Arabic, Indonesian, Mandarin Chinese, Japanese, or Korean. Applicants are judged on resiliency, adaptability, curiosity, ability to trust, and creativity. By 19th December 2013, 200,000 applicants had paid their registration fee and submitted public videos in which they made their case for going to Mars in 2023.The application fee varies from US$5 to US$75 (the amount depending on the country). By December 20th they have raised $77,789 (Indiegogo, 2013). Unilever were unable to use the name Axe in the United Kingdom and Ireland due to trademark problems so it was launched as Lynx.

149

Chapter 7

International Joint Ventures at the Crossroads: Building Leadership Bridges Teresa Martinelli-Lee University of La Verne, USA Kathleen B. Duncan University of La Verne, USA

ABSTRACT While leading theorists, researchers, and practitioners are currently engaged in the discussion of global leadership, the perspective has been in terms of case studies of multi-country or multi-company approaches. This chapter frames the role of competencies by introducing a new model of shared leadership called the Five Lenses of Shared Leadership. The model uses grounded theoretical foundations to support its components and provides implications for use across various partnership and business relationships. The collaborative structure of an International Joint Venture (IJV) is defined in terms of market share and a competitive advantage. Critical discussion on the development of global leaders, organizational conflicts and culture, and embedded effectiveness across borders and boundaries serves as a methodology for understanding knowledge transfer.

If you destroy a bridge, be sure you can swim (African [Swahili] Proverb)

INTRODUCTION Creating a recognizable brand in retail, entertainment, and hospitality in the global marketplace

requires the application skills of marketing bridgebuilders. Both public relations and marketing must merge to maximize impact and results. Leadership generation where an international joint venture (IJV) is concerned is driven by integrated yet key factors. Optimizing communication, B2B technology, product-market focus, geographic locations, strategy, expertise, and the client’s corporate goals, set the stage in terms of ROI. Attributed to marketing development such optimization tends to map

DOI: 10.4018/978-1-4666-6551-4.ch007

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 International Joint Ventures at the Crossroads

out a company’s strategic goals, which is further nurtured by leadership that enables collaborative engagement. In the context of shared leadership, entering into an IJV, alliance, or partnership offers organizations strategic and valuable growth options (Folta & Miller, 2002; Kogut, 1991). To make the distinction, this chapter will introduce five competencies of shared leadership as these apply to international joint ventures. Accordingly, these idiosyncratic components of function, timeframe, power, risk, and form are approached using theoretical lenses (Armstrong, 2007). Such an approach allows a more meaningful and deeper exploration to understand an IJV as a collaborative and resource-sharing arrangement among multinational organizations. Despite international and domestic constraints, most organizations find the idea of global competitiveness not so much a challenge as an opportunity to participate and invest regardless of socioeconomic barriers such as culture, political stability, and economic development. When entering foreign markets, having a solid marketing base for performance outcomes gives rise to innovation, integrated managerial schemes, and mission focused strategies. However, studies have found a gap in international joint ventures relations and the role of the leader (Giocomo, Gustafson, Duberstein, & Boyd, 2012; Lee, Madanoglu, & Ko, 2013; Tong, Reuer, & Peng, 2008). Not until recently have studies illustrated the importance of leadership and its development as a successful service strategy for marketing in foreign or international markets (Huber & Harvey, 2006; Huber & Walker, 2005). Some would argue that IJVs in fact do not work and have a high rate of failures regardless of the embedded growth options or market entry values (Nippa, Beechler, & Klossek, 2007; Tong, et al., 2008). Other researchers (Talay, Dalgic, & Dalgic, 2010) oppose such thinking citing a number of examples of IJVs that work. More recently than Talay’s et al., examples can be found in a number of industry news sources such as in the utility in-

150

dustry, the marriage and continuing relationship between multinational oil and gas ExxonMobil and Rosneft, the Russian government owned integrated oil company, operate together in Russia as well as Mexico among other locations (Rosneft, 2013; RT, 2012). In the retail industry, Walmart and the Spanish international network Univision Communications signed a three-year partnership in an effort to expand into the Latin market (Walmart, 2013). Also in retail, the UK’s multinational grocery and general merchandise retailer, Tesco PLC and China Resources Enterprise (CRE) united to expand their Chinese retail operations (Tesco PLC, 2013). While in the hospitality industry, MGM Mirage established an agreement with Mubadala Development of Abu Dhabi, U.A.E, for branding of distinctive hotels (PR Newswire, 2013). In the entertainment and media (E&M) industry the UK’s Pinewood Shepperton PLC (Pinewood) signed an IJV agreement with China’s Seven Stars Media Limited, an expanding creation and distribution media conglomerate (Pinewood, 2013). These are but a few examples of the voluminous output of companies entering foreign markets. Notably in 2013, as the global economies slowly recover and with a vast percentage of the world’s population living in cities, the lifeblood of prosperity and economic confidence will be generated and sustained by strong marketing strategies and leadership bridges (Miller, 2013). Powerful developers of new investments can be found in growing countries such as Latin American, India, the Middle East, Africa, regions of Asia Pacific, and Eastern Europe, each of which hold strong values as marketing bases. As will be explored, this chapter will seek to analyze the potential competencies organizational leadership needs to avoid conflict, sustain cultural norms, and nourish external stakeholder (consumers, clients, and investors). The Five Lenses of Shared Leadership model will benefit as an approach that comes from seeing both sides of the challenges and opportunities coin. As such, organizations must navigate the external environment, lead

 International Joint Ventures at the Crossroads

the internal environment, and attain the “right” leadership talent. Accordingly the global leader must be in a class as a “unique breed” (Conger & O’Neil, 2012).

Defining IJV Nippa et al., (2007) express IJV as initially formed by means of exploiting difficult to transact assets in foreign markets, more specifically where local resources offer firm-specific advantages. Alternatively, Tong et al., (2008) explain conditions exist as embedded growth options, which permits IJV to formalize and capture ownership structures and product-market focus based on geographic location. Explaining that enterprises use a number of motivations to form an IJV, Talay et al., (2010) provide four key factors that lead to shareholder value creation. The first factor is the need to “achieve economies of scale through combination of otherwise separate activities under one entity. [Second, is the access] to complementary assets. [Next is the need to share] cost and risk of [yet disclosed] uncertain demands and/or shortened product life cycles. [Finally, is the dynamic to shape] the scope and basis of competition” (p. 10). While many scholars have provided a portmanteau of definitions Blackwell’s Encyclopedia of Marketing provides a suitable fit-for-all description One can identify the key characteristic of a joint venture. The partners, who are independent organizations, pool resources to engage in a business activity held to be mutually advantageous; they share profits as well as losses and risks; and the period of cooperation is ‘long term.’ Joint ventures are extremely complicated to negotiate, each partner having to agree on the relative balances of financial stake holding, risk sharing, and management responsibility. (Lewis & Littler, 1999, p. 85)

This definition along with that of Talay et al., (2010) are fitting and well aligned to the Five Lenses of Shared Leadership model because the competencies and configuration of an IJV are identical. In particular, given the current economies of scale, pursuing IJV activities complements assets across borders and bridges the ability to utilize cheaper resources both in terms of labor and production costs. Initial formation costs are dissipated by knowledge transfer, use of strategic resources, and bargaining a collaborative-specific position each of which are shared. For many companies, the rational to explore the idea of an international joint venture is guided by the not so whimsical palpability of having a competitive advantage. The main drivers here are the benefits of pursuing and expansions into new market bases. As noted, numerous new markets in countries not previously considered (Asia, Africa, and Eastern Europe, etc.) offer growth potential and distribution channels well beyond old-school foreign trade. With information and system technologies removing geographic constraints, connectivity among organization has become an easily navigational benchmark for positional counterparts around the world. Further, given the efficiency of communication via B2B technologies, costs, risks, organizational culture, and physical distance are much less a gamble.

Defining the Five Lenses of Shared Leadership Despite the fact that marketing contributes to international joint ventures, shedding light on the real-world aspects of relationship management may cause wariness among both scholars and practitioners. Attributes of shared leadership constitute a level of resources, process, and strategy between marketing related activities and the impact on expected growth values. In IJV, resources are identified as operational components (management, human resources, capital/financial and experience knowledge), whereas process

151

 International Joint Ventures at the Crossroads

is identified as organizational learning having both flexibility and adaptability. By definition “strategy is the set of plans and actions necessary to achieve organizational goals” (Griffin & Moorhead, 2013, p. 461). In this context then, strategy is a solid marketing attribute as it seeks to harness knowledge transfer while accessing new distribution channels. The emergent resultants are those additional benefits IJV hunger for such as safeguarding costs, progressive synchronization, propitious bargaining position, and enterprise-specific investments. The transparency of the five lenses model as introduced by Armstrong (2009) offers a revolving approach to joint venture leadership as well as individual leadership development. Set on the pivotal growth of harnessing relationships both organizationally and individually, the model offers a balance of depth and breadth. To recap the competencies surrounding shared leadership in an IJV are function, timeframe, risk, power, and form (sometimes referred to as structure) (see Figure 1). These components are foundational as hardcore organizational systems, which Heifetz (1994) would explain as opportunities for system learning if the system and leadership can sanction adaptability. Shared leadership of an IJV would integrate marketing, public relations, business development, product management, sales, and executive leadership. Of these, the leadership component needs to be a nimble adapter for growth and change. With such agility, recognizing highpotential leadership talent exposes individuals to opportunities to emerge as key market players that seek to remove bottlenecks and upgrade or better yet create an efficient multinational communication infrastructure. Each of the competencies associated to this model are explained in terms of international joint ventures but can be adapted to any organizational discipline.

152

Form Collaborative leadership has its roots in the theoretical fields of Organizational Development and Organizational Behavior (Sullivan, 2009). The compelling and traditional theories of both Organizational Theory (OT) and Organizational Behavior (OB) are interdisciplinary and as such offer a framework for familiar discussion while eliminating any nuances of unsuitable or impractical leadership actions (Shafritz, Ott, & Jang, 2005). Such leadership operates under a strategic lens focus highly based on how an organization is structured i.e. form. The efficacy and the efficiency of an organization’s operation are best determined and defined by its form. Form in collaborative leadership explores the perspective of structure design in relationship to the organization’s operation, i.e., its actual functionality, which includes goals, measurement criterion, purpose, and desired outcomes. Forms within departments operate in either units or divisions within an open setting. Collaborative leadership within these operational structures is well suited in promoting and protecting desired outcomes. Therefore, clearly identifying organizational form is valuable to the function of collaborative leadership and permits functionality of networks, partnership, alliances, and joint ventures to flourish (Bamford, Gomes-Casseres, & Robinson, 2003). Because, well-coordinated organizational structures and operations enact effective and protective performance design, allowing organizational assets to develop can result in synergy and measureable outcomes.

Function Organizations inaugurating a vastly integrated economy must customize and focus their core competency in the age of the current globalization phenomenon. That being said, function is primary as markets breakdown previous trade barriers and convergence upon the force of the

 International Joint Ventures at the Crossroads

Figure 1. Five lenses model of shared leadership (Armstrong, 2009, p. 24)

new consumer buying power. The “proliferation of global products” into the marketplace is the result of a number of factors (Zou & Cavusgil, 2002). Since World War II, the shift from mass production to market powered economies of scale has widened the scope of how organizations operate

not as much independent competitors but more so as reciprocated associates. The establishment and accepted practices such as alliances, coalitions, mergers and acquisitions (M&A), joint ventures (JV), and the classic partnership models have legitimatized the value

153

 International Joint Ventures at the Crossroads

created by functioning as a collaborative rather than isolated enterprise. No longer is the question “why do this?” instead the question now asked is “why not do this?” Griffin and Moorhead (2013), explain that managing people and organizations is based on collaborative constitutional characteristics when involved with network, partnerships, alliances, joint ventures etc. Accordingly, the industry-specific characteristics of function include size, culture, market power, governance, competitive positioning, and technology (i.e., products, services, & B2B expertise). In line with theory, function in this model is related to complexity and traditional leadership theory. Uhl-Bien, Marion, and McKelvey (2007), “posits that to achieve optimal performance, organization cannot be designed with simple, rationalized structures that underestimate the complexity of the context in which the organization must function and adapt” (as cited in Avolio, Walumbwa, & Weber, 2009, p. 430). Traditional leadership theory explains function in terms of building communications and relationships and further to clarify roles (responsibilities), develop cross-functional teams, and execute effective tasks, each of which is mediated through organizational governance and operational technologies (Avolio et al., 2009). As a result, relationships are intrinsically linked to the organization and even more so across the borderless functionality of joint ventures. Thus, understanding the context in which function operates is to identify and orient relationships.

Power Theoretically, leadership is not a collaborative phenomenon. Traditionally, leadership is related to elite individuals with inherited traits. Power in the context of leadership involves authority, influence, and command and control at all levels of the decision-making process (Bennis & Nanus, 2003; Heifetz, 1994; Weber, 1947). A collaborative,

154

however denotes communal, joint, or collective effects to outcomes, performance, and benefits. Hence, when getting the basics in place, partner roles must be fully enabled and be credible. The provision of a reliable transactional delivery must rely on clear roles and responsibilities. Then business partners can focus on the delivery – be that a product, a development, or a service. Further, facilitating a mindset in line with the organizational vision will render credibility and trust when power needs to be balanced. Power sharing is at the heart of collaborative leadership (Katzenbach, 2000). Management metrics that can guide people-related decisionmaking can keep the desired outcomes visible and sustained. Such leadership permits joint authority, influence, command, and control. Indeed, Rondinelli and Heffron (2009), express “The ability of one person to influence the thinking and behavior of others to achieve shared objectives is the essence of leadership” (p. 27). Thus, the power of collaborative leadership expresses that the distribution and corroboration of that power renders the decision-making systems or processes as both timely and meaningful.

Risk All collaborative relationships are exposed to common areas of risk, where outcomes and performances can be either a public liability or a benefit. Exposure and Relationship Management are the resource mechanisms that provide collective controls or protection of performance, reputation, intellectual property, and information leaks. Through structured arrangement (contracts or legally drawn agreements), collaborative leadership can plan on high levels of exposure and relationship protection regardless if the sharing is public or private sectors (Andrä, & Broll, 2012). The Boyer and Nyce (2011), theory of risk sharing posits that optimal layers of costs versus benefits provide implications for risk mitigation through the application of insurance contracts. Risk

 International Joint Ventures at the Crossroads

management as a theoretical concept is relatively new to scholarly studies; however, Powers (2007) has taking a lead role in examining the rise of governance and operational risk. Powers’ work is grounded in the evidence of risk management as an operational factor starting in the mid-1990s where policy and regulatory standards became the organizational norm. Professionals, associations, and government began reviewing liabilities as a form of organizational preservation. Another floating risk-resource is liability protection. Such a mechanism is set in place in the event of incidents, where intended or unintended activity is the risk factor as it applies to networks, partnerships, or collaborative leadership. Traditional forms of risk management were geared toward minimizing external liability. Whereas exposure management seeks to minimize liability from external influences of either a partnership or joint venture. Equally, relationship management seeks to minimize risk and liability from internal influences of a partnership or joint venture. As a whole, collaborative-leadership risk is perceived as managed mutually through protection from both internal and external forces. Finally, collaborative risk initiatives at the early stages of collaborative leadership relationships can serve to protect public outcomes by reducing vulnerabilities (Mendenhall, 2012).

Timeframes Katzenbach (2000) theorizes the facilitation of shared leadership must take place in appropriate and suitable timeframes. The triggers that transition operations from change to processes take place within functional frameworks and have specific steps to be considered a deployment (Pearce & Conger, 2003). Such deployment of events is typically accomplished in phases. However, “emergent leadership literature also suggests that the transitions may be difficult to manage” (p. 289). The reason for such difficulties can be found in the nature by which leadership relationships are influ-

enced. In terms of power, leadership relationships are influenced by two concepts both of which are relationship investments. The first is time, which by definition is an interval or span of conditions, which are in succession, and irreversible. The other investment is the evolvement of maturity. Time is much more a harvest rather than an interval between occurrences. In terms of collaborative power and leadership, time is more appropriately described as a lifetime of relationship building. Famed civil rights peacemaker Mahatma Gandhi recognized the importance of time conferring corporate leaders a carpe diem admonition that because future prospects depend on what takes place at the moment “all business depends on [leaders] fulfilling their promise” (p. 38). Intrinsically then because business relationships occur across timeframes, such must be satisfied to be effective, therefore the efficient use of time is essential. Maturity on the other hand is a fully developed relationship across time recognizing an affiliation of abundance and of quality. Good performance outcomes are then the result of evolvement among collaborators who have realized that having an accomplice and comradeship builds both support and trust. When alignment and harmony within collaborating relationship exists then challenges are seen as opportunities for creativity and vision. Thus, a partnership especially in an IJV becomes “a relationship between individuals or groups that is characterized by mutual cooperation and responsibility, as for the achievement of a specific shared goal (Deloitte, 2011, p.6.). Focusing on the big picture of timeframes mechanisms such as policy, time pressures, deadlines, and expected outcomes become progressions that influence internal dynamics in regards to organizational priorities and goals. These investments of time and maturity then are important to the vibrancy and development of a collaborative or a partnership. Finally, both time and maturity as influxes are gauged through longevity, lifecycle, and operational functionality.

155

 International Joint Ventures at the Crossroads

In summary, this new model of shared leadership offers a fresh approach to the development of partnerships, alliances, coalitions, M&A, or joint ventures in the current globalized arena of business. Each of the lenses (form, function, power, risk, and timeframe) supported by grounded theory offers an independent perspective of shared leadership. Yet at the same time, offers an exploration and development of relationship for common goal setting and decision-making. While each lens oscillates independently, the interdependent nature of the relationship among the five components offers an emerging and balanced shared leadership model.

MARKET SHARE AND SHARED LEADERSHIP American comedian and businesswoman, Joan Rivers, has voiced “Forty for you, sixty for me. And equal partners we will be” (as cited in Cotton, Falvey, & Kent, 2010, p. 112). While there seems to be much frivolity in River’s statement, in reality partnerships are not always a 50-50 proposition. In their study, Hauswald and Hege (2009), found two-party ventures to be a 50-50 allocation only two-thirds of the time. The researchers concluded shared control was not an optimal condition because such provide partners with the “least efficient incentive” (p. 1). Further, Hauswald and Hege clarify an IJV attempts to address problems while defining property rights using an incorporated methodology to explicitly allocate ownership right given resources which are jointly applied. So then, why take the risk to initiate a joint venture? Without question, business operating in the current global economy confronts increasing and intense competition to occupy complex levels of markets. With the goal to achieve a stronger market share, organizations enter into a joint venture. In the international market, certain requirements must be met to meet consumer’s

156

seemingly insatiable desires (Yen-Tsung., 2010). The priority of choice for most organizations is to build an international collaboration for sharing knowledge and resources in order to develop their capability in the short term. Citing major factors, selection, and cooperation with partners, as significant joint venture processes Al-Khalifa and Eggert-Peterson (1999) describe that an IJV structure forms when a two-parent partnership is built through a joint ownership agreement. The researchers caution however, that an unsuitable partner match can lead to a series of issues, which can lead to conflict. Indeed, in referring to liabilities, Steier (2001) explains by using and linking external networking and resources, an IJV partnership is a much more suitable tactic to expend a company’s competency. When two or more companies jointly control an IJV structure, ownership and control are typically defined in a legal ownership agreement or incorporation. The resulting JV effectiveness will be dependent on the strengths of shared leadership relationships. As would be expected any conflict, which is not properly managed, could result in serious consequences (Nguyen, 2011). Similarly, Ding (1997) clarifies that in terms of performance and conflicts that an immediate abrogation of a partnership can occur if conflicts are not mitigated or addressed. Agreeing with Din (1997), Klein (2005) concludes that successfully handling of conflicts directly determines an IJV company’s performance. In terms of competencies, conflict management, and shared leadership among IJV formats has an element and relationship to the leader. These factors have a high correlation to the Five-Lens model of Shared Leadership as previously described.

CONFLICT STRATEGIES IN INTERNATIONAL JOINT VENTURES The motivation for the formation of an IJV may not always be because two or more of the organiza-

 International Joint Ventures at the Crossroads

tions have the same organizational culture. On the contrary, it would be inappropriate to assume that to initiate a joint venture is a good enough reason to do so. Much as in any organization a number of conflicts may escalate when cultures clash or conditions are poorly managed (Brannen & Salk, 2000). In “normal” conditions, if an organization cannot curtail cultural conflicts then the resultant is decreased performance (Lung-Tan & Yuan-Ho, 2005). Yet at the international level, the potential for cultural conflicts and ineffective performance may not necessarily stem from a national identity or culture. Pothukuchi, Damanpour, Choi, Chen, and Park (2002), arrive at a different result primarily that in an IJV, the conflicts that occur are due to internal factors rather than anything related to national culture. This notion is supported by Brannen and Salk (2000), who argued that in an effort to share resources and values, achieve shared goals, and establish a functional organization, an IJV has to cross borders both in behavior and leadership approaches. When companies pool resources and personnel the culture will most likely change, evolve, or in some cases depending on the leadership roles, will be adaptive. Jiang (2001) notes a major discrepancy may occur among expatriates when a IJV is more highly influence by the locality of the organization rather than that of the larger foreign corporation. The belief is that by placing employees who are adaptable to new organizational locations and cultures are more likely to resolve or mitigate conflicts as a result of the initial joint venture.

INTERNATIONAL JOINT VENTURE AND NATIONAL CULTURE Of the many factors affecting a joint venture’s performance, national culture is ranked as least important (Pothukuchi et al., 2002). The rate in which employees of a foreign company and expatriates adapt to an IJV is directly related to

the acceptability of the new culture. Often, IJV partners have either dissimilar or diverse management methods, communication modalities, management roles and identifications, system structures environment, and power controls, which are influence by national culture. Such a situation creates conflict that very quickly affects outcomes and performance. Studies by Lung-Tan and Yuan-Ho (2005) indicated that not only will national culture affect the overall organization it would also affect management style. If the management style is irreparable or non-adaptable then general organizational culture will stem the development of the IJV. Consequently, any type of conflict whether internal or external will preclude the IJV from achieving peak performance and may further result in a destabilization of the partnership. In a Vietnam-based study, Quang, Swierczek, and Dang-Thi (1998), conclude that such problems may be avoided by if leadership on all sides has comprehended and respected each other’s national culture and practices. Thereafter leaders must take the understanding to the next level via adaptability. Such compliance allows the JV to be flexible yet cohesive. The layers of approach are many, but the singular objective is respect for one another’s differences. Slate (1993) validates and comes to similar conclusions in her study of American, Japanese, and European international trade businesses. Relying on the propensity of loyalty in some cultures, discrimination in particularly against women, intercultural exchanges, and language, Slate concluded, “When engaged in a joint venture, [parent organizations should] try to capitalize on the fact that each culture tends to emphasize certain strengths. [Their] enterprise will function much more smoothly if [they] take advantage of what each group has to offer” (para. 13). What any particular group has to offer an International Joint Venture is knowledge, which is often intellectual property.

157

 International Joint Ventures at the Crossroads

CONFLICT MANAGEMENT IN THE TRANSFER OF KNOWLEDGE While as Slate noted, that organization should attempt to capitalize on strengths in the midst of a joint venture, nonetheless issues occur related to knowledge transfer or sharing of such. Current B2B information technology permits a vast array of knowledge transfer, yet with such come conflicts. Successful transfer is a feat mainly due to system incompatibility when crossing national borders. Yong and Young-Ryeol (2004), explain sharing and specifically transferring knowledge is a primary factor for the initial IJV to have been consummated. However, Griffith, Zeybek, and O’Brien (2001), caution that the actual handling of the knowledge transfer process must first be tested for glitches at every operational level. With potential language and geographic barriers, IJV can potentially exchange assets but not necessarily the transfer of knowledge. This is crucial because this transfer handling is that which determines the potentiality and sustainability of the joint venture. Commitment and resulting satisfaction can be easily written in contract, but such is not necessarily a resultant if a high level of commitment is not apparent or supported. Previous discussion has been on knowledge transfer, but such in truth is not inclusive of the primary transfer. That which is managerial also needs to be transferred because operationally, the manager(s) are those who make things happen (Drucker, 1954). Park’s (2010) research brings into the fold a level and type of managerial development relationship required in the scope of an IJV. The managerial role is identified as “the voice” of the IJV with tasks and priorities involving stakeholders through the JV transition. The leadership and managerial competencies needed by this role revolve around a number of skills. Specifically, the managerial role must have these competencies: commercial awareness, business acumen, a focus on customer/client focused, business and strategy experience, know project

158

delivery, be a trusted advisor, broker, be able to affect and influence, act as facilitator and coach, and finally have a propensity toward leadership. These competencies represent a level of those who can take in “the big picture” perspective and who can organize priorities and goals. Further, a level of trust among managerial roles needs to be fostered, such that each can have credibility when being either a diplomat or a negotiator aligning the agendas for a JV. Wahab, Rose, and Osman (2011), validate in their study of inter-firm technology transfer in a JV that partner protectiveness showed a high degree of tacit knowledge and trust. The researchers concluded that as with any condition, when trust is lacking so too will confidence lack among managers and stakeholders. As a result, conflicts may limit development and lead to termination of the partnership. For this reason, Covey claims “Strength lies in differences, not in similarities” (as cited in Cotton, Falvey, & Kent, 2010, p. 74). Thus, clarity of the differences offers much more than commonalities can. Finally, Wahab et al., (2011) depict the idea best as they explain a high level of trust renders a high level of control, thus making the knowledge transfer process smooth and the possibility of conflict negligible.

Building Collaborative Bridges In their organizational systems study, Gong, Shenkar, Luo, and Nyaw (2005), determined that the pool of resources for operating an IJV successfully is the establishment of a viable human resource management (HRM) systems at the global level. Thanks to new and emerging global markets, this designates the opportunity for employees to receive benefits and be operational shareholders. Further, because HRM is motivated and has resources to mitigate conflict in all JV type of transactions, conflict can be avoided. Therefore, suitable policies and procedures can be developed to align with training and development programs. Conger and O’Neill (2012), explain that as global

 International Joint Ventures at the Crossroads

leadership continues to develop the ability to handle cultural conflict, this too is a validating reason for the increase in global joint ventures. Within the last decade, the prototypical IJV has very quickly become a primary collaborative business model especially given global market opportunities have grown exponentially. Andrä and Broll (2012) examined the roles of IJVs and found that while this type of organization has risks and liability, it also shares resources and strengths aligned with the five-lens model of shared leadership (function, timeframe, risk, power, form) as discussed in this chapter. As research continues in the phenomenon of cultural norms among joint ventures, there is no doubt that this business models promises to experience risk while achieving results and a return on investment (ROI).

CULTURAL NORMS AND SHARED LEADERSHIP Key areas of potential conflict can be related to unspoken cultural norms. Hofstede’s (2010) dimensions of national cultures--Power Distance (PDI), Individualism versus collectivism (IDV), Masculinity versus femininity (MAS), Uncertainty avoidance (UAI), Long-term versus short-term orientation (LTO), and Indulgence versus Restraint (IVR)—are useful for understanding conflict and organizational management in a cross-cultural environment in general. The power distance dimension is defined as, “‘the extent to which less powerful members of a society accept and expect that power is distributed unequally” (de Mooij & Hofstede, 2010, p. 87). Individualistic societies have loose ties between individuals. “Everyone is expected to look after him- or herself and his or her immediate family” (Hofstede, Hofstede, & Minkov, 2010, p. 92). In collectivist cultures, everyone is a part of a strong, cohesive group, “which throughout people’s lifetime continue to protect them in exchange for unquestioning loyalty” (p. 92).

In masculine societies, gender roles are distinct and tend to follow stereotypes for expected gender behaviors. Feminine societies have overlapping gender roles and are more consensus-based. “Uncertainty avoidance deals with a society’s tolerance for uncertainty and ambiguity” (The Hofstede Centre, n. d., para. 4). Long term versus short term is described as, “the extent to which a society exhibits a pragmatic future-orientated perspective rather than a conventional historic or short-term point of view” (de Mooij & Hofstede, 2010, p. 89). In indulgent societies, the emphasis is on gratifying basic needs and enjoying life. In societies with high restraint, there is suppression of needs with strict social norms. Hofstede’s model has been used in several marketing studies. In reviewing the literature, Soares, Farhangmehr, and Shoham (2007) found studies that related collectivism to innovation; uncertainty avoidance to information exchange behavior, innovation, and advertising appeals; masculinity and sex role portrayals, innovation and service performance; and long-term orientation to innovation. Although not specifically designed for global marketing, de Mooj and Hofstede (2010), suggest that several of Hofstede’s dimensions may be relevant for branding and advertising. In a culture with a large power distance, clear social status is important; therefore luxury items may be an appealing way to meet those needs. In individualist cultures, the emphasis is on individual identity with explicit, direct communication. Collectivist cultures prefer indirect styles of communication. The role of advertising then may become persuasion (individualist) or creating trust (collectivist). In high uncertainty avoidance cultures, rules and formal structure are favored. They are less likely to adopt innovations. One example is for health related products, high uncertainty avoidance cultures focus on medications and the quality of food and drink. Low uncertainty avoidance cultures may take a more active approach by engaging in fitness and sports.

159

 International Joint Ventures at the Crossroads

While Hofstede’s model is often seen as the cultural archetype, others argue that the model make assumptions that all variables have the same influence or power over the resultant regardless of culture. McSweeney (2002) contends that just for this reason of cultural variances Hofstede’s model cannot hold truth in every country or for that matter with gender. Citing the early yet comprehensive work on gender relations within organizations, Alvesson and Billing (1997) provided, McSweeney (2002) the impetus for the notion that Hofstede’s model is not all inclusive nor is it gender neutral. Much earlier than Alvesson and Billing, the 1992, Eastern values study conducted by Ralston, Gustafson, Elsass, Cheung, and Terpstra, assessed those cultural values that can easily discriminate and differentiate the human integration of Eastern values, which differ much from that of Western idealisms. As such, these dimensions of relationship and values are in contradiction to the variable integrity of the Hofstede model. Twenty-first century work conducted by Baskerville (2003) and Lu (2003) bring a level of doubt especially when accounting for significant differences between sex and age. Lu (2003) specifically studied joint ventures and performance matrices as impacts upon management styles among Japanese, Taiwanese and China partnerships. This distance and performance study rated Hofstede’s model as not accounting for performance indicators such as masculinity, power, and individualism as these apply to joint ventures. Applying cultural consequences to cross-national cultures and values, Baskerville (2003) concluded there is a misleading dependency on existing indices and matrices that renders the Hofstede “universalist” approach as insufficient to account for all practices and behaviors. Given these challenging studies, performance measures based solely on the Hofstede model especially in international joint ventures, persist in the idea that a one-size-fits-all concept of culture does not fit. Indeed, an approach generated by predetermined performance outcomes will permit

160

and necessitate having to cope with the impact of cultural barriers. Finally, ideas developed by Hofstede’s cultural consequences are nonetheless quantifiable when measuring and examining the reification of alternative paradigms that serve to establish varying dimensions of culture and cross-national behaviors.

GLOBAL LEADERSHIP Leadership studies began in the twentieth century (Mendenhall, 2012). International business became of interest to scholars in the 1950s and 1960s. By the 1990s it was clear that the complex challenges of leadership was increasing due to globalization. Although many scholars may argue that traditional and global leadership have the same competencies, the higher demands in a global context support the need for separate consideration. Mendenhall, Osland, and Bird (2012), define global leadership as: Global leaders are individuals who effect significant positive change in organizations by building communities through the development of trust and the arrangement of organizational structures and processes in a context involving multiple cross-boundary stakeholders, multiple sources of external cross-boundary authority, and multiple cultures under conditions of temporal, geographical, and cultural complexity. (p. 20) An increasing number of studies have tried to list and categorize the competencies required for global leadership. Bird (2012) attempts to synthesize and organize these into three categories. These categories and competencies were derived from 160 competencies found in the literature by the author. The first category is business and organizational acumen. This category includes the competencies of vision and strategic thinking (the most frequently cited competency), business savvy, organizational savvy, managing

 International Joint Ventures at the Crossroads

communities, and leading change. The first three competencies represent approximately 80 percent of the cited competencies. The second category of competencies is managing people and relationships. Valuing people, interpersonal skills, cross-cultural communication, empowering others, and teaming skills come under this category. Of these competencies, managing self is the last category. The competencies were found to be distributed fairly evenly across the literature. Resilience, character, inquisitiveness, global mindset, and flexibility were included in this category. Bird found global mindset, as he defined it, to be the least cited competency, however, the Najafi Global Mindset Institute at the Thunderbird School of Global Management, has conducted a global mindset project which collected data from 13,000 manages from around the world. They define global mindset as, “the set of attributes that help a manager influence individuals, groups and organizations from diverse cultural, political and institutional backgrounds” (Javidan & Walker, 2012, p. 38). In other words, these researchers would attest a leader with a global mindset has the competency to influence those with diverse business experiences and perspectives. The competencies used by Javidan and Walker under global mindset overlap with Bird’s competencies. The corresponding categories are intellectual capital (global business savvy, cognitive complexity, cosmopolitan outlook); psychological capital (passion for diversity, quest for adventure, self-assurance); and social capital (intercultural empathy, interpersonal impact, diplomacy). The Najafi Global Mindset Institute uses the definition the definition of global leadership, “The process of influencing individuals, groups, and organizations (inside and outside the boundaries of the global organization) represents diverse cultural/ political/institutional systems to help achieve the global organization’s goals” (p. 38). Conger and O’Neil (2012) call global leaders a “unique breed”. They propose that global leaders

not only have specific competencies and skills but that they understand that expertise from one assignment may not transfer to another culture or setting. Global leaders have to be more open to new ideas and ways of thinking while adapting to each context. Conger and O’Neil’s focus suggest the value of certain personality traits varies culturally—for example, self-confidence may be valued one culture and humility in another. Their definition of global leadership is, “an organization’s leadership talent who work across geographic and cultural boundaries” (p. 53). They list three global leadership capabilities with underlying competencies. First, global baseline competencies include catalytic learning capacity, a sense of adventure, entrepreneurial spirit and sensitivity, and responsiveness to cultural differences. Next, the ability to lead multicultural teams, a sophisticated networking competence, cultural literacy, and context specific leadership capabilities come under the category of global skills and knowledge capabilities. Finally, they include under global mindset: comfort with cultural complexity and its contradictions, opportunity sensing for the uncertainty of global markets, system thinking in global contexts, and extended time perspective. These fundamental competencies are nearly requisite to develop leaders both at the micro (national) and at macro (global) level

DEVELOPING GLOBAL LEADERS Javidan and Walker (2012) identified factors that lead to a high global mindset in individual leaders/managers as measured by the Global Mindset instrument. They found being proficient in more than one language to have been a predictor of global mindset. People from countries where English is spoken who speak other languages and people from non-English speaking countries who speak English have higher scores. Higher global mindset scores were found in mangers that had lived in more countries and stayed between six

161

 International Joint Ventures at the Crossroads

months and two years. Managers with an international management, international business, or international affairs graduate degree have higher than average global mindset scores. Lastly, it was found that managers in the age group of low 40s to mid-50s had the lowest average scores. The reasons for this finding are unclear. Conger and O’Neil (2012) found that developing global leadership requires personal and organizational elements. Their research found organizations need to assessing for gaps in the leadership pool and the company’s needs for global strategic goals. Then organizations need to establish a “capability framework” examining the capacities of current leadership and the unique needs of the organization. Additionally, career development plans can be designed to include international assignments. Research has shown that developing global leadership requires the right job assignments, along with training and coaching. Establishing a pool of potential talent for global leadership is foundational. Managing cross-cultural teams and internal travel also provide opportunities for development. The authors found barriers to developing global leaders within companies as well. Some senior executives thought that managers did not need additional training to go anywhere in the world. Many organizations do not reward or value the kinds of experiences that develop global leadership. For example, taking an overseas assignment may mean missing a promotion. There can be extreme demands on the leader and his or her family in living abroad, which may limit the number of those, willing. Lastly, many performance management systems do not differentiate between domestic and global competencies.

of discussion. The purpose was to articulate and offer a new model of shared leadership in terms of organizational behavior. The next generation of leaders without question, must have a global mindset. Regardless of the type of organizational relationships, language spoken, or border to becrossed, organizations will struggle to develop leaders who can capitalize on the breath, depth, and complexities of the international market. Business acumen is not naturally inherent in most leaders and typically requires one to enter the “school of hard knocks.” Nevertheless, the growth and speed at which international business operations have developed, leaves many organizations hovering while waiting to make the “right” decisions. As international investors focus on the emergent group of countries in Africa, Eastern Europe, and Latina America and its accelerated middle class, organizations recognize that this equates to a burgeoning consumer and market base. At the same time, organizations realize balanced strategies and approaches are necessary to deal with challenges, while taking advantage of current economic growth. To capture a competitive advantage, organizations will leap into globalized partnerships, mergers, or joint ventures only to find the investment will require accelerated development of competencies and capabilities.

BRIDGING THE PROCESS

Andrä, J., & Broll, U. (2012). Institution for risk sharing: International joint venture. The Poznan University of Economics Review, 12(4), 5-13.

This chapter has sought to yield a focus to leadership development at the global level specifically using international joint ventures as a foundation

162

REFERENCES Al-Khalifa, A., & Eggert-Peterson, S. (1999). The partner selection process in international joint ventures. European Journal of Marketing, 33(11), 1064–1081. doi:10.1108/03090569910292276 Alvesson, M., & Billing, Y. D. (1997). Understanding gender and organisations. London, UK: Sage.

 International Joint Ventures at the Crossroads

Armstrong, B. (2009). Review and reflection of shared leadership. Unpublished manuscript, Department of Leadership and Management, University of La Verne. Avolio, B. J., Walumbwa, F. O., & Weber, T. J. (2009). Leadership: Current theory, research, and future directions. Annual Review of Psychology, 60(1), 421–449. doi:10.1146/annurev. psych.60.110707.163621 PMID:18651820 Bamford, J. D., Gomes-Casseres, B. J., & Robinson, M. S. (Eds.). (2003). Mastering alliance strategy: A comprehensive guide to design, management, and organization. San Francisco, CA: John Wiley & Sons, Inc. Baskerville, R. F. (2003). Hofstede never studied culture. Accounting, Organizations and Society, 28(1), 1–14. doi:10.1016/S0361-3682(01)000484 Bird, A. (2012). Mapping the content domain of global leadership competencies. In M. E. Mendenhall, J. Osland, & A. Bird (Eds.), Global leadership: Research, practice, and development (2nd ed., pp. 80–96). Florence, KY: Routledge. Boyer, M. M., & Nyce, C. (2011, December 3). An industrial organization theory of risk sharing CIRANO - Scientific Publications 2011s78. doi:10.2139/ssrn.1999008 Brannen, M. Y., & Salk, J. E. (2000). Partnering across borders: Negotiating organizational culture in a German-Japanese joint venture. Human Relations, 53(4), 451–487. doi:10.1177/0018726700534001 Conger, J. A., & O’Neill, C. (2012). Building the bench for global leadership. People & Strategy, 35(2), 53–57. Cotton, D., Falvey, D., & Kent, S. (2010). Market leader: Business English course book (3rd ed.). New York, NY: FT Publishing.

Deloitte. (2011). Business driven HR: Unlock the value of HR business partners. Retrieved from https://www.deloitte.com/assets/Dcom-UnitedStates/Local%20Assets/Documents/us_consulting_DeloitteUnlockingtheValueofHRBusinessPartners_071111.PDF Ding, D. Z. (1997). Control, conflict, and performance: A study of U.S.-Chinese joint ventures. Journal of International Marketing, 5(3), 31–45. Drucker, P. F. (1954). The practice of management. New York, NY: HarperCollins Publishers, Inc. Folta, T. B., & Miller, K. D. (2002). Real options and equity partnerships. Strategic Management Journal, 23(1), 77–88. doi:10.1002/smj.209 Gandhi, M. (1961). Non-violent resistance (Satyagraha). New York, NY: Schocken Books. Giocomo, J. J., Gustafson, M., Duberstein, J. N., & Boyd, C. (2012). The role of joint ventures in bridging the gap between research and management. In Wildlife Science: Connecting Research with Management, (pp. 239-251). Retrieved from oregonstate.edu/dept/eoarc/sites/default/files/ publication/733.pdf Gong, Y., Shenkar, O., Luo, Y., & Nyaw, M.-K. (2005). Human resources and international joint venture performance: A system perspective. Journal of International Business Studies, 36(5), 505–518. doi:10.1057/palgrave.jibs.8400154 Griffin, R., & Moorhead, G. (2013). Organizational behavior: Managing people and organizations (6th ed.). Boston, MA: Houghton Muffin Company. Griffith, D. A., Zeybek, A., & O’Brien, M. (2001). Knowledge transfer as a means for relationship development: A Kazakhstan-foreign international joint venture illustration. Journal of International Marketing, 9(2), 1–18. doi:10.1509/ jimk.9.2.1.19884

163

 International Joint Ventures at the Crossroads

Hauswald, R., & Hege, U. (2009, February). Ownership and control in joint venture. Retrieved from http://www1.american.edu/academic.depts/ ksb/finance_realestate/rhauswald/papers/Ownership%20and%20Control%20in%20JVs.pdf

Lee, K., Madanoglu, M., & Ko, J. (2013). Developing a competitive international service strategy: A case of international joint venture in the global service industry. Journal of Services Marketing, 27(3), 245–255. doi:10.1108/08876041311330735

Heifetz, R. (1994). Leadership without easy answers. Cambridge, MA: Harvard University Press.

Lewis, B. R., & Littler, D. (1999). The Blackwell Encyclopedic Dictionary of Marketing. Oxford, UK: Blackwell Publishers.

Hofstede, G. T., Hofstede, G. J., & Minkov, M. (2010). Cultures and organizations: Software of the mind (3rd ed.). New York, NY: McGraw Hill. Hofstede Centre. (n.d.). Dimension of national culture. Retrieved from http://www.geerthofstede. com/dimensions-of-national-cultures Huber, N. S., & Harvey, M. (Eds.). (2005). Leadership at the crossroads. College Park, MD: University of Maryland, The James MacGregor Burns Academy of Leadership. Huber, N. S., & Walker, M. C. (Eds.). (2005). Emergent models of global leadership. College Park, MD: The James MacGregor Burns Academy of Leadership & University of Maryland. Javidan, M., & Walker, J. L. (2012). A whole new global mindset for leadership. People & Strategy, 35(2), 36–41.

Lu, L. (2003). The impact of cultural distance on the management style and performance of Japanese and Taiwanese joint ventures with local partners in China. (Unpublished doctoral thesis). Leeds University Business School, University of Leeds, Leeds, UK. Lung-Tan, L., & Yuan-Ho, L. (2005). The effect of culture on the management style and performance of international joint ventures in China: The perspective of foreign parent firms. International Journal of Management, 22(3), 452-462,508. McSweeney, B. (2002). Hofstede’s model of national cultural differences and their consequences: A triumph of faith—a failure of analysis. Human Relations, 55(1), 89–118. doi:10.1177/0018726702055001602

Jiang, X. (2001). A case study of organizational culture and ideological issues in a joint venture in china. Journal of Enterprising Culture, 9(3), 313–330. doi:10.1142/S0218495801000171

Mendenhall, M. E. (2012). Leadership and the birth of global leadership. In M. E. Mendenhall, J. Osland, & A. Bird (Eds.), Global leadership: Research, practice, and development (2nd ed., pp. 1–20). Florence, KY: Routledge.

Katzenbach, J. R. (2000). Peak performance: Aligning the hearts and minds of your employees. Boston, MA: Harvard Business School Press.

Mendenhall, M. E., Osland, J., & Bird, A. (2012). Global leadership: Research, practice, and development (2nd ed.). Florence, KY: Routledge.

Klein, J. S. (2005). Human resources: The key to the business. Folio, 34(5), 28.

Miller, J. D. (2013). Infrastructure 2013: Global priorities, global insights. Washington, DC: Urban Land Institute and Ernst & Young.

Kogut, B. (1991). Joint ventures and the option to expand and acquire. Management Science, 37(1), 19–33. doi:10.1287/mnsc.37.1.19

164

 International Joint Ventures at the Crossroads

Newswire, P. R. (2013, April 12). MGM Mirage signs joint venture agreement with Mubadala Development Company. Retrieved from http://www. prnewswire.com/news-releases/mgm-miragesigns-joint-venture-agreement-with-mubadaladevelopment-company-58279142.html Nguyen, H. L. (2011). Partnership strategies: Pro-active and pre-active approach in conflict management in international joint ventures. International Journal of Business and Management, 6(9), 38–45. doi:10.5539/ijbm.v6n9p38 Nippa, M., Beechler, S., & Klossek, A. (2007). Success factors for managing international joint ventures: A review and an integrative framework. Management and Organization Review, 3(2), 277–310. doi:10.1111/j.1740-8784.2007.00067.x Park, B. I. (2010). What matters to managerial knowledge acquisition in international joint ventures? High knowledge acquirers versus low knowledge acquirers. Asia Pacific Journal of Management, 27(1), 55–79. doi:10.1007/s10490008-9111-6 Pearce, C. L., & Conger, J. A. (2003). Shared leadership: Reframing the hows and whys of leadership. Thousand Oaks, CA: Sage Publications. Pinewood. (2013, April 17). Pinewood signs Chinese joint venture agreement. Retrieved from www.pinewoodgroup.com/about-us/news/ pinewood-signs-chinese-joint-venture-agreement Pothukuchi, V., Damanpour, F., Choi, J., Chen, C. C., & Park, S. H. (2002). National and organizational culture differences and international joint venture performance. Journal of International Business Studies, 33(2), 243–265. doi:10.1057/ palgrave.jibs.8491015 Powers, M. (2007). Organized uncertainty: Designing a world of risk management. Oxford, UK: Oxford University Press.

Quang, T., Swierczek, F. W., & Dang-Thi, K. C. (1998). Effective leadership in joint ventures in Vietnam: A cross-cultural perspective. Journal of Organizational Change Management, 11(4), 357–372. doi:10.1108/09534819810225904 Ralston, D. A., Gustafson, D. J., Elsass, P. M., Cheung, F., & Terpstra, R. H. (1992). Eastern values - a comparison of managers in the United States, Hong Kong, and the people’s republic of china. The Journal of Applied Psychology, 77(5), 664–671. doi:10.1037/0021-9010.77.5.664 Rondinelli, D. A., & Heffron, J. M. (Eds.). (2009). Leadership for development: What globalization demands of leaders fighting for change. Sterling, VA: Kumarian Press. Rosneft. (2013). Rosneft subsidiary acquires interest in ExxonMobil Gulf of Mexico exploration blocks. Retrieved from http://www.rosneft.com/ news/pressrelease/06032013.html RT. (2012, April 16). Rosneft, Exxon Mobil sign landmark deal to develop Arctic reserves. Retrieved from http://on.rt.com/p497ak Shafritz, J. M., Ott, J., & Jang, Y. S. (Eds.). (2005). Classics of organization theory. Belmont, CA: Thomson/Wadsworth. Soares, A. M., Farhangmehr, M., & Shoham, A. (2007). Hofstede’s dimensions of culture in international marketing studies. Journal of Business Research, 60(3), 277–284. doi:10.1016/j. jbusres.2006.10.018 Steier, L. (2001). New venture firms, international expansion, and the liabilities of joint venture relationships. The Journal of High Technology Management Research, 12(2), 295–321. doi:10.1016/ S1047-8310(01)00041-4 Sullivan, L. E. (Ed.). (2009). The SAGE glossary of the social and behavioral sciences. Thousand Oaks, CA: SAGE Publications, Inc. http://0-dx. doi.org.leopac.ulv.edu/10.4135/9781412972024

165

 International Joint Ventures at the Crossroads

Talay, M. B., Dalgic, O., & Dalgic, T. (2010). Shareholder value creation in international joint ventures: The case of the US automobile industry. Strategic Management Review, 4(1). 1-17. Retrieved from www.strategicmanagementreview. com/doi/pdf/10.4128/1930-4560-4.1.1 Tesco, P. L. C. (2013, October 2). Tesco and CRE to create the leading multi-format retailer in China. Retrieved from http://www.tescoplc.com/index. asp?pageid=17&newsid=861 Tong, T. W., Reuer, J. J., & Peng, M. W. (2008). International joint ventures and the value of growth options. Academy of Management Journal, 51(5), 1014–1029. doi:10.5465/AMJ.2008.34789680 Uhl-Bien, M., Marion, R., & McKelvey, B. (2007). Complexity leadership theory: Shifting leadership from the Industrial Age to the Knowledge Era. The Leadership Quarterly, 18(4), 298–318. doi:10.1016/j.leaqua.2007.04.002 Wahab, S., Rose, R., & Osman, S. (2011). Measuring the effects of technology suppliers’ characteristics on degree of inter-firm technology transfer based on knowledge-based view and organizational learning perspective. International Business Research, 4(4), 53–61. doi:10.5539/ibr. v4n4p53 Walmart. (2013, February 5). Multi-year strategic partnership with Univision Communications. Retrieved from http://corporate.univision.com/ wp-content/uploads/2013/02/Walmart-Univisionprint.pdf Weber, M. (1947). Max Weber: The theory of social and economic organization. New York, NY: The Free Press. Yen-Tsung, H. (2010). Learning from cooperative inter-organizational relationships: The case of international joint venture. Journal of Business and Industrial Marketing, 25(6), 454–467. doi:10.1108/08858621011066044

166

Yong, S. P., & Young-Ryeol, P. (2004). A framework of knowledge transfer in cross-border joint ventures: An empirical test of the Korean Context1. Management International Review, 44(4), 417–436. Zou, S., & Cavusgil, S. T. (2002). The GMS: A Broad conceptualization of global marketing strategy and its effect on firm performance. Journal of Marketing, 66(4), 50–56. doi:10.1509/ jmkg.66.4.40.18519

KEY TERMS AND DEFINITIONS Competencies: The proficiencies that surround shared leadership in any joint venture in terms of function, timeframe, risk, power, and form. Form: Sometimes also called structure of the operational behaviors of any given organization. Based on the Aristotelian axiom whereby “form follows function,” the purpose of which is tempered by the relationship, which is established and further balanced as roles are delineated throughout the organization. Function: The dynamics and interplay among and between groups based on intervening organizational behaviors. Function can also refer to the operational relationship between organizations both domestic and international. Specific functions can be attributed to either collective or individual contributions. Global Leadership: The bridging of people between organizations yet across established demarcations, boundaries, and borders through the reciprocal benefit of culture, resources pooling, and intellectual property. International Joint Ventures: Is much as a partnership whereby two or more organizations establish a footprint that joins profits, people, and property across international boundaries with the objective that the joint enterprise will seek to share

 International Joint Ventures at the Crossroads

resources, risks, as well as rewards depending primarily on the nature of the venture. Power: Is the focus on the organic, inherent, and unique trait of who within the organization either shares or has singular leadership authority, decision-making, and/or autonomy. Shared leadership then is the power and process in the making of joint decisions. Risk: Is the exposure to liability in any joint venture or shared leadership role. Thus, effective organizational outcome is dependent on the level of performance, reputation, and information shared among joint venture relationships. Shared Leadership: Is expressed in terms of the mutual leadership conveyed among types of organizational relationship such groups, teams, partnerships, joint ventures, mergers, acquisitions, coalitions, and alliances. Timeframe: Can be attributed to two key factors. The first is the relationship (between organizations) that takes place through stages whereupon an investment of time is being given and developed. The second is the anticipated length of time expected in the development of the relationship. The purpose of which is to build internal operations, develop maturity in the relationship, and explore the dynamics of the relationship through longevity or the natural lifecycle of the joint venture.

167

168

Chapter 8

Entrepreneurs’ Contributions to Small Business: A Comparison of Success and Failure M. Gordon Hunter The University of Lethbridge, Canada

ABSTRACT This chapter compares success factors and failure factors of small businesses. In an attempt to determine the relative importance of these factors, the two sets are compared. Thus, each failure factor is related to a corresponding success factor. A discussion of the aspects related to small business success and failure sets the context for the comparison. The relatively more important success factor involves aspects related to administration. Unfortunately, this is the one aspect that most small business owners/ managers either lack the skills to perform or the time to allocate to this function. Within the administration, function leadership emerged as a relatively important skill contributing to small business success.

INTRODUCTION Small business contributes a significant portion of the national Gross Domestic Product (GDP) of many economies. For instance, in Canada small businesses contribute a total of 29% toward GDP and in the United States the contribution is 30%. Furthermore, small business employs a large percentage of the total workforce as shown in Table 1. In general, few small businesses survive for very long. Zontanos and Anderson (2004) reported that over two thirds of small businesses close within the decade they open. More specifically, Industry Canada (2010) reported that 30% of

small businesses fail within one year and up to 75% after nine years. In the United States (Small Business Administration, 2010) a full 33% of start-ups have failed by the end of the second year and 50% have failed after four years. Additionally, very few small businesses exist for a long time as the attrition rate is quite high. According to Cater et al (2006), only 30% of small businesses are passed to the second generation with only 12% being passed to the third. Further, only 4% survive to the fourth generation. This chapter investigates those aspects of small business which contribute to both success and failure. To provide some context, the next section

DOI: 10.4018/978-1-4666-6551-4.ch008

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Entrepreneurs’ Contributions to Small Business

Table 1. Percentage employment of total workforce Country

Percentage Employment of Total Workforce

Source

Canada

48

Industry Canada (2010)

United Kingdom

47

Department for Business Innovation and Skills (2013)

United States

50

Michma and Bednarz (2006)

reviews the concepts related to small business and entrepreneurs. Then, success and the requisite characteristics are presented. As a comparison to success, issues related to small business failure are reviewed. Each of the success and failure discussions is concluded with reference to a set of specific contributing factors. A subsequent section maps these two competing sets of factors to form an analysis from which an emphasis is proposed for the owner/manager upon which to focus in an attempt to create an environment of success for the small business. While the emphasis of this chapter is on research conducted in a Western cultural context, some brief general comments are included relating to other cultural influences.

SMALL BUSINESS DEFINED Some decades ago, an interesting definition of a small business was developed by the Wiltshire Committee. A small business is, “…a business in which one or two persons are required to make all the critical management decisions.” (Wiltshire Committee, 1971:7). There currently exist many different definitions of “small business”. While some measures such as total assets or annual sales or revenue may be considered, they tend not to be employed because they are difficult or impossible to determine. Many small businesses are privately held and are not required to report such statistics. Indeed, research shows that small business managers tend not to rely upon these statistics even when they are available (Halabi et al, 2010). Therefore, most

research investigations and many government agencies employ the number of employees as a way to define small business (Longnecker et al, 1997). This statistic is readily available because of the income tax remittance requirement of payroll systems. However, there are inconsistencies in how this statistic (number of employees) is operationalized to define small business. In Canada, the number is 100 employees for goods producing firms and 50 employees for service firms (Industry Canada, 2010). Firms employing between 101 and 499 persons are considered medium. In the United States, a small independent business is defined as having fewer than 500 employees (Michma & Bednarz, 2006). There does not seem to be a differentiation made based upon sector as in Canada. Perhaps the most specific definition of small business is provided by the European Parliament (2002). They define micro businesses as having 0 – 10 employees. Small businesses include up to 50 employees, and medium-sized businesses have up to 250 employees. Because of these inconsistencies, researchers tend to take a contingency approach to defining small business based upon number of employees for each research project. While these definitions vary, investigators usually follow relatively closely their adapted version of one of the above categories.

169

 Entrepreneurs’ Contributions to Small Business

Table 2. Approaches to business practice

Adapted from Stevenson (1999)

SMALL BUSINESSES VERSUS LARGE COMPANIES It is important to note that, “... a small business is not a little big business ...” (Welsh & White, 1981). Managers of small business adopt a perspective and make decisions which are different from those made by administrators of large companies. These differences have been documented by many researchers and the following descriptions are included here. Stevenson (1999) presented a perspective on approaches to business practice as included in Table 2. A continuum of business practice includes major aspects related to strategic orientation and decision making. Small business managers and large company administrators are placed at each end of the continuum. Strategically, small business managers will tend to focus externally and attempt to capitalize on emerging opportunities (Stevenson, 1999). At the other end of the continuum, large company administrators will place their attention internally and focus on the efficient use of current resources.

170

The decision making process also varies between small business managers and large company administrators. Indeed, Stevenson’s (1999) terms of “promoter” (small business manager) and “trustee” (large company administrator) seem very appropriate in this context. The promoter’s decision making time frame is very short. Decisions are made in multiple stages with a minimum commitment of resources. This allows the promoter to react quickly to changes in the environment. The trustee’s decision making time frame is based upon a long term perspective. After thorough analysis, one time commitments are made regarding the allocation of large scale resources. This approach is supported by formalized internal and repeatable systems for allocation of resources including financial and human capital. Another example of small business managers’ perspective relates to the concept of “resource poverty” (Thong et. al, 1994). This term suggests that small business managers lack important resources associated with skills, time, and finances. These three aspects of resource poverty contribute to the perspective on business practice (Stevenson, 1999) outlined above. First, businesses that are

 Entrepreneurs’ Contributions to Small Business

small employ few people. The small number of employees may not possess the appropriate skills to support the entire business operation. This point leads to the second aspect of resource poverty. With fewer people and available skills, the small business manager will be limited in the time available to devote to decision making activities. Third, as most small businesses are privately held, they tend to be similarly financed resulting in a limited supply of monetary resources. In general, small business has difficulty obtaining financing. Indeed, small business has more difficulty than large companies in accessing financial resources (Ang, 1991). Small business managers may take an informal approach generally described as the “3Fs” – Family, Friends, or Fools. This approach may prove difficult. Initially, the amount of finances available may be limited. Further, if repayment is delayed for some reason, personal relationships may be negatively affected. A more formal approach would be to establish a business relationship with a lending institution (Cole & Wolken, 1996; Ang, 1992). However, because of the centralized nature of credit granting policies unique regional or industry sector aspects of small business operations may not be considered (Hunter, 2011; Boot, 2000; Degryse & Van Cayseele, 2000). The final example of small business managers’ perspective relates to the approach to marketing. Small business, in addition to their lack of resources as outlined above, will rely upon a relatively small customer base (Zontanos & Anderson, 2004) in a concentrated local area (Weinrauch et al, 1991). Thus, it is paramount that small business managers establish and maintain a long term and close relationship with their customers (Berry, 1983; McKenna, 1991; Cardwell, 1994). There is, however, concern that with a downturn in the economy a focused customer approach may create more of a negative performance affect than a more diversified approach to marketing and customer relations.

CLASSIFICATION OF SMALL BUSINESS Some time ago researchers classified small business by sources of policy making (Deeks, 1973). More recently a static model was introduced depicting participants within the small business. This static model was extended to incorporate the passage of time. These schemes are described in the following paragraphs. One way to classify small businesses is by the source of policy making (Deeks, 1973). Three structures are presented in Table 3 below. When a small business is young and just starting out, there will probably be one individual who makes and implements the policy decisions. The Monocratic structure would reflect this situation. Later, perhaps in subsequent generations, the Oligarchic structure applies as the business grows and involves more individuals, either shareholders or family members, making decisions about the business operations. In a Patrician structure, one person establishes policy but is supported by specialist managerial staff to implement the policy. The specialist managerial employees are considered professional administrators and not shareholders or family members.

PERFORMANCE OF SMALL BUSINESS Managers of small business tend to view operational performance evaluation in an informal way. Financial and statistical information may not be used and management practices are unplanned. Competitive advantage then is attained through aspects of intangible resources such as culture, reputation, skills and knowledge, and personal relationships. These aspects are further explained in the following paragraphs. Huybrechts et al (2011) investigated the intangible aspects of small business through the lens of the resource-based view (Wernerfelt, 1984)

171

 Entrepreneurs’ Contributions to Small Business

Table 3. Structure in terms of policy Structure

Description

Monocratic

A majority shareholder establishes policy

Oligarchic

Multiple specialized owner/managers are the source of policy

Patrician

One person establishes policy with specialist support

Adapted from Deeks (1973)

which suggests that the level of performance of the small business is the result of its resources (Penrose, 1959) and how they are employed (Barney, 1991). The assessment of the intangible aspects as they relate to performance is presented in four categories in Table 4. These four categories of intangible resources may contribute to competitive advantage. The following comments relate to the performance of small business and how these categories explain the competitive advantage obtained by family-base firms. The category of “Organizational Culture” may be considered by four detailed comments. First, the family firm is group-oriented. Employees interact altruistically (Lubatkin et al, 2005; Schulze et al, 2001; Schulze et al, 2003). Thus, they tend to share knowledge and collaborate in an environment of trust (Zahra et al, 2004). Second, there is an internal focus regarding unique knowledge and expertise (Miller & Le Breton-Miller, 2006; Zahra et al, 2004). Third, the influence of the

founding entrepreneur is significant (Denison et al, 2004), even after relinquishing control of the business. Hunter and Kazakoff (2008) found further support for the continued influence of the founding entrepreneur even after his demise when they investigated multi-generation small business. Fourth, family firms tend to focus relatively more on the long term (James, 1999; Ward & Aronoff, 1991). This long term perspective supports the pursuit of innovative strategies (Teece, 1992) and represents a contrast with Stevenson’s (1999) short time frame perspective. The “Reputation” of the small business may also contribute to competitive advantage. It is considered important to establish and maintain a positive reputation (Fombrun, 1996). The process of marketing the product or service brand should contribute to a unique image for the small business. Positive and on-going relationships with all stakeholders including the general public will

Table 4. Family firm intangible resources Category

Description

Organizational Culture

“This collection of values, beliefs, assumptions and symbols (Barney, 1991) can influence employees in a way that is beneficial to financial performance.” (Huybeechts et al, 2011: 272)

Reputation

“...a perceptual representation of a company’s past actions and future prospects that describe the firm’s overall appeal to all of its key constituents when compared with other leading rivals...” (Fombrun, 1996:72)

Human Capital

“...the acquired knowledge, skills, and capabilities that enables persons to act in new ways...” (Coleman, 1988:100)

Networks

“...personal relationships which transcend the requirements of organizational structure...” (Hall, 1992:138) and include “...information, technologies, access to markets and complementary resources...” (Hitt et al, 2001)

Adapted from Huybrechts et al (2011)

172

 Entrepreneurs’ Contributions to Small Business

contribute to a positive reputation and in turn competitive advantage (Fombrun, 1996). “Human Capital” includes the knowledge and skills of employees of small business (Huybrechts et al, 2011). There is concern the level of skill may be limited in small business because of the tendency to employ family members (Dunn, 1995; Schulze, et al, 2001). However, there are positive aspects related to lower turnover (Miller & Le Breton-Miller, 2003); increased motivation (Tagiuri & Davis, 1996); and altruistic behaviour amongst employees (Voordeckers et al, 2010). Family members tend to be very committed to their job (Donnelly, 1964; Horton, 1986) and are willing to make sacrifices for the good of the business (Dyer, 2006). Finally, “Networks”, sometimes referred to as social capital (Nahapiet & Ghoshal, 1998), involve important personal relationships. In a small family run business social capital relates to the relationships between family members (Huybrechts et al, 2011). Organizational social capital refers to the relationships with external entities (Arregle et al, 2007) such as banks, suppliers, or customers (Le Breton-Miller & Miller, 2006).Further investigations have identified other aspects which may affect small business performance. These aspects include management practices, managerial capability, manager creativity, and approach to financial information. Floren (2006) investigated management practices in small businesses. He found that small business managers continually shifted their attention amongst many issues. Their work day is “...unplanned, informal, hectic and fragmented.” (Floren, 2006: 281). Furthermore, small business managers prefer informal communication and, as supported by Halabi et al (2010), tend to ignore formal information even when it is available. Zinger et al (2001) investigated the impact of managerial capability on the performance of emerging small businesses and determined that sound marketing practices positively contributed to improved sales and earnings. This finding supports the contention by Pitt

and Kannemeyer (2000) regarding the key role of a marketing strategy in an early stage enterprise. As presented earlier, small business tend to have a relatively small customer base (Zontanos & Anderson, 2001) within their local area (Weinrauch et al, 1991). This limited focus may affect performance during economic downturns. A marketing strategy involving a more diversified approach to customer relations is recommended. Additionally, owner/manager creativity contributes positively to competitive advantage (Wyer et al, 2010). They determined, among other findings, that attitudes towards flexibility and learning on the part of managers created a positive work environment which facilitated overall performance, and in turn competitive advantage. Halabi et al (2010) investigated whether and how financial information is used in small businesses. They determined that small business managers possessed a very basic understanding of both accounting and finance and tended to rely upon an external accounting service for general business advice. This finding supports previous research (DeThomas & Fredenberger, 1985; Marriott & Marriott, 2000; Argiles & Slof, 2003). When statistical performance information was available the small business managers seemed to prefer to consider a more informal assessment such the bank account. Again, this finding confirms prior investigations (Welsch & White, 1981; Khan & Rocha, 1982; Chaganti & Chaganti, 1983; Deakins et al, 2002; Dyt & Halabi, 2007).

GROWTH OF SMALL BUSINESS Tan et al (2009) suggest that small business research “...has shifted towards the attributes and strategies that enable small business to grow, to contribute to economic value creation, and to flourish at the center of the innovation and technology-based calculus.” (Tan et al, 2009:234). The most common means for measuring growth is change in employment (Hoogstra & van Dijk,

173

 Entrepreneurs’ Contributions to Small Business

2004; Chaganti et al, 2002; Smallbone et al, 1995; Davidsson & Delmar, 1997) or change in sales (Kelley & Nakosteen, 2005; LeBrasseur et al, 2003; McMahon, 2001). Dobbs and Hamilton (2007) investigated small business growth and expanded upon four applicable categories, originally identified by Smallbone and Wyer (2000) relative to small business growth. Table 5 documents these categories. In general, this Table provides descriptions of the four categories. First, Growth is be related to management strategy in that a strategic decision is made that growth will be an objective. Second, in conjunction with this decision, is the character of the entrepreneur who must be motivated to exploit the opportunity to grow. Third, the small business must be in a specific industry where the market provides the prospect for growth. Fourth, the small business profile (size and age) are other contributing factors to growth. An interesting research question posed by Tan et al (2009) relates to identifying the factors which contribute to the divergence of growth paths in small business. Figure 1 depicts this divergence which is supported by Dobbs and Hamilton (2007) who suggest that start-up firms tend to grow quickly until a certain size. Then, depending upon management strategies, growth tends to slow. Hunter and Kazakoff (2008) found a similar divergence in growth when investigating multigeneration small business. They determined that most of the small businesses they investigated reported that an increase in sales could be addressed within existing facilities. More automobiles, cows, or watches could be sold. However, expansion was more complicated for a small business that was building houses. For instance, one small business home builder focused on entry level houses. They had established good working relationships with enough of the sub-trades (electrical, plumbing, roofing, etc.) to be able to build and sell an average of one house per week over one year. But even a small increase in volume would necessitate forming a working relationship with a completely

174

new set of sub-trades. Additionally, for a period of time while volume continued to increase, this second set of sub-trades would only be necessary on a part-time basis. Usually, sub-trades do not find part-time associations beneficial. Indeed, during the initial stages of expansion the home builder expected to experience financial losses. Thus, the home builder focused on quality products and efficient operations at current volumes rather than growth. Another factor which contributes to variance in growth is the small business approach to strategy. Examples of this factor were found in the business model of automobile dealers in Hunter and Kazakoff (2008). One dealer adopted a very conservative approach. Expansion plans involved a consideration for family involvement which resulted in a relatively lower growth path. Alternatively, another dealer took a more aggressive approach to growth. Expansion opportunities were investigated with the consideration of involving non-family members in management roles. Where feasible, all of the businesses considered the possibility of future expansion opportunities. Invariably, they emphasized a concern for continuing to provide quality products and services. They recognized the importance of loyal customer relationships and how this relationship could lead to new satisfied customers.

ENTREPRENEUR The terms small business and entrepreneur are synonymous and tend to be employed together and to mean the same thing. However, while the terms are difficult to differentiate they are different. An entrepreneur is an individual who makes decisions about the allocation of scarce resources (Casson, 2003). These types of decisions are made in both large companies and small businesses. But, due to the concept of resource poverty (Thong et al, 1994), (ie., limited skills, time, and financial resources), entrepreneurs tend to be associated with

 Entrepreneurs’ Contributions to Small Business

Table 5. Small business growth Category Management Strategy

Characteristics of the Entrepreneur

Environmental Industry specific Factors

Characteristics of the business

Factor

Description

Growth Objective

Growth may not always be an objective. An owner’s consideration of control, life style, and family desires will determine business goals.

Employee Recruitment and Development

A growth oriented strategy will be affected by the business’ ability to attract, develop and retain appropriate employees

Product Market Development

Growth will be facilitated with an emphasis on product or service innovation and differentiation rather than on price.

Financial Resources

A lack of financial resources may inhibit growth. Accepting external equity may impinge upon owner control.

Internationalization and Business Collaboration

While most small businesses do not export, high growth businesses tend to do so.

Motivation

Businesses established to exploit an opportunity will have a higher propensity to grow.

Education

Educated individuals are more likely to grow their business. Education improves search skills, foresight, imagination, computational and communication skills.

Experience

Management and industry experience will contribute to growth

Size of the Founding Team

Larger teams possess more talent and resources which may contribute to growth if not affected by group conflict.

Nature of the Market

High demand increases growth prospects.

Role played by large companies

Sub-contracting and outsourcing policies of large companies can influence growth potential.

Size

New small businesses have a higher growth rates.

Age

Younger businesses have a higher growth rate.

Adapted from Dobbs and Hamilton (2007)

small business. Furthermore, there is a recognized difference between small business managers and entrepreneurs. A small business manager establishes a business for personal goals (Jenkins and Johnson, 1997) and will possess less innovative tendencies than entrepreneurs (Stewart et al, 1998; Carland et al, 1984). An entrepreneur focuses on small business profit and growth (Carland et al, 1984) and will typically engage in an innovative approach to goods, services, and new markets. The entrepreneurial process, as described further in the following sub-section, involves a growth oriented approach to innovation (Stewart & Roth, 2001). There are a number of different types of entrepreneurs. First, a nascent entrepreneur (Wagner,

2004) is an individual who is about to form a small business (Delmar & Davidsson, 2000; Rotefoss & Kolvereid, 2005). It is important that nascent entrepreneurs recognize the necessary commitment (De Clercq et al, 2009). Without this commitment and passion, the entrepreneur may encounter negative issues which may contribute to small business failure. This situation is expanded upon in a later section of this document. Additionally, there are three other types of entrepreneurs. Novice entrepreneurs are, “…individuals with no prior minority of majority business ownership experience either as a business founder, an inheritor, or a purchaser of an independent business but who currently own a minority or majority equity

175

 Entrepreneurs’ Contributions to Small Business

Figure 1. A higher versus lower growth comparison (Adapted from Tan et al., 2009)

stake in an independent business that is new, purchased, or inherited.” (Westhead et al, 2005:394). Serial entrepreneurs are, “…individuals who have sold/closed a business in which they had a minority or majority ownership stake, and they currently have a minority or majority ownership stake in a single independent business that is new, purchased, or inherited.” (Westhead et al, 2005:394). Finally, Portfolio entrepreneurs are, “…individuals who currently have minority or majority ownership stakes in two or more independent businesses that are new, purchased, or inherited.” (Westhead et al, 2005:394). Carland et al (2002) determined a continuum of entrepreneurs in relation to drive or motivation. At one end of the continuum an entrepreneur is considered to be passionate about employing innovative ideas to create new and novel small businesses. Conversely, at the other end of the continuum an entrepreneur may be satisfied managing their

176

current small business. Indeed, they will focus on the provision of quality product or service at their current volume of operation. Examples of entrepreneurs at both ends of the continuum were documented by Hunter and Kazakoff (2008). Some entrepreneurs continually search for new business opportunities, while others focus on current operations within a context of a work/ life balance. Both types will take an innovative approach to operations. In addition, both types are cautioned to remain focused upon the niche within which they have expertise. Furthermore, Hunter and Kazakoff (2008) commented that both types of entrepreneurs considered themselves to be successful. This suggests growth is not the only measure of success for a small business. As Hunter and Kazakoff (2008) investigated, multigeneration small business longevity may also be considered a measure of success.

 Entrepreneurs’ Contributions to Small Business

In summary, an entrepreneur tend to form and maintain a small business or a series of small businesses. Whether they focus on growth or the current level of operation they will employ an innovative approach (Drucker, 1988).

ENTREPRENEURIAL PROCESS AND SMALL BUSINESS VENTURE The process followed by the entrepreneur is referred to as entrepreneurship which involves the establishment and maintenance of a business venture and the ongoing practice of systematic innovation (Drucker, 1988). A model of the entrepreneurial process is included here as Figure 2 (McMullan and Long, 1990). The result of this process is a small business entity. This process may be summarized as follows: The entrepreneurship process begins with a vision (A) of a business opportunity. Once a commitment is made to pursue the vision, the entrepreneur endeavors to build a self-sustaining living system (business venture) (C). The venture takes shape (B) as each strategic challenge (D) is addressed. The necessary tools and talents (E) are brought to the venture by the entrepreneur, through the commitment of members and may in part be acquired from independent consultants, or mentors. All of this takes place within and is influenced by a particular socio-economic environment (F). Part D (Figure 1) refers to a series of creative entrepreneurial challenges. There are ten of these challenges, each of which corresponds to a structural attribute of a living system (Table 2). As the strategic entrepreneurial challenges are reviewed, it is important to recognize that: 1. Their ordering is logically intuitive, 2. Each independent strategic decision makes a structural contribution to the business venture,

3. Structural components are dynamic and may be revisited, 4. Each decision will build on those made previously and will affect those to come. (Hunter & Kazakoff, 2008:7-8) The entrepreneurship act (Long, 1983; Long & McMullan, 1984; McMullan & Long, 1990) is a creative process which begins with a vision of an opportunity and culminates in a self-sustaining living system or ongoing venture. The initial vision may be an abstract idea or the realization of the potential for a business venture to provide a product or service. The functioning small business will require strategic responses to challenges such as those listed in Table 6. These challenges could occur sequentially, although it may be necessary to conduct iterations of previously addressed challenges depending upon the issues encountered in an unpredictable future. When these challenges have been successfully addressed the business venture will become a self-sustaining living system. The entrepreneurial process will have built into this system the capability to innovate and grow in response to an ever changing environment. The following comments are provided to more fully explain these challenges. Challenge 1: Identifying Realizable Opportunities. The founding entrepreneur must know him- or herself and have an appreciation for how the vision for a product or service may be accepted in the market place. A vision is a broad general concept while an opportunity is a specific course of action that is worthwhile pursuing (de Bono, 1980). Challenge 2: Designing Feasible Products. The decision to implement the opportunity results in the creation of a product or service. This is the very reason the business exists. Products and services must enhance competitive advantage. Challenge 3: Planning Resource Requirements. Resources in the form of human, material,

177

 Entrepreneurs’ Contributions to Small Business

Figure 2. Modeling the entrepreneurial process (Adapted from McMullan & Long, 1990, p.135)

financial, and intellectual capital must be identified. Then a plan may be developed as to how these resources will be sourced and how they will interact in support of business operations. Challenge 4: Negotiating Resource and Client Contracts. Once the resource requirements as outlined above are identified it will be necessary to determine the source. If the resource is not going to be supplied directly from the founding entrepreneur then the source may be the commonly referred “3Fs”, Family, Friends, or Fools! Challenge 5: Engineering Efficient Production. The product or service must add value by efficiently converting raw material and other necessary inputs into the required outputs.

178

Challenge 6: Regularizing Sales Revenue. Sales revenue is the life blood of a small business. Sales are proof that the vision is viable. More importantly, the product or service must be produced at a cost that results in a profit and encourages customers to make a positive purchase decision. Challenge 7: Standardizing Operating Performance. As sales grow the founding entrepreneur’s attention will move to the management of functional issues. Accounting and financial records will provide input to decisions about efficiencies in operations of the business. As the processes are repeated perhaps more efficient approaches will be identified and implemented. Challenge 8: Expanding Strategically and Opportunistically. Over time the business must

 Entrepreneurs’ Contributions to Small Business

Table 6. Challenges in developing an entrepreneurial venture Entrepreneurial Challenge

Corresponding Living Systems Attribute

1. Identifying realizable opportunities.

All living systems have identifiable environments.

2. Designing feasible products.

All living systems have boundaries, which distinguish them from their environment.

3. Planning resource requirements.

All living systems are composed of interacting parts involving some functional differentiation and specialization.

4. Negotiating resource and client contracts.

All living systems must take in energy and information.

5. Engineering efficient production.

All living systems transform energy and information from one state to another.

6. Regularizing sales revenue.

All living systems export outputs into their environments.

7. Standardizing operating performance.

All living systems have cyclical patterns of changing activities within the system and within the environment.

8. Expanding strategically and opportunistically.

All living systems are characterized by homeostatic balance and governance mechanisms, evolving systematically to better fit their environment.

9. Professionalizing middle management.

All living systems become differentiated over time into more and more independent roles.

10. Institutionalizing innovative capacity.

All living systems are characterized by negative entropy.

Adapted from McMullan & Long (1990:267)

evolve in response to changes in the environment. This may mean growth, but growth is not necessary. But growth, if it is to occur, must be in concert with the environment. Further, the pace of growth may vary (Tan et al, 2009). Challenge 9: Professionalizing Middle Management. With growth it will be necessary to focus even more on management aspects. These aspects relate to organizational structure and the creation of a middle management level. Opportunities will arise to establish specialized management functions. Challenge 10: Institutionalizing Innovative Capability. The business was formed because of the innovative characteristic of the founding entrepreneur. Now it will be time for this characteristic to be transferred to the business. Evidence of a distinct innovative influence within a small business is shown by the establishment of a research and development function.

In summary, the entrepreneurial process or entrepreneurial act involves four challenging periods for the founding entrepreneur, as follows: 1. Preparing the Venture: During this period the founding entrepreneur will recognize an opportunity, and will proceed to develop a product or service in response to this opportunity. 2. Launching the Venture: To begin carrying out the business sources of funding will be identified and contact may be made with potential customers. 3. Growing the Venture: A viable small business may increase or stabilize sales of products or services and may develop new products or services. With increased sales volumes employees may be hired. Experience in carrying out business operations will allow for the development of repeatable processes. 4. Exiting the Venture: At some point in time the founding entrepreneur will leave the small business. The departure may be

179

 Entrepreneurs’ Contributions to Small Business

through the sale of the business or succession in that the small business is passed to a subsequent generation. Given the context of small business and entrepreneurship the following sections document management issues related to small business success and failure.

SMALL BUSINESS “SUCCESS” A small business must first make a profit to survive. However, beyond this point of survival, “success” may be defined from two perspectives. One perspective suggests growth as a measure for success (Smallbone & Wyer, 2000; Dobbs & Hamilton, 2007). Thus, success is measured by growth in revenues, number of employees, and consequently an increase in asset base. The second perspective proposes that over time the growth path of a small business may not continue upward (Tan et al, 2009). Indeed, the small business owner/ manager may become less growth-oriented as their personal motivations change (Westhead & Wright, 1999). They become satisfied with a certain level of performance and income. Their desire to maintain control leads them to a decision not to grow further. Support for this perspective was found by Hunter and Kazakoff (2008). Some of their research participants were content with the volume of their operations. Others realized that a small increase in the volume of output (house building) would lead to a significant increase in expenses (more sub-trades) which, in turn, could financially ruin the small business. If a small business is going to exist for a long time, there must be a focus on empowering employees and facilitating the development of a culture which promotes a learning environment (De Geus, 2002). Given this focus, the small business will retain employees who will adopt an attitude of continuing to search for improvement. Burlingham (2006) identified entrepreneurs

180

who rejected the opportunity for growth. These individuals did not necessarily want to do more; rather, they were content with simply doing better. Note that this attitude does not discount taking an innovative approach to conducting business. This idea was supported by Hunter and Kazakoff (2008) in their study of multi-generation small business. They found that in these long-lived small businesses employees were treated in a positive way as family members and encouraged to adopt innovative approaches to operations. Table 7 presents an overview of small business success factors (Brown, 2007). These seven factors cover the complete range of potential issues which contribute to success. These factors range from managing financial and human resources; conducting efficient operations; keeping customer satisfied; and the effective management of administrative tasks. Unfortunately, this list is missing a measure of the relative importance of each success factor. That is, it would be helpful for the small business owner to not only know about all of these factors, but also to know the factors upon which to focus. So, while all seven factors contribute to success of the small business, what is their level of relative importance of the factors? An attempt to answer this question will be made by identifying failure factors and subsequently comparing the lists of factors relating to both success and failure.

SMALL BUSINESS FAILURE A review of the extant literature about small business failures reveals a number of categories, such as basic definitions; liabilities; poor management; and the resource-based view of the firm. A number of articles address the basic definitions surrounding small business failure research. Watson (2003) discusses different definitions of small business failure. One is “discontinuance of ownership” (Bruderl et al, 1992; Churchill, 1952; Ganguly, 1985; Hutchinson et al, 1938; Phillips

 Entrepreneurs’ Contributions to Small Business

Table 7. Success factors Factor Finance and Accounting

Human Resources

Operations and Production

Marketing and Sales

Customer Service

Information Management

Description “…have an understanding of the process for raising capital, managing cash flow, and reading basic financial statements such as a balance sheet and an income statement.” (Brown, 2007:16) “…issues…should be considered during the process of hiring, managing, and firing employees. [With] established policies beforehand [employers] will be able to better resolve conflict when it arises.” (Brown, 2007:17) “…source required raw materials, finished products, or other supplies. [Then] use these inputs to generate outputs such as sales revenue and profits.” (Brown, 2007:17) “Marketing involves everything that gets the customer through the door, makes the sale, and keeps the customer satisfied after the sale…it is also essential to understand your competition. Raising awareness is essentially advertising.” (Brown, 2007:17) “Establishing a defined plan of action for customer interactions will help in dealing with any situation that could arise and will ensure better customer relations and satisfaction.” (Brown, 2007:18) “Information management is the function of managing the business’s information resources, which includes creating the information stream necessary to support the business’s operations. With the growing impact of computers in business, information technology is at the forefront of information management.” (Brown, 2007:18)

Administration

“Administration will plan, delegate, coordinate, control, and lead.” (Brown, 2007:18)

Adapted from Brown (2007)

& Kirchoff, 1989; Stewart & Gallagher, 1986; Watson & Everett, 1999) where the business is sold to someone else. Another definition is “discontinuance of business” (Bates, 1995; Bates & Nucci, 1989; Birley, 1986; Cooper et al, 1988; Dekimpe and Morrison, 1991; Dunne et al, 1989; Hamilton, 1984; Price, 1984; Reynolds, 1987; Stanworth, 1995; Tauzell, 1982). In this case, the business ceases operation. Yet another commonly used definition is “bankruptcy” (Fredland & Morris, 1976; Lowe et at, 1991; Watson & Everett, 1999) which represents the formal process of liquidating the business assets. Beaver (2003) suggests that, “… failure can no longer be regarded in terms of the traditional, inflexible paradigm of the cessation of trading.” (Beaver, 2003:119). Thus, he suggests that success or failure should be regarded from the perspective of the attainment of objectives held by stakeholders in the business.

Cressy (2006) suggested failure occurs, “… when the firm’s value falls below the opportunity cost of staying in business.” (Cressy, 2006:103). He explored this definition through an analysis of risk tolerance of small business owner/managers. Internally, the owner/manager will address a risk situation by adopting innovative business processes. Externally risk is evident in the owner/ manager’s response to attempting to effectively manage uncontrollable environmental events. Gilmore et al (2004) suggest that owner/managers respond to risk by employing their managerial competencies or relying on networking. The terms “liability of newness” and “liability of smallness” are also employed by Liao et al (2008/2009). Newness relates to the lack of a track record in dealing with external entities. New businesses have yet to establish efficient business routines and effective management structures (Mellahi & Wilkinson, 2004). The concept of

181

 Entrepreneurs’ Contributions to Small Business

the liability of newness has been investigated by Jovanovic (1982), Mata and Portugal (1994, 1999), Bruderl et al., (1992), Honjo (2000), and Wagner (1994). Smallness suggests a lack of necessary resources (human and financial) along with the ability to attract these needed resources (Mellahi & Wilkinson, 2004). A number of researchers comment on the liability of smallness (Strotmann, 2007; Mata et al, 1995; Agarwal & Audretsch, 1999, 2001; Agarwal & Gort, 1996; Agarwal, 1997, 1998). Both of these liabilities may contribute to discontinuance. An over-arching reason for small business failure relates to “poor management”. A number of investigations support this contention (Beaver, 2003; Dun & Bradstreet, 1991; Gibb & Webb, 1980; Lauzen, 1985; McNight, 1990). Van Gelder et al (2007) took a psychological perspective to investigate the differences between failed and operational businesses. They determined that failed entrepreneurs did not develop a long term planning strategy but instead were simply reactive to situations as they arose. They also determined there was little difference between the two groups based upon experience and education. Thus, as Bruderl et al (1992) found, it is perhaps more important to organize and manage generic business processes and to be able to identify business opportunities. Liao et al (2008/2009) employed the resourcebased view of the firm to investigate “entrepreneurial discontinuance”. They refer to Headd (2003) who determined that one third of small businesses which closed within four years of start-up were considered by the owner/manager to have actually been successful. Their results are presented in reference to human, social, and financial capital. They determined that small business is susceptible to failure when there is a deficiency in human capital in the form of education and management experience. Interestingly, their results show that industry-specific experience actually contributed to discontinuance. They suggest that industry experience may result in less innovation and a more entrenched approach to existing ways of operating.

182

Earlier, Bruderl et al (1992) had determined that small business owner/managers with high human capital were more productive in organizing and managing business processes, and better able to recognize attractive business opportunities. Social capital involves how individuals interact within relationships communities and networks (Burt, 1997; Nahapiet & Ghosal, 1998). Liao et al (2008/2009) determined that social capital played a limited role. However, they did assume that a lack of social capital may lead to discontinuance. Financial capital relates to the ability to raise funds from personal sources such as family and friends. Here, Liao et al (2008/2009) found that financial capital was important, especially personal funding. A lack of funding results in constant pressure to obtain necessary financial resources and creates a distraction from a focus on the business. Esteve-Perez and Manez-Castillejo (2008) also employed the resource-based view of the firm to investigate survival. They determined that the survival rate increases when the firm develops distinct capabilities which support a response to a changing competitive environment. Firm specific assets may be developed through advertising and research and development initiatives. Advertising lets more potential customers know about the firm’s products or services. Research and development improves the firm’s competitive position and creates an innovative environment. Mukherji et al (1999) investigated firms which were considered to be declining. They employed a framework consisting of three levels of impacts on the firm presented in Table 8. One level is the firm itself and its set of resources and internal competencies. The second level is the industry in which the firm operates. The overall industry performance will impact the operation of the firm. The third level takes a macro perspective and includes dimensions related to available technology, the economy, and domestic and international politics. The concepts of this framework are employed later in this section through the identification of impacts related to those which are controllable and

Downturn in the Economy

Access to Financial Capital Market Decline Competition Uncontrollable

Uncontrollable

Industry

Macro

Adapted from Mukherji et al (1999)

Controllable Organization

Levels

Framework

Table 8. Forces impacting the firm

Theme

Business Plan Business Perspective Personal Advice Compliance Growth

Research Results

Components

 Entrepreneurs’ Contributions to Small Business

those which are not controllable from the owner/ manager’s perspective. It is noted (Dun & Bradstreet, 1991) that two thirds of the issues causing small business failures are controllable leaving one third as uncontrollable. A controllable issue will be dealt with by the small business owner through specific action. With regards to uncontrollable issues the small business owner will find it necessary to respond in some way. Thus, it is either the action taken or the response that will affect the performance of the small business and may contribute to its success or failure. Thus, Mukherji et al (1999) suggest the necessity to include an assessment of information from all three levels of the framework to be able to attempt to manage the performance of the small business at an optimal level. While issues exist over which the small business owner/manager has no control, it is important to deal with the specific issue within the context of the small business. Thus, the small business owner/manager must be able to assess the situation, determine acceptable alternatives, decide which alternative to adopt, and proceed to implement the selected alternative – all the while remaining cognizant of the potential necessity for further change. There are some individuals who have the ability to learn from the failure of their small business. They may have tried to start and operate a small business. But, for many reasons the business may have failed. These individuals are able to assess and learn from these issues. This learning experience contributes to the potential success of a subsequent small business venture. An earlier comment suggested the individual should think of their efforts as a business and not a job. Taking this business-oriented approach means the individual recognizes that the venture, as an entity unto itself, takes on a life of its own. Plans and processes must be established and maintained or modified to facilitate the on-going operation of the business. It must not be treated as a financial pipeline to address personal desires. It must be

183

 Entrepreneurs’ Contributions to Small Business

nurtured and allowed to survive and potentially grow. The small business owner/manager must continue to remain involved either directly or in setting and maintaining the direction for the business. A focus on the business and a passion to see it succeed must be maintained. Table 9 presents an overview of small business failure factors (O’Connell, 2004). There are 10 factors which contribute to failure of they are either lacking or mismanaged. A review of these factors indicates they are mainly associated with “soft” skills. They range from communication; interpersonal relationships; adapting to change; teamwork; and the generic administrative functions of planning, organizing, staffing, directing, and controlling. Again, what is missing is a comment on the relative level of importance of these small business failure factors. A comparison of the success and failure factors will respond to this issue.

DISCUSSION Table 10 presents a comparison of the success factors in Table 7 and the failure factors in Table 9. Interestingly, eight of the 10 failure factors from Table 9 can be mapped onto just one of the success factors in Table 7 – Administration. The two failure factors that are not directly related to the success factor of Administration are (3) poor job mismatch; and (5) delegation and empowerment breakdowns. Both of these failure factors more closely relate to the success factor of Human Resources. The other eight failure factors relate to the success factor of Administration. Generally, they involve such aspects as communication, interpersonal skills, direction, change, teamwork, trust, motivation, and planning. This Administration factor is the single aspect which many small business owners do not possess. They will certainly have a passion for the product or service. Their idea to form a small business will have been based

184

upon the provision of a product or service about which they are probably quite knowledgeable. Furthermore, because of this passion they are probably capable of working with potential customers to explain the benefits of their product or service. This leaves little (or no) time or interest to spend on the administrative aspects described in the previous discussion. An over-arching reason for small business failure relates to “poor management”. A number of investigations support this contention (Beaver, 2003; Dun & Bradstreet, 1991; Gibb & Webb, 1980; Lauzen, 1985; McNight, 1990). Van Gelder et al (2007) took a psychological perspective to investigate the differences between failed and operational businesses. They determined that failed entrepreneurs did not develop a long term planning strategy but instead were simply reactive to situations as they arose. They also determined that there was little difference between the two groups based upon experience and education. Thus, as Bruderl et al (1992) found, it is perhaps more important to organize and manage generic business processes and to be able to identify business opportunities. Another perspective which may be considered relates to the generic three pillars upon which the small business functions. All three pillars must be in place to support the small business. If one of the three pillars is missing or otherwise not functioning properly financial distress may arise and contribute to failure. If two of the three pillars are missing there may be an impending catastrophe for the small business. The three important components relate to product/service, marketing, and administration. Figure 3 relates Success Factors and Failure Factors to the three generic pillars. The first pillar, product/service, is usually addressed by the skills of the owner/manager. That is, the small business may be formed by an individual who possesses the necessary skill to provide the product/service. For instance, the skill may relate to a trade such as plumbing or electrical.

 Entrepreneurs’ Contributions to Small Business

Table 9. Failure factors Factor

Description

Ineffective communication skills/practices

“Poor communication leaves employees in a cloud of uncertainty and stress that makes it difficult to make informed business decisions for managers and employees alike.” (O’Connell, 2004:27)

Poor work relationships and interpersonal skills

“The inability to foster effective working relationships isolates managers from the informal network of knowledge and resources that are necessary to cope with change.” (O’Connell, 2004:27)

Person job mismatch

“Changing roles and job descriptions put managers in challenging positions they are ill-equipped to fulfil resulting in poort performance for the managers and those who depend on their performance to get results.” (O’Connell, 2004:27)

Fail to clarify direction/ performance expectations

“Failing to provide a clear sense of direction and to clarify performance expectations hurts planning, motivation, resource allocation, and ultimately, the ability to navigate through uncertainty.” (O’Connell, 2004:27)

Delegation and empowerment breakdowns

“Ineffective delegation and empowerment practices contribute to confusion and immobilize staff and resources.” (O’Connell, 2004:27)

Failing to adapt and break old habits

“Failing to adapt and/or break old habits perpetuates behaviours and actions that are no longer valuable to the organization.” (O’Connell, 2004:27)

Unable to develop teamwork/ cooperation

“Without teamwork and cooperation, conflict and agendas of self-preservation will destroy collective performance.” (O’Connell, 2004:27)

Lack of personal integrity and trust

“A lack of integrity and trust negatively affects the managerial credibility that is essential for employees to buy-in to the change and move forward in the face of uncertainty.” (O’Connell, 2004:27)

Unable to lead/motivate others

“Failure to gain the commitment of employees leads to an attitude of minimal performance at a time when change requires extra effort.” (O’Connell, 2004:27)

Poor planning practices/ reactionary behaviour

“Poor planning practices and reactionary behaviour create disruptive crises that damage confidence, performance, and morale.” (O’Connell, 2004:27)

Adapted from O’Connell (2004)

It is imperative the owner/manager remain current with regards to related processes and applicable technology. Failure to maintain a current skill set may affect product/service demand resulting in financial distress. This pillar relates to the success factor in Table 7 which is labelled Operations and Production describing the sourcing of raw materials and producing finished products. This factor may apply equally as well to the development and provision of a service. It is interesting to note that no failure factors relate to this pillar. The second pillar is marketing. In order to initially obtain financing, the owner/manager must

prove to a financial institution there is a market for the product/service. Unfortunately, demand for the product/service could wane due to market demand or competition, thus resulting in financial distress. The success factors in Table 7 which relate to this pillar include Marketing and Sales, and Customer Service. These factors involve all aspects of customer relations through the sale to subsequent satisfaction. Again, as above, no failure factors relate to this pillar. The third pillar, and the one aspect which seems to contribute the most to financial distress, relates to Administration. This component may be

185

 Entrepreneurs’ Contributions to Small Business

Table 10. Comparison of success and failure factors

described in relation to managing employees and accounting. As a small business grows more and new skills will be required. While it is necessary to acquire these skills, it is more important to create an environment which facilitates retention of the individuals who possess the necessary skills. This environment may be created through remuneration and/or a positive work place involving employee empowerment. The accounting function also has the potential to create financial distress. Receivables must be collected in a timely manner in order to sustain cash inflows. Payables and payroll must be managed judiciously regarding cash outflows in concert with the receivables. Further, it is imperative to respond to the requirements of source deductions as specified by domestic taxation agencies. When considering the components of this third pillar, in relation to the success fac-

186

tors in Table 7, two cub-categories emerge. These categories relate to technical aspects and the management function. Technical aspects involve the success factors of Finance and Accounting; and Information Management. This leaves two further success factors from Table 7. They are Human Resources and Administration. As noted earlier the failure factors for Human Resources from Table 9 are Poor Job mismatch and Delegation and Empowerment Breakdown. The final success factor for this pillar relates to Administration and deserves a more detailed presentation because of its importance. Table 11 provides this detail. The above Table shows the most important aspect of success factor for Administration is leadership. Overall, Administration is the most important success factor as well as the most

 Entrepreneurs’ Contributions to Small Business

Figure 3. Success and failure factors with pillars

important pillar. This is suggested because of the high number of failure factors related to this

success factor relative to the other success factors. Thus, the most important factor which contributes

187

 Entrepreneurs’ Contributions to Small Business

Table 11. Administration: Detailed comparison Brown, 2007

O’Connell, 2004

Plan

Poor Planning practices/reactionary behaviour

Delegate

Poor Work Relationships and interpersonal skills

Co-ordinate

Unable to develop teamwork/cooperation

Control

Fail to clarify direction/performance expectations

Lead

Ineffective communication skills/practice Failing to adapt and break old habits Lack of personal integrity and trust Unable to lead/motivate personnel

to success, especially in consideration of failure factors relates to Administration, and within this factor leadership is the most significant element. This suggestion does not preclude the importance of all the other factors. It is simply one regarding the relative importance of all the success factors in relation to the off-setting aspects of failure factors which represents the response to the initial objective of this chapter. Further, these soft skills may be impacted by different societal cultures. Thus, collective cultures may place more emphasis on relationships and networking than would more individualistic cultures. However, Hunter and Kazakoff (2008) determined that long-term personal relationships were also considered important for Canadian multi-generation small businesses.

CONCLUSION This chapter has presented a comparison of success and failure factors of small business in an attempt to determine the relative importance of the two sets. By mapping both sets of factors onto the analogy of pillars, it was shown that the more important consideration relates to Administration. It is noted that the other pillars of Product/Service and Marketing are necessary, but Administration involves the most aspects for consideration of both success and failure. This means the small business owner/manager must not ignore the Administration

188

function. Unfortunately, this is usually the case where the small business owner/manager focuses on providing the Product/Service and dealing with customer (Marketing). As such, there is usually little or no time remaining or skills available to support the important Administrative function. However, it is ignored by the owner/manager at the peril of the small business.

REFERENCES Agarwal, R. (1997). Survival of Firms over the Product Life Cycle. Southern Economic Journal, 63(3), 571–584. doi:10.2307/1061095 Agarwal, R. (1998). Evolutionary Trend of Industry Variables. International Journal of Industrial Organization, 16(40), 511–526. doi:10.1016/ S0167-7187(97)00004-0 Agarwal, R., & Audrestsch, D. B. (1999). The Two Views of Small Firms in Industry Dynamics: A Reconciliation. Economics Letters, 62(2), 245–251. doi:10.1016/S0165-1765(98)00234-1 Agarwal, R., & Audrestsch, D. B. (2001). Does Entry Size Matter? The Impact of the Life Cycle and Technology on Firm Survival. The Journal of Industrial Economics, 49(1), 21–43. doi:10.1111/1467-6451.00136

 Entrepreneurs’ Contributions to Small Business

Agarwal, R., & Gort, M. (1996). The Evolution of Markets and Entry, Exit and Survival of Firms. The Review of Economics and Statistics, 78(3), 489–498. doi:10.2307/2109796 Ang, J. (1991). Small Business Uniqueness and the Theory of Financial Management. The Journal of Small Business Finance, 1(1), 1–13. Ang, J. (1992). On the Theory of Finance for Privately Held Firms. The Journal of Small Business Finance, 1(3), 185–203. Anonymous, . (2006). How to Succeed in Small Business. Maclean’s, 119(40), 49–57. Argiles, J. M., & Slof, E. J. (2003). The Use of Financial Accounting Information and Firm Performance: An Empirical Quantification for Farms. Accounting and Business Review, 33(4), 251–273. doi:10.1080/00014788.2003.9729653 Arregle, J., Hitt, M. A., Sirmon, D. G., & Very, P. (2007). The Development of Organizational Social Capital: Attributes of Family Firms. Journal of Management Studies, 44(1), 73–95. doi:10.1111/j.1467-6486.2007.00665.x Barach, J. A., Gantisky, J., Carson, J. A., & Doochin, B. J. (1988). Entry of the Next Generation: Strategic Challenge for Family Business. Journal of Small Business Management, 26(2), 49–56. Barney, J. (1991). Firm Resources and Sustained Competitive Advantage. Journal of Management, 17(1), 99–120. doi:10.1177/014920639101700108 Barry, B. (1978). Organization Design in the Smaller Enterprise. In D. T. Bryant & R. J. Niehaus (Eds.), Manpower, Planning and Organization. New York: Plenium Press. doi:10.1007/978-14613-4622-7_13 Bates, T. (1995). A Comparison of Franchise and Independent Small Business Survival Rates. Small Business Economics, 7(5), 377–388. doi:10.1007/ BF01302738

Bates, T., & Nucci, A. (1989). An Analysis of Small Business Size and Rate of Discontinuance. Journal of Small Business Management, 27(4), 1–7. BDC. (2006). BDC Perspective: Make the right exit choices. Business Development Bank of Canada. Retrieved on March 23, 2014, from: www.bdc.ca/en/my_project/Projects/articles/ succession_bdc_perspective.htm Beaver, G. (2003). Small Business: Success and Failure. Strategic Change, 12(3), 115–122. doi:10.1002/jsc.624 Ben-Ishai, S. (2004). Technically the King can do Wrong in Reorganizing Insolvent Corporations: Evidence from Canada. International Insolvency Review, 13(2), 115–136. doi:10.1002/iir.121 Berry, L. L. (1983). Relationship Marketing. In L. L. Berry, G. L. Shostack, & G. D. Upah (Eds.), Emerging Perspectives on Service Marketing. Chicago: American Marketing Association. Birley, S. (1986). The Role of New Firms: Births, Deaths, and Job Creation. Strategic Management Journal, 7(4), 361–376. doi:10.1002/ smj.4250070406 Bjuggren, P., & Sund, L. (2002). A Transaction Cost Rationale for Transition of the Firm within the Family. Small Business Economics, 19(2), 123–134. doi:10.1023/A:1016289106477 Boot, A. (2000). Relationship Banking: What do we know? Journal of Financial Intermediation, 9(1), 7–25. doi:10.1006/jfin.2000.0282 Brown, R. B., & Coverly, R. (1999). Succession Planning in Family Businesses: A Study from East Anglia, UK. Journal of Small Business Management, 37(1), 93–97. Brown, S. (2007). Seven Skills for the Aspiring Entrepreneur. Business and Economic Review, 53(2), 16–18.

189

 Entrepreneurs’ Contributions to Small Business

Bruderl, J., Preisendorfer, P., & Ziegler, R. (1992). Survival Chances of Newly Founded Business Organizations. American Sociological Review, 57(2), 227–242. doi:10.2307/2096207

Chaganti, R. W., & Chaganti, R. (1983). A Profile Profitable and Not-so-profitable Small Businesses. Journal of Small Business Management, 21(3), 126–137.

Bruner, J. (1990). Acts of Meaning. Cambridge, MA: Harvard University Press.

Chaganti, R. W., Cook, R. G., & Smeltz, W. J. (2002). Effects of Styles, Strategies and Systems on the Growth of Small Businesses. Journal of Developmental Entrepreneurship, 7(2), 175–193.

Burlingham, B. (2006). In Search of Small Giants. Inc. Magazine, 28(2), 84-87. Burt, R. S. (1997). The Contingent Value of Social Capital. Administrative Science Quarterly, 42(2), 339–363. doi:10.2307/2393923 Cardwell, M. (1994). Customer Care Strategy for the ‘90s. Cheltenham, UK: Thomas. Carland, J. W., Carland, J. C., & Ensley, M. (2002). Hunting the Heffalump: The Theoretical Basis and Dimensionality of the Carland Entrepreneurial Index. Academy of Entrepreneurship Journal, 7(2), 51–84. Carland, J. W., Hoy, F., Boulton, W. R., & Carland, J. C. (1984). Differentiating Entrepreneurs from Small Business Owners: A Conceptualization. Academy of Management Review, 9(2), 354–359. Carter, R., & Van Auken, H. (2006). Small Firm Bankruptcy. Journal of Small Business Management, 44(4), 493–512. doi:10.1111/j.1540627X.2006.00187.x Casson, M. (2003). Entrepreneurship, Business Culture and the Theory of the Firm. In Z. J. Acs & D. B. Audretch (Eds.), Handbook of Entrepreneurship Research: An Interdisciplinary Survey and Introduction (pp. 223–246). Dordretch, The Netherlands: Kluwer Academic Publishers. Cater, J. J. III, Beal, B. D., & Justis, R. T. J. (2006). Fourth-Generation Success: A Conversation with Karen Rabenhorst Kerr of Rabenhorst Funeral Homes. Journal of Applied Management and Entrepreneurship, 11(3), 78–89.

190

Churchill, B. C. (1952). Survival Patterns of the Postwar Business Population. Survey of Current Business, 32(12), 12–19. CIBC World Markets Inc. (2005). CIBC Small Business. CIBC World Markets Inc. Cole, R. A., & Wolken, J. D. (1996, November). Bank and Nonbank Competition for Small Business Credit: Evidence from the 1987 and 1993 National Surveys of Small Business Finances. Federal Reserve Bulletin, 983-995. Cook, G. A. S., Pandit, N. R., & Milman, D. (2011). A Resource-Based Analysis of Bankruptcy Law, SMEs and Corporate Recovery. International Small Business Journal, 30(3), 275–293. doi:10.1177/0266242611407409 Cooper, A. C., Dunkelberg, W. C., & Woo, C. Y. (1988). Survival and Failure: A Longitudinal Study. Wellesley, MA: Frontiers of Entrepreneurship Research, Babson College. Couwenberg, O. (2001). Survival Rates in Bankruptcy Systems: Overlooking the Evidence. European Journal of Law and Economics, 12(3), 253–273. doi:10.1023/A:1012821909622 Cressy, R. (2006). Why Do Most Firms Die Young? Small Business Economics, 26(2), 103–116. doi:10.1007/s11187-004-7813-9 Czarniawska-Joerges, B. (1995). Narration or Science? Collapsing the Division in Organization Studies. Organization, 2(1), 11–33. doi:10.1177/135050849521002

 Entrepreneurs’ Contributions to Small Business

Davidsson, P., & Delmar, F. (1997). High-growth Firms: Characteristics, Job Contribution and Method Observation. Paper presented at RENTXI Conference. Mannheim, Germany. De Clercq, D., Menzies, T. V., Diochan, M., & Gasse, Y. (2009). Explaining Nascent Entrepreneurs’ Goal Commitment: An Exploratory Study. Journal of Small Business and Entrepreneurship, 22(2), 123–140. doi:10.1080/08276331.2009.10 593446 De Geus, A. (2002). The Living Company: Habits for Survival in a Turbulent Environment. Boston: Harvard Business School Press. Deakins, D., Morrison, A., & Galloway, L. (2002). Evolution, Financial Management and Learning in the Small Firm. Journal of Small Business and Enterprise Development, 9(1), 7–16. doi:10.1108/14626000210419446 Deeks, J. (1973). The Small Firm – Asset or Liability? Journal of Management Studies, 10(1), 25–47. doi:10.1111/j.1467-6486.1973.tb00499.x Degryse, H., & Van Cayseele, P. (2000). Relationship Lending within a Bank-based System: Evidence from European Small Business Data. Journal of Financial Intermediation, 9(1), 90–109. doi:10.1006/jfin.1999.0278 Dekimpe, M. G., & Morrison, D. G. (1991). A Modeling Framework for Analyzing Retail Store Durations. Journal of Retailing, 67(1), 68–92. Delmar, F., & Davidsson, P. (2000). Where do they come from? Prevalence and Characteristics of Nascent Entrepreneurs. Entrepreneurship and Regional Development, 12(1), 1–23. doi:10.1080/089856200283063 Denison, D. C., Lief, C., & Ward, J. L. (2004). Culture in Family-owned Enterprises: Recognizing and Leveraging Unique Strengths. Family Business Review, 17(1), 61–70. doi:10.1111/j.17416248.2004.00004.x

Department for Business and Innovation Skills. (2013). Small Business: Great Ambition. Business Population Estimates for the UK and Regions. Retrieved January 8, 2014, from: https://www. gov.uk/government/uploads/system/uploads/ attachment_data/file/266212/bis-13-1313-smallbusiness-great-ambition-FINAL.pdf DeThomas, A. R., & Fredenberger, W. B. (1985). Account need of a very Small Business. The CPA Journal, 55(10), 14–23. Dobbs, M., & Hamilton, R. T. (2007). Small Business Growth: Recent Evidence and New Directions. International Journal of Entrepreneurial Behaviour and Research, 13(5), 296–322. doi:10.1108/13552550710780885 Donnelly, R. (1964). The Family Business. Harvard Business Review, 42(2), 93–105. Drucker, P. F. (1998). The Discipline of Innovation. Harvard Business Review, 76(5), 143–159. PMID:10187245 Dun & Bradstreet. (1991, June). Press Release June. Author. Dunn, B. (1995). Success Themes in Scottish Family Enterprises: Philosophies and Practices through the Generations. Family Business Review, 8(1), 17–28. doi:10.1111/j.1741-6248.1995.00017.x Dunne, T., Roberts, M. J., & Samuelson, L. (1989). The Growth and Failure of U.S. Manufacturing Plants. The Quarterly Journal of Economics, 104(4), 672–698. doi:10.2307/2937862 Dyer, W. G. (2006). Examining the ‘Family Effect’ on Firm Performance. Family Business Review, 19(4), 253–273. doi:10.1111/j.17416248.2006.00074.x Dyt, R., & Halabi, A. K. (2007). Empirical Evidence Examining the Accounting Information Systems and Accounting Reports of Small and Micro Business in Australia. Small Enterprise Research, 15(2), 1–9. doi:10.5172/ser.15.2.1

191

 Entrepreneurs’ Contributions to Small Business

Esteve-Perez, S., & Manez-Castillejo, J. A. (2008). The Resource-Based Theory of the Firm and Firm Survival. Small Business Economics, 30(3), 231–249. doi:10.1007/s11187-006-9011-4 European Parliament. (n.d.). Retrieved on June 6, 2002, from: www.europarl.eu.int/dg4/factsheets/ en/4_14_0.htm Fiegener, M. K., Brown, B. M., & Prince, R. A., Prince, & File, K. M. (1996). Passing on Strategic Vision: Favored Modes of Successor Preparation by CEOs of Family and Non-family Firms. Journal of Small Business Management, 34(3), 15–26. Floren, H. (2006). Managerial Work in Small Firms: Summarising What We Know and Sketching a Research Agenda. International Journal of Entrepreneurial Behaviour and Research, 12(5), 272–288. doi:10.1108/13552550610687646 Fombrun, C. J. (1996). Reputation: Realizing Value from the Corporate Image. Boston: Harvard Business School. Franks, J. R., & Torous, W. N. (1992). Lessons from a Comparison of US and UK Insolvency Codes. Oxford Review of Economic Policy, 8(3), 70–82. doi:10.1093/oxrep/8.3.70 Fredland, E. J., & Morris, C. E. (1976). A CrossSection Analysis of Small Business Failure. American Journal of Small Business, 1(1), 7–18. Friedman, S. (1989). Conflict Inherited: Sibling Rivalry in Family Firms. Paper presented at the Academy of Management Meetings. Washington, DC.

Gibb, A., & Webb, T. (1980). Policy Issues in Small Business Research. Andover, MD: Teakfield. Gilmore, A., Carson, D., & O’Donnell, A. (2004). Small Business Owner-Managers and their Attitude to Risk. Marketing Intelligence & Planning, 22(2/3), 349–350. doi:10.1108/02634500410536920 Glaser, B. G. (1978). Theoretical Sensitivity. Mill Valley, CA: The Sociology Press. Glaser, B. G., & Strauss, A. L. (1967). The Discovery of Grounded Theory: Strategies for Qualitative Research. New York: Aldine De Gruyter. Halabi, A. K., Barrett, R., & Dyt, R. (2010). Understanding Financial Information used to Assess Small Firm Performance. Qualitative Research in Accounting and Management, 7(2), 163–179. doi:10.1108/11766091011050840 Hamilton, B. (1984). Entry and Exit of Business in Scotland. In J. Lewis, J. Stanworth, & A. Gibb (Eds.), Success and Failure in Small Business (pp. 57–69). Aldershot, UK: Gower. Handler, W. C. (1991). Key Interpersonal Relationships of Next-Generation Family Members in Family Firms. Journal of Small Business Management, 29(3), 21–32. Headd, B. (2003). Redefining Business Success: Factors Leading to Surviving and Closing Successfully. Small Business Economics, 21(1), 51–61. doi:10.1023/A:1024433630958

Ganguly, P. (Ed.). (1985). U.K. Small Business Statistics and International Comparisons. London: Harper and Row.

Honjo, Y. (2000). Business Failure of New Firms: An Empirical Analysis Using a Multiplicative Hazards Model. International Journal of Industrial Organization, 18(4), 557–574. doi:10.1016/ S0167-7187(98)00035-6

Gersick, K. E., Davis, J. A., Hampton, M. M., & Lansberg, I. (1997). Generation to Generation: Life Cycles of the Family Business. Boston: Harvard Business School Press.

Hoogstra, G. J., & van Dijk, J. (2004). Explaining Firm Employment Growth: Does Location Matter? Small Business Economics, 22(3/4), 179–190. doi:10.1023/B:SBEJ.0000022218.66156.ac

192

 Entrepreneurs’ Contributions to Small Business

Horton, T. P. (1986). Managing in a Family Way. Management Review, 75(2), 3. Hunter, M. G. (2011). Understanding the Common Causes of Small Business Failures: A Qualitative Study. Journal of Applied Management and Entrepreneurship, 16(1), 87–104. Hunter, M. G., & Kazakoff, D. (2008). Little Empires: Multi-Generation Small Business in Southern Alberta, CANADA. Melbourne, Australia: Heidelberg Press. Hunter, M. G., & Kazakoff, D. (2012). MultiGeneration Small Business Response to the Recent Financial Crisis. Journal of Applied Management and Entrepreneurship, 17(1), 37–51. Hutchinson, R. G., Hutchinson, A. R., & Newcomer, M. (1938). A Study in Business Mortality. The American Economic Review, 28(3), 497–514. Huybrechts, J., Voordeckers, W., Lybaert, N., & Vandemaele, S. (2011). The Distinctiveness of Family-firm Intangibles: A Review and Suggestions for Future Research. Journal of Management & Organization, 17(2), 268–287. doi:10.5172/ jmo.2011.17.2.268 Industry Canada. (2008). Key Small Business Statistics (Catalogue No. Iu186-1/2008-2E). Ottawa, Canada: Canadian Government Publishing Centre. Industry Canada. (2010). Key Small Business Statistics (Catalogue No. Iu186-1/2010-2E). Ottawa, Canada: Canadian Government Publishing Centre. James, H. S. Jr. (1999). Owner as Manager, Extended Horizons and the Family Firm. International Journal of the Economics of Business, 6(1), 41–55. doi:10.1080/13571519984304 Jenkins, M., & Jonson, G. (1997). Entrepreneurial Intentions and Outcomes: A Comparative Causal Mapping Study. Journal of Management Studies, 34(6), 895–920. doi:10.1111/1467-6486.00077

Jovanovic, B. (1982). Selection and the Evolution of Industry. Econometrica, 50(3), 649–670. doi:10.2307/1912606 Kelley, D. J., & Nakosteen, R. A. (2005). Technology Resources, Alliances, and Sustained Growth in New, Technology-based Firms. IEEE Transactions on Engineering Management, 52(3), 292–300. doi:10.1109/TEM.2005.851272 Khan, M. R., & Rocha, J. R. (1982). Recurring Management Problems in Small Business. American Journal of Small Business, 7, 50–58. Lauzen, L. (1985). Small Business Failures are Controllable. Corporate Accounting, 3(3), 34–38. Le Breton-Miller, I., & Miller, D. (2006). Why do some Family Businesses Out-compete? Governance, Long-term Orientations and Sustainable Capability. Entrepreneurship: Theory and Practice, 30(6), 731–746. LeBrassuer, R., Zanibbi, L., & Zinger, T. J. (2003). Growth Momentum in Early Stages of Small Business Start-ups. International Small Business Journal, 21(3), 315–330. doi:10.1177/02662426030213004 Liao, J., Welsch, H., & Moutray, C. (2008/2009). Start-up Resources and Entrepreneurial Discontinuance: The Case of Nascent Entrepreneurs. Journal of Small Business Strategy, 19(2), 1–15. Long, W. A. (1983). The Meaning of Entrepreneurship. American Journal of Small Business, 8(2), 47–56. Long, W. A., & McMullan, W. E. (1984). Mapping the Opportunity Identification Process. In Frontiers of Entrepreneurship Research. Wellesley, MA: Babson College. Longnecker, J., Moore, C., & Petty, J. (1997). Small Business Management. Cincinnati, OH: South-Western College Printing.

193

 Entrepreneurs’ Contributions to Small Business

Lorinc, J. (2011, January/February). Insolvency then and now. CA Magazine, 17-22. Lowe, J., McKenna, J., & Tibbits, G. (1991). Small Firm Growth and Failure: Public Policy Issues and Practical Problems. Economic Papers, 10(2), 69–81. doi:10.1111/j.1759-3441.1991.tb00858.x Lubatkin, M., Schulze, W., Ling, Y., & Dino, R. (2005). The Effects of Parental Altruism on the Governance of Family-managed Firms. Journal of Organizational Behavior, 26(3), 313–330. doi:10.1002/job.307 Manthey, R., & Balhoff, W. E. (2002). Pass the Baton without Missing a Beat. Journal of Accountancy, 193(3), 43–48. Marriott, N., & Marriott, P. (2000). Professional Accountants and the Development of a Management Accounting Service for the Small Firm: Barriers and Possibilities. Management Accounting Research, 11(4), 475–492. doi:10.1006/ mare.2000.0142 Mata, J., & Portugal, P. (1994). Life Duration of New Firms. The Journal of Industrial Economics, 42(3), 227–246. doi:10.2307/2950567 Mata, J., & Portugal, P. (1999). Technology Intensity, Demand Conditions, and the Longevity of Firms. In D. B. Audretsch & A. R. Thurik (Eds.), Innovation Evolution and Employment (pp. 265–279). Cambridge, UK: Cambridge University Press. Mata, J., Portugal, P., & Guimaraes, P. (1995). The Survival of New Plants, Start-up Conditions and Post-Entry Evolution. International Journal of Industrial Organization, 13(4), 459–481. doi:10.1016/0167-7187(95)00500-5 McCracken, G. (1988). The Long Intervie w . New York: Sage Publicat i o n s . doi:10.4135/9781412986229

194

McKenna, R. (1991). Relationship Marketing: Successful Strategies for the Age of the Customer. Reading, MA: Addison-Wesley. McMahon, R. G. P. (2001). Business Growth and Performance and the Financial Reporting Practices of Australian Manufacturing SMEs. Journal of Small Business Management, 39(2), 152–165. doi:10.1111/1540-627X.00014 McMullan, W. E., & Long, W. A. (1990). Developing New Ventures: The Entrepreneurial Option. San Diego, CA: Harcourt Brace Jovanovich. McNight, C. (1990). Business and Bankruptcy: A Review. The Journal of Finance, 16(3), 43–51. Mellahi, K., & Wilkinson, A. (2004). Organizational Failure: A Critique of Recent Research and a Proposed Integrative Framework. International Journal of Management Reviews, 5-6(1), 21–41. doi:10.1111/j.1460-8545.2004.00095.x Menendez, A. E. (2010). The Ancillary Insolvency Proceeding. International Insolvency Review, 19(2), 99–132. doi:10.1002/iir.182 Michma, J., & Bednarz, L. M. (2006). Small Business in the USA. International Journal of Entrepreneurship and Innovation Management, 6(1/2), 4–17. doi:10.1504/IJEIM.2006.008202 Miles, M. B., & Huberman, A. M. (1994). Qualitative Data Analysis: A New Sourcebook of Methods (2nd ed.). Newbury Park, CA: Sage Publications. Miller, D., & Le Breton-Miller, I. (2003). The Challenges and Advantages of Family Business. Strategic Organization, 1(1), 127–134. doi:10.1177/1476127003001001222 Miller, D., & Le Breton-Miller, I. (2006). Priorities, Practices and Strategies in Successful and Failing Family Businesses: An Elaboration and Test of the Configuration Perspective. Strategic Organization, 4(4), 379–407. doi:10.1177/1476127006069575

 Entrepreneurs’ Contributions to Small Business

Morrison, E. R. (2007). Bankruptcy Decision Making: An Empirical Study of Continuation Bias in Small Business Bankruptcies. The Journal of Law & Economics, 50(2), 381–419. doi:10.1086/511319 Mukherji, A., Desai, A., & Francis, J. (1999). Reclaiming the Environment-Organization Fit: Matching Turnaround Strategies to Environmental Exigencies. The Journal of Business Strategy, 16(1), 27–47. Myers, M. D. (2009). Qualitative Research in Business and Management. Los Angeles, CA: Sage Publications. Nahapiet, J., & Ghoshal, S. (1998). Social Capital, Intellectual Capital, and the Organizational Advantage. Journal of Corporate Finance, 13(5), 829–858. Narva, R. L. (2003). Financing Transitions: Managing Capital and Liquidity in the Family Business. Family Business Review, 16(2), 153–154. Papillon, B. M. (2011). Analysis of the Cost and Distribution of Commercial Insolvency. Office of the Superintendent of Bankruptcy Canada Web site. Penrose, E. T. (1959). The Theory of the Growth of the Firm. New York: John Wiley & Sons. Phillips, B. D., & Kirchoff, B. A. (1989). Formation, Growth and Survival: Small Firm Dynamics in the U.S. Economy. Small Business Economics, 1(1), 65–74. doi:10.1007/BF00389917 Pitt, L. F., & Kannemeyer, R. (2000). The Role of Adaptation in Microenterprise Development: A Marketing Perspective. Journal of Developmental Entrepreneurship, 5(2), 137–155. Price, R. (1984). Small Business Management for Small Business Owner/Managers. Melbourne, Australia: Wadsworth.

Reynolds, P. D. (1987). New Firms’ Societal Contribution versus Survival Potential. Journal of Business Venturing, 2(3), 231–246. doi:10.1016/0883-9026(87)90011-5 Rotefoss, B., & Kolvereid, L. (2005). Aspiring, Nascent, and Fledgling Entrepreneurs: An Investigation of the Business Start-up Process. Entrepreneurship and Regional Development, 17(2), 109–127. doi:10.1080/08985620500074049 Rotem, Y. (2011). Company Duplication – Plain Fraud or a Poor Man’s Bankruptcy? A Case in the Financial Distress of Small Businesses. International Insolvency Review, 20(2), 131–159. doi:10.1002/iir.193 Sarra, J. (2003). Entre Loup et Chien: Restructuring under Canadian Insolvency Law and Proposals for Legislative Reform. International Insolvency Review, 12(2), 83–111. doi:10.1002/iir.110 Sarra, J. (2004). Ethics and Conflicts, the Role of Insolvency Professionals in the Integrity of the Canadian Bankruptcy and Insolvency System. International Insolvency Review, 13(3), 167–212. doi:10.1002/iir.123 Sarra, J. (2009). Failure to Capture the Brass Ring: An Empirical Study of Business Bankruptcies and Proposals under the Canadian Bankruptcy and Insolvency Act. CIF Website, Lloyd Houlden Research Fellowship. Scholes, R. (1981). Language, Narrative, and AntiNarrative. In W. Mitchell (Ed.), On Narrativity (pp. 200–208). Chicago: University of Chicago Press. Schulze, W. S., Lubatkin, M., & Dino, R. H. (2003). Exploring the Agency Consequences of Ownership Dispersion among the Directors of Private Family Firms. Academy of Management Journal, 46(2), 179–194. doi:10.2307/30040613

195

 Entrepreneurs’ Contributions to Small Business

Schulze, W. S., Lubatkin, M., Dino, R. H., & Buchholtz, K. (2001). Agency Relationships in Family Firms: Theory and Evidence. Organization Science, 12(2), 99–116. doi:10.1287/ orsc.12.2.99.10114 Small Business Administration. (2010). Retrieved July 19, 2011, from: www.sba.gov Smallbone, D., Leigh, R., & North, D. (1995). The Characteristics and Strategies of High Growth SMEs. International Journal of Entrepreneurial Behaviour and Research, 1(3), 44–56. doi:10.1108/13552559510100657 Smallbone, D., & Wyer, P. (2000). Growth and Development in the Small Firm. In S. Carter & D. James-Evans (Eds.), Enterprise and Small Business. Harlow, UK: Prentice Hall. Stanworth, J. (1995). Penetrating the Mists Surrounding Franchise Failure Rates: Some Old Lessons for New Businesses. International Small Business Journal, 13(2), 59–63. doi:10.1177/0266242695132005 Stavrou, E. T. (1999). Succession in Family Businesses: Exploring the Effects of Demographic Factors on Offspring Intentions to Join and Takeover the Business. Journal of Small Business Management, 37(3), 43–61. Stevenson, H. H. (1999). A Perspective of Entrepreneurship. In H. H. Stevenson, H. I. Grousebeck, M. J. Roberts, & A. Bhide (Eds.), New Business Ventures and the Entrepreneur, (pp. 3-17). Boston: Irwin McGraw-Hill. Stewart, H., & Gallagher, C. (1986). Business Death and Firm Size in the U.K. International Small Business Journal, 4(1), 42–57. doi:10.1177/026624268500400104

Stewart, W. H., & Roth, P. L. (2001). Risk Propensity Differences between Entrepreneurs and Managers: A Meta-Analytic Review. The Journal of Applied Psychology, 86(1), 145–153. doi:10.1037/0021-9010.86.1.145 PMID:11302226 Stewart, W. H. Jr, Watson, W. E., Carland, J. C., & Carland, J. W. (1998). A Proclivity for Entrepreneurship: A Comparison of Entrepreneurs, Small Business Owners, and Corporate Managers. Journal of Business Venturing, 14(2), 189–214. doi:10.1016/S0883-9026(97)00070-0 Strauss, A., & Corbin, J. (1990). Basics of Qualitative Research: Grounded Theory Procedures and Techniques. Newbury Park, CA: Sage Publications. Strotmann, H. (2007). Entrepreneurial Survival. Small Business Economics, 28(1), 87–104. doi:10.1007/s11187-005-8859-z Swap, W., Leonard, D., Schields, M., & Abrams, L. (2001). Using Mentoring and Storytelling to Transfer Knowledge in the Workplace. Journal of Management Information Systems, 18(1), 95–114. Tagiuri, R., & Davis, J. A. (1996). Bivalent Attributes of the Family Firm. Family Business Review, 9(2), 199–208. doi:10.1111/j.17416248.1996.00199.x Tan, J., Fischer, E., Mitchell, R., & Phan, P. (2009). At the Center of Action: Innovation and Technology Strategy Research in the Small Business Setting. Journal of Small Business Management, 47(3), 233–262. doi:10.1111/j.1540-627X.2009.00270.x Tauzell, J. (1982). Survival of Minnesota New Businesses: 1977-1980. Review of Labour and Economic Conditions, 9(2), 10–17. Teece, D. J. (1992). Foreign Investment and Technological Development in Silicon Valley. California Management Review, 34(2), 88–106. doi:10.2307/41166695

196

 Entrepreneurs’ Contributions to Small Business

Thompson, C. J. (1997). Interpreting Consumers: A Hermeneutical Framework for Deriving Marketing Insights from the Texts of Consumers’ Consumption Stories. JMR, Journal of Marketing Research, 34(4), 438–455. doi:10.2307/3151963 Thong, J., Yap, C., & Raman, K. (1994). Engagement of External Expertise in Information Systems Implementation. Journal of Management Information Systems, 11(2), 209–223. Tighe, G., & Silver, D. (2005). Primer to Canadian Insolvency & Bankruptcy Law. Business Credit, 107(7), 33–36. Towriss, S. (2006). Gambling from the Bottom Rung of the Priority Ladder. CIF website, Lloyd Houlden Research Fellowship 2006. Tulving, E. (1972). Episodic and Semantic Memory. In Organization of Memory. New York: Academic Press. Urquhart, C. (2001). An Encounter with Grounded Theory: Tackling the Practical and Philosophical Issues. In M. Trauth (Ed.), Qualitative Research in IS: Issues and Trends (pp. 104–140). Hershey, PA: Idea Group Publishing. doi:10.4018/978-1930708-06-8.ch005 Van Gelder, J.-L., de Vries, R. E., Frese, M., & Goutbeek, J.-P. (2007). Differences in Psychological Strategies of Failed and Operational Business Owners in the Fiji Islands. Journal of Small Business Management, 45(3), 388–400. doi:10.1111/j.1540-627X.2007.00219.x Vlad, D. G. (2011). Economic and Behavioral Influences on Small Business Bankruptcy. Journal of Management Policy and Practice, 12(6), 46–53. Voordeckers, W., Steijivers, T., & Peeters, L. (2010). The Ownership-Performance Relationship: Agency Issues in Private Family Firms. Paper presented at the Annual European Academy of Management, (EURAM) Conference. Rome, Italy.

Wagner, J. (1994). The Post-Entry Performance of New Small Firms in Manufacturing Industries. The Journal of Industrial Economics, 42(2), 141–154. doi:10.2307/2950486 Wagner, J. (2004). What a Difference a Y makes – Female and Male Nascent Entrepreneurs in Germany (IZA Discussion Paper No. 1134). Institute for the Study of Labour, Bonn. Ward, J. L. (1987). Keeping the Family Business Healthy. San Francisco: Jossey Boss. Ward, J. L. (2004). Perpetuating the Family Business. New York: Palgrave MacMillan. doi:10.1057/9780230505995 Ward, J. L., & Aronoff, C. E. (1991). The Power of Patient Capital. Nation’s Business, 79(9), 48–49. Ward, J. L., & Lief, C. (2005). Unconventional Wisdom: Counterintuitive Insights for Family Business Success. Perspectives for Managers, 120, 1–4. Watson, J. (2003). Failure Rates for FemaleControlled Businesses: Are They Any Different? Journal of Small Business Management, 41(3), 262–277. doi:10.1111/1540-627X.00081 Watson, J., & Everett, J. E. (1999). Small Business Failure Rates: Choice of Definition and Industry Effects. International Small Business Journal, 17(2), 33–49. doi:10.1177/0266242699172002 Weinrauch, J. D., Man, K., Robinson, P. A., & Pharr, J. (1991). Dealing with Limited Financial Resources: A Marketing Challenge for Small Business. Journal of Small Business Management, 29(4), 4–54. Welsch, J. A., & White, J. F. (1981). A Small Business is not a Little Big Business. Harvard Business Review, 59(4), 18–32. Wernerfelt, B. (1984). A Resource-based View of the Firm. Strategic Management Journal, 5(2), 171–180. doi:10.1002/smj.4250050207

197

 Entrepreneurs’ Contributions to Small Business

Westhead, P. (2003). Company Performance and Objectives Reported by First and Multi-generation Family Companies: A Research Note. Journal of Small Business and Enterprise Development, 10(1), 93–105. doi:10.1108/14626000310461231

Zontanos, G., & Anderson, A. R. (2004). Relationships, Marketing and Small Business: An Exploration of links in Theory and Practice. Qualitative Market Research, 7(3), 228–236. doi:10.1108/13522750410540236

Westhead, P., Ucbasaran, D., & Wright, M. (2005). Decisions, Actions, and Performance: Do Novice, Serial, and Portfolio Entrepreneurs Differ? Journal of Small Business Management, 43(4), 393–417. doi:10.1111/j.1540-627X.2005.00144.x

KEY TERMS AND DEFINITIONS

Westhead, P., & Wright, M. (1999). Contributions of Novice, Portfolio and Serial Founders Located in Rural and Urban Areas. Regional Studies, 33(2), 157–173. Wiltshire Committee. (1971). Report of the Committee on Small Business. Canberra, Australia: The Government Printer of Australia. Wyer, P., Donohue, S., & Matthews, P. (2010). Fostering Strategic Learning Capability to Enhance Creativity in Small Service Businesses. Service Business, 4(1), 9–26. doi:10.1007/s11628009-0086-2 Zahra, S. A., Hayton, J. C., & Salvato, C. (2004). Entrepreneurship in Family vs. Non-family Firms: A Resource-based Analysis of the Effect of Organizational Culture. Entrepreneurship: Theory and Practice, 28(4), 363–381. Ziegel, J. S. (2002). Corporate Groups and Crossborder Insolvencies: A Canada – United States Perspective. Fordham Journal of Corporate and Financial Law, 7(2), 367–393. Ziegel, J. S. (2010). Canada’s Dysfunctional Insolvency Reform Process and the Search for Solutions. Banking & Finance Law Review, 26(1), 63–83. Zinger, J., LeBrasseur, T. R., & Zanibbi, L. R. (2001). Factors Influencing Early Stage Performance in Canadian Microenterprises. Journal of Developmental Entrepreneurship, 6(2), 129–150.

198

Administration: The formal process necessary to carry out business operations. Entrepreneur: An individual who establishes a business for profit and growth. The person is innovative and risk oriented. Decisions are made about allocating scarce resources. Failure: Involves discontinuance of a business to financial loss/distress. Financial distress may result from poor management such as not developing a viable business plan or the lack of necessary cash flow to support continuing business operations. Growth: Results from increased sales along with maintaining profit margins. Consequently, more employees may be necessary. Eventually, expanding operations may become slower. Performance: This is the process of evaluating business operations. This evaluation may involve analyses of the production process and the finances necessary to continue business operations. Product/Service: What the small business produces/develops and provides to customers/clients. Small Business: An entity which employees few individuals. The entity is controlled by one or two individuals who make all of the operating decisions. Success: Initially, the small business must make a profit. Then, success may be measured by growth or by longevity. Both growth and longevity should reflect the goals of the small business manager.

199

Chapter 9

Public Policymakers:

Export Promotion Programmes and Global Competitiveness in Sub-Saharan Africa Gloria Sraha Victoria University of Wellington, New Zealand

ABSTRACT Many governments use export promotion programmes as a tool to support firms transacting business outside their national borders. Export promotion programmes have the primary objective of getting firms acquitted with foreign market environments in competitive global markets. International markets are more developed and indifferent to national borders, making EPPs an important strategy for export growth in Africa. This chapter explores different export promotion programmes offered in sub-Saharan Africa and contribute to literature on international business. The increasing amalgamation of international markets and high global competition necessitates the adoption of EPPs as an imperative strategy in planning international business. This chapter enriches our understanding of EPPs and how public policymakers have expanded export capacity development programmes to impact knowledge in sub-Saharan Africa. The chapter underscores specific EPPs for utilization to improve export performance of firms in foreign markets and provides practical implications for exporters and public policymakers in Africa.

INTRODUCTION Globalization is a multifaceted set of processes which operates in a contradictory fashion, and simply pulls away power or influence from local communities and nations into the global arena (Arbaugh, Cox, & Camp, 2009). Nations tend to lose some of their economic power as globalization has become a current phenomenon. Globalization is the reason for the revival of competition in different international markets all over the world and has

created new economic direction across countries (Douglas & Craig, 1989). Firms that strive for success in this competitive global phenomenon need to learn quickly about the dissimilarities that exist in their operational contexts (Arbaugh et al., 2009). Firms have to take into consideration the cultural differences and norms, legal and regulatory frameworks and the ever-changing political equation that can thwart their successful operations (Madsen, 1989).

DOI: 10.4018/978-1-4666-6551-4.ch009

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Public Policymakers

The primary concern of many governments is to encourage exports because of globalization. Exporting is promoted by governments around the world as an economic strategy to prosperity in the new global dispensation (Griffith & Czinkota, 2012). Significant resources are devoted to export promotion programmes designed to transfer knowledge and educate exporters operating in foreign markets due to global competition (Martincus & Carballo, 2010). The past two decades have experienced the increase in the number of export promotion programmes (EPPs) in governments’ budgets on the global scale (Freixanet, 2012). Although it is useful to channel monetary resources at developing export promotion programmes in the era of government budgetary cuts and fiscal policies, programme accountability is part of public policy makers’ administrative agenda to ascertain whether these programmes produce any impact on development of national exports (Weaver, Berkowitz, & Davies, 1998). The need to better comprehend firms’ awareness of export promotion programmes and the actual perceived impact on firm’s export activity is critically paramount on the global market (Leonidou, Palihawadana, & Theodosiou, 2011). The increased understanding between exporters and public policy makers will assist match programmes to specific needs, which could positively contribute to export growth. Consequently, carefully crafted export promotion programmes that integrate well into the export activity of firms is more likely to contribute to macro-economic stability and good export leads (Durmuşoğlu, Apfelthaler, Nayir, Alvarez, & Mughan, 2012). Public policy makers have created a whole set of services through both public and private initiatives with the objective of assisting exporting firms to overcome export barriers in the current global business climate (Freixanet, 2012). Export activity is essential from the point of view of nations and firms (Hinson & Sorensen, 2006). To governments exports are significant as it contributes to economic development and accumulation of foreign exchange reserves which shapes

200

national competitiveness (Lages & Montgomery, 2004). Through exporting, firms enhance societal prosperity and help national development by creating jobs (Leonidou, Katsikeas, & Samiee, 2002). International exposure is used by small firms to improve their competitiveness at home through enhanced managerial skills and capability gained from operating in global markets (Madsen, 1987). Hence, firms need to adopt the right combination of resources to increase their export activity on the global scale with government designated export promotion programmes externally available to utilize for performance enhancement (Durmuşoğlu et al., 2012). Exporting is promoted by public policy makers and governments around the world as a strategy to boost economic development in the competitive global dispensation (Griffith & Czinkota, 2012). As such many governments design export assistance to private sector firms through a wide range of programmes to grow exports as an engine of economic growth (Shamsuddoha, Ali, & Nelson, 2009).

EXPORT DEVELOPMENT IN SUB-SAHARAN AFRICA. Many countries in sub-Saharan Africa have embarked on economic reforms to boost their export development, using Ghana as an example in Sub-Sahara Africa, Ghana has been regarded as one of sub-Saharan Africa’s star performers (Coulombe & Wodon, 2007). Ghana is categorised as a lower emerging economy by the World Bank (WDI, 2012). The country enjoys the fortune of a stable political and macroeconomic environment and known for being the earliest country in West Africa to embrace structural adjustment reforms between 1983 and 2000 (Chandra & Osorio, 2007). These reforms included the abolition of price controls, the opening of capital markets, reduction in import tariffs, and privatization of many state-owned enterprises (Sandefur, 2010). Economies in Africa whose performance appears

 Public Policymakers

to have improved through major economic reforms in the 1990s include Ghana, Uganda and Tanzania (Soderbom & Teal, 2003). The government of Ghana has been paying attention to its manufacturing sector to accelerate growth. According to Kastner (2005), it was acknowledged that Ghana’s initial unprocessed primary export commodities make a poor contribution to the national economy with regards to foreign exchange reserves, employment generation and firm level learning. Secondly, Ghana has determined to make its export manufacturing sector the main focus of its socio-economic development (Kastner, 2005). This was influenced by the argument that, the economic success achieved by most of the industrialised countries (e.g. USA and Japan-tiger nations) in the past three decades was driven by the contribution of their manufacturing exports (Teal, 2008). As a result, the government of Ghana implemented various export-led programmes aimed to facilitate export involvement of small and medium-sized enterprises. Ghana’s export-led programmes that specifically aimed to enhance the capacity of exports included the Economic Recovery Programme (ERP) and the Structural Adjustment Programme (SAP) of 1983. Both the ERP and the SAP were recommended and jointly implemented by the World Bank (WB) and the International Monetary Fund (Kastner, 2005). The government of Ghana created the Ghana Free Zones Board (GFZB) and the Export Processing Zones (EPZs) in 1995 to encourage exports. The GFZB Programme was designed to encourage processing and manufacturing of goods through the establishment of Export Processing Zones. Through the GFZB, Ghana was accessible to potential investors, home and abroad who had the opportunity to use the free zones as essential location to produce goods for foreign markets to boost value added exports. Other export-led programmes implemented to boost value added exports included the restructuring of the Ghana Export Promotion Authority (GEPA). Ghana Export Promotion Authority was established by

Act 396 in 1969 as an agency of the Ministry of Trade and Industry with the mandate to develop and promote Ghanaian value added exports with the focus primarily to diversify Ghana’s export base from the traditional gold, cocoa beans and other unprocessed minerals to other agricultural, processed products (Whitfield, 2011). Against this background, the objective of this chapter is to screen export promotion programmes to assist government and public policy makers in sub-Saharan Africa to efficiently allocate financial resources to enhance export development programmes in the domestic and global markets. The chapter further expounds on past research to examine the adoption of export promotion programmes and their effect on export performance to provide understanding and improve the effectiveness of these programmes in sub-Saharan Africa. To face global competitiveness, developing countries are trying to increase their export levels through the promotion of export assistance (Durmuşoğlu et al., 2012). This chapter makes two contributions: first, it bridges the gap in studies on the impact of export promotion programmes on export performance between developed countries and the developing world (sub-Saharan Africa) and second, the study enriches export promotion literature in the African perspective. The chapter is theoretical and organised as follows: the next section presents export promotion programmes provided by public policy makers in Ghana, as a representative country of sub-Saharan Africa and second; the study reviews literature on the role of export promotion programmes and the stages they are provided; and how the use of these programmes add value to the export growth of firms. Finally, the paper discusses how public policy makers and managers can liaise with each other and draw on strategies to develop and improve export promotion programmes offered in sub-Saharan Africa.

201

 Public Policymakers

EXPORT PROMOTION PROGRAMMES IN THE AFRICAN CONTEXT The Ghana Export Promotion Authority in Ghana is the main public policy maker in the value added export sector and designs many programmes devoted to the development and support of exporters and prospective exporters (GEPA, 2009). The GEPA undertakes market access activities by organising solo exhibitions of made in Ghana goods in Africa and other developed countries to promote value added products for spot sales and orders. Trade and investment missions are carried out under the invitation of trade organisations in other countries supported by GEPA. GEPA also coordinates participation of trade fairs in neighbouring countries and Europe to attract and expand value added exports. Export-related human resource development in terms of training exporters in export marketing fundamentals is undertaken to enhance their capacity to produce quality products for global markets (GEPA, 2010). GEPA trains financial institutions and export related agencies in Ghana on export finance and risk solutions. Officers in foreign ministries are trained in commercial representation abroad and farmers in the agricultural sector undergo training in export marketing and quality awareness to assist the production of quality products. Information related programmes are offered to exporters in trade advisory and referral services to avail necessary information of the foreign market environment. Publications of new world tariff profiles on export prices from many countries are also presented to exporters. The Ghana Export Promotion Authority (GEPA) introduced six projects to accelerate the performance of the value added export sector in 2013 (GNA, 2013). The projects included: Product Development, Strategic Marketing Agenda and Research, Capacity Building for Export-support companies and Exporters, Improved Traceability of Exported Products and Services Export and

202

Timely Trade Information Delivery. These export market development programmes were intended to enhance the performance of firms in foreign markets to boost exports. It has been acknowledged in literature that development of export promotion programmes can generate good export leads in many African countries (Freixanet, 2012).

LITERATURE REVIEW-EXPORT PROMOTION PROGRAMMES Research has examined export promotion programmes since the 1960s, but the works undertaken have been largely fragmented, uncoordinated and unsystematic (Leonidou et al., 2011). Leonidou et al. (2011) posits that national export promotion programmes have been examined generally in two major perspectives: the provider and the receiver. Studies using the provider’s approach have focused on the content of the specific programmes that the government agencies provide and the procedure of formulating these specific programmes (Seringhaus, 1993); the methods these agencies follow is to properly target firms (Naidu & Rao, 1993) and the method of evaluating the effectiveness of the programmes provided (Wilkinson & Brouthers, 2000). Studies examining export promotion programmes from the receiver point of view can be classified into five major groups (Leonidou et al., 2011). The first group deals with the awareness, usage, and usefulness of export promotion programmes by non-exporters (Kumcu, Harcar, & Kumcu, 1995), exporter (Kedia, 1986), or both (Albaum, 1983). The second set of studies focused on segmenting firms that are receiving export promotion programmes according to the stage they have reached in their internalization process (Ahmed, 2002; Crick & Czinkota, 1995). The third group of studies highlight the link between exportpromotion programmes and factors that rouse or hinder the firm’s efforts to initiate and develop export operations (Singer & Czinkota, 1994). The

 Public Policymakers

fourth streams of studies disclose export promotion programmes are influential in enhancing organizational and/or managerial competence in export activities (Seringhaus & Rosson, 1998). The fifth and more recent studies investigate the effect of export-promotion programmes on the firm’s export performance (Lages & Montgomery, 2005; Wilkinson & Brouthers, 2000) or through the intervening effects of other factors (Shamsuddoha & Ali, 2006; Shamsuddoha et al., 2009). In the latter case, these programmes enhance managerial perceptions, knowledge and commitment which in turn assist to design effective export marketing strategies to improve firm’s competitive advantage in global markets (Leonidou et al., 2011). Firms considering exporting may lack essential export information which may hinder their knowledge about the challenges and hurdles the export market may entail (Williamson, Kshetri, & Wilkinson, 2011). This is predominantly evident in small and medium-sized firms as the primary role of information raises management’s export marketing skills and competence in the early exporting process (Cavusgil, 1984). Where the needed information may not be available internally in the firm, government promotion programmes that offer export marketing information could be a comprehensive and an important source for the firm (Seringhaus, 1987). To reduce the negative impact of export associated barriers, many governments offer assistance to the private sector firms through a wide range of export promotion programmes (Leonidou et al., 2011). Although these programmes are exclusive in relation to the economic, cultural, legal and political characteristics of each country, their fundamental aim is to improve the strategic management and performance of individual firms operating in global markets (Leonidou et al., 2011).

IMPORTANCE OF EXPORT PROMOTION PROGRAMMES Promoting national exports is a primary concern of many governments to develop the country’s full export potential. Moreover, national exports provide the means to increase employment opportunity in the domestic market; generate foreign exchange to finance imports; enrich public funds with additional tax revenues and achieve higher economic growth and high living standards (Lages & Montgomery, 2004). The importance of information and knowledge to export decision is documented in literature (Walters, 1983). The type of service used by managers is perceived to play a role in their subsequent export achievement (Reid, 1984; Walters, 1983). Gençtürk and Kotabe (2001) posits that export promotion programmes generally comprises (1) export service programmes such as seminars for potential exporters, export counselling, how-to-export handbooks and export financing and (2) market development programmes such as dissemination of sales leads to local firms, participation in foreign trade shows, preparation of market analysis and export newsletters. Export assistance efforts can be differentiated by whether the intent is to provide informational or experiential knowledge. Informational knowledge is provided through workshop, seminars and how-to-export handbooks and experiential knowledge is gained through the arrangement of foreign buyers of trade missions, trade and catalogue shows or participation in international marketing schemes (Gençtürk & Kotabe, 2001). Seringhaus (1986) argues that the role of export marketing assistance is threefold. First, it aims to place risks and opportunities for foreign market involvement into perspective. Second, it pursues a firm’s interest and commitment to exporting. Third, it acts as an external resource to build knowledge and necessary experience for successful foreign market operations. The conception of export promotion programmes holds specific im-

203

 Public Policymakers

portance for small and medium-sized enterprises because they do not benefit from diverse resources as large firms. Small and medium-sized enterprises are most likely candidates to become new exporters, therefore promoting their interest and broadening their global scope seems to be the most single important objective of public policy makers (Seringhaus, 1986). However, public policy makers are faced with the challenge to understand firms’ needs in relation to export involvement to effectively assist them with export promotion programmes on the global scale. This understanding means providing the right information to the right firm at the right time, for example Bodur (1986) reported the insufficiency of export information provided by government as a regular problem for Turkish exporters (Seringhaus, 1986). Moini (1998) supported the claim that both exporters and non-exporters reported lack of awareness of available export promotion programmes and suggested restructuring of the programmes to ensure effectiveness. Export assistance that provide managers with personal experience have been found to produce greater benefits than services that are primarily informational due to their better effect on export knowledge enhancement (Singer & Czinkota, 1994). Export promotion programmes facilitates pre-export activities among less experienced exporters and improves export performance among more experienced exporters (Griffith & Czinkota, 2012). It is argued that export promotion programmes help firms to overcome barriers in their export operations, thereby accelerating their accomplishment of export results in global markets (Shamsuddoha et al., 2009). Export promotion programmes represent readily available external sources of information and experiential knowledge that provide the firm with an external capability to cope with the complications of exporting (Gençtürk & Kotabe, 2001). Export promotion programmes are believed to enhance a firm’s competitiveness compared to that of non-users by increasing the knowledge and capability per-

204

taining to export market development (Gençtürk & Kotabe, 2001). Moreover, export promotion programmes are generally provided free or at a nominal charge, offering a cost-efficient means of gaining knowledge and experience. Such assistance also provide a central record for market information and sales leads, which enable firms to save time and money. Thus, the use of export promotion programmes result in a significant reduction in the investment necessary to generate and maintain in-house export expertise (Williamson et al., 2011). Gençtürk and Kotabe (2001) posits that the empirical supported financial benefits of export promotion programmes are the direct cost savings enjoyed by users through programmes such as subsidies, below-market rate and travel fares. The absence of intangible resources including experiential knowledge to successfully conduct exporting activities affect operations abroad, therefore early exporters are more likely to seek information and training essential to their export activity (Williamson et al., 2011). Trade missions abroad empower exporters to learn the characteristics of the export market through contacts with local businessmen and trade agency representatives. Interactions with locals assist exporters to adjust their expectations of the potential export market on future prospects (Spence, 2003).

THE RELATIONSHIP BETWEEN EXPORT PROMOTION PROGRAMMES AND EXPORT PERFORMANCE The use of export promotion programmes on the effect on export performance has received little attention in the literature as studies which examined the effect of export assistance on export performance are few (Shamsuddoha et al., 2009). Some studies on export promotion suggested how export assistance can be more effective in the export process (Gençtürk & Kotabe, 2001; Singer & Czinkota, 1994). Export promotion programmes

 Public Policymakers

may have an impact on the antecedents of export performance (Francis & Collins-Dodd, 2004). There is significant variation in opinion regarding benefits and promotional strategies stemming from the use of export promotion (Williamson et al., 2011). Governments have utilized and benefitted from numerous approaches to export promotion. Outside export support especially from government could assist domestic companies explore their export market potential and enhance economic growth (Leonidou et al., 2011; Williamson et al., 2011). Singer and Czinkota (1994) documented export assistance facilitates pre-export activities among less experienced exporters and improves performance among experienced exporters. Gençtürk and Kotabe (2001) argue that the use of export promotion programmes enhances a firm’s competitiveness compared to non-users by increasing the knowledge base to export development. Donthu and Kim (1993) documented the outside use of export assistance is positively related to export growth. They argued with empirical evidence that firms which use more outside export assistance from government and private agencies tend to have higher export growth than those who did not. Katsikeas, Piercy, and Ioannidis (1996) documented national export promotion policies serve as an export stimuli for managers which positively influence export performance of Greek firms (export goal achievement). Sousa, MartínezLópez, and Coelho (2008) found the existence of programmes sponsored by government agencies designed to assist export activities contribute positively to a firm’s export performance. The use of export promotion programmes influence SME’s initial internationalization through export activities directly or indirectly by improving managers’ perception of the foreign market environment (Shamsuddoha et al., 2009). Alvarez (2004) empirically documented a significant relation between export promotion programmes and export performance with exporting Chile SMEs, which supports Wilkinson and Brouthers (2000) discovery of a significant and positive relationship

between export promotion programmes and performance. Findings from Wilkinson and Brouthers (2006) documented greater use of trade shows and programmes was associated with firms reporting higher export performance satisfaction. Lages and Montgomery (2005) in the study of Portuguese exporting firms discovered a positive relationship between export performance and export promotion programmes. Evidence of this positive effect is also provided by (Cavusgil & Naor, 1987; Lages & Montgomery, 2001). Literature has documented export promotion programmes (trade shows) positively impacts performance by incremental sales in foreign markets across different countries including Ghana (Spence, 2003).

THE EFFECT OF EXPORT MARKETING MIX STRATEGY ON EXPORT PROMOTION Export marketing mix strategy is the means by which a firm responds to the interplay of internal and external forces to meet the objectives of the export venture involving aspects of the conventional marketing plan; i.e. product, price, promotion and distribution (Cavusgil & Zou, 1994). Francis and Collins-Dodd (2004) argues that export promotion programmes providing information, training and guidance about exporting enhance export marketing competencies which are relevant to the firm’s export involvement. Firms receiving export assistance are expected to allocate more human and financial resources to the export business. External support from government puts managers in a better position to search for information and undertake vigorous examination of the export market to implement effective export strategies for different markets (Lages & Montgomery, 2001). The use of government export promotion programmes gives managers more information and experience to assist overcome export barriers and increase their level of pre-export activity (Shamsuddoha & Ali, 2006). To design and implement export marketing

205

 Public Policymakers

adaptation strategies, firms must have the right combination of key resources to use effectively in various strategic actions in foreign markets (Leonidou et al., 2011). Export knowledge may assist firms to select export markets, formulate and apply practical marketing adaptation strategies more effectively (Cavusgil & Zou, 1994; Douglas & Craig, 1989) as complications and challenges of the foreign business environment expose small and medium-sized firms to uncertainties in operations (Shamsuddoha et al., 2009). Therefore, export assistance offered by government agencies involve a variety of initiatives to assist exporters to deal with different barriers in international business. Improved export knowledge will significantly reduce the perceived complications in the export market and help implement practical export marketing adaptation strategies (Shamsuddoha & Ali, 2006). The use of export promotion programmes can contribute to successful export development strategy (Leonidou et al., 2011). Singer and Czinkota (1994) argue that export assistance programmes stimulate managers’ positive attitudes and perception concerning international marketing by increasing their market knowledge and commitment to marketing activities. Managers gain better knowledge about the foreign market through the use of government assistance and are committed to devote resources to marketing operations (Shamsuddoha et al., 2009). Singer and Czinkota (1994) found export knowledge increases pre-export activities such as channel decision. Gençtürk and Kotabe (2001) contend the use of export promotion programmes influence both export efficiency and competitive position of firms. This signifies the impact of export promotion programmes on firms’ performance in international business. Lages and Montgomery (2001) found that firms receiving export assistance were better able to adapt their export marketing mix strategies to international markets which supports Lages and Montgomery (2005) findings that export assistance is positively related to export marketing adaptation strategy.

206

DISCUSSION The chapter screened export promotion programmes to assist public policy makers in African developing countries to efficiently allocate resources to enhance export development programmes to boost value added exports. To achieve this objective, the paper explained the relevance of exporting to nations/firms and how export led programmes by the government of Ghana in sub-Saharan African was to accelerate growth in the manufacturing sector to boost exports. This was necessary due to the poor contribution by unprocessed exports to the economy. Building on export promotion research, the chapter introduced the different streams of studies and the relevance of export promotion programmes during the export activity stage. Consequently, the use of export promotion programmes by exporters assists their ability to make strategic decisions on export marketing strategies in foreign markets. Drawing on export promotion programmes in literature, their demonstrated usefulness and application to international marketing strategy, this research has significant implications for public policy makers who are interested in increasing exports and the ability of export managers to improve their export performance.

IMPLICATION FOR MANAGERS Amazingly, export promotion programmes influencing export performance of firms has received little attention within the international marketing literature in Africa- Ghana and this study has numerous managerial implications for export managers. First, the study emphasises the indispensable role of export promotion programmes in assisting exporters to achieve better performance in foreign markets. The concept of export promotion programmes holds importance to firms due to the source of diverse knowledge it provides to broaden their competitive competence

 Public Policymakers

in foreign markets. This chapter points out that, for managers to improve their international marketing strategy decisions, they may seek outside export market development assistance to acquire knowledge to be able to strategically adapt export marketing strategies in foreign markets. In doing so, managers can carefully evaluate the contents of the export promotion programmes and select particular programmes relevant to their export activity. Informational knowledge provided through workshops, seminars and how-to-export handbooks can provide essential knowledge about the export activity especially for potential exporters. In reacting to the difficulties and vigour characterised by today’s competitive international environment, managers can no longer rely solely on their internal intangible resources when it comes to resolving their firm’s marketing adaptation strategy decisions. To increase the effectiveness and efficiency of their operations, managers need to combine internal and external resources to plan their export activity effectively. Extant literature posits that export promotion programmes facilitate the organizational learning process, leading to the achievement of short-term and long-term organisational goals. Export managers may choose market development programmes leading to experiential knowledge to assist in making strategic decisions. Export managers have to understand and identify when export promotion programmes are needed more in the export process, obviously new exporters with less experiential knowledge about export markets have to rely on outside export promotion programmes to equip themselves with the necessary information and training required for exporting. Export managers could identify the different types of export-related competitive advantage amassing from using export promotion programmes and develop and brand these resources as distinctive competence in the export market.

IMPLICATION FOR PUBLIC POLICY MAKERS Although it is eminent exporters benefit from outsourcing export promotion programmes from public policy makers to refine their operations in export markets, the contents of such programmes should be able to assist exporters formulate marketing strategy decisions to identify the positive implications of these programmes. Public policy makers need to stress the importance for managers to develop skills, such as the ability to handle hostile and benign environments in different export markets and face the hurdles and challenges each export market may pertain. To public policy makers, the more these skills are acquired through export development programmes and utilised in export markets, the better effective exporters will be able to make decisions to adapt applicable export marketing strategies exclusive to various foreign markets. Experiential knowledge is paramount to achieving information and managerial skills. While emphasising on the importance of export promotion programmes, public policy makers have to envisage the long-term advantages of these programmes and channel monetary and human resources at developing more innovative programmes despite the era of downsizing government spending and budgetary cuts. Public policy makers are sometimes faced with the challenge to understand firms’ needs in relation to export involvement to effectively assist them with export promotion programmes. To address that, public policy makers may establish communication with managers in the development of these programmes and take useful recommendations on the design of new programmes to suit the idiosyncrasies of the export environment. This means providing the right export promotion programmes to the right firm at the right time. Incentive oriented export promotion programmes could be created and offered to exporters to encourage more firms to export as success at the firm level will translate to the national level. The long-term

207

 Public Policymakers

results of effective export promotion programmes are more likely to boost value added exports and economic development in Ghana and Sub-Saharan Africa with stringent policy direction.

CONCLUSION This chapter concludes export promotion programmes provided by public policy makers have a significant effect on export performance of firms in foreign markets. For public policy makers in developing countries in Africa, export promotion programmes provide diverse benefits for small and medium-sized enterprises in the private sector. Export promotion programmes should not be considered as a waste of financial resources because the long term effects would contribute to economic development and accumulation of foreign exchange reserves. Firms have to systematically inquire and examine all programmes on offer and utilise those that strategically fit into their operations. This practice will improve firms’ survival and performance in cultural distance or dissimilar markets despite the hurdles in those markets leading to national export success.

REFERENCES Ahmed, Z., Mohamed, O., Johnson, J. P., & Meng, L. Y. (2002). Export promotion programs of Malaysian Firms: An international marketing perspective. Journal of Business Research, 55(10), 831–843. doi:10.1016/S0148-2963(00)00223-X Albaum, G. (1983). Effectiveness of government export assistance for US smaller-sized manufacturers: Some further evidence. International Marketing Review, 1(1), 68–75. doi:10.1108/eb008246

208

Alvarez, R. (2004). Sources of export success in small- and medium-sized enterprises: The impact of public programs. International Business Review, 13(3), 383–400. doi:10.1016/j. ibusrev.2004.01.002 Arbaugh, J. B., Cox, L. W., & Camp, S. M. (2009). Is entrepreneurial orientation a global construct? a multi-country study of entrepreneurial orientation, growth strategy, and performance. Journal of Business Inquiry: Research. Education & Application, 8(1), 12–25. Bodur, M. (1986). A study on the nature and intensity of problems experienced by Turkish exporting firms. Advances in International Marketing, 1(1), 205–232. Cavusgil, T. (1984). Differences among exporting firms based on their degree of internationalization. Journal of Business Research, 12(2), 195–208. doi:10.1016/0148-2963(84)90006-7 Cavusgil, T., & Naor, J. (1987). Firm and management characteristics as discriminators of export marketing activity. Journal of Business Research, 15(3), 221–235. doi:10.1016/01482963(87)90025-7 Cavusgil, T., & Zou, S. (1994). Marketing strategyperformance relationship: An investigation of the empirical link in export market ventures. Journal of Marketing, 58(1), 1–21. doi:10.2307/1252247 Chandra, V., & Osorio, R. I. (2007). Options for export diversification and faster export growth in Ghana. MPRA. Retrieved from http://mpra. ub.uni-muenchen.de/18539 Coulombe, H., & Wodon, Q. (2007). Poverty, livelihoods, and access to basic services in Ghana. Paper presented at the Ghana CEM, Accra 2-3 May 2007. http://siteresources.worldbank.org/ INTGHANA/Resources/CEM_poverty.pdf

 Public Policymakers

Crick, D., & Czinkota, M. R. (1995). Export assistance: Another look at whether we are supporting the best programmes. International Marketing Review, 12(3), 61–72. doi:10.1108/02651339510091708 Donthu, N., & Kim, S. H. (1993). Implications of firm controllable factors on export growth. Journal of Global Marketing, 7(1), 47–64. doi:10.1300/ J042v07n01_04 Douglas, S., & Craig, C. (1989). The evolution of global marketing strategy: Scale scope and synergy. The Columbia Journal of World Business, 1(Fall), 47–58. Durmuşoğlu, S. S., Apfelthaler, G., Nayir, D., Alvarez, R., & Mughan, T. (2012). The effect of government-designed export promotion service use on small and medium-sized enterprise goal achievement: A multidimensional view of export performance. Industrial Marketing Management, 41(4), 680–691. doi:10.1016/j.indmarman.2011.09.016 Francis, J., & Collins-Dodd, C. (2004). Impact of export promotion programs on firm competencies, strategies and performance: The case of Canadian high-technology SMEs. International Marketing Review, 21(4), 474–495. doi:10.1108/02651330410547153 Freixanet, J. (2012). Export promotion programs: Their impact on companies’ internationalization performance and competitiveness. International Business Review, 21(6), 1065–1086. doi:10.1016/j.ibusrev.2011.12.003 Gençtürk, E., & Kotabe, M. (2001). The effect of export assistance program usage on export performance: A contingency explanation. Journal of International Marketing, 9(2), 51–72. doi:10.1509/jimk.9.2.51.19886 GEPA. (2009). Export performance report. Accra, Ghana: Author.

GEPA. (2010). Export performance report. Accra, Ghana: Author. GNA. (2013). GEPA rolls out six projects to increase Non-Traditional Exports. Retrieved from http://www.gbcghana.com/index. php?id=1.1231273 Griffith, D. A., & Czinkota, M. (2012). Release the constraints: Solving the problems of export financing in troublesome times. Business Horizons, 55(3), 251–260. doi:10.1016/j. bushor.2012.01.003 Hinson, R., & Sorensen, O. (2006). E-business and small Ghanaian exporters: Preliminary micro firm exploration in the light of a digital divide. Online Information Review, 30(2), 116–138. doi:10.1108/14684520610659166 Kastner, A. (2005). Competitiveness of Ghana’s horticultural export sector. In J. Kuada (Ed.), Internationalization and Enterprise Development in Ghana (pp. 25–53). Retrieved from http://books.google. co.nz/books?id=jnVSa5esRyYC&lpg=PA25&ot s=adlQs0YS7s&dq=Kastner%202005%20Competitiveness%20of%20the%20Horticultural%20 sector%20of%20Ghana&lr&pg=PA29#v=onepage&q=Kastner%202005%20Competitiveness%20of%20the%20Horticultural%20sector%20of%20Ghana&f=false Katsikeas, C., Piercy, N., & Ioannidis, C. (1996). Determinants of export performance in a European context. European Journal of Marketing, 30(6), 6–36. doi:10.1108/03090569610121656 Kedia, B. C. (1986). Factors inhibiting export performance of firms:an empirical investigation. Management International Review, 33–43. Kumcu, E., Harcar, T., & Kumcu, M. E. (1995). Managerial perceptions of the adequacy of export incentive programs: Implications for export-led economic development policy. Journal of Business Research, 32(2), 163–174. doi:10.1016/01482963(94)00038-G

209

 Public Policymakers

Lages, F., & Montgomery, D. (2005). The relationship between export assistance and performance improvement in Portugues export ventures. European Journal of Marketing, 39(7/8), 755–784. doi:10.1108/03090560510601752 Lages, F., & Montgomery, D. B. (2001). Export assistance, price adaptation to the foreign market, and annual export performance improvement: A structural model examination. Stanford University, Graduate School of Business, 1-45. Lages, F., & Montgomery, D. B. (2004). Export performance as an antecedent of export commitment and marketing strategy adaptation: Evidence from small and medium-sized exporters. European Journal of Marketing, 38(9/10), 1186–1214. doi:10.1108/03090560410548933 Leonidou, L., Katsikeas, C., & Samiee, S. (2002). Marketing strategy determinants of export performance: A meta-analysis. The Journal of Business, 55(1), 51–67. doi:10.1016/S01482963(00)00133-8 Leonidou, L., Palihawadana, D., & Theodosiou, M. (2011). National export-promotion programs as drivers of organizational resources and capabilities: Effects on strategy, competitive advantage, and performance. Journal of International Marketing, 19(2), 1–29. doi:10.1509/jimk.19.2.1 Madsen, T. K. (1987). Empirical export performance studies: a review of conceptualization and findings. (S. T. Cavusgil, Ed.). Greenwich, CT: JAI Press. Madsen, T. K. (1989). Successful export marketing management: Some empirical evidence. International Marketing Review, 6(4), 40–57. doi:10.1108/EUM0000000001518 Martincus, C. V., & Carballo, J. (2010). Export Promotion: Bundled Services Work Better. World Economy, 33(12), 1718–1756. doi:10.1111/ j.1467-9701.2010.01296.x

210

Moini, A. H. (1998). Small firms exporting: How effective are government export assistance programs? Journal of Small Business Management, 36(1), 1–15. Naidu, G. M., & Rao, T. R. (1993). Public sector promotion of exports: A needs-based approach. Journal of Business Research, 27(1), 85–101. doi:10.1016/0148-2963(93)90017-J Reid, S. (1984). Information acquisition and export entry decisions in small firms. Journal of Business Research, 12(2), 141–157. doi:10.1016/01482963(84)90002-X Sandefur, J. (2010). On the evolution of the firm size distribution in an African economy. CSAE. Retrieved from http://economics.ouls.ox.ac. uk/14514/1/2010-05text.pdf Seringhaus, R. (1986). The Impact of Governement Export Assistance. International Marketing Review, 3(2), 55–66. doi:10.1108/eb008306 Seringhaus, R. (1987). The Role of Information Assistance in Small Firms’ Export Involvement. International Small Business Journal, 5(2), 26–36. doi:10.1177/026624268600500203 Seringhaus, R. (1993). Comparative marketing behaviour of Canadian and Australian high-tech exporters. Management International Review, 33(3), 247–269. Seringhaus, R., & Rosson, P. J. (1998). Management and performance of international trade fair exhibitors: Government stands vs independent stands. International Marketing Review, 15(5), 398–412. doi:10.1108/02651339810236425 Shamsuddoha, A., & Ali, M. Y. (2006). Mediated effects of export promotion programs on firm export performance. Asia Pacific Journal of Marketing and Logistics, 18(2), 93–110. doi:10.1108/13555850610658255

 Public Policymakers

Shamsuddoha, A., Ali, M. Y., & Nelson, O. N. (2009). Impact of government export assistance on internationalization of SMEs from developing nations. Journal of Enterprise Information Management, 22(4), 408–422. doi:10.1108/17410390910975022 Singer, T., & Czinkota, M. R. (1994). Factors associated with effective use of export assistance. Journal of International Marketing, 2(1), 53–71. Soderbom, M., & Teal, F. (2003). Are manufacturing exports the key to economic success in Africa? Journal of African Economies, 12(1), 1–29. doi:10.1093/jae/12.1.1 Sousa, C., Martínez-López, F. J., & Coelho, F. (2008). The determinants of export performance: A review of the research in the literature between 1998 and 2005. International Journal of Management Reviews, 10(4), 343–374. doi:10.1111/ j.1468-2370.2008.00232.x Spence, M. (2003). Evaluating export promotion programmes: U.K. overseas trade missions and export performance. Small Business Economics, 20(1), 83–83. doi:10.1023/A:1020200621988 Teal, F. (2008). Using Firm Surveys For Policy Analysis in Low Income Countries. Journal of Development Perspective, 4(1), 1–22. Walters, P. (1983). Patterns of planning and performance in US exporting firms. Management International Review, 33, 43–63. WDI. (2012). World Bank Indicators. Open Data Newsletter. Retrieved 3rd May 2013, from http:// data.worldbank.org/country/ghana Weaver, K., Berkowitz, D., & Davies, L. (1998). Increasing the Efficiency of National Export Promotion Programs: The Case of Norwegian Exporters. Journal of Small Business Management, 36(4), 1–11.

Whitfield, L. (2011). Political Challenges to Developing Non-Traditional Exports in Ghana: The Case of Horticulture Exports. DIIS Working Paper 2011, 29, 3-50. Wilkinson, & Brouthers, L. E. (2000). Trade Shows, Trade Missions and State Governments: Increasing FDI and High-Tech Exports. Journal of International Business Studies, 31(4), 725-734. Wilkinson, & Brouthers, L. E. (2006). Trade promotion and SME export performance. International Business Review, 15(3), 233-252. Williamson, N., Kshetri, N. B., & Wilkinson, T. (2011). Recent Trends in Export Promotion in the United States. Marketing Management Journal, 21(2), 153–166.

KEY WORDS AND DEFINITIONS Export Promotion Programmes: Programmes offered to firms by government and public policy makers to acquire foreign market knowledge outside their home country. Exports: The act of conveying commodities abroad or to another country in the course of commerce. Export Marketing Mix Strategy: The means by which a firm responds to the relationship between the internal and external forces to meet the objectives of the established marketing plan. Raw Material Exports: Unprocessed export commodities including raw cocoa beans, minerals and timber. Value-Added Exports: Increasing the economic value of a commodity through changes in genetics and processing.

211

Public Policymakers

APPENDIX

Abbreviations EPP: Export Promotion Programmes. ERP: Economic Recovery Programme. GEPA: Ghana Export Promotion Authority. SAP: Structural Adjustment Programme. SSA: Sub- Saharan Africa. WDI: World Bank Indicates.

212

213

Chapter 10

The Effects of WorkFamily Conflict on Job Stress, Job Satisfaction, and Organizational Commitment:

A Study in Turkish Pharmaceutical Industry I. Efe Efeoglu Adana Science and Technology University, Turkey Musa Sanal CukurovaUniversity, Turkey

ABSTRACT The aim of this chapter is to investigate the effects of work-family conflict on the employees’ attitudes towards their jobs and their behaviours in the workplace within the framework of job stress, job satisfaction, and organizational commitment concepts in the Turkish Pharmaceutical Industry. The data used in this study were obtained by the questionnaire survey method. One of the results of this study reveals that work-family conflict and work to family conflict have positive effects on job stress. However, family to work conflict has no effect on job stress. Secondly, work-family conflict and work to family conflict have positive effects on job satisfaction, while no evidence has been found regarding the effects of family to work conflict on job satisfaction. Thirdly, work-family conflict and work to family conflict have negative effects on organizational commitment while no evidence has been found regarding the effects of work to family conflict on organizational commitment.

INTRODUCTION Studies indicate that it is not easy for employees to be happy by constructing a healthy balance in

their both professional and private life, especially in their family life. The reason is that their professional and family life fields have an unstable structure. Considering organizations as open systems, it is easy to state that organizational goals

DOI: 10.4018/978-1-4666-6551-4.ch010

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 The Effects of Work-Family Conflict on Job Stress

which shape the employees’ professional lives, organizational culture, organization structure, employees’ job descriptions, job requirements, and job standards are basic elements and processes that are open to change. Moreover, employees’ family lives are highly open to change since family with biological, psychological, economic, communal and legal features is a social institution. Therefore, the relationship between professional and family lives has a changeable structure in employees’ professional lives, organizational culture, organization structure, employees’ job descriptions, job requirements and job standards which are basic elements and processes open to change. This changefulness is more likely to cause a conflict in one’s life. When the conflict is inevitable, it is necessary to manage the conflict. Work-family conflict influences employees’ personal happiness and life satisfaction as well as their levels of job stress, job satisfaction and organizational commitment. It is important to produce appropriate human resources policies and carry out organizational arrangements and practices in order to manage the conflict effectively. To do this, it is necessary to determine in what way and to what extent work-family conflict level of those who work in businesses actively in different institutional environments and markets affects their job-related attitudes and behaviours. The aim of this study is to investigate the effects of work-family conflict on the employees’ attitudes towards job and their behaviours in workplace within the framework of job stress, job satisfaction and organizational commitment concepts in the Turkish Pharmaceutical Industry. This study also aims to identify the obstacles and the success factors for developing appropriate human resources policies and carrying out organizational arrangements and practices in order to manage the work-family conflict effectively in the Turkish Pharmaceutical Industry. In this study, first, a review of the literature is conducted with respect to the concepts of workfamily conflict and its sub-dimensions, job stress,

214

job satisfaction and organizational commitment. After that various perspectives developed by organizational behaviour scholars who studied on work-family life relations and the work- family life conflict relationships related to job stress, job satisfaction and organizational commitment are identified and discussed. Third, the methodology of the study is identified and the research hypotheses are developed in accordance with the theoretical framework. Fourth, the findings and the evaluations of the study are identified and discussed in details. The data used in this study were obtained by the questionnaire survey method and analyzed by using statistics software program. The last section of this study includes conclusions and recommendations regarding the effects of work-family conflict on the employees’ attitudes towards job and their behaviours in workplace within the framework of job stress, job satisfaction and organizational commitment concepts. Due to a large data set available, only main findings are presented in this paper.

REVIEW OF THE LITERATURE The Concept of Work-Family Conflict Work-family conflict is accepted to be one of the special types of inter-role conflict. This conflict occurs as a result of an incongruity between the role adopted for the sake of being an organization member and the role adopted for the sake of being a family member. When a variety of studies based on the assumption that family-life fields are in interaction with the work-life fields are investigated, It is seen that five different theories present themselves (Bedeian, Burke and Moffett, 1988; Jones & Butler, 1980; Cooke & Rousseau, 1984; Duxbury & Higgins, 1991; Evans & Bartolome, 1984; Greenhaus & Beutell, 1985; Zedeck & Moiser, 1990; Hesketh & Shouksmith, 1986; Leiter & Durup, 1996).

 The Effects of Work-Family Conflict on Job Stress

Rational perspective and compensation theory explore the concept of work-family conflict basing on the time constraint that employees experience. Accordingly, rational perspective is based on the assumption that time is limited, grounding on the reasons of employees’ work-family conflict. Compensation theory relies on the assumption that employees tend to gain more satisfaction from other life fields to compensate the dissatisfaction they have in either work or family-life fields; thus, they experience a conflict by causing a break in the time balance between work and family-life fields. Moreover, contribution and spill-over theories examine the work-family life relations, respectively basing on the employees’ satisfaction levels in their work-family life fields and developments in these fields. Hence, contribution theory relies on the assumption that personal and organizational elements, by being influential on each other, affect employees’ general-life satisfaction level whereas spill-over theory is based on the assumption that positive or negative developments in one of the work-family life fields lead to similar impacts on other life fields. Conflict theory depends on the assumption that behind why employees experience work and family-life conflict lie, not taking different roles in these life fields, but the difficulties of fulfilling the requirements of these roles. Conflict theory depends on the assumption that behind why employees experience work and family-life conflict lie, not taking different roles in these life fields, but the difficulties of fulfilling the requirements of these roles.

Job Stress and Approaches towards Job Stress Job stress can be defined as a tension state resulting from the interaction between employee and his/her environment. In some of the studies done on job stress, while job stress is conceptualized, it is assumed to occur as a result of the interaction between employee and his/her environment (French & Caplan, 1970). According to this as-

sumption, incongruity between the pressure that job environment causes on the employee and his/ her capacity results in job stress. However, this hypothesis is not confirmed in some studies. Lazarus (1991) criticizes the approach which explains the reason of job stress as the incongruity between the employees and his/her environment by stating that employee-environment relation is not static but changeful. Likewise, Schuler (1980) notes that in employee-environment relation there will be never a balance state. Another approach adopted in job stress is the one basing on system theory. With regard to this theory, job stress appears when the employee does not meet the demands directed to him/her with his/her available competencies and sources such as ability, skill, authority, time and the like.

Job Satisfaction and Approaches towards Job Satisfaction The concept of job satisfaction defined differently by organizational scholars is described as employee’s happy and positive mood dependent on job and job experiences; pleasure taken out of the job; congruity between expectation from job and the rewards gained from job. There are various research findings revealing that employees’ levels of job satisfaction are shaped according to their expectations from job. For instance, after a review of management literature about job satisfaction, Long (2005) points out that a great deal of research results show that job satisfaction levels of the employees with relatively high education level are lower than those of other employees. A majority of the studies done on job satisfaction put forward meaningful differences in terms of job satisfaction among female and male employees. Research results indicate that female employees have a higher level of job satisfaction than male employees. Employees show different levels of job satisfaction, based on the size of organizations they work in and their position in those organizations(Long,

215

 The Effects of Work-Family Conflict on Job Stress

2005). Thus, employees who work in relatively small-scale businesses may not hold expectations that will affect their job satisfaction levels negatively, considering that promotion levels are limited in these organizations. Even though there is theoretical evidence that a relationship can be built between employee’s job satisfaction level and job performance (Podaskoff & Organ, 1986), a good deal of these studies do not imply a strong relationship statistically.

Organizational Commitment and Approaches towards Organizational Commitment In general sense, organizational commitment is variously defined as an attitude that associates employee’s identity with organization; a process during which objectives of the organization are in conformity with those of employee; a behaviour displayed as a result of perceiving the advantages that compliance with the objectives will increase the costs of quitting the organization(Meyer & Allen, 1997). Özdevecioğlu (2003) reviewing the studies done on the levels of employees’ organizational commitment points out that it is appropriate to categorize the inter-organizational factors affecting the employees’ organizational commitment within the scope of personal features, job and roles taken in the workplace, work experience, working environment and organizational structure. In some of the studies on organizational commitment, it is emphasized that organizational commitment is an expression of employee’s psychological needs. According to this view, organizational commitment is a bond that connects employee and the institution he/she works in. Employee’s needs of adaptation, definition of personal identity and internationalization of the institution’s values have an impact upon the development of this bond (Meyer & Allen, 1997).

216

The Relationship between WorkFamily Life Conflict and Job Stress In some of the studies done on job stress, social support from employee’s immediate surroundings is considered to be one of the elements that either increase or decrease employee’s level of job stress. In accordance with this approach, family as a source of social support may be influential on job stress. On the other hand, stress that employee experiences in workplace affects not only his/her occupational life but also family life as various theories on work-family life grounded. Sources of job stress will both produce job stress in employee and cause disruption of work-family life balance; thus, work-family life conflict will take place (Wallace, 1999, 2001). To briefly explain how and within the framework of which approaches work-family life conflict and its sub-dimensions are associated with job stress in studies, three different studies are examined below. In the model developed by Vinokur, Pierce and Buck (1999), the concepts of work to family conflict and family to work conflict which are sub-dimensions of the concept of work-family conflict do not have any impact on job stress. In the model, it is identified that employee’s level of job stress will affect the level of work-family conflict; and any relationship is not constructed between family-work conflict and job stress. However, in another model developed by Netenmeyer et al. (2004), it is indicated that work-family conflict and family-work conflict are determinant upon the job stress. Netenmeyer et al. (2004) note that it will be meaningful to expect from the variables of the employees’ both work-family conflict and familywork conflict to have a negatively significant effect on job stress. Karatepe and Baddar (2006), in their studies in which they questioned the impacts of work-family conflict and family-work conflict that are the subdimensions of work-family life conflict upon the

 The Effects of Work-Family Conflict on Job Stress

employees’ work and family lives, state that it is inevitable to experience work-family conflict and family-work conflict; as a consequence, employees are expected to have job stress, as Netenmeyer, Brashear-Alejandro and Boles (2004) suggested. Claiming that there is a direct relationship between work-family conflict and family-work conflict that are the dimensions of work-family life conflict, Karatepe and Baddar (2006), in their studies in which they analyzed the influences of work-family conflict and family-work conflict on job stress, indicated that employees’ levels of work-family conflict are directly influential upon their levels of job stress and also revealed that family-work conflict does not have a significant effect on job stress.

The Relationship between Work- Family Life Conflict and Job Satisfaction A majority of the studies put forward a relationship between work-family conflict and job satisfaction. Some researchers suggest that employees’ occupational expectations may get affected by social and economic variables in a much broader scope, differently from a traditional approach that explains job satisfaction within the framework of their occupational expectations that may vary according to the demographic features. Netenmeyer et al.(2004) point out that job stress mediates the relationship between job satisfaction and work-family conflict, one of the dimensions of work-family life conflict. In another study, Adams, King & King (1996) associate the interactions of work and work-family lives by benefiting from social support literature. In this study researchers present the view that work-family conflict and family-work conflict, which are the sub-dimensions of work-family life conflict, have a direct influence upon the job satisfaction.

The Relationship between Work-Family Life Conflict and Organizational Commitment In some of the studies that examine whether there is a relationship between work-family life conflict and organizational commitment it is suggested that these two variables are highly related to each other in statistical sense and as work-family life conflict increases organizational commitment decreases (Netenmeyer et al., 1996) whereas there are studies in which any relationship between these concepts is found out or there are results different than expected (Lee & Mauer, 1999).

METHODOLOGY OF THE STUDY During the preparation stage of this study, a review of literature was made in order to determine primarily what kinds of relationships there are between the work-family life conflict and the concepts of job stress, job satisfaction and organizational commitment; what kinds of effects the work-family life conflict has on these concepts, and what methods are used to test those effects. At the stage of identifying the scope and sample size of the study, reports that include statistical data, analyses and evaluations about pharmaceutical industry, firms active in this industry, employees responsible for the pharmaceuticals publicity in these firms and previous studies were analyzed. In addition, views of the professionals working in different positions in various pharmaceutical companies were taken. At the end of the process, it was decided that it would be appropriate for research sample to consist of employees responsible for the pharmaceuticals publicity in companies being active in pharmaceutical industry in Adana Regional Directorate in such a way that it includes main population. The list that involves the employees in Adana Regional Directorate of pharmaceutical companies was prepared by contacting general directorates

217

 The Effects of Work-Family Conflict on Job Stress

and related occupational organizations. Final list comprised of 512 employees working as regional coordinator, regional manager, responsible for medical publicity in 66 pharmaceutical companies which have district office in Adana.

Data Collection and Method of Analysis During the data collection process, both first-hand and second-hand data were used. In the questionnaire form prepared for the first-hand data collection, there are scales developed previously by various researchers to test the relationships among the concepts of work-family life conflict, job stress, job satisfaction and organizational commitment together with the questions to obtain demographic information of questionnaire respondents. After the data in the questionnaire were transferred to Statistical Package for the Social Sciences-SPSS- program, the methods of Pearson correlation analysis and linear regression analysis were mainly utilized for analysis and interpretation. The method of Pearson correlation analysis was used to test the relationships that the concept of work-family life conflict and work-family conflict and family-work conflict, which are the sub-dimensions of this concept, have with the concepts of job stress, job satisfaction and organizational commitment. Linear regression analysis was applied so as to check the effects of the concept of work-family life conflict and work-family conflict and family-work conflict, which are the sub-dimensions of this concept, upon job stress, job satisfaction and organizational commitment. The method of multiple regression analysis did not need to be used since the sub-dimensions of the work-family life conflict, the effects of which on job stress, job satisfaction and organizational commitment were tested, were not more than two (Büyüköztürk, 2003).

218

Research Hypotheses In accordance with the purpose of this study, hypotheses were developed regarding the impacts of employees’ levels of work-family life conflict upon their levels of job stress, job satisfaction and organizational commitment, based on the results of previous studies. Then, with respect to these hypotheses, hypotheses revealing the relationships between the concept of work-family life conflict and the concepts of job stress, job satisfaction and organizational commitment were developed. It is possible categorize those hypotheses under three groups: • • •

The effects of work-family life conflict and its sub-dimensions on job stress. The effects of work-family life conflict and its sub-dimensions on job satisfaction. The effects of work-family life conflict and its sub-dimensions on organizational commitment.

Research hypotheses that provide direction for the evaluation of the findings of the analyses are shown collectively in Table 1.

FINDINGS AND EVALUATIONS Demographic Features of the Participants 89% percent (144 people) of the employees to whom the questionnaire was administered were male and 11% of those (18 people) were female. When the distribution of the participants according to age groups was analyzed, it was identified that 68% of them (111 people) were in the age range of 20-29, and 28% of them (46 people) were in the age range of 30-39 while 0.4% of them (5 people) were at the age of 40 and above. Considering the distribution of the participants in terms of their marital status, it appears that 37% of them (60

 The Effects of Work-Family Conflict on Job Stress

Table 1. Research hypotheses A) The Effects of Work-Family Life Conflict and Its Sub-dimensions on Job Stress H1: Employees’ levels of work-family life conflict have a positive influence upon their levels of job stress. H2: Employees’ levels of work-family conflict have a positive influence upon their levels of job stress. H3: Employees’ levels of family-work conflict have a positive influence upon their levels of job stress. B) The Effects of Work-Family Life Conflict and its Sub-dimensions on Job Satisfaction H4: Employees’ levels of work-family life conflict have a negative impact on their levels of job satisfaction. H5: Employees’ levels of work-family conflict have a negative impact on their levels of job satisfaction. H6: Employees’ levels of family-work conflict have a negative impact on their levels of job satisfaction. C) The Effects of Work-Family Life Conflict and Its Sub-Dimensions on Organizational Commitment H7: Employees’ levels of work-family life conflict have a negative effect on their levels of organizational commitment. H8: Employees’ levels of work-family conflict have a negative effect on their levels of organizational commitment. H9: Employees’ levels of family-work conflict have a negative effect on their levels of organizational commitment.

people) were single, 61,7% of them (100 people) were married, 0,6% of them (1 person) was legally divorced and 0,6% of them (1 person) was married but lived apart from his/her spouse. 95,1% of the participants had undergraduate and graduate degrees. If the distribution of the participants according to their job titles is examined, 3,1% of them (5 people) were regional manager, 1,2% of them (2 people) were chief, 33,3% percent of them (54 people) were senior medical sales representatives and 62,3% of them (101 people) were medical sales representatives. When the distribution of questionnaire respondents in terms of their professional time was explored, it seems that 80% percent of the employees (130 people) had 1-5 years, 16% of them (26 people) had 6-10 years, 0,4% percent of them had 11 years and above experience. When asked about the range of their level of income, only the 14,8% (24 people) of the employees to whom the questionnaire was administered answered this question whereas 85,2% of the participants (138 people) did not give a response.

The Relationships among the Concepts of Work-Family Life Conflict, Job Stress, Job Satisfaction and Organizational Commitment The method of Pearson correlation analysis was used to determine the relationships that work-family life conflict and its sub-dimensions have with job stress, job satisfaction and organizational commitment. When correlation coefficient indicating the relationships among the variables subjected to the analysis was in the range of 1,00 and 0,70 as an absolute value, it was accepted that there was a high relationship; when it was in the range of 0,70 and 0,30, that there was a medium relationship and when it was in the range of 0,30 and 0, that there was a low relationship (Büyüköztürk, 2003). The results of Pearson Correlation analysis testing the relationships among the variables within the scope of the study appear in the Table 2. According to the results of Pearson correlation analysis shown in Table 4, there is a medium level and positive relationship (r=0,432) at 99% confidence interval between the variables of workfamily conflict and job stress; there is a medium level and positive relationship (r=0,579) at 99% confidence interval between the job stress and the work-family conflict variable, one of the two subdimensions of work-family life conflict variable. There is not statistically significant relationship

219

 The Effects of Work-Family Conflict on Job Stress

Table 2. The relationships among the concepts of work-family life conflict, job stress, job satisfaction and organizational commitment Variable

(1)

(2)

(3)

(4)

(5)

(6)

(1) Work-Family Life Conflict (2) Work-Family Conflict

0,761**

(3) Family-Work Conflict

0,786**

0,197*

(4) Job Stress

0,432**

0,579**

0,101

(5) Job Satisfaction

0,252**

0,293**

0,101

0,440**

(6) Organizational Commitment

0,167*

0,054

0,200*

0,144

0,243**

*p ² E and pA < pE , constraint (A9) will always be satisfied and thus an Embeddedness entrepreneur will prefer bond finance. The derivation for period t = 0 could be illustrated in a similar vein.

315

316

Chapter 15

Inside the Small Island Economies: Loyalty Strategies in the Telecommunications Sector Wilson Ozuem University of Gloucestershire, UK & Regents University, UK Tara Thomas London Metropolitan University, UK

ABSTRACT The extant literature presents antecedents of loyalty into four groups: characteristics of the environment, characteristics of the dyadic relationship, characteristics of the consumer, and consumer perceptions of the relationship with the marketing firm. However, it pays little to no attention to the antecedents of loyalty in small island economies. Prior research on small island economies is heavily focused on cultural, environmental, and macro-economic issues. Thus, the focus of this chapter is to capture antecedents that are cognizant of the distinct market conditions that potentially impact customer loyalty within the telecommunications sector. It seeks to advance understanding of loyalty in Business-to-Business (B2B) relationships in the context of a small island economy and identify triggers and determinants to convert passively loyal customers into actively loyal customers.

INTRODUCTION Customer loyalty has shifted our understanding of the basic exchange of goods and currency to a more intricate interaction of customer and supplier, thus adding a new dimension to the term relationship. Businesses now place equal, if not greater emphasis, on retaining existing customers

over constantly acquiring new ones. Customers’ decisions to frequent a known supplier of goods or services over seeking new suppliers can be influenced by a variety of factors that can include, but are not limited to, commitment (Anderson & Weitz, 1992; Wilson, 1995), trust (Moorman et al., 1993; Morgan & Hunt, 1994), satisfaction (Gwinner et al., 1998; Reynolds &

DOI: 10.4018/978-1-4666-6551-4.ch015

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Inside the Small Island Economies

Beatty, 1999a; Henning-Thurau et al., 2002; Wong & Zhou, 2006) experience (Crosby & Johnson, 2006) or all of the above and in varying order depending on the product, the service, the customer and the industry. This array of factors reveals the complex and multidimensional nature of loyalty (Majumdar, 2005) and proves the ‘one size does not fit all’ theory which is what keeps the concept of customer loyalty at the height of academic research. Aimed at helping marketers understand what businesses can do to convert new or existing customers into loyal customers, it has shown that a customer loyalty strategy is essential to a company if they want to retain its customers (Zeithaml, 1988; Bloemer & Odekerken-Schröder, 2002; Anderson & Narus,2004). The discussion of loyalty is further complicated by exploring the relationships that exist between supplier and supplier, more popularly referred to as Business-to-Business (B2B) interactions. B2B markets differ from Business-to-Consumer (B2C) markets across several dimensions (Avlonitis & Gounaris, 1997; Coviello & Brodie, 2001) including volume and frequency of interactions. This, in turn, impacts the dictating drivers for loyalty (Morris & Holman, 1988). Some authors argue it is even more challenging to breed loyal corporate customers who are actually more expensive to serve as they often demand better deals in return for their longstanding custom and demand a premium service (Reinartz & Kumar, 2002). Nonetheless, loyal customers provide a consistent and stable source of revenue through repeat and increased purchases. The antecedents of loyalty, both in terms of the B2B and B2C, have attracted a wealth of attention in extant marketing literature but despite globalisation, there are still cross-national differences that prevent blanket strategies or distinct commonalities (Aksoy et al., 2013) as a vast amount of theory and findings has been built in mature and highly competitive economies (Ehrenberg & Goodhardt, 2000) and pays little to no attention to the antecedents of loyalty in Small Island economies. Across

the globe, there are more than 130,000 islands which host more than 500 million people. Island populations can range from 64 on Pitcairn to 7.13 million in Hong Kong. Between these extremes are Islands such as Guernsey, Isle of Man, Bermuda, and Seychelles, each with a population of fewer than 100,000, but economically prominent in their own right because of their financial services and tourism industries. Prior research on Small Island economies is heavily focused on cultural, environmental, and macro-economic issues (Poetscheke, 1995; Baum, 1996; Pelling & Uitto, 2001; Hampton & Christensen, 2002; Cox, 2010). A recurring feature of these publications highlight the challenges that Islands with small populations face particularly emphasizing their high reliance on costly communication which is primarily due to their small size and little to no opportunity to create economies of scale. Small Island economies are highly reliant on their telecommunications providers to remain conversant and economically competitive with the wider global economy. Figure 2 illustrates the exponential growth trend of this sector across the globe. The telecommunications sector is a converging industry (Wirtz, 2001; Srinivasan et al., 2007). Converging industries are intensifying competition and have created two world segments whereby companies are executing a dual strategy to remain competitive at a global and a local level (Mourdoukoutas & Mourdoukoutas, 2004). Choi and Valikangas (2001) define industry convergence as the ‘blurring’ of competitive boundaries in a market. It refers to the introduction of ‘hybrid’ products which combine previously distinct products which are not in direct competition with each other (Malhorta & Gupta, 2001). This ‘blurring’ can allow the telecommunications industry to encompass a wide spectrum of products and services but for the purposes of this paper we will limit their scope to the direct provision of fixed telephone lines, mobiles and broadband services. Ball et al. (2004) presents extant literature on the antecedents of loyalty into four groups:

317

 Inside the Small Island Economies

Figure 2. Dick and Basu’s Loyalty Categories

characteristics of the environment, characteristics of the dyadic relationship, characteristics of the consumer, and consumer perceptions of the relationship with the marketing firm. The purpose of this chapter is to identify antecedents that are cognizant of these conditions and those distinct to a B2B loyalty in a Small Island economy. Ford and Hakansson (2006) highlighted key challenges in trying to document business relationship behaviour in research given the multitude of individuals

and heterogeneous groups of customers and suppliers and their many varying types of interactions. These are rarely identical occurrences and form part of a continuing relationship between the supplier and the customer which consequently contribute towards their attitudes and decisions over time (Nooteboom et al., 1997; Ajzen & Fishbein, 2000; Sirdeshmukh et al., 2002). These dynamics help explain why B2B loyalty remains an area of contradictory conclusions and a research gap

Figure 1. Telecommunication subscription comparisons (Source: International Telecommunications Union, 2013)

318

 Inside the Small Island Economies

for scholars seeking to enhance understanding of business relationship dynamics (Lacey & Morgan, 2009). In light of the multidimensional nature of loyalty and the B2B sector, the researcher aims to control for heterogeneity (Mittal & Kamakura, 2001) by limiting the study to the telecommunications industry and a single B2B customer sector. This would aim to identify the implications of industry-specific circumstances and how these impact extant models on loyalty behaviour. A stable customer base is a core business asset and a successful customer loyalty strategy can lead to enhanced customer retention rates (Li & Green, 2011). Research has shown that using loyalty programmes as a method to retain customers it is more profitable to sell to regular customers than constantly acquiring new ones (Rust & Zahorik 1993; Storbacka et al., 1994). However, if a company is to leverage the full benefits of converting customers to loyal customers, it becomes imperative for them to understand the antecedent drivers of loyalty (Ball et al., 2004; Terblanche & Boshoff, 2006; Li & Green, 2011). Thus, this research seeks to advance understanding of loyalty in B2B relationships in the context of a Small Island economy and capture antecedents that are cognisant of the distinct market conditions that potentially impact customer loyalty within the telecommunications sector. It seeks to advance understanding of loyalty in B2B relationships in the context of a Small Island economy and identify triggers and determinants for converting passively loyal customers to being actively loyal customers. It is hoped this insight can support firms operating in such markets to develop relationship strategies aimed at improving their B2B loyalty rates. The primary aim of this chapter is to report on a research project which sought to understand the antecedents of loyalty for hotel operators in Guernsey and their telecommunications (telecoms) service provider. It seeks to advance understanding of loyalty in B2B relationships in the context of a Small Island economy and identify those factors that can help convert

passively loyal customers to being actively loyal customers. The current chapter aims to address the following objectives: 1) To review existing literature and theoretical frameworks related to loyalty within B2B relationships; 2) To identify segments of hotel operators in Guernsey and their respective triggers for repeat-purchase from their telecommunication service provider; 3) To develop a conceptual model on loyalty suitable for B2B suppliers and in particular telecommunication services providers in Small Island economies using Guernsey as a case study.

THEORETICAL FRAMEWORK AND CONTEXT Customer loyalty is a marketing term used by businesses and academics to describe the purchase reiteration of consumers towards a particular brand or service (Martin-Consuegra et al, 2007; Duffy, 2003). Extant marketing literature suggests that customer loyalty can be defined in two distinct ways (Chaudhuri & Holbrook, 2001; Uncles et al., 2003; Mascarenhas et al., 2006; Terblanche & Boshoff, 2006; Anisimova, 2007). Traditionally, loyalty was defined by customers habitual purchase behaviour (Jacoby & Kyner, 1973; Yi, 1990; Chaudhuri, 1996) which was often quantified by their frequency of purchases (Tucker, 1964; Sheth, 1968), share of total purchases (Cunningham, 1956; Farley, 1964) or value of purchases (Ehrenberg, 1988; DuWors & Haines, 1990). This form of behavioural loyalty characterizes customers’ actions as more passive and habitual. The second defines loyalty as an attitude whereby individual’s overall attachments to a product, service, or brand are affective (Gremler & Brown, 1998; Kumar & Shah, 2004; Traylor, 1981; Fornier, 1994) and conditioned on positive customer preferences (Mascarenhas et al., 2006). This form of attitudinal loyalty characterizes customers’ repeat purchase decisions as more active and deliberate.

319

 Inside the Small Island Economies

Terblanche and Boshoff’s (2006) offer the definition that ‘loyalty is both a long-term attitude and a long-term behavioural pattern, which is reinforced by multiple experiences over time’. Baldinger and Rubinson (1996) suggest the use of loyalty definitions which include both attitudinal and behavioural components will be superior to those that focus purely on behaviourally-based acknowledgements. From a business marketing perspective, this definition portrays a very conscious effort by consumers or businesses to repeatedly frequent a preferred supplier. However, both the business and academic communities have also chosen to award the title of ‘loyalty’ to a category of customers who are less decisive about their supplier but whose behaviour appears loyal because of their purchase frequency. Jones and Sasser (1995) distinguish these two kinds of loyalty as ‘true’ or ‘false’ long-term loyalty. Mellens et al. (1996) identified ‘partial’ loyalty as a characteristic of consumer buying patterns. These two definitions support Dick and Basu’s (1994) proposition that loyalty consists of both attitudinal and behavioural elements and is determined by the strength of the relationship between these two elements (Figure 2). Dick and Basu’s (1984) proposition is supported by other research (Palmer et al., 2000; Knox & Walker, 2003; Rowley, 2005) which regard posting customers to either the attitudinal or behavioural ends is an impractical approach. Businesses will want to understand which of their customers fit into which loyalty category, as essentially the study of customer loyalty is a marketing phenomenon used to predict and exploit consumers buying patterns (Singh & Sirdeshmukh, 2000; Seth et al., 2005; Duffy, 2003). However, Dick and Basu’s (1984) research fail to elucidate the motivations for either high / low repeat patronage or high / low relative attitude. This is key to developing an effective marketing strategy (Bennett & Bove, 2002; Heskett, 2002; Age, 2011). Loyalty motivations has been explored from many angles including: service loyalty (Gremler et al., 1997; Reynolds & Beatty

320

1999a); store loyalty (Macintosh & Lockshin, 1997; East et al., 2000), organisational or brand loyalty (Ajzen & Fishbein, 1980; Cunningham, 1956; Ehrenberg & Goodhardt, 1970; Guest 1955); service worker loyalty (Bove & Johnson, 2000; Reynolds & Beatty, 1999b; Roos, 1999;) personality trait (Mellens et al., 1996; Raju, 1980); and product loyalty (Uncles et al., 2003). Having been conceptualized from such a variety of perspectives, for the purposes of this study we draw on the definition offered by Jacoby and Chestnut’s (1978) which expresses six key criteria: a) biased; b) behavioural response; c) expressed over time; d) by some decision-making unit; e) with respect to one or more alternative brands our of a set of such brands; and f) is a function of psychological (decision-making, evaluative) processes. This definition presents loyalty in its broadest form and these criteria are evident, either collectively or separately, across loyalty literature (Morgan & Hunt, 1994; Moorman et al., 1993; Uncles et al., 2003; Kuusik & Varblane, 2008).

Small Islands and Customer Loyalty As mentioned earlier, there are more than 130,000 islands hosting more than 500 million people. Island populations can range from 64 on Pitcairn to 7.13 million in Hong Kong. Islands are detached land masses which are surrounded by water and without permanent structures connecting them to the mainland (UNCLOS, 1982). While these characteristics present clear distinct geographical boundaries (King, 1993) there is still a universal definition gap for ‘Small Islands’ (Morey, 1993; Spilanis & Kondili, 2003). For the purposes of this study, we adopt Hess (1990) Small Island definition as that which is a detached land mass with a surface area less than 10,000 km2 and a population of less than 500,000 inhabitants. Table

 Inside the Small Island Economies

Table 1. Population and land area statistics for other small islands (Island Analysis, 2013) Population (Latest Available)

Land Area (K2)

Antigua & Barbuda

85903

440

Barbados

266800

431

Bermuda

64867

53

British Virgin Islands

28882

153

Cayman

55517

260

Guernsey

63085

63

Isle of Man

84497

572

Jersey

97857

116

Malta

416055

316

Seychelles

88303

451

Turks and Caicos

44819

616

1 presents a sample of Small Islands which meet these criteria: In the following sections, we consider the dominant theories and conceptualizations that have occupied loyalty as a research topic. We examine how loyalty is used as a business tool before exploring how loyalty strategies are applied in the B2B context as a business tool for improving performance.

Types of Loyalty The common thread throughout extant literature indicates there are two very separate perspectives to loyalty – the consumer perspective and the supplier perspective (Weitz & Bradford, 1999; Wortruba, 1991; Ringberg & Gupta, 2003; Ball et al., 2004) – but essentially it is the suppliers motives that dominate interactions and their primary objective is to retain customers and win a greater share of their spending power (Duffy, 2003; Age, 2011). Some academics subscribe to two theoretical paths toward understanding loyalty including Day (2003) whom sought to evaluate loyalty from both ‘what and how much customers buy?’ to the ‘why they buy?’. This is now commonly distinguished in literature as ‘behavioural loyalty’ and

‘attitudinal loyalty’ respectively (Dick & Basu, 1994; Kim & Frazier, 1997; Trinquecoste, 1996).

Behavioural Loyalty Hofmeyr and Rice (2000) distinguish behaviourally loyal customers as those appearing to be loyal through repeated purchase behaviour over time, but who have no emotional bond with the brand or the supplier. Langer (1997) attributes this practice to a number of possible factors and notes, “returning to the same service supplier or seller can be a matter of habit and convenience. It is reassuring to buy consistently and knowing the quality – it saves the customer time, money, disappointment and even self blame”. Kuusik and Varblane (2008) identified three sub-segmented reasons for behaviourally loyal customers: forced to be loyal (e.g., monopoly or high exit costs), loyal due to inertia, and functionally loyal. Oliver (1999) attaches the concept of inert loyalty to purchases that are routine so a sense of satisfaction is not experienced and it becomes a task (e.g., trash pickup, utility provision). The marketing perspective suggests that as long as there are no specific ‘triggers’ to compel behaviourally loyal customers to change providers, they will remain

321

 Inside the Small Island Economies

passively loyal (Roos, 1999). According to Liu et al. (2007), even when presented with more attractive alternatives, consumers who have high inertia will be reluctant to change. Kuo et al. (2013) links this tendency to consumer’s familiarity and their perception that frequenting a familiar service provider requires less effort. They support the view that consumer inertia has a greater influence on repeat-purchase intention and recommends that managers should make more efforts to develop consumer consumption inertia. However, by classifying these behavioural observations as a form of loyalty, it overlooks those customers that are emotionally attached to products and services (Olson & Jacoby, 1971; Backman & Crompton, 1991; Uncles & Laurent, 1997) and can lead to overestimations of a company’s loyalty customer base and the stability of their portfolio (Crouch et al., 2004).

Attitudinal Loyalty Attitudinal loyalty can be defined as capturing the emotional and cognitive components of brand loyalty (Gremler & Brown, 1998; Kumar & Shah, 2004; Traylor, 1981). Oliver (1997) aligns his description with this belief and defines loyalty as “A deeply held commitment to rebuy or repatronize a preferred product or service consistently in the future, despite situational influences and marketing efforts having the potential to cause switching behaviour”. This type of loyalty represents a more long-term and emotional commitment to an organization (Shankar et al., 2003; McGoldrick & Andre, 1997; Bennett & Rundle-Thiele, 2002) which is why attitudinal loyalty is also referred to as ‘emotional’ loyalty (Hofmeyr & Rice, 2000). Emotional loyalty is regarded as being ‘much stronger and longer lasting’ (Hofmeyr & Rice, 2000) and has even been compared with the attachment of marriage (Hofmeyr & Rice, 2000; Lewitt, 1983; Dwyer et al., 1987; Albert & Merunka, 2013). These highly bonded customers will buy repeatedly from a provider and are more likely to

322

defend their service choice and recommend their provider to others (Butz & Goodstein, 1996). Emotion is more commonly referred to as feelings (Russell, 2003) and has been shown to have a noticeable influence on consumer’s decisions (Leventhal, 1982; Hoffman, 1986; Westbrook, 1987; Pieters et al., 2006). These emotional reactions can be attributed to ‘service worker loyalty’ (Russell, 2003), whereby consumer’s loyalty is established through encounters with service personnel. Roo’s (1999) research revealed that positive employee interactions had a significant impact on customers’ decisions to remain with their existing supplier. Conversely, negative experiences can lead to emotional scarring (Pullman & Gross, 2004). This form of emotional bond is also referred to as ‘affective loyalty’ (Gomez et al., 2006). A further distinction which influences loyalty is offered by Cioffi and Garner (1996) as they distinguished customers as being either ‘active’ or ‘passive’. Active customers are seen to seek information to support a purchase decision and conversely, passive customers make fewer deliberate decisions which are initiated by situational triggers such as promotions from competitors. This supports a third dimension of ‘situational loyalty’ (Chaudhuri & Holbrook, 2001; Uncles et al., 2003) which paradoxically is a display of weak or fleeting loyalty which only awards favouritism towards a brand under certain circumstances (e.g., a sale) (Mascarenhas et al., 2006). Characteristics of the competitive environment is recognized as a contributing factor to a market segment’s loyalty stance (Ball et al., 2004) and all three dimensions offer important considerations for segmentation. However, in the context of this chapter, behavioural and attitudinal loyalty is considered the critical distinctions for producing long term sales and market share.

 Inside the Small Island Economies

B2B Relationships Achieving and maintaining a high market share and a high price premium through attracting and retaining a loyal customer base is particularly significant in a B2B market (Harris & Goodman, 2001; Hutt & Speh, 2013). B2B relationships have been an important focus for research literature (Caceres & Paparoidamis, 2007; Ford & Hakansson, 2006; Selos et al., 2013), yet there are challenges in trying to document this sector’s behaviour given the multitude of individuals and heterogeneous groups of customers and suppliers and their many varying types of interactions (Wind, 1970; Ford & Hakansson, 2006). These are rarely identical occurrences and form part of a continuing relationship between the supplier and the customer which consequently contribute towards their attitudes and decisions over time (Nooteboom et al., 1997; Ajzen & Fishbein, 2000; Sirdeshmukh et al., 2002). Particularly in B2B, the quality and satisfaction derived from the relationship has a direct influence on a buyer’s appraisal of their relationship with their supplier (Anderson & Narus, 1990; Ganesan, 1994; Dwyer et al., 1987). This could explain why there is an increasing B2B trend to nurture closer relationships with fewer clients (Ulaga & Eggert, 2006). Anderson (1995) likens the relationship between two companies as a set of ‘interwoven business strands’ whereby the strands signify a sequence of ‘exchange episodes’. To this effect, Caceres and Paparoidamis (2007) proposed the following model (Figure 4), which presents service quality and relationship quality as the two primary constructs for developing B2B loyalty. They propose that service quality has a greater impact on B2B loyalty and that relationship quality cannot be relied upon as an isolated driver for long-term customer retention. Instead, it plays an important mediating role across commercial transactions that can help firms achieve a competitive advantage. Their concluding argument offered that ‘it is apparent that commercial service lies on the heart of

this specific model affecting directly relationship satisfaction while the same time is being affected by communication, delivery and administrative service’. Other research (Keiningham, et al., 2003; Anderson et al., 2004; Chumpitaz & Paparoidamis, 2007) has shown a high correlation to satisfaction and loyalty although there are others (Liljander et al., 1998; Roos, 1999; Xavier & Ypsilanti, 2008) which have shown that customers are still susceptible to changing providers even if they are satisfied with their existing provider. Reichheld et al’s (2000) research revealed that 60-80 per cent of customers who defected to a competitor were either satisfied or very satisfied with their existing provider just prior to their defection. Nonetheless, the findings of Caceres and Paparoidamis (2007) were developed using standardised scales which some researchers (Lowe, 2001; Ringberg & Gupta, 2003) believe can over-generalise relationship constructs and overlooks the role that behavioural and attitudinal loyalty contribute to the longevity of such relationships. Laine et al. (2012) has indicated there is still a knowledge gap on B2B supplier behaviour. In particular, their research found that switching behaviour between B2B relationships was more complex than B2C relationships. Here, the impact of economic motivations of the B2B sector (Wind, 1970; Weber, 1958; Hutt & Speh, 2013) are worthy of consideration as they have a notable influence on their selection of a supplier as motivations to increase shareholder value remains a dominating driver (Harris & Goodman, 2001). B2B loyalty literature is an area of contradictory conclusions and presents a research gap for scholars seeking to enhance understanding of business relationship dynamics (Lacey & Morgan, 2009) and their usefulness as a tool for improving the bottom line.

Loyalty as a Business Tool The benefits of converting new and existing customers to loyal customers is highly linked to profitability (Woolf, 1996; Heskett et al.,1997;

323

 Inside the Small Island Economies

Figure 4. Loyalty force model

Reichheld & Sasser, 1990; Reichheld & Teal, 1996) from the perspectives of increased sales (Mummalaneni 1987; Sheth & Sisodia 1995) and more efficient operations (Payne et al., 1995; Blattberg & Deighton 1996). While these viewpoints are not free from sceptics (Reinartz & Kumar, 2002), the following sections explore why companies continue to invest heavily in improving customer loyalty. Theoretically, loyalty programmes have two possible effects on purchase behaviour: differentiation loyalty and purchase loyalty (Meyer-Waarden, 2008). Differentiation loyalty refers to customer’s reactions towards a competitor’s promotion tactics.

324

Customers within this segment are seen to be less sensitive to competing offers and prices and are willing to pay higher average prices and higher quantities or choose better quality products from more expensive brands (Reichheld, 1996; Sharp & Sharp, 1997; Dowling & Uncles, 1997; Bowen & Shoemaker 1998; Jain et al., 1987), whereas purchase loyalty is the result of attractive incentive schemes matched with a satisfying service experience (Nako, 1997; Bolton et al., 2000). These components distract customers from counterpersuasion as it reduces the frequency of when a consumer is confronted with competitors’ offerings and then consequently prevents comparison

 Inside the Small Island Economies

Figure 3. Caceres and Paparoidamis (2007) loyalty model

reducing price sensitivity. However, Oliver (1999) also attaches these characteristics to transactions that are routine, of low importance, and of low involvement as then there is little justification spending time and effort searching for alternatives. Thus, the suitability of the current product determines the degree of loyalty rather than direct efforts to retain customers. Sharp and Sharp (1997) argue that loyalty schemes only encourage both repeat purchase behaviour and retention if they are able to provide progressively higher levels of value. Either way, as the relationship continues, only as the customer is encouraged to increase the value, frequency and range of the purchases do they become more profitable (Grönroos, 1990; Sheth & Parvatiyar, 1995). While loyal customers are more likely to buy repeatedly from a provider, they also are more inclined to act as advocates promoting positive word-of-mouth about the service by recommendations to others (Gremler & Brown 1997; Beatty et al., 1996; Bowen & Shoemaker,1998;

Reichheld & Teal, 1996) and strongly defending their choice of service provider to peers (Butz & Goodstein, 1996). Such recommendations have a strong influence over the choices of others (Hallowell, 1996; Birgelen et al., 1997; Reichheld et al., 2000; Zeithaml, 2000) offering low cost promotion advantages to companies. This helps to justify why customer satisfaction has been positively linked to loyalty (Cronin & Taylor, 1992; Hallowell, 1996; Anderson et al., 2004) and studies (Bolton, 1998; Lemon, 1999) have found overall satisfaction to have a positive effect on customer usage of telecommunications subscription services and its ability to prolong the duration of the relationship. Yet, customers are still susceptible to changing providers even if they are satisfied with their existing provider (Roos, 1999; Xavier & Ypsilanti, 2008). Reichheld et al.’s (2000) research revealed that 60-80 per cent of customers who defected to a competitor were either satisfied or very satisfied with their existing provider just prior to their defection. Thus,

325

 Inside the Small Island Economies

assuming that satisfied customers become loyal and dissatisfied customers move to competitors (Heskett et al., 1997) is an oversimplification and exposes a further research gap. Oliver’s (1997) research proffered that the longer a customer stays with a firm, the more likely they are to attribute a greater share of their custom with that firm. In some instances, the relationship becomes so important for the customer that they contribute towards efforts to maintain it (Morgan & Hunt, 1994; Reichheld, 2003; Moorman et al., 1993) even to the point of single sourcing (Payne et al., 1995). These customers become so familiar with a company and trust their service provision that they are more inclined to try new services (Blattberg & Deighton 1996; Gremler et al., 1997). Therefore, they demand a smaller proportion of communication costs for awareness building or competitive proposals and presentations (Maister, 1995) than those who are new to the company (Rowley, 2000). Additionally, improved customer retention can lead to increased employee retention as employee job pride and satisfaction has been observed to increase proportionately (Gremler et al., 1997; Shetty, 1993).

Building and Sustaining Customer Retention Research has advocated the concept that it is more profitable to sell to regular customers than to constantly acquire new ones (Rust & Zahorik, 1993; Storbacka et al., 1994; Walsh et al., 2005). Annual churn rates for telecom companies can fluctuate between 10 and 67 percent (Hughes, 2007), and it is often accepted that a successful customer loyalty strategy leads to customer retention (Li & Green, 2011) and profitability (Reichheld & Kenny, 1990; Reichheld et al., 2000; Reichheld & Sasser, 1990). As Kuusik and Varblane (2009) revealed, consumer’s decisions for telecommunication products is no longer achieved through optimised product price and quality, but companies long-term successes are reliant on building and

326

sustaining strong customer relationships. Bennett and Bove (2002) found that the initial effort to attract a new customer and achieve the first sales transaction can produce a minimal and possibly negative return when consideration is given to the administrative tasks of setting up new accounts and initial promotional expenses which is cited as costing five times more than the costs associated with retaining customers (Chakravarty et al., 1996; Congram, 1991; Dawkins & Reichheld, 1990; Sherden, 1992; Ziethaml et al., 1996; Pfeifer, 2005). Anderson and Narus (2004) concede this belief by promoting customer retention strategies as a more effective business tactic to continuously trying to replenish a customer base. It is believed that loyal customers that place frequent and similar orders usually cost less to serve (Ennew & Binks, 1996; Reichers & Schneider, 1990). Employees become familiar with their individual needs and customers understand the functions and processes of the organization which increases the efficiency flow of the transaction (Mummalaneni, 1987; Sheth & Sisodia, 1995; Chow & Holden, 1997; Congram, 1991). Emphasis on these transactions and the entire customer experience is growing in popularity as companies recognize the potential this holistic concept (Zomerdijk & Voss, 2009) has to developing a truly sustainable competitive advantage (Shaw & Ivens, 2005; Pine & Gilmore, 1998). Roo’s (1999) research revealed that positive employee interactions had a significant impact on customers’ decisions to remain with their existing supplier. This supports suggestions that increased employee retention leads to improved customer retention because long serving personnel become increasingly experienced in anticipating customer needs and creating value for such customers (Reichheld, 1993). Russell (2003) refers to this phenomenon as ‘service worker loyalty’ whereby consumers’ loyalty is established through experiences with service personnel. Goodwin and Gremler’s (1996) research revealed that some cus-

 Inside the Small Island Economies

tomers had developed such positive relationships with their service providers’ personnel that they were willing to override alternatives that were competitive in price and convenience. Yet Vargo and Lusch (2004) believe that companies are less able to orchestrate such experiences as customers play a ‘co-creation’ role tailoring their interactions through various service points. These short-term service points offer opportunities for breeding loyalty along what becomes a customer journey (Berry et al., 2002; Dahlsten, 2003) which then influences a customer’s long-term behaviour (Taylor & Neslin, 2005). Identifying these ‘trigger’ points will help service designers contribute effectively to desired experiences (Zomerdijk & Voss, 2009). Extant literature suggests the main goal of improving customer experience is to increase customers’ satisfaction and consequently their loyalty, yet there is a scarcity of research in this field (Verhoef et al., 2009; Stuart & Tax, 2004; Patrício et al., 2008; Roth & Menor, 2003; Hill et al., 2002). A report by the European Commission (2009) found that customers of telecommunication services were more prone to switching providers. While car insurance carried the highest rate (25%), it was closely followed by broadband Internet (22%), mobile telephone (19%), and fixed telephone (18%). Previous studies (Stewart, 1996; Halinen & Tahtinen, 2002; Michalski, 2004) have tried to document the switching behaviour of companies, but more recent efforts have focussed on developing a switching path analysis technique (SPAT) (Roos, 1999; Selos et al., 2013) which seeks to identify those factors which cause customers to switch to competitors so that companies can design strategies that prevent switching (Roos, 1999; Edvardsson et al., 2005; Selos et al., 2013). However, this is a reactive approach and the greater challenge lies within seeking those factors that can broaden a company’s loyal customer base (Noordhoff et al., 2004) and devising a proactive business strategy accordingly.

While the true cost ratio of loyal customers is debateable (Sterne, 2002; Reinartz & Kumar, 2002) the promotion of loyalty as a company-wide strategy has been seen to benefit the customer, the staff, and the organisation (i.e., the ‘triple bottom line’) (Johnston & Kong, 2011). However, in the B2B context, there are contradictory findings suggesting it is more expensive to serve loyal corporate customers who often demand better deals in return for their longstanding custom and demand a premium service (Reinartz & Kumar, 2002). However, improved understanding of the factors that affect supplier switches has become increasingly popular (e.g.. Heide & Weiss, 1995; Edvardsson & Strandvik, 2009; Selos et al., 2013) as the events that have the potential to influence a buyer’s decision to change providers is complex and varying among different market segments.

Market Segmentation and Effective Marketing Actions Market segmentation represents “a group of present or potential customers with some common characteristic which is relevant in explaining (and predicting) their response to a supplier’s marketing stimuli” (Hutt & Speh, 2013). Segmenting customers according to their loyalty orientation of either behavioural or attitudinal is recognised as a key informant for effective marketing actions (Dick & Basau, 1994; Mellens et al., 1996; Baldinger & Rubinson, 1996; Terblanche & Boshoff, 2006; Rauyruen et al., 2009). It is acknowledged that customers within the behavioural and attitudinal loyalty segments play a greater role in securing long term sales and market share for a company. Since these categories are key to profitability, it is important to understand their loyalty conditions and to use this understanding to develop further relationships (Knox, 1998). Dick and Basu (1994) argued that the most effective way to segment customers is by the strength of the relationship between their attitudinal and behavioural tendencies.

327

 Inside the Small Island Economies

They proposed four categories which could help businesses segment their customers and develop tailored communication strategies and marketing messages accordingly. Customer segmentation for telecommunication customers was undertaken by Kuusik and Varblane (2008) and produced five categories ranging from the ‘emotionally loyal’ to the ‘leavers’. However, Rowley’s (2005) research recognised the transitional nature of loyalty and the degrees of loyalty which are affected by customer relationships within a portfolio of brands. This is consistent with Narayandas (1998) and White and Schneider’s (2000) laddering models. It highlights the importance of acknowledging industry specific influences and the shortcomings of just classifying and segmenting customers between behavioural and attitudinal loyalty without considering other contextual factors that affect these groups over time. Effective market segmentation offers a higher order of customer relationship management programme. CRM is an enduring process that focuses on sustaining customer relationships beyond individual marketing transactions. Gummesson (2002) offers the following definition: ‘CRM is the values and strategies of relationship marketing – with particular emphasis on customer relationships – turned into practical application’. Increasingly common CRM initiatives to secure cooperative behaviours are loyalty programs (Capizzi, 2002; Lacey & Morgan, 2009). All businesses often employ loyalty programmes as part of their marketing strategy which tends to include incentives for frequenting their stores evoking a sense of loyalty. These incentives are linked to a customers purchasing frequency and have been referred to as frequent purchase programmes (Shoemaker & Lewis, 1999; Long & Schiffman, 2000; Bell & Lall, 2002) and reward programmes (Kopalle et al., 1999; Kim et al., 2001). The “rewarded behaviour” tactic encourages customers to make purchases beyond their baseline levels which are encouraged and reinforced by a future rewards

328

(Blattberg & Neslin, 1990; Rothschild & Gaidis, 1981; Lacey et al., 2007). The B2B sector is no exception whereby transaction trends and behaviour are used to develop new offerings and support customer service as a method to improve relationship longevity, reduce customer defection (Wansink, 2003) and optimize profitability (Zablah et al., 2004). However, B2B loyalty subscriptions are often instigated by the supplier and not a biased option chosen by the buyer (Lacey & Morgan, 2009). Unless buyers are able to quantify the benefits of such affiliations, such attempts by the supplier could be redundant. Wind (1970) analyzed loyalty in B2B identifying service specification, organizational settings, and buyer experience as primary antecedents but few attempts have been made to further conceptualise loyalty (Lam et al., 2004; Sirdeshmukh et al., 2002; Oliver, 1999; Parasuraman & Grewal, 2000) and bridge the knowledge gap on B2B supplier behaviour (Lacey & Morgan, 2009; Laine et al., 2012).

MANAGERIAL IMPLICATIONS AND FUTURE RESEARCH DIRECTIONS This chapter seeks to investigate the antecedents of loyalty between hoteliers in Guernsey and their telecoms provider. It provides a Loyalty Force model which presents five primary factors which exist at three intensities to illustrate the impact each factor has on the respective market segments loyalty orientation. It highlights that loyalty is influenced by issues that originate internally within the buyers organisation, by direct actions from their existing supplier, and external market conditions. However, the common factor that makes the most contribution to developing loyalty with their existing supplier is product performance. The other key factors emerging from the findings of the study which are seen to impact loyalty orientation are relationship strength, perceived value, organisational norms, and the competitive environment. From the research findings and discussion, a

 Inside the Small Island Economies

number of conclusions can be drawn which offer contributions to the broader discussion of loyalty and Small Island specific idiosyncrasies. As with most Small Island economies, limited market size, and low competition thwarts the improvements for efficiency and innovation as enjoyed by highly mature markets (Briguglio, 1995; World Bank, 2000). While Guernsey has been able to surmount some Small Island constraints through the success of their finance industry, the limited market size for telecom services has resulted in low competition. Across the services (mobile, broadband, telephone) reviewed for this study, a total of four service providers were recorded. Each of these products can be held with separate providers and this spread of services offers little opportunity for brand loyalty to develop (Anisimova, 2007). This is exacerbated by apparent brand confusion among customers who are uncertain about where the service provision of one provider ends and the other begins. This appears to result from majority ownership of the infrastructure being held by a single company and devolved responsibility for maintenance. Brand functionality plays an important role in consumer evaluations of durable products (Brucks et al., 2000) This has significant implications for managers and their corporate branding positioning strategies and incorporating a symbolic dimension to their customers overall experience (Anisimova, 2007). Managers should improve their communication to customers paying particular attention to offering clear guidance on how to seek support and conveying the value and benefits of their service (Narayandas, 2005) over their competitors. As technological improvements are made in the global economy, the expectations of tourists and visitors to Small Island economies will increase and hoteliers and other buyer’s will place greater pressure on their telecom’s provider to contribute to their value chain. In this respect, Small Island’s intrinsic insularity can limit or prevent access to established infrastructure and technologies. This has resulted in an underlying complacency towards

service failures despite product performance being seen as the most common measure for moving towards higher levels of composite loyalty. This attitude could also be a residual outcome from when the telecoms industry was a Government owned and operated monopoly. Despite the privatisation of this industry 13 years ago and more competitors in the market, there is an apparent absence of attempts or initiatives by telecom companies to improve loyalty among this segment. The imminent arrival of improved technologies such as 4G and LTE will reduce the entry barriers currently posed by monopolised infrastructure ownership increasing competitor’s accessibility to the Guernsey market. Relational aspects are important in any B2B environment (Chaudhuri & Holbrook, 2001; DeWulf et al., 2001; Gwinner et al., 1998; Sheth & Parvatiyar, 1995), though managers have been criticised for focusing only on the performance of core service and neglecting the importance of relationship building by (Ramaseshan et al., 2013). While some market segments in this research rate relationship strength as a key factor in their loyalty orientation, it is the dominance of product performance that will prevail as a determinant for most buyers and managers should continue to focus on investing in infrastructure improvements and the requisite technical capabilities of their employees. With the looming prospect of increased competition, incumbent companies have an opportunity to improve loyalty rates by applying the Loyalty Force model and improving their service offerings based on those factors identified from their customer’s perspective. A customer-led segmentation exercise, whereby businesses understand directly from their customers what is required and desired from the relationship, can allow shortcomings and best practice to be identified between customer segments. Such segmentation will provide a useful measure of customer’s propensity to develop loyalty and assist managers in assessing the potential value of their customer’s portfolio (Meyer-Waarden, 2008). Marketers can-

329

 Inside the Small Island Economies

not expect to sell packaged or canned experiences across all target customers (Mascarenhas et al., 2006). The majority of participants hold long-term relationships with their current providers, but none of them attributed their relationship length to a loyalty programme or similar initiative. This reveals a gap in telecom companies’ offerings and the opportunity to develop a programme to reward their customers for their long service to date and install incentives for ongoing commitment. Managers should set up systems and processes that facilitate repurchase and rewards portfoliowide purchase habits (Papassapa et al., 2009; Ramaseshan et al., 2013). Opening a two-way communication flow may lead to more effective and efficient ways of recognising customers who have experienced difficulties (McMullan & Gilmore, 2008) and support future marketing strategies and loyalty initiatives. By using these periodical reviews, telecommunication companies will be able to track and evaluate the success of their marketing strategies. The Loyalty Force model illustrated in Figure 8 is not an isolated tool but one that can be used alongside other methods for evaluating portfolio performance to develop a long-term loyalty strategy for their business customers. It identifies the major factors of product performance, perceived value, organisational norms, relationship strength, and the wider competitive environment which have a varying influence depending on the level of loyalty held by the buyer. It shows how these factors can contribute positively or negatively to a customer segments loyalty orientation and those forces that can progress or inhibit high levels of composite loyalty. This analysis is relevant to the telecom company’s customers within the hotel sector but a similar analysis can be carried out for any industry or customer segment to illuminate common trends and distinct differences in service demands. Furthermore, understanding the complexity of loyalty requires recognizing customer’s attitudes, their desired intentions, and evaluations (Oliver,

330

1999). While these can reveal contradictory needs and expectations, it also allows a thematic thread to be identified and integrated into CRM strategies. While CRM software can support churn analysis to predict potential leavers (Kuusik & Varblane, 2009), it is also important to recognise the factors of product performance, perceived value, organisational norms, relationship strength and the wider competitive environment that collectively impact the loyalty orientation respective market segments. The current study is without its limitations. Business leaders and academics have called for greater knowledge and understanding to increase customer loyalty (Oliver, 1999; Knox & Walker, 2001). Our findings suggest that buyers do not invest their loyalty according to relationship quality nor do they commit their custom to suppliers with superior offerings. Instead, it is dictated by provider’s ability to provide reliable product infrastructures. This study does not dismiss the value that social interactions contribute to B2B relationships and in fact shows that it can act as a positive force for relationship longevity. However, relying on relationship length or providing value in the form of competitive offers is not sufficient to get buyers to commit across the businesses product portfolio or develop a loyal attachment to the relationship. The sustainability of B2B relationships are grounded on high levels of product and service performance and companies’ willingness to acknowledge and respond to their customers’ needs.

REFERENCES Age, L. J. (2011). Business manoeuvring: A model of B2B selling processes. Management Decision, 49(9), 1574–1591. doi:10.1108/00251741111173998 Ajzen, I., & Fishbein, M. (1980). Understanding Attitudes and Predicting Social Behaviour. Prentice-Hall.

 Inside the Small Island Economies

Ajzen, I., & Fishbein, M. (2000). Attitudes and the attitude-behaviour relation: Reasoned and automatic processes. European Review of Social Psychology, 11(1), 1–33. doi:10.1080/14792779943000116

Arnould, E. J., & Wallendorf, M. (1994). Marketoriented ethnography: Interpretation building and marketing strategy formulation. JMR, Journal of Marketing Research, 31(4), 484–505. doi:10.2307/3151878

Aksoy, L., Buoye, A., Aksoy, P., Lariviere, B., & Keiningham, T. L. (2013). A Cross-national Investigation of the Satisfaction and Loyalty Linkage for Mobile Telecommunications Services across Eight Countries. Journal of Interactive Marketing, 27(1), 74–82. doi:10.1016/j.intmar.2012.09.003

Astley, W. (1985). Administrative science as socially constructed truth. Administrative Science Quarterly, 30(4), 497–513. doi:10.2307/2392694

Albert, N., & Merunka, D. (2013). The role of brand love in consumer-brand relationships. Journal of Consumer Marketing, 30(3), 258–266. doi:10.1108/07363761311328928 Anderson, E., & Weitz, B. (1992). The use of pledges to build and sustain commitment in distribution channels. JMR, Journal of Marketing Research, 24(1), 18–34. doi:10.2307/3172490 Anderson, E. W., Fornell, C., & Mazvancheryl, S. K. (2004). Customer satisfaction and shareholder value. Journal of Marketing, 68(1), 172–185. doi:10.1509/jmkg.68.4.172.42723 Anderson, J. C. (1995). Relationships in business markets: Exchange episodes, value creation, and their empirical assessment. Journal of the Academy of Marketing Science, 23(1), 346–350. doi:10.1177/009207039502300415 Anderson, J. C., & Narus, J. A. (1990). A model of distributor firm and manufacturer firm working partnerships. Journal of Marketing, 54(1), 42–58. doi:10.2307/1252172 Anderson, J. C., & Narus, J. A. (2004). Business Market Management: Understanding, Creating, and Delivering Value. Pearson Education. Anisimova, T. A. (2007). The effects of corporate brand attributes on attitudinal and behavioural consumer loyalty. Journal of Consumer Marketing, 24(7), 395–405. doi:10.1108/07363760710834816

Ata, U. Z., & Toker, A. (2012). The effect of customer relationship management adoption in business-to-business markets. Journal of Business and Industrial Marketing, 27(6), 497–507. doi:10.1108/08858621211251497 Auh, S. (2005). The effects of soft and hard service attributes on loyalty: The mediating role of trust. Journal of Services Marketing, 19(2), 81–92. doi:10.1108/08876040510591394 Avlonitis, G. J., & Gounaris, S. P. (1997). Marketing Orientation and Company Performance. Industrial Marketing Management, 26(5), 385–402. doi:10.1016/S0019-8501(96)00121-6 Backman, S. J., & Crompton, J. L. (1991). Differentiating between high, spurious, latent and low loyalty participants in two leisure activities. Journal of Park and Recreation Administration, 9, 1–17. Baldacchino, G. (2006). Island Studies. Island Studies Journal, 1(1), 3–18. Baldinger, A. L., & Rubinson, J. (1996). Brand Loyalty: The Link between attitude and behaviour. Journal of Advertising Research, 36(6), 22–34. Ball, D., Coelho, P. S., & Machás, A. (2004). The role of communication and trust in explaining customer loyalty: An extension to the ECSI model. European Journal of Marketing, 38(10), 1272–1293. doi:10.1108/03090560410548979

331

 Inside the Small Island Economies

Barbour, R. S. (1998). Mixing qualitative methods: Quality assurance or qualitative quagmire? Qualitative Health Research, 8(3), 352–361. doi:10.1177/104973239800800306 PMID:10558336 Barry, J. M., Dion, P., & Johnson, W. (2008). A cross-cultural examination of relationship strength in B2B services. Journal of Services Marketing, 22(2), 114–135. doi:10.1108/08876040810862868

Birgelen, M., Wetzels, M., & Ruyter, K. (1997). Commitment in service relationships: an empirical test of antecedents and consequences. In EMAC Conference Proceedings. University of Warwick. Bitner, M. J., Booms, B. H., & Tetreault, M. S. (1990). The service encounter: Diagnosing favourable and unfavourable incidents. Journal of Marketing, 54(1), 71–84. doi:10.2307/1252174

Batra, R., Ahuvia, A. C., & Bagozzi, R. (2012). Brand love. Journal of Marketing, 76(2), 1–16. doi:10.1509/jm.09.0339

Blattberg, R. C., & Deighton, J. (1996). Manage Marketing by the Customer Equity Test. Harvard Business Review, 74(4), 136–144. PMID:10158473

Baum, T. G. (1996). The Fascination of Islands: The Tourist Perspective. In Island Tourism: Problems and Perspectives (pp. 21–35). London: Pinter.

Blattberg, R. C., & Neslin, S. A. (1990). Sales Promotion – Concepts, Methods and Strategies. Prentice Hall.

Bell, D., & Lall, R. (2002). The impact of frequent shopper programs in grocery retailing. In Review of Marketing Science. Berkeley, CA: Berkeley Electronic Press.

Bloemer, J., & Odekerken-Schröder, G. (2002). Store satisfaction and store loyalty explained by customer- and store-related factors. Journal of Consumer Satisfaction. Dissatisfaction and Complaining Behaviour, 15, 68–80.

Bennett, R., & Bove, L. (2002). Identifying the key issues for measuring loyalty. Journal of Marketing Research, 9(2), 27–44. Bennett, R., & Rundle-Thiele, S. (2002). A comparison of attitudinal loyalty measurement approaches. Journal of Brand Management, 9(3), 193–209. doi:10.1057/palgrave.bm.2540069 Berger, P., & Luckmann, T. (1966). The Social Construction of Reality. New York: Anchor Books. Berry, J. M. (2002). Validity and reliability issues in elite interviewing. Political Science and Politics, 35(4), 679–682. doi:10.1017/ S1049096502001166 Berry, L. L., Carbone, L. P., & Haeckel, S. H. (2002). Managing the total customer experience. MIT Sloan Management Review, 43, 85–90.

332

Bolton, R., Kannan, P., & Bramlett, M. (2000). Implications of loyalty program membership and service experiences for customer retention and value. Journal of the Academy of Marketing Science, 28(1), 95–108. doi:10.1177/0092070300281009 Bolton, R. N. (1998). A Dynamic Model of the Duration of the Customer’s Relationship with a Continuous Service Provider: The Role of Satisfaction. Marketing Science, 17(1), 45–65. doi:10.1287/mksc.17.1.45 Bonoma, T. V. (1985). Case-research in marketing: Problems and opportunities and a process. Journal of Marketing Research, 22, 199–208. doi:10.2307/3151365 Borch, O. J., & Arthur, M. B. (1995). Strategic Networks Among Small Firms: Implications for Strategy Research Methodology. Journal of Management Studies, 32(4), 423–424. doi:10.1111/j.1467-6486.1995.tb00783.x

 Inside the Small Island Economies

Bove, L. L., & Johnson, L. W. (2000). A customerservice worker relationship model. International Journal of Service Industry Management, 11(5), 491–511. doi:10.1108/09564230010360191 Bowen, J. T., & Shoemaker, S. (1998). Loyalty: A strategic commitment. The Cornell Hotel and Restaurant Administration Quarterly, 39(1), 12–25. doi:10.1177/001088049803900104

Caceres, R. C., & Paparoidamis, N. G. (2007). Service quality, relationship satisfaction, trust, commitment and business to business loyalty. European Journal of Marketing, 41(8), 836–867. doi:10.1108/03090560710752429 Capizzi, M. (2002). Small business, big potential. Colloquy, 11(2). Retrieved on December 12, 2013, from: http://www.colloquy.com/files/v11i2.pdf

Boyatzis, R. (1998). Transforming qualitative information: Thematic analysis and code development. Thousand Oaks, CA: Sage Publications.

Cassell, C., & Symon, G. (2004). Essential Guide to Qualitative Research. Thousand Oaks, CA: Sage Publishing. doi:10.4135/9781446280119

Braun, V., & Clarke, V. (2006). Using Thematic Analysis in Psychology. Qualitative Research in Psychology, 3(2), 77–101. doi:10.1191/1478088706qp063oa

Chakravarty, S., Widdows, R., & Feinberg, R. A. (1996). How “moments of truth” define bankcustomer relationships. Journal of Retail Banking Services, 28(1), 29–34.

Briguglio, L. (1995). Small Island Developing States and Their Economic Vulnerabilities. World Development, 23(9), 1615–1632. doi:10.1016/0305-750X(95)00065-K

Charmaz, K. (2006). Grounded theory: A practical guide through qualitative analysis. Thousand Oaks, CA: Sage Publishing.

Brucks, M., Zeithaml, V. A., & Naylor, G. (2000). Price and brand names as indicators of quality dimensions for consumer durables. Journal of the Academy of Marketing Science, 28(3), 359–374. doi:10.1177/0092070300283005

Chaudhuri, A. (1996). The relationship of attitudes, habit and loyalty to market share in relation to a staple good in a local grocery store: An exploratory study. Journal of Business and Psychology, 11(2), 265–274. doi:10.1007/BF02193862

Buchanan, L., Simmons, C. J., & Bickart, B. A. (1999). Brand equity dilution: Retailer display and context brand effects. JMR, Journal of Marketing Research, 36(3), 345–355. doi:10.2307/3152081

Chaudhuri, A., & Holbrook, M. B. (2001). The chain of effects from brand trust and brand affect to brand performance: The role of brand loyalty. Journal of Marketing, 65(2), 81–93. doi:10.1509/ jmkg.65.2.81.18255

Burrell, G., & Morgan, G. (1980). Sociological Paradigms and Organizational Analysis. London: Heinemann Education.

Choi, D., & Valikangas, L. (2001). Patterns of strategy innovation. European Management Journal, 19(1), 7–26.

Butz, H. E. Jr, & Goodstein, L. D. (1996). Measuring customer value: Gaining a strategic advantage. Organizational Dynamics, 24(3), 63–77. doi:10.1016/S0090-2616(96)90006-6

Chow, S., & Holden, R. (1997). Toward an understanding of loyalty: The moderating role of trust. Journal of Managerial Issues, 9(3), 275–298. Chumpitaz, R., & Paparoidamis, N. G. (2007). Service quality, relationship satisfaction, trust, commitment and business-to-business loyalty. European Journal of Marketing, 41(8), 836–867.

333

 Inside the Small Island Economies

Churchill, G. A. (1999). Marketing Research: methodological foundations. Orlando, FL: The Dryden Press.

Cox, G. S. (2010). Isolmania and Guernsey. Retrieved on November 12, 2013, from: http://sicrinetwork.org/ISIC6/c.%20ISIC6P%20Cox.pdf

Cialdini, R. B. (1993). Influence: Science and Practice. New York: Harper Collins Publishing.

Craig, C. S., & Douglas, S. P. (2001). Conducting international marketing research in the twenty-first century. International Marketing Review, 18(1), 80–90. doi:10.1108/02651330110398413

CICRA. (2011). Channel Islands Competition and Regulatory Authorities (CICRA) Telecommunications Statistics Market Report. Retrieved on October 15, 2013, from: http://www.cicra. gg/_files/Market%20Statistics%202011%20-%20 FINAL5625656323.pdf Cioffi, D., & Garner, R. (1996). On doing the decision: Effects of active versus passive choice on commitment and self-perception. Personality and Social Psychology Bulletin, 22(2), 133–147. doi:10.1177/0146167296222003 Collins, D. (1996). New paradigms for change? Theories of organization and the organization of theories. Journal of Organizational Change Management, 9(4), 9–23. doi:10.1108/09534819610124025 Collis, J., & Hussey, R. (2009). Business Research: A Practical Guide for Undergraduate and Postgraduate Students. Basingstoke, UK: Palgrave Macmillan. Congram, C. A. (1991). Building relationships that last. In C. A. Congram & M. L. Friedman (Eds.), The AMA Handbook for Marketing for the Services Industries. New York: American Management Association. Corbin, J., & Strauss, A. (2008). Basics of qualitative research: Techniques and procedures for developing grounded theory. Thousand Oaks, CA: Sage Publishing. Coviello, N. E., & Brodie, R. J. (2001). Contemporary marketing practices of consumer and businessto-business firms: How different are they? Journal of Business and Industrial Marketing, 16(5), 382–400. doi:10.1108/08858620110400223

334

Crawford, I. (1997). Case study research. Silsoe: Cranfield University. Creswell, J. W. (2002). Educational research: Planning, conducting, and evaluating quantitative and qualitative approaches to research. Pearson Education. Cronin, J. J. Jr, Brady, M. K., & Hult, G. T. M. (2000). Assessing the effects of quality, value, and customer satisfaction on consumer behavioural intentions in service environments. Journal of Retailing, 76(2), 193–218. doi:10.1016/S00224359(00)00028-2 Cronin, J. J., & Taylor, S. A. (1992). Measuring Service Quality: A Re-examination and Extension. Journal of Marketing, 56(3), 55–68. doi:10.2307/1252296 Crosby, L., & Johnson, S. (2006). Exceptional experience: Market tactics that are quickly copied might erode customer loyalty. Marketing Management. Crouch, G. I., Perdue, R. R., Timmermans, H. J. P., & Uysal, M. (2004). Consumer Psychology of Tourism, Hospitality and Leisure (pp. 275–287). Oxon, UK: CABI Publishing. doi:10.1079/9780851997490.0000 Cunningham, R. M. (1956). Brand Loyalty What, Where. How Much? Journal of Marketing, 21(2), 206. Czepiel, J. A. (1990). Service encounters and service relationships: Implications for research. Journal of Business Research, 20(1), 13–21. doi:10.1016/0148-2963(90)90038-F

 Inside the Small Island Economies

Dahlsten, F. (2003). Avoiding the customer satisfaction rut. MIT Sloan Management Review, 44(3), 73–77.

Duffy, D. L. (1998). Customer loyalty strategies. Journal of Consumer Marketing, 15(5), 435–448. doi:10.1108/07363769810235910

Daly, J., Kellehear, A., & Gliksman, M. (1997). The public health researcher: A methodological approach. Melbourne: Oxford University Press.

Duffy, D. L. (2003). Internal and external factors which affect customer loyalty. Journal of Consumer Marketing, 20(5), 480–485. doi:10.1108/07363760310489715

Darian, J. C., Tucci, L. A., & Wiman, A. R. (2001). Perceived salesperson service attributes and retail patronage intentions. International Journal of Retail & Distribution Management, 29(5), 205–213. doi:10.1108/09590550110390986

DuWors, R. E., & Haines, G. H. (1990). Event history analysis measures of brand loyaty. JMR, Journal of Marketing Research, 27(2), 485. doi:10.2307/3172633

Dawkins, P. M., & Reichheld, F. F. (1990). Customer retention as a competitive weapon. Directors & Boards, 14(4), 42–47.

Dwyer, F. R., Schurr, P. H., & Oh, S. (1987). Developing buyer-seller relationships. Journal of Marketing, 51(1), 11–27. doi:10.2307/1251126

Day, G. S. (1969). A two-dimensional concept of brand loyalty. Journal of Advertising Research, 9(3), 29–35.

East, R., Hammond, K., Harris, P., & Lomax, W. (2000). First-store loyalty and retention. Journal of Marketing Management, 16(4), 307–325. doi:10.1362/026725700784772907

Day, G. S. (2003). Creating a superior customerrelating capability. MIT Sloan Management Preview, 44(3), 77–83. Denzin, N. K. (1978). The research act. New York: McGraw-Hill. Denzin, N. K., & Lincoln, Y. S. (2005). Handbook of Qualitative Inquiry. Thousand Oaks, CA: Sage Publishing. DeWulf, K., Odekerken-Schroder, G., & Iacobucci, D. (2001). Investments in Consumer Relationships: A cross-country and cross-industry exploration. Journal of Marketing, 65(4), 33–50. doi:10.1509/jmkg.65.4.33.18386 Dick, A. S., & Basu, K. (1994). Customer loyalty: Toward an integrated conceptual framework. Journal of the Academy of Marketing Science, 22(2), 99–113. doi:10.1177/0092070394222001 Dowling, G. R., & Uncles, M. (1997). Do customer loyalty programs really work? Sloan Management Review, 38(4), 71–82.

Edvardsson, B., Gustafsson, A., & Roos, I. (2005). Service portraits in service research: A critical review. International Journal of Service Industry Management, 16(1), 107–121. doi:10.1108/09564230510587177 Edvardsson, B., & Strandvik, T. (2009). Critical times in business relationships. European Business Review, 21(4), 326–343. doi:10.1108/09555340910970436 Eggert, A., & Ulaga, W. (2002). CustomerPerceived Value: A Substitute for Satisfaction in Business Markets? Journal of Business and Industrial Marketing, 17(2), 107–118. doi:10.1108/08858620210419754 Ehrenberg, A., & Goodhart, G. (2000). New Brands: Near Instant Loyalty. Journal of Marketing Management, 16(6), 607–618. doi:10.1362/026725700785045912 Ehrenberg, A. S. C. (1988). Repeat Buying: Facts, Theory and Applications. London: Griffin.

335

 Inside the Small Island Economies

Ehrenberg, A. S. C., & Goodhardt, G. J. (1970). A model of multi-brand buying. JMR, Journal of Marketing Research, 7(1), 77–84. doi:10.2307/3149510 Eisenhardt, K., & Graebner, M. (2007). Theory Building from Cases: Opportunities and Challenges. Academy of Management Journal, 50(1), 25–32. doi:10.5465/AMJ.2007.24160888 Ennew, C. T., & Binks, M. R. (1996). The impact of service quality and service characteristics on customer retention: Small businesses and banks in the UK. British Journal of Management, 7(3), 219–230. doi:10.1111/j.1467-8551.1996. tb00116.x Erzberger, C., & Kelle, U. (2003). Making inferences in mixed methods: the rules of integration. In A. Tashakkori & C. Teddlie (Eds.), Handbook of mixed methods in social and behavioural research (pp. 457–488). Thousand Oaks, CA: Sage Publishing. European Commission. (2009). Consumers views on switching service providers, Directorate-General Health and Consumer Protection. Retrieved on October 17, 2013, from: http://ec.europa.eu/ consumers/strategy/docs/FL243_Summary_Final.pdf Farley, J. U. (1964). Why does brand loyalty vary over products? JMR, Journal of Marketing Research, 1(4), 9–14. doi:10.2307/3150371 Ford, D., & Hakansson, H. (2006). IMP – some things achieved: Much more to do. European Journal of Marketing, 40(3), 248–258. doi:10.1108/03090560610648039 Freeman, S., & Cavusgil, S. T. (2007). Toward a typology of commitment states among managers of born-global firms: A study of accelerated internationalization. Journal of International Marketing, 15(4), 1–40. doi:10.1509/jimk.15.4.1

336

Ganesan, S. (1994). Determinants of long-term orientation in buyer-seller relationships. Journal of Marketing, 58(1), 1–19. doi:10.2307/1252265 Ganesan, S., & Hess, R. (1997). Dimensions and levels of trust: Implications for commitment to a relationship. Marketing Letters, 8(4), 439–448. doi:10.1023/A:1007955514781 Ganesh, J., Arnold, M. J., & Reynolds, K. E. (2000). Understanding the Customer Base of Service Providers: An Examination of the Differences between Switchers and Stayers. Journal of Marketing, 64(3), 65–87. doi:10.1509/ jmkg.64.3.65.18028 Garbarino, E., & Johnson, M. S. (1999). The different roles of satisfaction, trust, and commitment in customer relationships. Journal of Marketing, 63(2), 70–87. doi:10.2307/1251946 Geyskens, I., Steenkamp, J.-B., & Kumar, N. (1999). A meta-analysis of satisfaction in marketing channel relationships. Journal of Marketing Research, 36(2), 223–238. doi:10.2307/3152095 Gil-Saura, I., Frasquet-Deltoro, M., & CerveraTaulet, A. (2009). The value of B2B relationships. Industrial Management & Data Systems, 109(5), 593–609. doi:10.1108/02635570910957605 Gill, J., & Johnson, P. (2002). Research Methods for Managers. London: Sage Publishing. Gilliland, D. I., & Bello, D. C. (2002). Two sides to attitudinal commitment: The effect of calculative and royalty commitment on enforcement mechanisms in distribution channels. Journal of the Academy of Marketing Science, 30(1), 24–43. doi:10.1177/03079450094306 Gioia, D. G., & Pitre, E. (1990). Multiparadigm perspectives on theory building. Academy of Management Review, 15(4), 584–602. Glaser, B. G., & Strauss, A. L. (1967). Discovery of Grounded Theory: Strategies for Qualitative Research. New York: Aldine de Gruyter.

 Inside the Small Island Economies

Gómez, A., Arranz, G., & Gutiérrez Cillán, J. (2006). The role of loyalty programs in behavioural and affective loyalty. Journal of Consumer Marketing, 23(7), 387–396. doi:10.1108/07363760610712920 Goodwin, C., & Gremler, D. D. (1996). Friendship over the counter: How social aspects of service encounters influence consumer service loyalty. In T. A. Swartz, D. E. Bowen, & S. W. Brown (Eds.), Advances in Services Marketing and Management. London: JAI Press, Inc. doi:10.1016/ S1067-5671(96)05059-7 Grayson, K., & Ambler, T. (1999). The dark side of long-term relationships in marketing services. JMR, Journal of Marketing Research, 36(1), 132–141. doi:10.2307/3151921 Greene, J., & McClintock, C. (1985). Triangulation in evaluation: Design and analysis issues. Evaluation Review, 9(5), 523–545. doi:10.1177/0193841X8500900501 Greene, J. C., Caracelli, V. J., & Graham, W. F. (1989). Toward a conceptual framework for mixed method evaluation designs. Educational Evaluation and Policy Analysis, 11(3), 255–274. doi:10.3102/01623737011003255 Gremler, D. D., & Brown, S. W. (1998). Service loyalty: antecedents components and outcomes. American Marketing Association. Gremler, D. D., Gwinner, K., & Bitner, M. (1997). An empirical examination of relational benefits in services industries: What so customers receive from the relationship? Paper presented at the Marketing Theory and Applications AMA Winter Educators’ Conference. Chicago, IL. Grönroos, C. (1990). Marketing redefined. Management Decision, 28(8), 5–9. doi:10.1108/00251749010139116

Grönroos, C. (2000). Service Management and Marketing. A Customer Relationship Management Approach. Chichester, UK: John Wiley and Sons. Guadagni, P. M., & Little, J. D. C. (1983). A Logit Model of Brand Choice Calibrated on Scanner Data. Marketing Science, 2(3), 203–238. doi:10.1287/mksc.2.3.203 Guba, E. G., & Lincoln, Y. S. (1994). Competing paradigms in qualitative research. In N. K. Denzin & Y. S. Lincoln (Eds.), Handbook of Qualitative Research (pp. 105–117). Thousand Oaks, CA: Sage Publishing. Guernsey Government. (2012a). Retrieved on November 13, 2013, from: http://www.gov.gg/ article/106608/Guernsey-Annual-PopulationBulletin-2012 Guernsey Government. (2012b). Towards an Economic Development Strategy for Guernsey. Retrieved on October 15, 2013, from: http://www. gov.gg/CHttpHandler.ashx?id=81714andp=0 Guest, G., MacQueen, K. M., & Namey, E. E. (2012). Applied Thematic Analysis. Thousand Oaks, CA: Sage Publishing Inc. Guest, L. (1955). Brand loyalty - twelve years later. The Journal of Applied Psychology, 39(6), 405–408. doi:10.1037/h0043528 Gummesson, E. (1993). Quality Management in Service Organizations: An Interpretation of the Service Quality Phenomenon and a Synthesis of International Research. Karlstad: International Service Quality Association. Gummesson, E. (1994). Making relationship marketing operational. International Journal of Service Management, 5(5), 5–20. doi:10.1108/09564239410074349 Gummesson, E. (2002). Total Relationship Marketing. Oxford, UK: Butterworth-Heinemann.

337

 Inside the Small Island Economies

Gummesson, E. (2004). Return on relationships (ROR): The value of relationship marketing and CRM in business-to-business contexts. Journal of Business and Industrial Marketing, 19(2), 136–148. doi:10.1108/08858620410524016 Gurau, C., & Ranchhod, A. (2005). International green marketing: A comparative study of British and Romanian firms. International Marketing Review, 22(5), 547–561. doi:10.1108/02651330510624381 Gustafsson, A., Johnson, M. D., & Roos, I. (2005). The effects of customer satisfaction, relationship commitment dimensions and triggers on customer retention. Journal of Marketing, 69(4), 210–218. doi:10.1509/jmkg.2005.69.4.210 Gwinner, K. P., Gremler, D. D., & Bitner, M. J. (1998). Relational benefits in services industries: The customer’s perspective. Journal of the Academy of Marketing Science, 26(2), 101–114. doi:10.1177/0092070398262002 Halinen, A., & Tahtinen, J. (2002). A process theory of relationship ending. International Journal of Service Industry Management, 13(2), 163–180. doi:10.1108/09564230210425359 Halinen, A., & Tornroos, J. A. (2005). Using case methods in the study of contemporary business networks. Journal of Business Research, 58(9), 1285–1297. doi:10.1016/j.jbusres.2004.02.001 Hallowell, R. (1996). The relationships of customer satisfaction, customer loyalty, and profitability: An empirical study. International Journal of Service Industry Management, 7(4), 27–42. doi:10.1108/09564239610129931 Hampton, M. P., & Christensen, J. (2002). Offshore Pariahs? Small Island Economies, Tax Havens, and the Re-configuration of Global Finance. London: Elsevier Science Ltd.

338

Harris, R., & Goodman, J. (2001). B2B: Back to basics – driving shareholder value. Strategy and Leadership, 29(6), 27–34. doi:10.1108/10878570110411358 Heide, J. B., & Weiss, A. M. (1995). Vendor consideration and switching behaviour for buyers in high-technology markets. Journal of Marketing, 59(3), 30–43. doi:10.2307/1252117 Hennig-Thurau, T., Gwinner, K. P., & Gremler, D. D. (2002). Understanding relationship marketing outcomes: An integration of relational benefits and relationship quality. Journal of Service Research, 4(3), 230–247. doi:10.1177/1094670502004003006 Heskett, J., Sasser, E., & Schelesinger, I. (1997). The Service Profit Chain: How Leading Companies Link Profit and Growth to Loyalty. New York: The Free Press. Heskett, J. L. (2002). Beyond customer loyalty. Managing Service Quality, 12(6), 355–357. doi:10.1108/09604520210451830 Hess, A. (1990). Overview: Sustainable Development and Environmental Management of Small Islands. In W. Beller, P. D. d’Ayala, & P. Hein (Eds.), Sustainable Development and Environmental Management of Small Islands. Paris: UNESCO. Hill, A. V., Collier, D. A., Froehle, C. M., Goodale, J. C., Metters, R. D., & Verma, R. (2002). Research opportunities in service process design. Journal of Operations Management, 20(2), 189–202. doi:10.1016/S0272-6963(01)00092-4 Hoffman, M. L. (1986). Affect, cognition, and motivation. In R. M. Sorrentino & E. T. Higgins (Eds.), Handbook of Motivation and Cognition: Foundation of Social Behaviour. New York: Guildford Press. Hofmeyr, J., & Rice, B. (2000). Commitment-led Marketing. Chichester, UK: Wiley and Sons.

 Inside the Small Island Economies

Holloway, I., & Todres, L. (2003). The status of method: Flexibility, consistency and coherence. Qualitative Research, 3(3), 345–358. doi:10.1177/1468794103033004

Johnson, G., Scholes, K., & Whittington, R. (2011). Exploring Strategy. Essex, UK: Prentice Hall.

Hughes, A. M. (2007). Churn reduction in the telecom industry. Retrieved on October 18, 2013, from: www.telecommarketing.com/index.php?q 1/4 node/29

Johnson, M. D., & Fornell, C. (1991). A Framework for Comparing Customer Satisfaction Across Individuals and Product Categories. Journal of Economic Psychology, 12(2), 267–286. doi:10.1016/0167-4870(91)90016-M

Hyde, K. F. (2000). Recognising deductive processes in qualitative research. Qualitative Market Research: An International Journal, 3(2), 82–90. doi:10.1108/13522750010322089

Johnson, M. D., Herrmann, A., & Huber, F. (2006). The evolution of loyalty intentions. Journal of Marketing, 70(2), 122–132. doi:10.1509/ jmkg.70.2.122

International Telecommunications Union. (2013). ICT Facts and Figures 2013. Retrieved on December 12, 2013, from: http://www.itu.int/en/ ITU-D/Statistics/Documents/facts/ICTFactsFigures2013-e.pdf

Johnston, R., & Kong, X. (2011). The customer experience: A road-map for improvement. Managing Service Quality, 21(1), 5–24. doi:10.1108/09604521111100225

Island Analysis. (2013). Island Monitor 2013. Guernsey: Island Analysis Limited. Jacoby, J., & Chestnut, R. W. (1978). Brand Loyalty: Measurement and Management. New York: John Wiley and Sons. Jacoby, J., & Kyner, D. B. (1973). Brand loyalty vs. repeat purchasing behaviour. Journal of Marketing Research, 10(1), 1–9. doi:10.2307/3149402 Jain, A. K., Pinson, C., & Malhotra, N. K. (1987). Customer loyalty as a construct in the marketing of banking services. International Journal of Bank Marketing, 5(3), 49–72. doi:10.1108/eb010811 Jamal, A. (2004). Retail banking and customer behaviour: A study of self concept, satisfaction and technology usage. International Review of Retail, Distribution and Consumer Research, 14(3), 357–379. doi:10.1080/09593960410001678381 Jick, T. D. (1979). Mixing qualitative and quantitative methods: Triangulation in action. Administrative Science Quarterly, 24(4), 602–611. doi:10.2307/2392366

Jones, T. O., & Sasser, W. E. (1995). Why satisfied Costumers Defect. Harvard Business Review, 73(6), 88–99. Kandampully, J. (1998). Service quality to service loyalty: A relationship which goes beyond customer services. Total Quality Management, 9(6), 431–443. doi:10.1080/0954412988370 Keaveney, S. M. (1995). Customer Switching Behaviour in Service Industries: An Exploratory Study. Journal of Marketing, 59(1), 71–82. doi:10.2307/1252074 Keaveney, S. M. (1995). Customer Switching Behaviour in Service Industries: An Exploratory Study. Journal of Marketing, 59(2), 71–82. doi:10.2307/1252074 Keiningham, T. L., Perkins-Minn, T., & Evans, H. (2003). The impact of customer satisfaction on share-of-wallet in a business-to-business environment. Journal of Service Research, 6(1), 37–50. doi:10.1177/1094670503254275 Kim, B., Shi, M., & Srinivasan, K. (2001). Reward programs and tacit collusion. Marketing Science, 20(2), 99–120. doi:10.1287/mksc.20.2.99.10191

339

 Inside the Small Island Economies

Kim, K., & Frazier, G. L. (1997). Measurement of distributor commitment in industrial channels of distribution. Journal of Business Research, 40(2), 139–154. doi:10.1016/S0148-2963(96)00284-6

Lacey, R., Suh, J., & Morgan, R. M. (2007). Differential effects of preferential treatment levels on relational outcomes. Journal of Service Research, 9(3), 241–256. doi:10.1177/1094670506295850

King, R. (1993). The geographical fascination of islands. In D. Locakhart, D. Drakakis-Smith, & J. Schembri (Eds.), The development process in small island states (pp. 13–37). London: Routeledge.

Laine, T. J., Paranko, J., & Suomala, P. (2012). Using a business game concept to enhance servitization: A longitudinal case study. Managing Service Quality, 22(5), 428–446. doi:10.1108/09604521211281369

Knox, S. (1998, July 3). Loyal to the Core. Campaign, 30-2. Knox, S. D., & Walker, D. (2003). Empirical developments in the measurement of involvement, brand loyalty and their relationship in grocery markets. Journal of Strategic Marketing, 11(7), 271–286. doi:10.1080/0965254032000159072 Krosnick, J. A., & Petty, R. E. (1995). Attitude Strength: Antecedents and Consequences. Erlbaum Associates. Kumar, V., & Shah, D. (2004). Building and sustaining profitable customer loyalty for the 21st century. Journal of Retailing, 80(4), 317–330. doi:10.1016/j.jretai.2004.10.007 Kuo, Y. F., Hu, T. L., & Yang, S. C. (2013). Effects of inertia and satisfaction in female online shoppers on repeat-purchase intention: The moderating roles of word-of-mouth and alternative attraction. Managing Service Quality, 23(3), 168–187. doi:10.1108/09604521311312219 Kuusik, A., & Varblane, U. (2009). How to avoid customers leaving: The case of the Estonian telecommunication industry. Baltic Journal of Management, 4(1), 66–79. doi:10.1108/17465260910930458 Lacey, R., & Morgan, R. M. (2009). Customer advocacy and the impact of B2B loyalty programs. Journal of Business and Industrial Marketing, 24(1), 3–13. doi:10.1108/08858620910923658

340

Lam, S. Y., Shankar, V., Erramilli, M. K., & Murthy, B. (2004). Customer value, satisfaction, loyalty, and switching costs: An illustration from a business-to-business service context. Journal of the Academy of Marketing Science, 32(3), 293–311. doi:10.1177/0092070304263330 Langer, J. (1997). What consumers wish brand managers knew. Journal of Advertising Research, 37(6), 60–65. Lemon, K. N. (1999). A Dynamic Model of Customers’ Usage of Services: Usage as an Antecedent and Consequence of Satisfaction. JMR, Journal of Marketing Research, 36(2), 171–186. doi:10.2307/3152091 Leventhal, H. (1982). The integration of emotion and cognition: a view from the perceptual-motor theory of emotion. In M. S. Clarke & S. T. Fiske (Eds.), Affect and Cognition. Erlbaum. Lewin, K. (1951). Field Theory in Social Science. New York: Harper and Row. Lewitt, T. (1983). After the sale is over. Harvard Business Review, 87–93. Li, M. L., & Green, R. D. (2011). A mediating influence on customer loyalty: The role of perceived value. Journal of Management and Marketing Research, 7, 1–12.

 Inside the Small Island Economies

Liljander, V., Roos, I., & Strandvik, T. (1998). Quality of Loyalty—Switching Alertness Is Customer Relationships. Paper presented at a Workshop on Quality Management in Services VIII. Ingolstadt, Germany.

Malhorta, A., & Gupta, A. K. (2001). An investigation of firm’s strategic responses to industry convergence. Washington, DC: Academy of Management Proceedings.

Liu, T. C., Wu, L. W., & Hung, C. T. (2007). The effects of inertia and switching barriers on satisfaction-retention relationship: A case of financial service industries. Journal of Management, 24(6), 671–687.

Martín-Consuegra, D. M., Molina, A., & Esteban, A. (2007). An integrated model of price, satisfaction and loyalty: An empirical analysis in the service sector. Journal of Product and Brand Management, 16(7), 459–468. doi:10.1108/10610420710834913

Long, M. M., & Schiffman, L. G. (2000). Consumption values and relationships: Segmenting the market for frequency programs. Journal of Consumer Marketing, 17(3), 214–232. doi:10.1108/07363760010329201

Mascarenhas, O. A., Kesavan, R., & Bernacchi, M. (2006). Lasting customer loyalty: A total customer experience approach. Journal of Consumer Marketing, 23(7), 397–405. doi:10.1108/07363760610712939

Lowe, S. (2001, September). The ideational dynamics of cultural interaction and actor bonds. Paper presented at the 17th Annual IMP Conference. Oslo, Norway.

Maxwell, J. A. (1996). Qualitative Research Design: An Interactive Approach. Thousand Oaks, CA: Sage Publishing.

Lu, D., & Antony, J. (2003). Implications of B2B marketplace to supply chain development. The TQM Magazine, 15(3), 173–179. doi:10.1108/09544780310469271 Macintosh, G., & Lockshin, L. S. (1997). Retail relationships and store loyalty: A multi-level perspective. International Journal of Research in Marketing, 14(5), 487–497. doi:10.1016/S01678116(97)00030-X Maister, D. (1995). Marketing to existing clients. In A. Payne, M. Christopher, M. Clark, & H. Peck (Eds.), Relationship Marketing for Competitive Advantage: Winning and Keeping Customers (pp. 253–268). Oxford, UK: Butterworth-Heinemann. Majumdar, A. (2005). A model for customer loyalty for retail stores inside shopping malls – an Indian perspective. Journal of Service Research, 47–64.

McCall, G. J., & Simmons, J. L. (1969). Issues in Participant Observation: A Text and Reader. Massachusetts: Addison-Wesley. McDougall, G. H. G., & Levesque, T. (2000). Customer satisfaction with services: Putting perceived value into the equation. Journal of Services Marketing, 14(5), 392–410. doi:10.1108/08876040010340937 McGoldrick, P., & Andre, E. (1997). Consumer misbehaviour: Promiscuity or loyalty in grocery shopping. Journal of Retailing and Consumer Services, 4(2), 73–81. doi:10.1016/S09696989(96)00027-6 McMullan, R., & Gilmore, A. (2008). Customer loyalty: An empirical study. European Journal of Marketing, 42(10), 1084–1094. doi:10.1108/03090560810891154 Mellens, M., Dekimpe, M. G., & Steenkampe, J. B. E. M. (1996). A review of brand-loyalty measures in marketing. Journal of Economics and Management, 41(4), 507–533.

341

 Inside the Small Island Economies

Meyer-Waarden, L. (2008). The influence of loyalty programme membership on customer purchase behaviour. European Journal of Marketing, 42(2), 87–114. doi:10.1108/03090560810840925

Mourdoukoutas, P., & Mourdoukoutas, P. (2004). Bundling in a semi-global economy. European Business Review, 16(5), 522–530. doi:10.1108/09555340410556602

Michalski, S. (2004). Types of customer relationship ending processes. Journal of Marketing Management, 20(10), 977–999. doi:10.1362/0267257042405222

Mummalaneni, V. (1987). The Influence of a Close Personal Relationship Between the Buyer and the Seller on the Continued Stability of Theory Role Relationships. Pennsylvania State University.

Miles, M. B., & Huberman, A. M. (1994). Qualitative Data Analysis: An Expanded Sourcebook. Thousand Oaks, CA: Sage Publishing.

Nako, S. M. (1997). Frequent flyer programs and business travellers: An empirical investigation. Logistics and Transportation Review, 28(4), 395–410.

Mintzberg, H., Raisinghani, D., & Theoret, A. (1976). The structure of “unstructured” decision processes. Administrative Science Quarterly, 21(2), 246–275. doi:10.2307/2392045 Mittal, V., & Kamakura, W. (2001). Satisfaction, repurchase intent, and repurchase behaviour: Investigating the moderating effect of customer characteristics. JMR, Journal of Marketing Research, 38(1), 131–142. doi:10.1509/jmkr.38.1.131.18832 Moorman, C., Deshpande, R., & Zaltman, G. (1993). Factors affecting trust in market research relationships. Journal of Marketing, 57(1), 81–101. doi:10.2307/1252059 Morey, M. (1993). Island ecosystems: an environmental research challenge. In A challenge for Systems Thinking: The Aegean Seminar (pp. 187–197). Athens: University of the Aegean Press. Morgan, R. M., & Hunt, S. D. (1994). The commitment-trust theory of relationship marketing. Journal of Marketing, 58(3), 20–38. doi:10.2307/1252308 Morris, M., & Holman, J. L. (1988). Source Loyalty in Organizational Markets: A Dyadic Perspective. Journal of Business Research, 16(2), 117–131. doi:10.1016/0148-2963(88)90037-9

342

Narayandas, D. (1998). Measuring and managing the benefits of customer retention. Journal of Service Research, 1(2), 108–128. doi:10.1177/109467059800100202 Narayandas, D. (2005, September). Building loyalty in business markets. Harvard Business Review, 131–139. PMID:16171217 Newman, J., & Werbel, R. (1973). Multivariate Analysis of Brand Loyalty for Major Household Appliances. JMR, Journal of Marketing Research, 10(4), 404–409. doi:10.2307/3149388 Noordhoff, C., Pauwels, P., & OdekerkenSchroder, G. (2004). The effect of customer card programs: A comparative study in Singapore and The Netherlands. International Journal of Service Industry Management, 15(4), 351–364. doi:10.1108/09564230410552040 Nooteboom, G., Berger, H., & Noorderhaven, N. G. (1997). Effects of trust and governance on relational risk. Academy of Management Journal, 40(2), 308–338. doi:10.2307/256885 Odekerken-Schroder, G., De Wulf, K., & Schumacher, P. (2003). Strengthening outcomes of retailer-consumer relationships: The dual impact of relationship marketing tactics and consumer personality. Journal of Business Research, 56(3), 177–190. doi:10.1016/S0148-2963(01)00219-3

 Inside the Small Island Economies

Office of National Statistics (ONS). (2012). Retrieved on November 13, 2013, from: Available at: http://www.ons.gov.uk/ons/taxonomy/index. html?nscl=Population Oliver, R. (1997). Satisfaction: A Behavioural Perspective on the Consumer. Boston: McGraw-Hill. Oliver, R. L. (1999). Whence consumer loyalty? Journal of Marketing, 63, 33–44. doi:10.2307/1252099 Olson, J. C., & Jacoby, J. (1971). Construct validation of brand loyalty. In Proceedings of the American Psychological Association (APA), 79th Annual Conference, (pp. 657-658). APA. Ozuem, W., Howell, K., & Lancaster, G. (2008). Communicating in the New Interactive Market Space. European Journal of Marketing, 42(9/10), 1059–1083. doi:10.1108/03090560810891145 Palmer, A., McMahon-Beattie, U., & Beggs, R. (2000). A structural analysis of hotel sector loyalty programmes. International Journal of Contemporary Hospitality Management, 1(1), 54–60. doi:10.1108/09596110010305145 Parasuraman, A., Berry, L. L., & Ziethaml, V. A. (1991). Understanding customer expectations of service. Sloan Management Review, 39–48. Parasuraman, A., & Grewal, D. (2000). The impact of technology on the quality-valueloyalty chain: A research agenda. Journal of the Academy of Marketing Science, 28(1), 168–174. doi:10.1177/0092070300281015 Parkhe, A. (1993). ‘Messy’ research, methodological predispositions, and theory development in international joint ventures. Academy of Management Review, 18(2), 227–268. Patrício, L., Fisk, R. P., & Cunha, J. (2008). Designing multi-interface service experiences: The service experience blueprint. Journal of Service Research, 10(4), 318–334. doi:10.1177/1094670508314264

Patton, M. Q. (1990). Qualitative Evaluation and Research Methods. Sage Publishing. Patton, M. Q. (2002). Qualitative Research and Evaluation Methods. Thousand Oaks, CA: Sage Publishing. Pavlou, P. A., & Dimoka, A. (2006). The nature and role of feedback text comments in online marketplaces: Implications for trust building, price premiums, and seller differentiation. Information Systems Research, 17(4), 391–412. doi:10.1287/ isre.1060.0106 Payne, A., Christopher, M., Clark, M., & Peck, H. (1995). Relationship Marketing for Competitive Advantage. Oxford, UK: Butterworth-Heinemann. Pelling, M., & Uitto, J. (2001). Small island developing states: Natural disaster vulnerability and global change. Global Environmental Change Part B: Environmental Hazards, 3(2), 49–62. doi:10.1016/S1464-2867(01)00018-3 Perry, C., Riege, A., & Brown, L. (1998). Realism rules OK: scientific paradigms in marketing research about networks. In Proceedings, Australia and New Zealand Marketing Academy Conference (ANZMAC98). Dunedin: University of Otago. Pfeifer, P. (2005). The optimal ratio of acquisition and retention costs. Journal of Targeting. Measurement and Analysis for Marketing, 13(2), 179–188. doi:10.1057/palgrave.jt.5740142 Pieters, R., Baumgartner, H., & Bagozzi, R. (2006). Biased memory for prior decision making: Evidence from a longitudinal field study. Organizational Behavior and Human Decision Processes, 99(1), 34–48. doi:10.1016/j.obhdp.2005.05.004 Pine, B. J., & Gilmore, J. H. (1998). Welcome to the experience economy. Harvard Business Review, 76, 97–105. PMID:10181589

343

 Inside the Small Island Economies

Poetscheke, B. (1995). Key success factors for public/private-sector partnerships in island tourism planning. In M. Conlin & T. Baum (Eds.), Island Tourism: Management Principles and Practice. New York: Wiley and Sons. Post, J., & Andrews, P. (1982). Case research in corporation and society studies. In Research in Corporate Social Performance and Policy, (vol. 4, pp. 1-33). Connecticut: JAI Press. Potter, W. J., & Levine-Donnerstein, D. (1999). Rethinking reliability and reliability in content analysis. Journal of Applied Communication Research, 27(3), 258–284. doi:10.1080/00909889909365539 Pullman, M. E., & Gross, M. A. (2004). Ability of experience design elements to elicit emotions and loyalty behaviours. Decision Sciences, 35(3), 551–578. doi:10.1111/j.0011-7315.2004.02611.x Raju, P. (1980). Optimum Stimulation Level: Its relationship to Personality, Demographics and Exploratory Behaviour. The Journal of Consumer Research, 7(3), 272–282. doi:10.1086/208815 Ramaseshan, B., Rabbanee, F. K., & Hui, L. T. H. (2013). Effects of customer equity drivers on customer loyalty in B2B context. Journal of Business and Industrial Marketing, 28(4), 335–346. doi:10.1108/08858621311313929 Rauyruen, P., Miller, K. E., & Groth, M. (2009). B2B services: Linking service loyalty and brand equity. Journal of Services Marketing, 23(3), 175–186. doi:10.1108/08876040910955189 Reed, M., & Hughes, M. (1993). Rethinking Organization: New Directions in Organization Theory and Analysis. London: Sage Publishing. Reichers, A. E., & Schneider, B. (1990). Climate and culture: An evolution of constructs. In B. Schneider (Ed.), Organizational Climate and Culture. San Francisco, CA: Jossey-Bass Inc.

344

Reichheld, F., & Teal, T. (1996). The Loyalty Effect: The Hidden Force Behind Growth, Profits and Lasting Value. Boston: Harvard Business School Press. Reichheld, F. F. (1996). The Loyalty Effect, the Hidden Force behind Growth, Profits and Lasting Value. Boston: Harvard Business School Press. Reichheld, F. F. (2003). The one number you need to grow. Harvard Business Review, 81(12), 46–54. PMID:14712543 Reichheld, F. F., & Kenny, D. W. (1990). The hidden advantages of customer retention. Journal of Retail Banking, 12(4), 19–23. Reichheld, F. F., Markey, R. G., & Hopton, C. (2000). The loyalty effect – the relationship between loyalty and profits (pp. 134–139). European Business Journal. Reichheld, F. F., & Sasser, W. E. Jr. (1990). Zero defections: Quality comes to services. Harvard Business Review, 68(5), 105–111. PMID:10107082 Reinartz, W. J., & Kumar, V. (2002). The mismanagement of customer loyalty. Harvard Business Review, 71(2), 64–73. PMID:12140857 Reynolds, K. E., & Beatty, S. E. (1999a). A relationship customer typology. Journal of Retailing, 75(4), 509–523. doi:10.1016/S00224359(99)00016-0 Reynolds, K. E., & Beatty, S. E. (1999b). Customer benefits and company consequences of customer salesperson relationships in retailing. Journal of Retailing, 75(1), 11–32. doi:10.1016/ S0022-4359(99)80002-5 Rice, P., & Ezzy, D. (1999). Qualitative research methods: A health focus. Melbourne, Australia: Oxford University Press.

 Inside the Small Island Economies

Ringberg, T., & Gupta, S. F. (2003). The importance of understanding the symbolic world of customers in asymmetric businessto-business relationships. Journal of Business and Industrial Marketing, 18(7), 607–626. doi:10.1108/08858620310492455 Robson, C. (1993). Real World Research: A Resource for Social Scientists and PractitionersResearchers. Oxford: Blackwell. Robson, C. (2002). Real World Research: A Resource for Social Scientists and Practitioner Researchers. London: Blackwell. Roos, I. (1999). Switching processes in customer relationships. Journal of Service Research, 2(1), 376–393. doi:10.1177/109467059921006 Roos, I., & Friman, M. (2008). Emotional experiences in customer relationships – a telecommunication study. International Journal of Service Industry Management, 19(3), 281–301. doi:10.1108/09564230810874986 Roos, I., & Gustafsson, A. (2011). The influence of active and passive customer behaviour on switching in customer relationships. Managing Service Quality, 21(5), 448–464. doi:10.1108/09604521111159771 Roth, A. V., & Menor, L. J. (2003). Insights into service operations management: A research agenda. Production and Operations Management, 12(2), 145–164. doi:10.1111/j.1937-5956.2003. tb00498.x Rothschild, M., & Gaidis, W. (1981). Behavioural learning theory: Its relevance to marketing and promotions. Journal of Marketing, 45(3), 70–78. doi:10.2307/1251666 Rowley, J. (2000). Loyalty Kiosks: Making Loyalty Cards Work. British Food Journal, 102(6), 390–398. doi:10.1108/00070700010329236

Rowley, J. (2005). The four Cs of customer loyalty. Marketing Intelligence & Planning, 23(6), 574–581. doi:10.1108/02634500510624138 Rundle-Thiele, S. (2005). Exploring loyal qualities: Assessing survey-based loyalty measures. Journal of Services Marketing, 19(7), 492–500. doi:10.1108/08876040510625990 Russell, J. A. (2003). Core affect and psychological construction of emotion. Psychological Review, 110(1), 145–172. doi:10.1037/0033295X.110.1.145 PMID:12529060 Rust, R. T., & Zahorik, A. J. (1993). Customer satisfaction, customer retention, and market share. Journal of Retailing, 69(2), 193–215. doi:10.1016/0022-4359(93)90003-2 Rust, R. T., Zeithaml, V., & Lemon, K. (2000). Driving Customer Equity. New York: The Free Press. Sambandam, R., & Lord, K. R. (1995). Switching behaviour in automobile markets: A considerationsets model. Journal of the Academy of Marketing Science, 23(1), 57–65. doi:10.1007/BF02894612 Saunders, M., Lewis, P., & Thornhill, A. (2012). Research Methods for Business Students. Essex: Pearson Education Limited. Scandura, T. A., & Williams, E. A. (2000). Research methodology in management: Current practices, trends, and implications for future research. Academy of Management Journal, 43(6), 1248–1264. doi:10.2307/1556348 Selos, E., Laine, T., Roos, I., Suomala, P., & Pitkänen, L. (2013). Applying SPAT for understanding B-to-B supplier switching processes. Managing Service Quality, 23(4), 321–340. doi:10.1108/MSQ-03-2013-0047

345

 Inside the Small Island Economies

Shankar, V., Smith, A. K., & Rangaswamy, A. (2003). Customer satisfaction and loyalty in online and offline environments. International Journal of Research in Marketing, 20(2), 153–175. doi:10.1016/S0167-8116(03)00016-8 Sharp, B., & Sharp, A. (1997). Loyalty programs and their impact on repeat-purchase loyalty patterns. International Journal of Research in Marketing, 14(5), 473–486. doi:10.1016/S01678116(97)00022-0 Shaw, C., & Ivens, J. (2005). Building Great Customer Experiences. Basingstoke: Palgrave Macmillan. Sherden, W. A. (1992). Hold that policyholder! Best’s Review. Life-Health Insurance Edition, 92(9), 23–26. Sheth, J. N. (1968). A Factor Analytical Model of Brand Loyalty. JMR, Journal of Marketing Research, 5(4), 395–404. doi:10.2307/3150264 Sheth, J. N., & Parvatiyar, A. (1995). Relationship marketing in consumer markets: Antecedents and consequences. Journal of the Academy of Marketing Science, 23(4), 255–271. doi:10.1177/009207039502300405

Simon, J. L., & Burstein, P. (1985). Basic Research Methods in Social Science. New York: McGraw-Hill. Sirdeshmukh, D., Singh, J., & Sabol, B. (2002). Customer trust, value, and loyalty in relational exchanges. Journal of Marketing, 66(1), 15–37. doi:10.1509/jmkg.66.1.15.18449 Spilanis, I., & Kondili, J. (2003). Measuring the attractiveness of small islands: a tool for sustainability. Paper submitted for presentation at the International Conference on Sustainability Indicators. Malta. Srinivasan, R., Haunschild, P., & Grewal, R. (2007). Vicarious learning in new product introductions in the early years of a converging market. Management Science, 53(1), 16–28. doi:10.1287/ mnsc.1060.0608 Stake, R. E. (1994). Case Studies, Handbook of Qualitative Research. London: Sage Publications. Sterne, J. (2002). Web Metrics: Proven Methods for Measuring Web Site Success. New York: Wiley and Sons.

Sheth, J. N., & Sisodia, R. S. (1995). Feeling the Heat: Making Marketing More Productive. Marketing Management, 4, 8–23.

Stewart, K. (1996). Relationship breakdown – an exploration in retail banking. Paper presented at the International Conference on Relationship Marketing, Development, Management and Governance of Relationships. Berlin, Germany.

Shetty, Y. K. (1993). The quest for quality excellence: Lessons from the Malcolm Baldrige quality award. SAM Advanced Management Journal, 58(2), 34–40.

Storbacka, K., Strandvik, T., & Gronroos, C. (1994). Managing customer relationships for profit. International Journal of Service Industry Management, 5(5), 21–38. doi:10.1108/09564239410074358

Shoemaker, S., & Lewis, R. (1999). Customer loyalty: The future of hospitality marketing. Hospital Management, 18(4), 345–370. doi:10.1016/ S0278-4319(99)00042-0

Strandvik, T., Holmlund, M., & Edvardsson, B. (2012). Customer needing: A challenge for the seller offering. Journal of Business and Industrial Marketing, 27(2), 132–141. doi:10.1108/08858621211196994

Silverman, D. (1998). Qualitative research: Meanings or practices? Information Systems Journal, 8(1), 3–20. doi:10.1046/j.13652575.1998.00002.x

346

Strauss, A., & Corbin, J. (1990). Basics of qualitative research: Grounded Theory procedures and techniques. Thousand Oaks, CA: Sage Publishing.

 Inside the Small Island Economies

Strauss, B., & Neuhaus, P. (1997). The Qualitative Satisfaction Model. International Journal of Service Industry Management, 9(2), 69–88. Stuart, F. I., & Tax, S. (2004). Toward an integrative approach to designing service experiences. Journal of Operations Management, 22, 609–627. Taylor, G. A., & Neslin, S. A. (2005). The current and future impact of a retail frequency reward program. Journal of Retailing, 81(4), 293–205. doi:10.1016/j.jretai.2004.11.004 Taylor, S. A., Celuch, K., & Goodwin, S. (2004). The importance of brand equity to customer loyalty. Journal of Product and Brand Management, 13(4), 217–222. doi:10.1108/10610420410546934 Terblanche, N., & Boshoff, C. (2006). The relationship between a satisfactory in-store shopping experience and retailer loyalty. South Africa Journal of Business Management, 37(2), 33–43. This is Guernsey (2013). Three mobile operators means ‘uncomfortable competition’. Retrieved on October 15, 2013, from: http://www.thisisguernsey.com/business/2013/08/15/three-mobileoperators-means-uncomfortable-competition/ Thompson, J. D. (1967). Organisations in Action. New York: McGraw Hill. Traylor, M. B. (1981). Product involvement and brand commitment. Journal of Advertising Research, 21, 51–56. Trinquecoste, J. F. (1996). Customer Loyalty: A priority business objective. Decision Marketing, 7, 17–23. Tucker, W. T. (1964). The development of brand loyalty. JMR, Journal of Marketing Research, 1(3), 32–35. doi:10.2307/3150053

Ulaga, W., & Eggert, A. (2006). Relationship value and relationship quality: Broadening the nomological network of business-to-business relationships. European Journal of Marketing, 40(3/4), 311–327. doi:10.1108/03090560610648075 Uncles, M. D., Dowling, G. R., & Hammond, K. (2003). Customer loyalty and customer loyalty programs. Journal of Consumer Marketing, 20(4), 294–316. doi:10.1108/07363760310483676 Uncles, M. D., & Laurent, G. (1997). Editorial: Special Issue on Loyalty. International Journal of Research in Marketing, 14(5), 399–404. doi:10.1016/S0167-8116(97)80224-8 UNCLOS. (1982). United Nations Convention on the law of the sea. Montego Bay: UNCLOS. Vargo, S. L., & Lusch, R. F. (2004). Evolving to a new dominant logic for marketing. Journal of Marketing, 68(1), 1–17. doi:10.1509/ jmkg.68.1.1.24036 Verhoef, P. C. (2003). Understanding the effect of customer relationship management efforts on customer retention and customer share development. Journal of Marketing, 67(4), 30–45. doi:10.1509/ jmkg.67.4.30.18685 Verhoef, P. C., Lemon, K. N., Parasuraman, A., Roggeveen, A., Tsiros, M., & Schlesinger, L. A. (2009). Customer experience creation: Determinants, dynamics and management strategies. Journal of Retailing, 85(1), 31–41. doi:10.1016/j. jretai.2008.11.001 Walsh, G., Groth, M., & Wiedmann, K. P. (2005). An examination of consumers’ motives to switch energy suppliers. Journal of Marketing Management, 21(3-4), 421–440. doi:10.1362/0267257053779091 Wansink, B. (2003). Developing a cost-effective brand loyalty program. Journal of Advertising Research, 43(3), 301–309. doi:10.1017/ S0021849903030290

347

 Inside the Small Island Economies

Weber, M. (1958). The Rise of the Protestant Ethic and the Spirit of Capitalism. New York: Charles Sribner and Sons. Weitz, B. A., & Bradford, K. D. (1999). Personal selling and sales management: A relationship marketing perspective. Journal of the Academy of Marketing Science, 27(2), 241–254. doi:10.1177/0092070399272008 Westbrook, R. A. (1987). Product/consumptionbased affective responses and postpurchase processes. JMR, Journal of Marketing Research, 24(3), 258–270. doi:10.2307/3151636 White, S. S., & Schneider, B. (2000). Climbing the Commitment Ladder. Journal of Service Research, 2(3), 240–253. doi:10.1177/109467050023002 Williamson, O. (1985). The Economics Institutions of Capitalism. New York: Free Press. Wilson, D. T. (1995). An integrated model of buyer-seller relationships. Journal of the Academy of Marketing Science, 23(4), 335–345. doi:10.1177/009207039502300414 Wind, Y. (1970). Industrial source loyalty. Journal of Marketing Research, 7(4), 450–457. doi:10.2307/3149637 Wirtz, B. W. (2001). Reconfiguration of value chains in converging media and communication markets. Long Range Planning, 34(1), 489–506. doi:10.1016/S0024-6301(01)00066-8 Wong, A., & Sohal, A. (2003). A critical incident approach to the examination of customer relationship management in a retail chain: An exploratory study. Qualitative Market Research: An International Journal, 6(4), 248–262. doi:10.1108/13522750310495337 Wong, A., & Zhou, L. (2006). Determinants and outcomes of relationship quality: A conceptual model and empirical investigation. Journal of International Consumer Marketing, 18(3), 81–96. doi:10.1300/J046v18n03_05

348

Wooldridge, B., & Floyd, S. W. (1990). The strategy process, middle management involvement, and organizational performance. Strategic Management Journal, 11(3), 231–241. doi:10.1002/ smj.4250110305 Woolf, B. (1996). Customer Specific Marketing. New York: Teal Books. Wortruba, T. R. (1991). The evolution of personal selling. Journal of Personal Selling & Sales Management, 1, 1–12. Wynstra, F., Axelsson, B., & Valk, W. (2006). An application-based classification to understand buyer-supplier interaction in business services. International Journal of Service Industry Management, 17(5), 474–496. doi:10.1108/09564230610689786 Xavier, P., & Ypsilanti, D. (2008). Switching costs and consumer behaviour: Implications for telecommunications regulation. Info, 10(4), 13–29. doi:10.1108/14636690810887517 Yi, Y. (1990). A critical review of consumer satisfaction. Michigan: University of Michigan. Yi, Y., & Jeon, H. (2003). Effects of loyalty programs on value perception, program loyalty and brand loyalty. Journal of the Academy of Marketing Science, 31(1), 229–240. doi:10.1177/0092070303031003002 Yoo, B., Donthu, N., & Lee, S. (2000). An examination of selected marketing mix elements and brand equity. Journal of the Academy of Marketing Science, 28(2), 195–211. doi:10.1177/0092070300282002 Young, L. C., & Wilkinson, I. F. (1989). The role of trust and cooperation in marketing channels: A preliminary study. European Journal of Marketing, 23(2), 109–122. doi:10.1108/ EUM0000000000550

 Inside the Small Island Economies

Zablah, A. R., Bellenger, D. N., & Johnston, W. J. (2004). An evaluation of divergent perspectives on customer relationship management: Towards a common understanding of an emerging phenomenon. Industrial Marketing Management, 33(6), 475–489. doi:10.1016/j.indmarman.2004.01.006 Zeithaml, V., Parasuraman, A., & Berry, L. L. (1990). Delivering Quality Service. New York: The Free Press. Zeithaml, V. A. (1988). Consumer perceptions of price, quality and value: A means end model and synthesis. Journal of Marketing, 52(3), 2–22. doi:10.2307/1251446

Market Segmentation: The process of identifying a group of present or potential customers according to a set of characteristics which are relevant to a supplier’s marketing stimuli”. Small Island: A small Island is a detached land mass with a surface area less than 10,000 km2 and a population of less than 500,000 inhabitants. Telecommunications: For the purposes of this paper, telecommunication services are limited to the direct provision of fixed telephone lines, mobiles and broadband services.

Zeithaml, V. A. (2000). Service quality, profitability, and the economic worth of customers: What we know and what we need to learn. Journal of the Academy of Marketing Science, 28(1), 67–85. doi:10.1177/0092070300281007 Zeng, Y. E., Wen, H. J., & Yen, D. C. (2003). Customer relationship management (CRM) in business-to-business (B2B) e-commerce. Information Management & Computer Security, 11(1), 39–44. doi:10.1108/09685220310463722 Zomerdijk, L., & Voss, C. (2009). Service design for experience-centric services. Journal of Service Research, 13(1), 67–82. doi:10.1177/1094670509351960

KEY TERMS AND DEFINITIONS B2B Relationship: Ongoing commercial interaction between two commercial entities. Customer Retention Strategy: The long-term coordinated efforts of a business to develop and prolong relationships with their customers. Loyalty: A biased behavioural response exercised over time and expressed through a psychological evaluative process by some decisionmaking unit with respect to one or more brands from a set of alternative brands.

349

350

Chapter 16

Eminent Domain in Argentina, Brazil, and Mexico Arun Shankar National Law University, India Rituparna Das National Law University, India

ABSTRACT All states cherish eminent domain, which is the power to assert dominion over the resources in their territory. How eminent domain is exercised in a region may be used as a test to gauge the attitude of a state to business. Eminent domain also has deeper influence on the economy of a state beyond direct percepts. Invoking eminent domain scintillates social crisis. How a state manages its social crisis marks the difference between continued growth and economic collapse. This chapter anatomizes a few relevant and recent eminent domain developments in the Latin American states of Argentina, Brazil, and Mexico, contrasting it with the scenario in the USA wherever appropriate.

INTRODUCTION Constitutions are often perceived as political documents; however, they also act as economic instruments. Constitutional economics has often illustrated the dichotomy between the academic economic recommendations and the ensuing political decisions as the field provides a powerful armor to policy scientists (Buchanan, 1990). Constitutional economic issues arise when States assert their dominion over its resources. In many cases, how those issues affect the business climate can be considered hazily at best. This chapter analyzes

such assertions in three prominent Latin American countries: Argentina, Brazil, and Mexico.

BACKGROUND Latin America, a Collective Sovereign Latin America represents economies responding to surrounding flux and evolving in the process. Latin America has the potential to emerge as a collective of sovereign republics with common interests and identities (McPherson, 2013). The stature of Latin

DOI: 10.4018/978-1-4666-6551-4.ch016

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Eminent Domain in Argentina, Brazil, and Mexico

America was probably first recognized when the USA in 1914 invoked the aid of Argentina, Brazil, and Chile, dubbed the so-called “ABC Powers”, to diplomatically mediate the crisis the USA had with Mexico at the time. This invocation, due to its unprecedented nature, had raised enough sensation by then (Ellis, 2004). Much study has since emerged analyzing these nations to demonstrate the homogeneity and diversity of Latin America. The average Latin American motif can be sketched as having no long-term pattern of convergence to the living standards of rich countries; slow modernization process, with high levels of inequality; relatively undiversified economy based on natural resources; oligarchic frontier expansion in the 19th century; populism in the 1950s and 1970s; and restricted democracy, military coups, and civil wars (Robinson, 2013). While the aspiration to achieve modernization in Latin America is widespread, the process of development often disrupts the established order and introduces new conflicts and problems (Sloan, 1984). Liberalization processes in Argentina, Brazil, and Mexico have contributed to more stable stock markets, which are similar to markets in developed nations (Edwards, Biscarri, & Gracia, 2003). The repressive regimes prevailing in these countries perhaps helped to erase some of the preceding country-to-country differences that the ensuing process of transition to democracy reinforced similarities (Schneider 2010: 386).

Resources, Whether a Boon or a Bane Resources are important for the growth of any economy and the Latin American region is rich in resources, particularly in natural resources. How the resources stand distributed and how they remain utilized are the relevant factors in exuding its economic growth. Resources captivate sovereigns and investors while the subjects of the State represent the third relevant group. The interests of these three groups often come into conflict with

one another. An economy’s dependence on natural resources has also given rise to conflicting views, whether it constitutes a boon or a bane. An argument is that natural resources trigger resource curse – the paradox of how countries with rich resources often develop more slowly, more corruptly, more violently, and with more authoritarian governments than others (Sachs & Warner, 1995). However, later studies based on Latin America counter this argument and establish that natural resources are neither a curse nor a blessing. These later studies establish that “resource curse, including its Latin American ‘crude democracy’ variant, is another example of a clever—yet flawed—theory that must now be confronted by a set of inconvenient facts” (Haber & Menaldo, 2012).

Eminent Domain and Its Varied Avatars Eminent domain is the highest and most exact idea of property remaining in the government or in the aggregate body of the people in their sovereign capacity. It gives a right to resume the possession of the property in the manner directed by the constitution and the laws of the State whenever the public interest requires it (Black, 1979). Urban legend that Davy Crockett fought and died at the Alamo in Texas because of Mexico’s eminent domain policy shows the extent to which eminent domain can go. How to protect investments from the State’s assertion of eminent domain powers has been a major apprehension in public international law since the last century. Expropriation often also occurs in indirect forms. Indirect expropriation has finer branches manifesting as de facto, creepy, regulatory, and disguised expropriations (Reinisch, 2008). There are conflicting views existing regarding the similarity and difference between various terms associated with eminent domain. A predominant argument is that wealth deprivation is a term which avoids most of the major ambiguities

351

 Eminent Domain in Argentina, Brazil, and Mexico

and imprecision of the traditional terminology, expropriation (Weston, 1975). However, purists argue the two are not synonyms, but qualify for fine distinguishing (Mouri, 1994). For the brevity of this chapter, deprivation, acquisition, taking, condemnation, and expropriation are all concepts intertwined with the eminent domain discussed.

EMINENT DOMAIN AND ITS EFFECT ON ECONOMIC GROWTH The eminent domain of the State is a crucial consideration in doing business in any economy, especially when the economy is resource rich. Traditionally, eminent domain has been invoked for attaining objects of public use such as building roads or schools. However, with the increasing complexities of life its wings have whirled through many nascent areas. The definition of public use has undergone such exaggeration that almost anything that directly or indirectly benefit even a section of the society can now be labeled under the definition. In business, eminent domain is a two-edged sword. In making businesses operational, eminent domain may turn out to be constructive for easier acquisition of infrastructure. Simultaneously, it may evolve as onerous if a State asserts its dominion over a business. As Isabella, the novice nun in the Shakespearean play Measure for Measure, reminded the corrupt Deputy Angelo: ‘it is excellent to have a giant’s strength, but it is tyrannous to use it like a giant’. When a State wields the gigantic power of eminent domain indiscriminately, it a sign of something seriously wrong in the State itself, and such assertion is often perceived by investors as proof of a country’s worsening business climate. Eminent domain has deeper influence on the economy of a State beyond these direct percepts. Invoking eminent domain scintillates social crisis. How a State manages its social crisis marks the difference between continued growth and

352

economic collapse (Rodrik, 1997). This chapter anatomizes a few relevant and recent eminent domain developments in the Latin American States of Argentina, Brazil and Mexico, contrasting it with the scenario in the USA wherever appropriate. Of these States, Argentina chronicles a turbulent eminent domain episode of recent times in which the State asserted its dominion over a business. In 1938, Mexico was the first nation to nationalize its oil resources. However, over time Mexico and Brazil seem to have gained continence in asserting eminent domain against foreign interests. These States also render witness to the social crisis triggered by eminent domain.

Eminent Domain in the USA The avenues of eminent domain have evolved drastically over the years. It has incarnated as a tool of emancipation and at times as a weapon of oppression. In understanding and judging the eminent domain existent in Latin America, the international scenario is a pointer. The decision of the US Supreme Court in the case of Kelo v. New London, 545 U.S. 569 of 2005 is considered a landmark event in eminent domain. Pfizer, Inc., the pharmaceuticals manufacturer, wanted to build a global research facility near the Fort Trumbull neighborhood. However, the New London Development Corporation (NLDC)—a private, nonprofit organization whose mission was to assist the city council of New London, Connecticut in economic development planning—initiated condemnation proceedings as some of the owners of the identified property refused to sell. Ms. Susette Kelo, a divorced nurse, was one such condemned owner. She challenged it, claiming also that the taking of their properties would violate the ‘public use’ restriction in the Fifth Amendment’s Takings Clause (Institute for Justice, n.d.). The US Supreme Court eventually held that promoting economic development was a traditional and long-accepted governmental function, which in any principled way could not be distin-

 Eminent Domain in Argentina, Brazil, and Mexico

guishing from other public purposes. The State had a comprehensive plan to promote economic development that it believed would provide appreciable benefits to the community, including the development of new jobs and increased tax revenue. Hence, there need be no stipulation for a reasonable certainty that the expected public benefits will actually accrue. Therefore, the US Supreme Court found the invocation of eminent domain powers to be justifiable. The Kelo decision took the scope and reach of eminent domain to an unprecedented level. In the USA, from the use of eminent domain in acquiring lands and expanding the conventional meaning of public purposes, authorities use the eminent domain power to seize and buy underwater mortgages. The city of Richmond, California has offered a novel plan to seize and buy such mortgages invoking powers of eminent domain (Reid & Christie, 2013). It can be said innovations in eminent domain never end.

Argentina: Richie Rich, the Poor Little Rich Boy In the early part of the 20th century, Argentina was believed to be a land of boundless natural riches, destined infallibly to become one of the world’s greatest nations. ‘As rich as an Argentine’, was an expression in vogue among the French until the 1930s (Winn, 2006). Argentina has a federal republican representative form of government. Under Article 4 of the Constitution, the Federal Government provides for the expenditures of the Nation with the funds of the National Treasury which is also composed of the sale or lease of lands owned by the Nation. Each province has its own constitution. Article 17 of the Constitution pertains to eminent domain. Under this eminent domain provision, no inhabitant of the Nation can be deprived of property except by virtue of a sentence based on law. Expropriation for reasons of public interest must be authorized by law and previously compensated. Under Article 20 of the

Constitution, even foreigners enjoy all the civil rights of citizens. To its credit, Argentina had some of the worst eminent domain ostentations of these times despite these well-crafted guarantees. YPF, an acronym which loosely means Fiscal Oil Fields, was a State-owned oil company formed in 1922. Juan Domingo Perón, who also holds the credit to be the first President of the State to be elected with women’s suffrage, signed a contract with Standard Oil of California to explore for oil in 1955 that may have been the first international contract for the YPF. However, the contract failed as the President was overthrown within months via a Coup d’etat. During the Presidency of Carlos Menem, YPF was transformed from a government corporation into a limited company, YPF SA. SA in Spanish denotes a publicly listed corporation. As part of the government privatization program, government ownership of YPF SA was reduced and Repsol SA, a Spanish company, acquired 97% of YPF for US$13.4 Billion. To reflect its new identity, the parent company Repsol even changed its name to Repsol YPF SA. As of April, 2012, Repsol owned more than half the total shares of YPF, the Argentine Petersen Group owned around a quarter of the total shares, the government retained a minor stake with golden share status that gave it a certain “upper hand” including definite veto powers, and the remainder was with private portfolios (Bruner & Ciano, 2008) (Vassiliou, 2009) (InfoBae, 2011). It is worth noting that Juan Domingo Perón, Carlos Menem, and Cristina Fernández de Kirchner (Ms. Kirchner), the three Presidents involved in the YPF saga, are from the same political group, the Justicialist Party, which was founded by the former in 1947. The party is based on Peronism, the ideology propounded by Peron. Carlos Menem was sidelined after the 2003 Presidential election in which Néstor Kirchner emerged victorious. Néstor Kirchner, a fellow Peronist of Menem, formed a faction within the party known as FPV. This faction is currently led by his wife, Ms. Kirchner, who is the incumbent President of Argentina.

353

 Eminent Domain in Argentina, Brazil, and Mexico

In her second tenure as President, Ms. Kirchner accused Repsol of not investing enough. She also accused Repsol of inducing an over-reliance on expensive imports. Kirchner exercised the eminent domain power enacting law number 26,741, the YPF law, and made official decree 660/2012 expropriating nearly the whole holding of Repsol in YPF. Just before the expropriation, Repsol had unsuccessfully pursued an investment plan to dissuade the State. However, the offer by the Spanish holding was rejected as it was considered insufficient for the needs of the country. A State-appointed intervention team, comprised of the Planning Minister and the Deputy Economy Minister, provided a report, titled the Mosconi Report which was named after General Enrique Carlos Alberto Mosconi who steered the YPF in its formative days. The report was to justify the use of eminent domain powers. Article 1 of the above mentioned YPF law declared hydrocarbons to be of national public interest and a priority in achieving self-sufficiency in it. Articles 4, 5, and 6 of that law created the Federal Council of Hydrocarbons, a self-regulating body. Article 7 of the law expropriated 51% of the 57.43% shares held by Repsol YPF SA in YPF SA and also 51% of the shares held by Repsol Butano SA in Repsol YPF Gas SA. Under Article 8 of the law, the expropriated shares were to be owned by the Federal Government and by the remaining the oil rich provinces of the Nation in the ration of 51:49. Reflecting this takeover, the name of the Spanish holding was changed back by its stakeholders from Repsol-YPF SA to Repsol SA on May 31, 2012. Repsol approached the International Centre for Settlement of Investment Disputes (ICSID). Instituting arbitration proceedings under the World Bank, Repsol S.A. & Repsol Butano S.A. v. Argentine Republic, ICSID Case No. ARB/12/38 claimed over US$10 billion in damages.

354

The Three Questions Leo Tolstoy told the story of an emperor who endured hardships in search of answers to three questions that eventually came from an enlightened hermit. Similarly, the peripheral facts pertaining to the YPF expropriation discussed above resonates with these three questions: 1. Did expropriation conform to the rules? 2. Was just (fair) compensation offered? 3. Was it for the declared reasons or for some oblique motives that YPF was expropriated? These questions normally can be analyzed in the backdrop of the Bilateral Investment Treaty (BIT) between Argentina and Spain. Howver, Argentina (where the cause of action arose) is bound by a superior law —its constitution. Even if an action is declared to be improper under a BIT, the defaulting nation may still linger on arguing that it is against its public policy and constitution. Moreover, decisions of the ICSID are not binding precedence as each case must be treated on its own merit. Hence, it is always better if the expropriation can be gauged by the constitutional values of the expropriating party. As mentioned earlier, the Argentine Constitution guarantees that foreigners enjoy all the civil rights available to citizens. Under Article 25, the Federal Government should foster European immigration and that of foreigners who arrive to improve national industries. The Preamble of the Constitution guarantees justice, secures domestic peace, provides for the common armed defense, promotes the general welfare, and secures liberty even to foreigners who wish to dwell on Argentine soil. While Argentina has continued to support a race-neutral and humane approach in addressing new immigrants—both legal and undocumented (Torre & Mendoza, 2007)—it has failed to keep the constitutional mandate pertaining to foreign industries. While almost the entire stake holding

 Eminent Domain in Argentina, Brazil, and Mexico

of Repsol was expropriated, the State spared the stake holdings that rested with the local Petersen Group. If foreigners had the same protection guaranteed by the constitution, expropriation would have been on a pro rata basis. Under Article 5 of the concerned BIT, expropriation can be initiated only for reasons of public utility under the laws and shall not be discriminatory. Thus, even if it is assumed that the invocation of eminent domain was for public utility, it clearly fails the non-discrimination test. Under the YPF law, compensation was to be calculated under Law Number 21,499 of 1977 which is the expropriation law. Under Article 10 of this expropriation law, the affected party must be compensated, taking into consideration the objective value of the property and any loss that is directly and immediately due to the expropriation with no regard to loss of earnings or future profits. Under Article 13 of this law, compensation shall be determined by the Valuations Tribunal in case of real estate or by an ad-hoc technical committee appointed in case of other assets. Under Article 25, the State shall obtain possession of the expropriated property immediately on deposit of the compensation under Article 13. This expropriation law of 1977 was tailored for the taking of real property and its improvements but is not a fine-tuned legislation to envisage a complex expropriation such as that of the YPF. Under Article 17 of the Constitution, expropriation must be previously compensated. Article 25 of the expropriation law adheres to this Constitutional mandate. However, under the YPF law, apart from a blunt statement that the expropriation of YPF shall be according to the expropriation law, no compensation was ever determined. The possession of the property that could be taken under the law only after having deposited the compensation was seized on the day the YPF Bill was introduced in the Congress. A news report read: The government seized effective control of the company on Monday [April 23, 2012], as Julio

de Vido, Minister for Planning and Axel Kicillof, Vice Minister for the Economy, were named administrators of YPF. Entering the company’s building in the district of Puerto Madero, they removed 15 Spanish executives. The Spanish government alleges that force was used, and Antonio Brufau, CEO of Repsol, suggested that the takeover was authorised using laws dating from the last military dictatorship (Merchant, 2012). Under Article 5 of the concerned BIT, the expropriating party should also pay adequate compensation to the investor without undue delay. Flouting all norms of expropriation, Argentina does not seem to have taken any reasonable step even to ascertain compensation. The rumors on YPF expropriation were dominating the market for quite some time. Therefore, even before the actual expropriation precipitated, the market value of YPF had diminished greatly. For example, in the New York Stock Exchange, YPF stock value experienced a freefall from a peak of above US$50 per share in January, 2011 to around US$12 per share in May, 2012. By having kept the news of expropriation afloat for long, the valuation as of the date of the expropriation was systematically decreased to an unrealistic value. This depleted value was to be used to compute compensation which is one reason why it was noted earlier that the expropriation law of 1977 is not fine-tuned for a complex expropriation. A strange argument that seemed to have prevailed in the State is that Repsol had already recovered its investments, and therefore did not need to be compensated. In the press meeting organized to release the Mosconi Report, the Deputy Minister (one of the report’s two authors) was quoted as stating: “Repsol-YPF was ‘exceedingly profitable’ having obtained over US$13 billion in dividends since the original operation back in 1998, which is approximately the price paid by the Spanish company for YPF, according to Kicillof” (Mer-

355

 Eminent Domain in Argentina, Brazil, and Mexico

coPress, 2012). Such own-operate-transfer system envisaged at the convenience of the expropriator is clearly a dangerous precedence. The Mosconi Report was released in June, 2012 which read: “The purpose of this document is to provide evidence on the strategy of depredation, disinvestment, and failure to appropriately supply the domestic market implemented by the Repsol Group since it took control over YPF in 1999” (Vido & Kicillof, 2012). However, the contents of the Mosconi Report, and thereby the so-called evidence, were not within the knowledge of the Executive or the Argentine Congress when they decided to expropriate YPF because the investigation was conducted from April 16, 2012 to June 1, 2012 and the YPF was itself expropriated in May, 2012. The Report claims: “The findings of this investigation conclusively prove the arguments presented in the message sent by the Executive Branch to the Argentine Congress on April 16, 2012, together with the bill that was subsequently enacted as Law No. 26,741.” This raises further doubt. The following scenarios seek attention: •

•

•

Even if YPF was expropriated for the declared reasons, the State had not highlighted any imminent danger even if it was delayed by a couple of months. Evidence to justify expropriation in the form of a well-prepared report was in its way. Still, the Executive and Congress failed to give that report due consideration before expropriating YPF. The YPF Bill was passed before the report was tabled. No due process was accorded to Repsol.

In the USA, if the government attempts to deprive one of life, liberty, or property, due process must be decided weighing three factors: •

356

The private interest affected by government action.

• •

The risk of erroneous deprivation of such interest. The government’s interest, including the function involved and the burdens the government would face in providing greater process.

These three factors derive from the decision of the US Supreme Court in Mathews v. Eldridge 424 U.S. 319, often referred to as the Mathews Test, which is basically an economic balancing test. It leads to a cost-benefit analysis that also considers social utility, and aids in determining procedures that would adequately protect a subject while not being too burdensome on the government (Schmidt, 2008). It can be seen that the State’s action in expropriating YPF fails the Mathews test because: • • •

The private interest affected by the government action was enormous. The risk of erroneous deprivation was enormous. The burden on the government in providing greater process was nil.

It should be noted that eminent domain in the USA is not controlled by Mathews Test, but rather by a more stringent due process. When the motive is oblique, denying due process to the victim renders the ploy easier. However, mere denial of due process is not a sufficient ground to hold that expropriation was tainted with motives though that constitutes valid corroborative evidence. A news report in The Guardian of the period read: Kirchner claims that her husband secretly wished to see YPF renationalised although he made no effort to do so during his government. In his native oil-rich province of Santa Cruz, where she will be laying flowers at his mausoleum this weekend, Kirchner said she is consecrating the new law to his memory. “I’m going to take him the bill, tied

 Eminent Domain in Argentina, Brazil, and Mexico

with a ribbon in the Argentine colours,” she said on Friday. “Although one part of him rests there, I know another is not resting and is probably out around doing things. I’m convinced of this, and that’s what’s keeping me alive” (Goni, 2012). Ms. Kirchner’s statement shows that the expropriation of YPF was a mission her government began contemplating long ago. This discussion has not attempted to seek whether or not eminent domain was exercised with the element of public purpose as it is a highly “grey area”. As mentioned above, even in some of the world’s oldest democracies eminent domain has been invoked with impunity for purposes ranging from redeveloping a blighted area to developing a non-blighted area. Nonetheless, in the case of YPF in which the State claimed that YPF was poorly managed by Repsol, the State also needed to assume blame. When a State exercises eminent domain based on a premeditated agenda without regard to the rules it itself had set, without following any due process, or without having any offer on compensation, it proves the allegations of oblique motives leveled. YPF remains a publicly listed corporation even after expropriation, and was not nationalized as per popular perception. In international business, indirect expropriation has been a topic of hot discussion over the past few decades because instances of outright property seizure or direct expropriation have been few, whereas the seizure of non-tangible assets has increased. Often, the seizing party refuted treating it as an expropriation; hence, indirect expropriation was even described as the most important development in State practice of that time (Reinisch, 2008). In YPF’s case, the Argentine authorities never camouflaged it, but instead dared to label an expropriation as an expropriation. It is possible the 21st century could be witnessing indirect expropriation losing its identity to be replaced by the original term of expropriation.

Brazil: Expropriation as a Sanction Under Article 22 of the Brazilian Constitution, the Union has the exclusive power to legislate on expropriation. Except for the cases specially provided in the Constitution, expropriation can be conducted only for public necessity or social interest. The expropriation should provide for fair and previous pecuniary compensation. Urban and rural lands have different norms for expropriation. Under Article 182, urban property can be expropriated only against prior and fair compensation in cash. The owner of an unbuilt, under-utilized, or unused urban soil may be expropriated by the municipal government and compensated in public debt bonds instead of cash—specifically in the case of an urban property which is part of a master plan and is authorized by specific law. In Brazil, the traditional way of exercising eminent domain is based on the legislations of 1941 or 1962: Decree Law No 3365/41 pertains to eminent domain for public utility; Law No 4132/62 pertains to eminent domain for social interest. Under these legislations, public authorities exercise eminent domain irrespective of urban planning concerns. A more recent modality is based on the City Statute, Law No 10257/01 that encourages better land management via a variety of instruments, and eminent domain is prescribed only in exceptional situations. In other words, when the landowner does not respect the social function of property established in the Municipal Master Plans, the State expropriates it as a sanction against the owner (Haddad, 2008: 2-3). The City Statute derives authority from the Article 182, Paragraph 4 of the Constitution. Article 8 of the City Statute stipulates that if the property owner has not complied with the obligation to subdivide, build, or use the property within five years after imposing progressive property taxes known as IPTU, the Municipality can proceed to expropriate the property with payment to be provided in public debt bonds.

357

 Eminent Domain in Argentina, Brazil, and Mexico

In Brazil, a potential constitutional amendment has the effect of attracting eminent domain wrath on issues that otherwise may normally pass off as labor issues. Brazil has a significant population of migrants from locations such as Bolivia, Peru, and Paraguay. Poor Brazilians who migrate within Brazil in search of better economic opportunity also add significantly to the numbers. Many migrants are forced to work in small- and medium-sized enterprises (SMEs) operating from cramped rooms without any emergency exits or fire extinguishers as mandated by law. These socalled “sweatshop factories”, uncongenial to human inhabitation, are perceived as contemporary slave quarters and are often the supply chain of many branded retailers. Slavery is also alleged to be rampant in the agricultural sector. Brazil is one of the few countries that officially recognized slavery existed on its territory in 1995, and has been vigorously introducing measures to solve the problem. Many persons and entities such as the International Labour Organization (ILO) consider Brazil’s approach as an example of good practice (Skrivankova, 2010). In 2011, authorities raided one such sweatshop at Americana where over 50 immigrants were working, some who were believed to be working in a supply chain for Zara, a reputed brand owned by the Spanish group Inditex that boasts a chain of 1,500 stores worldwide. In a similar incident, a total of 15 Bolivian immigrants were discovered in a sweatshop who were also allegedly working for Zara. The company may need to pay US$602,000 in fines if found guilty (Carstensen & McGrath, 2012). Chapter VI the Brazilian Penal Code pertains to crimes against personal freedom. Section 149 of this Chapter stipulates the sentence for inducing someone to a condition analogous to slavery; namely, subjecting a person to forced labor or arduous working days, or subjecting such a person to degrading working conditions, or restricting his mobility for any debt contracted. The offense also extends to restriction of the freedom of movement

358

of workers by various means such as surveillance or document confiscation. A 2003 report by the ILO noted the Ministry of Labour and Employment had established a blacklist of employers caught submitting workers to conditions analogous to slavery. Such violators are then ineligible for financing or other benefits from state-owned banks. The blacklist contained more than 170 violators, including individuals and corporate entities located in 17 Brazilian States in all five of the country’s regions (ILO, 2009). The proposed constitutional amendment, PEC 438/2001, expands Article 243 of the Constitution allowing the government to confiscate the property of owners caught using slave labor. Article 243 currently provides for the confiscation of land used to grow plants for the production of illegal drugs. The amendment was approved by the Chamber of Deputies in the National Congress on May 22, 2012 following a 10-year wait. Though approval of the Federal Senate in the National Congress is still pending, a major hurdle in the constitutional amendment has been overcome. There are voices representing interests of agricultural groups who maintain that slave labor does not exist since no one is working in chains. They also allege the term slave labor is poorly defined in the Brazilian legislation, and state the Bill’s definition of slave work opens the door to arbitrary decisions of the alleged slaves who form only part of the estimated 59% of unregistered workers in Brazil. This ruralist bloc wishes to revise the definition of slave labor when the regulations are developed for the enforcement of PEC 438 (Expropriation risk in the BRICs, 2010). Like Brazil, and for that matter like many other States, the slave labor issue also haunts the USA. The tomato fields of the US state of Florida account for about 33% of the nation’s tomatoes produced and nearly all the tomatoes available in the fall and the winter. It is an established fact that slave-like situations have existed in these fields even in this century. Due to the extensive work undertaken by the human rights organization,

 Eminent Domain in Argentina, Brazil, and Mexico

the Coalition of Immokalee Workers (CIW), the scenario has undergone many positive changes. Since 2010 through the Fair Food Program, an initiative consisting of wage increase supported by a price premium paid by corporate purchasers of Florida tomatoes, and adoption of a humane Code of Conduct applicable throughout the Florida tomato industry, the CIW unfurled a new model of social accountability (Coalition of Immokalee Workers, 2013). Under the Fair Food Program, the participating buyers pay a ‘penny per pound’ premium to workers. There is also provision for an ongoing auditing of the farms by a third-party monitor, the Fair Food Standards Council. When contrasted with the proposed Brazilian constitutional amendment to exercise eminent domain to clampdown the slave like situation of laborers, the Florida initiatives indicate an oversight by Brazil. Brazil will be hosting the 2016 Olympic Games as well as the 2014 FIFA World Cup, so the country is relying on eminent domain powers to develop the necessary infrastructure, an effort which is facing extensive opposition by residents of many slums (Vinnitskaya, 2012). These residents allege that illegal evictions have occurred, that they were not consulted prior to their removal, and that compensation is insufficient. They fear this will lead to homelessness or the formation of new informal settlements (Wilmore, 2012). To address this problem, the government has introduced an ambitious project, My House My Life, a social housing initiative for low- and middle-income families that is part of the State’s growth acceleration program to rehabilitate the slum residents. In this initiative, individuals can purchase single or multiple units from a developer, fund the construction, and sell to the enduser Brazilian family. Thus, the initiative offers opportunity for the private equity to fund these development projects. However, during its four years of existence the initiative has been criticized as inefficiently executed, distant from urban centers, and not catering to long-term necessities (Selvanayagam, 2012).

According to the Olympic Charter, the first fundamental principle of Olympism is “to create a way of life based on the joy of effort, the educational value of good example, social responsibility and respect for universal fundamental ethical principles.” The proclamations of Olympic ideals and the agreements between the host country and the International Olympic Committee (IOC) impose duties upon the host country and the IOC. One such implicit duty is to review the impact of the Games upon persons displaced by it. The IOC can also require a host country to agree its citizens are covered by such IOC agreements so that affected citizens will have standing to challenge unfair actions based upon such agreements (Blumert, 2012). However, in reality, instead of playing a proactive role, organizers go to the other deplorable extreme. The FIFA Secretary General was quoted as stating that less democracy is sometimes better for organizing a World Cup. He further mentioned that in countries like Brazil where the political structure is divided into three levels—the federal, the state and the city—it is quite difficult to organize a World Cup (Reuters, 2013). Brazil’s invocation of eminent domain to adorn the sports village cannot be condemned, as direct acquisition of land is often the only practical method available to States to discharge their obligations (Shankar, 2013). When the city of Tampa, Florida was considering to bid for hosting the 2012 Olympic Games, a report was developed for the Florida Senate to provide the Legislature with broad policy issues to consider. The report highlighted resolving other issues surrounding venue development including eminent domain, property condemnation, and maintenance of legacy facilities (Committee on Commerce and Economic Opportunities, 2000). However, the problem in Brazil is the allegation that compensation offered on expropriation is not adequate enough to enable the affected people to find another residence. There are allegations that many of the relocation processes are riddled with illegalities.

359

 Eminent Domain in Argentina, Brazil, and Mexico

Many families were briskly ousted at night while a bulldozer stood by to start demolition, forcing families to move to distant housing projects. The paradox is that Brazil is a country that has underlined the claim to adverse possession in its constitution. Under Article 183, if one possesses an urban property uninterruptedly for five years of an area not more than 250 square meters, the individual gains ownership to the land.

Mexico: The Eden of Treaties Under Article 40 of its Constitution, Mexico is a federal, democratic, representative republic composed of sovereign States. Under Article 124, all residual powers are reserved to the States which are not explicitly conferred by the Constitution on federal officials. Article 27 of the Constitution pertains to eminent domain and establishes that the ownership of land is vested originally in the nation. It also stipulates that private property shall not be expropriated except for public use and on payment of indemnity. However, this Article refrains the government from entertaining private sector participation in the oil and gas sector, thus making its exploitation the sole preserve of the State. Energy trade is a major component of the USMexico relationship, but due to the above refrain, Mexico possibly remains the most restrictive oil regime in the world. Pemex, the State owned oil monopoly, plays a dual role as a patronage instrument politically and as an oil extracting entity economically. It is said a well-managed oil company is the most profitable business on earth, second only to a poorly managed one. Therefore, even if highly inefficient, State-owned oil firms can operate almost indefinitely. Naturally, any change in the monopoly of Pemex can be made only if confronted by some major crisis (Mayer-Serra, 2011). The same is the case of the State-owned electricity company, CFE. By Presidential initiative, a bill for constitutional amendments was introduced before the

360

Congress in August, 2013. The proposed amendments aim mainly to tweak Article 27 such that the sovereign ownership of both Pemex and CFE is kept undiluted, but allowing them to partner with any entity. Nonetheless, this action may well be a sign of reconciliation that natural resources no longer belong exclusively to the nation. This may also be the “beginning of the end” of an expropriation era initiated by then-President Lázaro Cárdenas in 1938 when he took the hydrocarbon fields back from a total of 17 British and US firms. Under Article 133 of the Mexican Constitution, international treaties signed by the President must be approved by the Senate and published in the official gazette. Following the publication, international treaties are self-executing and may be directly invoked or enforced through the courts and the administration (Redress Trust, 2003: 2). Amparo are unique writs in the Mexican legal system that stemmed from the earlier Constitution of 1857 which continue to today (Avalos, 2004). On May 11, 1999, a full bench of the Mexican Supreme Court in an Amparo under revision pertaining to National Union of Air Traffic Controllers 1475/98, interpreted Article 133 of the Constitution to mean international treaties fall immediately below the Constitution and above federal and local law. It must be highlighted that Amparos are primarily reliefs accorded on a personal basis. Amparo rulings create a binding precedence only when five consecutive decisions of the same nature are made. This is a great upshot in the realm of eminent domain, as all free trade agreements and bi-lateral treaties to which Mexico is a signatory becomes easily enforceable. Under Article 1110 of the North American Free Trade Agreement (NAFTA) between Canada, Mexico, and the USA, no investment of an investor from any of these countries may be expropriated in the other parties’ territories. The exception is that expropriation could be made for a public purpose conducted on a nondiscriminatory basis following the due process of law and the paying of compensation. The Article

 Eminent Domain in Argentina, Brazil, and Mexico

stipulates that the compensation need to be the fair market value, as a going concern, which shall not reflect any change in value occurring because the intended expropriation had been known earlier. By virtue of the constitutional assurance under Article 133, NAFTA is above federal and local laws. This tremendously reduces the scope of hostile expropriation. Had such a constitutional mandate existed in Argentina, the YPF expropriation issue discussed earlier may have been very different. From an investor’s point of view, theoretically, Mexico scores even better than the USA in this aspect. The case of Medellin v. Texas, decided by the US Supreme Court, is worth contrasting with the Mexican scenario. The case appeared multiple times before the Supreme Court and was decided per curiam multiple times. [Per curiam opinion is the opinion of the entire court; hence, the author is not identified. It is considered a stronger opinion on the points advanced because of its common acceptance (George, 2000: 235)]. Jose Medellin, a Mexican citizen, was sentenced to death in Texas for brutal rape and murder. Meanwhile, the International Court of Justice (ICJ), in the case of Avena and Other Mexican Nationals (Mex. v. U.S.), I.C.J. No. 128, decided in its judgment of March 31, 2004 that the 51 named Mexican nationals accused including Medellin, were entitled to receive review and reconsideration of their convictions and sentences through the judicial process in the USA to comply with the Vienna Convention. Medellin appealed to the US Supreme Court relying on this ICJ decision. In its initial round, the State filed a brief urging the Court to rule that Medellin had no private right to seek enforcement of the Convention. However, the US Government announced it would comply with the World Court decision and direct the state courts to re-examine the claims of Medellin and other Mexican nationals. In its later rounds, Medellin also cited the memorandum from the US President that instructed State courts to comply with the ICJ rulings by rehearing the

cases. Rejecting Medellin’s arguments, the Supreme Court ruled the US Constitution does not require State courts to honor a treaty obligation of the US by enforcing a decision of the ICJ. Nor does it require State courts to provide review and reconsideration of a conviction without regard to State procedural default rules as required by Presidential memorandum. Congress decides whether or not to implement obligations undertaken under a treaty which, like the current one, does not itself have the force and effect of domestic law sufficient to set aside the judgment or the ensuing sentence. Immediately on rejection of the application for stay and a writ of habeas corpus by the Supreme Court per curiam on August 5, 2008, Medellin was executed (See 544 US 660 of 2005, 552 US 491 & 554 US 759 both of 2008).

SOLUTIONS AND RECOMMENDATIONS How can indiscriminate invocation of eminent domain be restricted is the relevant question. Hugo Grotius who is credited with coining the term was of the view that the concept of eminent domain evolved as States historically had an original and absolute ownership of all the property in its territory. However, later studies showed this origin theory was not accurate as compensation was well-ingrained in the eminent domain concept of both England and America long before the Revolution. During that time, compensation was not accorded only in exceptional cases when the value of the expropriated good was perceived as having negligible value. ‘The textual silence on the issue of compensation merely reflected the widespread faith in legislative virtue prevalent in the years immediately following the revolution’ (Harrington, 2002). Although the avenues of eminent domain have evolved drastically over the years, the most practical way to deter States from abusing eminent domain powers is by ensuring just compensation.

361

 Eminent Domain in Argentina, Brazil, and Mexico

The problem is that the States rely on ‘fair market value’ instead of ‘just compensation’ (Talley, 2006: 766). An important policy issue in the eminent domain process is defining what constitutes “just compensation”. The difference in the technical criteria used for the calculation of compensation can lead to enormous differences in its quantum, an aspect mostly played down by policy makers in Latin America (Martín, 2007: 5-6). If fair market value was to be paid immediately, it is highly doubtful whether the YPF expropriation would have occurred. The only valid defense that may be claimed in providing the fair market value is regulatory chill, the idea that obligation to pay compensation for regulatory changes may make it difficult for host States to regulate in socially desirable areas. Howver, more often than not, citing this defense is simply an excuse.

FUTURE RESEARCH DIRECTIONS This chapter analyzes some eminent domain assertions occurring in three Latin American Nations from a policy science perspective, relying heavily on the legal and social aspects involved. From this generality, numerical analysis of particular instances may be undertaken.

CONCLUSION Resource nationalism continues to be a grave challenge, and there are apprehensions that it is resource politics, and not environmental preservation or sound economics, that shall now dominate the global agenda (Lee, Preston, Kooroshy, Bailey, & Lahn, 2012). In Latin America, as in many other evolving economies, resource nationalism is intertwined with populism. Regaining a national treasure is always an act of audacity and its proponent a national hero. The expropriation of YPF was approved by the Argentine lawmakers almost unanimously; even Carlos Menem, the former

362

president who privatized the YPF, supported the takeover (Romero, 2012). In such economies, fundamental analysis does not pay, but speculating what the State’s next move may alone be norm. By historical analysis, abuse of eminent domain diminishes the confidence of investors. As expected, Argentina has had its share of repercussions, but true to the Darwinian ethos, many modern day investors seem to have adapted to the growing challenges. Immediately upon the Repsol incident, Chevron USA emerged on the scene by getting involved with the YPF. Lured by resourcerich Latin America, international investors seems to have learned to fade the ethical gap. Constitutions are constructed with the aspiration of remaining stable, but from 1811 in Latin America when the Constitution of Venezuela became functional until the end of the last century, a total of 103 Constitutions were enacted in 16 countries. This suggests that a situation of constitutional chaos has prevailed in Latin America (Gargarella, 2013a). However, simultaneously Latin American constitutions reflected and reinforced the emergence of the working class as a key political and economic actor in the first half of the 20th century (Gargarella, 2013b). Argentina, Brazil, and Mexico are essentially “work-in-progress democracies”. Gordon (2009) noted there is striking influence of the US Constitution on that of Argentina. Yet, their interpretation and application are unique to each nation. For example, in the eminent domain Article 27 of the Argentine Constitution, it is stipulated that only the Congress shall levy the taxes mentioned in Article 4. Clearly, this was to ensure that no inhabitant of the nation should be threatened with Damocles’ Sword of indirect expropriation except with the authority of the Congress. However, a constitution is only as good as its implementers, and therein lies the challenge. Returning to the Tolstoy story above regarding the emperor who needed answers for his three questions, the enlightened hermit revealed: 1) There is only one important time – Now; 2) The

 Eminent Domain in Argentina, Brazil, and Mexico

most important person is the one who stands right before him; and 3) The most important pursuit is making the persons standing by you happy. Taking a cue from the hermit, in eminent domain it can be stated: 1) The time value of assets is the most important issue to be reckoned by the State; 2) The interest of the stakeholders currently engaged with the State must be considered; and 3) The State should ensure that one stakeholder is not exploited for the benefit of another.

Committee on Commerce and Economic Opportunities. (2000). Olympics 2012: Policy Options for State Support of a Florida City’s Bid (No. 2001-009). The Florida Senate. Retrieved August 10, 2013, from: http://archive.flsenate.gov/data/ Publications/2001/Senate/reports/interim_reports/pdf/2001-009cmLONG.pdf

REFERENCES

Edwards, S., Biscarri, J. G., & de Gracia, F. P. (2003, July). Stock Market Cycles, Financial Liberalization and Volatility. Bureau of Economic Research. Retrieved August 15, 2013, from: http://www.anderson.ucla.edu/faculty/sebastian. edwards/stock-markets-cycles.pdf

Avalos, F. A. (2004). The Mexican Legal System (2nd ed.). William S. Hein & Co., Inc. Black, H. C. (1979). Black’s Law Dictionary. St.Paul, MN: West Publishing Co. Blumert, J. (2012). Home Games: Legal Issues Concerning the Displacement of Property Owners at the Site of Olympic Venues. Cardozo Journal of International & Comparative Law, 21, 153–195. Bruner, R. F., & Ciano, P. I. (2008). Structuring Repsol’s Acquisition of Ypf S.A. Darden Case No. UVA-F-1282. Retrieved August 15, 2013, from: http://ssrn.com/abstract=909678 Buchanan, J. (1990). The Domain of Constitutional Economics. Constitutional Political Economy, 1(1), 1–18. doi:10.1007/BF02393031 Carstensen, L., & McGrath, S. (2012, December). The National Pact to Eradicate Slave Labour in Brazil: A useful tool for unions? Global Labour Column, 117. Coalition of Immokalee Workers. (2013, December 23). Coalition of Immokalee Workers. Retrieved August 18, 2013, from: http://ciwonline.org

de Vido, J., & Kicillof, A. (2012). The Mosconi Report. Ministry of Economy and Public Finance. Retrieved August 10, 2013, from: http://www. mrecic.gov.ar/userfiles/mosconi-eng.pdf

Ellis, C. H. (Ed.). (2004). The Origin, Structure & Working of the League of Nations. The Law Book Exchange Ltd. Expropriation risk in the BRICs. (2010, November 15). Expropriation News: Weekly coverage of the issues surrounding state expropriation. Retrieved August 22, 2013, from: http://expropriationnews. com/2010/11/15/expropriation-risk-in-the-brics/ Gargarella, R. (2013a). Latin American Constitutionalism, 1810-2010: the Engine Room of the Constitution. New York: OUP. doi:10.1093/acpr of:oso/9780199937967.001.0001 Gargarella, R. (2013b, January 1). Keeping the Promise: Rights and Realities in Latin America. Boston Review. Retrieved September 1, 2013, from: http://www.bostonreview.net/world/ keeping-promise George, J. J. (2000). Judicial Opinion Writing Handbook (4th ed.). New York: William S Hein & Co., Inc.

363

 Eminent Domain in Argentina, Brazil, and Mexico

Goni, U. (2012, April 21). Argentinian president, Cristina Fernández de Kirchner, rejects criticism over YPF nationalisation. The Guardian. Retrieved July 18, 2013, from: http://www.theguardian. com/world/2012/apr/22/argentina-president-ypfnationalisation Gordon, M. (2009). Don’t Copy Me, Argentina: Constitutional Borrowing and Rhetorical Type. Washington University Global Studies Law Review, 8(3), 487–519. Haber, S., & Menaldo, V. A. (2012). Natural Resources in Latin America: Neither Curse Nor Blessing. Oxford Handbook of Latin American Political Economy. Retrieved August 8, 2013, from: http://ssrn.com/abstract=1625504 Haddad, E. (2008). New Judicial Procedures for Eminent Domain Cases in São Paulo, Brazil. Lincoln Institute of Land Policy. Retrieved August 15, 2013, from: https://www.lincolninst.edu/pubs/ dl/1533_769_HADDAD%20Final.pdf Harrington, M. P. (2002). “Public Use” and the Original Understanding of the So-Called “Takings” Clause. The Hastings Law Journal, 53(1). ILO. (2009). Decent work country profile Brazil. Geneva, Brasilia: International Labour Office. InfoBae. (2011, May 4). El Grupo Petersen ejerció la opción y aumentó 10% su participación en YPF (Spanish). Retrieved September 8, 2013, from: http://www.infobae.com/2011/05/04/579573-elgrupo-petersen-ejercio-la-opcion-y-aumento-10su-participacion-ypf Institute for Justice. (n.d.). Kelo v. New London: Lawsuit Challenging Eminent Domain Abuse in New London, Connecticut. Institute for Justice. Retrieved July 20, 2013, from: http://ij.org/Kelo.

364

Lee, B., Preston, F., Kooroshy, J., Bailey, R., & Lahn, G. (2012). Resources Futures. Chatham House. Retrieved August 11, 2013, from: http:// www.chathamhouse.org/publications/papers/ view/187947 Martín, C. R. H. (2007). The Use of Eminent Domain in Mexico: Lessons from Six Cases. Lincoln Institute of Land Policy. Retrieved August 21, 2013, from: https://www.lincolninst.edu/pubs/ dl/1657_872_Herrera%20Final.pdf Mayer-Serra, C. E. (2011, April 29). Stuck in the mud: the politics of constitutional reform in the oil sector in Mexico. The James A. Baker III Institute for Public Policy of Rice University. Retrieved August 10, 2013, from: http://www. bakerinstitute.org/publications/stuck-in-the-mudthe-politics-of-constitutional-reform-in-the-oilsector-in-mexico Merchant, P. (2012, April 23). Argentina: Government to nationalise 51% of YPF. Pulsamerica. Retrieved July 12, 2013, from: http:// www.pulsamerica.co.uk/2012/04/23/argentinagovernment-to-nationalise-51-of-ypf/ MercoPress. (2012, June 2). Repsol’s only purpose was “to milk dry” YPF of resources and reserves. MercoPress: South Atlantic News Agency. Retrieved July 16, 2013, from: http://en.mercopress. com/2012/06/02/repsol-s-only-purpose-was-tomilk-dry-ypf-of-resources-and-reserves Messitte, Z. P., & Grillot, S. R. (Eds.). (2013). Understanding the Global Community. University of Oklahoma Press. Mouri, A. (1994). The International Law of Expropriation as Reflected in the Work of the Iran-U. S. Claims Tribunal. Martinus Nijhoff Publishers. Redress Trust. (2003). Mexico. London, UK. Retrieved September 2, 2013, from: http://www.redress.org/downloads/country-reports/Mexico.pdf

 Eminent Domain in Argentina, Brazil, and Mexico

Reid, T., & Christie, J. (2013, July 30). California city becomes first to adopt eminent domain plan. Reuters. Retrieved August 7, 2013, from: http:// www.reuters.com/article/2013/07/30/usa-municipality-richmond-idUSL1N0G01QO20130730 Reinisch, A. (2008). Expropriation. In The Oxford Handbook of International Investment Law (pp. 407–458). New York: OUP. Reuters. (2013, April 24). Less democracy makes for an easier World Cup - Valcke. Reuters. Retrieved September 7, 2013, from: http://www. reuters.com/article/2013/04/24/us-soccer-fifaidUSBRE93N18F20130424 Robinson, J. (2013, August). Deconstructing the Chilean Miracle. Espacio Públcio and La Universidad de Chile. Retrieved July 22, 2013, from: http://scholar.harvard.edu/jrobinson/presentations/deconstructing-chilean-miracle Rodrik, D. (1997, October 24). Globalization, Social Conflict and Economic Growth. Revised version of the Lecture presented at the Prebisch Lecture, UNCTAD, Geneva. Retrieved August 16, 2013, from http://www.hks.harvard.edu/m-rcbg/ research/d.rodrik_world.economy_globalizaton. social.conflict.pdf Romero, S. (2012, April 26). Move on Oil Company Draws Praise in Argentina, Where Growth Continues. New York Times. Retrieved August 6, 2013, from: http://www.nytimes.com/2012/04/27/ world/americas/ypf-nationalization-draws-praisein-argentina.html?pagewanted=all&_r=0 Sachs, J. D., & Warner, A. M. (1995, December). Natural Resource Abundance and Economic Growth. National Bureau of Economic Research. Retrieved July 25, 2013, from: http://www.nber. org/papers/w5398.pdf Schmidt, C. J. (2008). Ending the Mathews v. Eldridge Balancing Test: Time for a New Due Process Test. Southwestern Law Review, 38(287).

Schneider, R. M. (2010). Comparative Latin American Politics. Westview Press. Selvanayagam, R. (2012, October 10). “My House, My Life” Brazil Continues to Bring Very Little Positive Change. Habitation for the Planet. Retrieved August 27, 2013, from: http:// www.habitationfortheplanet.org/blog/2012/10/ my-house-my-life-minha-casa-minha-vida-baseof-the-pyramid-housing-brazil/#comment-1225 Shankar, A. (2013). Evolving a Land Acquisition Policy Conducive for a Welfare State - A Study in Literate Kerala. Human Rights & the Corporation eJournal, 2(4). Skrivankova, K. (2010). Between decent work and forced labour: Examining the continuum of exploitation. The Joseph Rowntree Foundation. Retrieved August 20, 2013, from: http://www.jrf. org.uk/sites/files/jrf/forced-labour-exploitationfull.pdf Sloan, J. W. (1984). Public Policy in Latin America: A Comparative Survey. Pittsburgh, PA: University of Pittsburgh Press. Talley, B. (2006). Restraining Eminent Domain Through Just Compensation: Kelo v. City of New London. Harvard Journal of Law & Public Policy, 29(2), 759–768. Torre, A. D. la, & Mendoza, J. (2007, SummerFall). Immigration Policy and Immigration Flows: A Comparative Analysis of Immigration Law in the U.S. and Argentina. The Modern American, 46–52. Vassiliou, M. (2009). The A to Z of the Petroleum Industry. Plymouth, MA: Scarecrow Press, Inc. Vinnitskaya, I. (2012, March 12). Rio de Janeiro’s Favelas: The Cost of the 2016 Olympic Games. Arch Daily. Architectural News. Retrieved August 19, 2013, from: http://www.archdaily. com/214726/rio-de-janeiros-favelas-the-cost-ofthe-2016-olympic-games/

365

 Eminent Domain in Argentina, Brazil, and Mexico

Weston, B. H. (1975). Constructive Takings under International Law: A Modest Foray into the Problem of Creeping Expropriation. Virginia Journal of International Law, 16, 103–175. Wilmore, J. (2012, April 29). An Olympic-Sized Problem in Brazil. Communique. Retrieved August 22, 2013, from: http://columbiacommunique. org/an-olympic-sized-problem-in-brazil/ Winn, P. (2006). The Changing Face of Latin America and the Caribbean. Los Angeles, CA: University of California Press.

KEY TERMS AND DEFINITIONS Eminent Domain: The idea of property remaining in the government. Deprivation, acquisition, taking and condemnation are all concepts intertwined with eminent domain. ICJ: The International Court of Justice, popularly known as the World Court, is the judicial organ of the United Nations. ICSID: International Centre for Settlement of Investment disputes, an international arbitration institution under the World Bank. Mathews Test: A test of logic to ensure that in the name of due process, efficiency of a State is not hindered. It is derived from the decision of the US Supreme Court in Mathews v. Eldridge 424 U.S. 319. Mosconi Report: A report brought out by the Argentine government to justify the use of eminent domain powers on YPF SA. Peronism: The ideology propounded by the Argentine leader Juan Domingo Perón, who founded the political group, Justicialist Party. Public Use: The reason for invoking eminent domain. Traditionally, it meant purposes like building roads or schools. However, its frontiers have expanded, making it a controversial, grey area. Practically, anything that directly or indirectly

366

benefits even a section of the society can now be brought under the public use definition. Regulatory Chill: The idea that obligation to pay compensation for regulatory changes may make it difficult for host States to regulate in socially desirable areas. Resource Curse: The paradox of how countries with rich resources often develop more slowly, more corruptly, more violently and with more authoritarian governments than others. YPF: An Argentine oil company formed in 1922, originally owned by the State.

367

Chapter 17

International School Teachers’ Professional Development in Response to the Needs of Third Culture Kids in the Classroom Margaret Carter James Cook University, Australia Yvonne McNulty Singapore Institute of Management University, Singapore

ABSTRACT This chapter draws on an exploratory qualitative study of 20 teaching staff at an international school in Singapore to examine the professional development needs of international school teachers in response to the needs of Third Culture Kids (TCKs). It explores what the needs of TCKs are, whether teachers at an international school in Singapore have the skills and competencies to be responsive to these needs, and where gaps in professional development for international schoolteachers may exist. Evidence shows that no professional development training in relation to TCKs is provided specific to the international context in which teachers are employed. Issues that are poorly addressed include staff induction, student transitions and identity issues, language support, pastoral care, and curriculum training. Findings contribute to the educational leadership and management of international schoolteachers by contextualizing professional development as a facet of organizational leadership.

INTRODUCTION As the demand for expatriates in Asia increases (Czinkota & Ronkainen, 2008; McNulty, De Cieri, & Hutchings, 2013), the necessity for international schools to cater for the children of expatriates (‘third culture kids’ or TCKs) has become criti-

cal. This is in part due to the growing numbers of children now entering international schools in Asia (Siong, 2012; Tanu, 2008, 2010), resulting from the ‘normalisation’ of global mobility as a typical and expected part of one’s career progression (Cappellen & Janssens, 2010). It is also partly due to the improved quality of international schooling

DOI: 10.4018/978-1-4666-6551-4.ch017

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 International School Teachers’ Professional Development

options, including the growing popularity of and demand for the International Baccalaureate (IB), which has subsequently negated the necessity for many expatriates to send their children to boarding school or to return to their home-country to ensure a satisfactory education (Bunnell, 2005b). The purpose of the study is to examine international school teachers professional development needs in response to the needs of TCKs. The fundamental argument is drawn from Grimshaw and Sears (2008), wherein the needs of TCKs differ from those of non-expatriate families. As such, international school teachers may require a specialised set of skills and competencies to effectively cater for the specific needs of TCKs in the classroom. This study contributes to the extant literature on international education by extending the very small number of empirical studies primarily conducted in the 1990s which explore international school teachers’ professional development (e.g. Black & Armstrong, 1995; Black, Harvey, Hayden, & Thompson, 1994). In drawing on data from 20 teaching staff at an international school in Singapore, the study aims to give international school teachers a voice in which to share their ‘lived experience’ regarding TCKs in the international school setting. A further contribution is that by adopting a qualitative research approach, the study reveals perceptions and findings that can be compared with other studies to deepen what is currently understood about the professional development needs of international school teachers (e.g., Richards, 2002). Additionally, it aims to provide useful insights for education administrators as to where current gaps and difficulties in professional development for international school teachers may exist. Lastly, the practical implications of our findings are discussed through the theoretical framework of Bronfenbrenner’s ecological systems theory (Papalia & Feldman, 2012). This theory explains how everything within an individual (i.e., the international school teacher) and within an individual’s environment (i.e., the international school) impacts and influences their

368

growth and development (in this case when working with TCKs in the classroom). The chapter commences with a brief overview of TCKs, including the challenges and issues faced or experienced by TCKs. Next, it briefly reviews professional development for teachers currently being provided. This is followed by an explanation of the methodology, after which findings are presented, concluding with a discussion and overall implications of the study for research and practice.

THIRD CULTURE KIDS (TCKs) Third Culture Kids are the children of parents who live in a foreign country for their work (Peterson & Plamondon, 2009). Such ‘work’ may include occupations in the military, diplomatic corps, mission field, non-profit sector, education, and international business. TCKs spend a significant portion of their developmental years (birth to 18 years of age) outside their parents’ culture (Pollock & Van Reken, 2009). Useem (1973) defines three cultures that TCKs inhabit. The first is a child’s country of origin and/or parental culture, of which they hold a passport but in which they may or may not have been born. The second culture is the host country in which a child is currently living. The third culture is the community within the second culture that a TCK most identifies with in terms of a shared lifestyle and meaning (e.g., an expatriate compound or an international school). The TCK experience is marked by the continual process of living in and among different cultures, which Pollock and van Reken (2009) argue ‘affects the deeper rather than the more superficial parts of [TCKs] personal or cultural being’. Therefore, the TCK’s life is impacted by two interconnected realities of being raised in and experiencing: (1) a truly cross-cultural world beyond only watching, studying, or analyzing other cultures from a distance; and (2) a highly mobile world which continually changes in terms

 International School Teachers’ Professional Development

of people, places, and things. For many TCKs, these realities manifest in a sense of rootlessness and a lack of full ownership in any one culture they inhabit in spite retaining a relationship to all (Pollock & Van Reken, 2009). Hence, the TCK experience often creates a subtle underlying tension as a child struggles to develop, at its most basic level, a sense of identity, relationships with others, and their own view of the world during a fragile stage of their development (i.e., the early and adolescent years). For this reason, TCKs can be perceived as victims of globalisation where culture and identity collide. Yet, the TCK experience can also foster positive gains, and not in the least the development of a skill-set that is highly sought after on the international labour market (Selmer & Lam, 2004; The Straits Times, 2011). In adapting from Grimshaw and Sears (2008), the conceptual framework that underpins the study relates to TCK identity as a socially constructed phenomenon in response to one’s lived experience and social interaction with others of a similar background. It includes that individuals can be conditioned by others, as well as the ‘broader narrative discourse’ that exists (p. 73), which may subsequently challenge their academic and social wellbeing (Fail, Thompson, & Walker, 2004; Peterson & Plamondon, 2009). A central argument is that international schools play an important role in helping TCKs socially construct their identity. This is because international schools share several common characteristics that TCKs come to understand as “normal”: teachers, staff, and students are multi-culturally diverse, and there is a high turnover of the student body (Langford, 1998; MacDonald, 2006). Moreover, while the content of children’s stories in the international school community may differ, the experience of the TCK is nonetheless universally understood much like a familiar script (Pascoe, 2009). An international school is defined as one that is ‘independent of any national system of education, and that offers a curriculum which is different from that in the host country’ (Black & Armstrong,

1995: 27). In essence, an international school is the ‘third culture’ in which many TCKs are immersed and in which they find comfort, security, and a sense of shared identity. The significance of the third culture is therefore critical and has been shown to help TCKs thrive in their international environment (Sears, 2011; Tsumagari, 2010), largely because it provides them with a sense of belonging in relationship to others of a similar background (Pollock & Van Reken, 2009). Consequently, it is imperative that teachers’ are knowledgeable about the issues facing TCKs so they are responsive to their needs within the context of the learning and teaching environment. Indeed, research demonstrates that there are many factors that affect TCKs resilience which impacts their academic performance and social and emotional wellbeing as both children and adults (Grimshaw & Sears, 2008). It is argued that an environment in which the TCK phenomenon is reflected in the curriculum and can become part of the culture of a school community (e.g., its vision and mission) will enhance the overall well-being and wholeness of the child.

PROFESSIONAL DEVELOPMENT FOR INTERNATIONAL SCHOOL TEACHERS Interest in the professional development of teachers stems from the well-documented research linking quality professional development and quality learning and teaching environments (Raban et al., 2007; Rodd, 2006). This research has consistently demonstrated that the professional development of teachers is the cornerstone of excellence, wherein ongoing staff professional development contributes to the optimal development of children, and reflects the quality of the curriculum and pedagogy children are immersed in. Adapting from Evers, Kreijns, Van de Heijden, and Gerrichhauzen (2011), teachers’ professional development is defined as authentic participation

369

 International School Teachers’ Professional Development

in professional learning sessions including training, reading, dialoguing, experimenting, reflecting, and collaborative activities which can be both formally delivered and informally experienced as on-the-job work integrated learning. Professional development in recent years has evolved to a participant driven approach, focusing on process driven reflective practice and capacity building (e.g., Robinson & Carrington, 2002). This represents an intentional shift towards a constructivist approach to professional development, placing the teacher at the centre of these activities. Such an approach supports teachers in constructing their own knowledge and competencies for the context of their particular professional learning community. It also highlights the importance of collegial reflective dialogue in the workplace and is compatible with a focus on continuous lifelong learning for continuous improvement. Staff narratives of reflective practice provide the platform for capacity building. Resonating with the shift towards reflective professional development, this process supports teachers to engage as reflective practitioners in reflective action: to build on and from their experiences; and to be actively engaged in developing theories they can use in practice (Gould & Baldwin, 2004). Reflective action focuses on ongoing learning for continuous improvement. Despite the growth in size and diversity of international schools in Asia, Holderness (2001) argues that little formal research has been undertaken on international school teachers. Of existing research, a small number of studies have focused on methods to recruit teachers and the high turnover of staff (e.g., Cambridge, 2002), rather than how they are supported and professionally developed. To date, no research has examined the ongoing professional development needs of teachers and school administrators in international school settings. Bunnell (2005a) suggests that few schools offer a comprehensive induction-training program for new teachers, with Hayden (2002) commenting that ‘no specific training is provided

370

to international school staff … before they embark upon their international school experience’ (p. 117). One possible reason for the lack of professional development is the contractual nature of international school teachers’ appointments, where short-term and fixed-tenure contracts can result in professional development neither being offered nor requested (Holderness, 2002). This is in contrast to Hardman’s (2001) findings which show that the main motivator for joining an international school is ‘professional advancement’. Hence, the concept of professional development in the international school setting appears to be of increasing importance (Richards, 2002).

FOCUS OF THE STUDY Few, if any, studies have addressed the issue of international school teachers’ professional development in terms of knowledge about TCKs and translation of this knowledge within the pedagogy of teaching. Building on existing literature (e.g., Alviar-Martin & Ho, 2011; Evers et al., 2011; Sears, 2011), this study is salient in informing the professional development agenda for teachers in the international school context, both in Singapore and in countries wherever international school teachers are employed. Three specific research questions are outlined: 1. How do international school teachers define TCKs? 2. To what extent do international school teachers have experience with, and exposure to, TCK professional development and learning? 3. What do international school teachers prioritise in terms of TCK professional development?

 International School Teachers’ Professional Development

METHODOLOGICAL APPROACH Interpretative Phenomenological Analysis (IPA) was chosen as the theoretical foundation of this qualitative study. This theory has its roots in phenomenology, holding “that human beings are not passive perceivers of an objective reality, but rather that they come to interpret and understand their world by formulating their own biographical stories into a form that makes sense to them” (Brocki & Wearden, 2006: 88). As such, this research has concentrated on the exploration of international school teacher participants, and interpretation of their own lived experiences, perceptions and mindsets about their TCK professional development experiences. IPA methodology recognizes the participant’s expert yet subjective knowledge and experiences of TCK professional development and the research teams interpretation of these experiences, with the interpretative role of researchers being central to their reflections, analysis and construction of new knowledge.

TEACHER INTERVIEWS AND ANALYSIS Focus groups were used as the means of gathering data, utilizing a schedule of semi-structured questions to guide the group discussion. In September, 2011, a total of 20 teaching staff at an international school in Singapore volunteered to participate in two focus groups (10 staff in each group). Given the limited time teachers have available to participate in outside activities, this methodology is seen as most appropriate as data can be collected quickly and efficiently over a short period of time. Focus groups can also facilitate better quality data collection where individuals may be reluctant to share or disclose their views and opinions in one-on-one settings (Kamberelis & Dimitriadis, 2008). These focus group interviews were used to explore international school teachers TCK professional development experiences.

Participants were recruited via email invitation disseminated by a senior member of staff at the school who facilitated the research team’s access. An invitation letter outlining the project details were attached to the email invitation along with a consent form. Staff volunteering to participate indicated their interest and availability to the senior staff member at the school, who then informed the research team. Participants ranged from active full-time teaching staff, counselors, subject teachers, learning support, and heads of departments. Participants were drawn across the primary and secondary school. These staff can be expected to be well-informed about both professional development and international school settings. Focus groups were held immediately after school hours, in the school library, and were recorded. Focus groups ran for approximately 1 hour 30 minutes each, being facilitated by a member of the research team. Data were analysed using NVIVO v9.0. Transcripts were content analysed and common themes identified. To facilitate greater reliability and validity of the data, both researchers analysed data independently to facilitate a process of inter-rater reliability, coming together post-analysis to discuss discrepancies and agree on common themes.

DEFINING TCKs Teachers’ were unclear as to how a TCK is defined in terms of the role of the ‘third’ culture. Within the broader definition offered by Useem (1973) and Pollock and van Reken (2009), it was found that the third culture is defined as one based on the national culture of the host country, as typified in the following comment: When a kid moves to another country, then they have the culture of their parents - assuming that is one culture, which often it is not. Then they have the country’s culture, and those combined make a third culture for a kid.

371

 International School Teachers’ Professional Development

Most teachers’ technical understanding of the ‘third culture’ that informs TCKs experience was therefore limited. Findings here were consistent regardless of whether teachers were new to the international school context (i.e., their first international school post), were TCKs themselves, or had taught previously at international schools in various locations and had acquired a relatively lengthy exposure to international school students, for example, with 20 years or more experience in overseas education. Despite a lack of technical knowledge about the term ‘TCK’, a small number of teachers brought considerable understanding of the issues facing TCKs having been, or raising, a TCK themselves. The following comment attests to this deep level of understanding: I saw a checklist for what defines a TCK, and it’s basically - did you fly before you could walk? have you had a passport before you had a learners permit? do you speak more than one language? do you not get what everyone is talking about when you fly home? you’re not sure where home is? when people ask you where is home you go ‘well, I was born here and then we went there’ and you don’t know how to answer that question? And I thought, that’s not a subset of our kids, that’s all of them! Some teachers expressed concern that many students were oblivious to being identified as a TCK and the potential challenges associated with this terminology: I would say many of our kids don’t recognise that they are TCKs. They probably don’t know what it means, and don’t understand it, because I know in our pastoral care program we haven’t directly addressed it.

372

TEACHERS’ EXPERIENCE WITH TCK PROFESSIONAL DEVELOPMENT The findings indicate there is no clear answer as to how international school teachers’ receive their learning and training specific to TCK professional development in the international school context, translating their learning into their subject/ classroom teaching, learning, and assessment. Mirroring other findings in relation to general professional development (e.g., Hayden, 2002), teachers do not perceive they are provided with specific and relevant formal training to help them acquire expertise on managing TCKs. As one teacher stated: It’s pretty much up to the individual teacher to take the initiative to try and address these things. In terms of a formal mechanism that not only educates staff but educates the community and also supports these kids? It doesn’t exist yet … the parents email us all the time, they will just come and pop in and have a chat, that’s the only avenue that we have at the moment. Of the professional development training teachers have acquired, much is received informally on an ad-hoc basis, typically by being overseas, working internationally, and the frequency through which they relocate to new locations. This personal experience then infiltrates through the classroom: It’s the support network of their friends that helps … for example, with the younger ones, if I was given a new student I would often take aside a small group of kids who I knew what their experience had been like and I would say, “Can you look after this guy for a little while, just show him around?” But that was something that I did. That wasn’t something the school mandated. I was just trying to make life easier for these kids when they came in half way through the year.

 International School Teachers’ Professional Development

On-The-Job Training Professional development as on-the-job training emerged as a critical, albeit informal and reactive, method of training for international school staff. Teachers’ capacity building in relation to managing the social and emotional development of TCKs was frequently gained through exposure to students’ behaviour in the class, mostly without formal training as to how best to deal with it: These kids didn’t choose to be expatriates; most of the time the parents did. There’s a high percentage of parents quite happy to go abroad but the kids are not … for the older TCK, mum and dad are coming here for a career and they wind up on planes everywhere and not around. No one is there to actually see from a teen point of view, “I want to get pissed off with mum and dad and I want to show them I’m pissed off”, but [the parents] are not even around. And so then it comes into the school … it has to come out somewhere. They have to vent it somewhere. Similarly, others’ experience was gained through student interaction, with students’ as teachers: Picking their brains about what their childhood experience has been like, that’s been really interesting for me just to hear that, because often I take for granted a lot of things that I might know about my students. I’m not a TCK. I thought I knew what their experience was like, but it has brought it home to me again, which has been good for me as their teacher. A small number of staff were parents of TCKs themselves, with an even smaller number having been a TCK during their childhood years. For these staff, while their experience on the international school scene had been limited or relatively shorter in length, all believed that their personal experiences with their own children or

their own childhood journey provided them with considerable knowledge and insight, personally and professionally, as to TCKs.

INTERNATIONAL SCHOOL TEACHERS’ TCK PROFESSIONAL DEVELOPMENT NEEDS While all participants valued TCK professional development, many were frustrated with the depth, frequency, and duration of the sessions. Seven themes pertaining to quality TCK professional development, located at different levels within the international school and host country environment, were identified from an analysis of data.

Structure of Professional Development An important issue is the structure and depth of the TCK professional development that is provided for international school teachers. Many staff spoke about attending school-sponsored workshops; however, these were perceived to be, very informal, for example, staff induction on TCKs [was] sitting in a room full of 20 other newbies … it was a 20-minute conversation. Valuing the 20 minute professional development session, many staff viewed it as an opportunity for teachers to begin and/or continue engaging in their critical reflection about TCKs within the international school context where, they don’t provide a lot of answers, [but] it starts people on that journey of inquiring into what does it mean. We need to question how that impacts or influences our practice and our thinking. Others were of the opinion that the TCK phenomenon is trivialized and not given the importance it deserves, instead being relegated to:

373

 International School Teachers’ Professional Development

a very nice one-day celebration, where the festivities amount to, okay, everyone bring a flag and, okay, bring something from your country. The general sentiment is that TCKs were not taken seriously by the school administration, and therefore TCK professional development was a non-event, and cursorily addressed wherein, it’s one day. What are you going to do for the rest of the days that the kids are here … to make a school international? One teacher summed up the frustration voiced by many participants by explaining: This is not just like any other subject area. [It] deserves a certain amount of time and resourcing … in terms of identifying a cultural identity that is yours. I don’t think that it’s seen through that lens. Another suggested: There’s the old expression which is very big with the IB organisation in terms of celebrating the five F’s: food, fashion, flags, famous people, and festivals. It’s very superficial, and trying to get people to go deeper into it cannot be done, for example, in a PYP 6 or 7-week unit of inquiry. There needs to be something that really takes root and becomes a part of the culture of the school.

Curriculum and Pedagogy Staff were adamant that TCK professional development needs to concentrate on teacher pedagogy. Teachers working in the early years discussed the ease with which they could diversify their program to cater for the cross cultural competence of TCKs, something that teachers in higher grades found difficult to achieve. For example, those working with TCKs who enter school at the pre-school stage find they are able to honour children’s heritage and life circumstances as part

374

of the international mindedness component of their curriculum more readily than teachers of older students. This is because, kids at a younger age tend to be a lot more pliable, they roll with things a bit better, and because parents tend to be more involved in younger children’s classroom activities. This results in a greater degree of cultural communication between home and school. Additionally, familiarity and knowledge of a TCKs previous school’s/country curriculum are seen as essential to support a child’s transition into the teaching and learning program. There is, however, an ethical tension between developing an inclusive curriculum that is responsive to the individual needs of TCKs while also being faced with having to deliver curriculum and then deliver results to the international school employing authorities. As one teacher stated: Are we dealing with the people, or are we dealing with the results? If we do differentiation, are [we] able to differentiate things really, really well at a higher level?

Pastoral Care and Counselling Teachers identified the importance of pastoral care professional development facilitated by the school counsellors so as to better equip them to respond to the social, emotional, and resilience needs of TCKs. This was found to be a particular need for secondary school subject teachers and home group teachers who, don’t really have contact time with students, they just come in your classroom and go again. TCK identity issues were identified as being specifically related to older TCKs, with many staff voicing they were inadequately trained to deal with the issues: In my experience, the ones who have been TCKs from an early age I don’t struggle too much with those in the classroom. But I’m a middle school teacher and by the time they get to me, the ones

 International School Teachers’ Professional Development

who have just arrived and they’re 14 years old, it’s tough, they’ve never lived outside of their home country … they’re angry with their parents … it’s a difficult age to start with. I have got some kids in my class who have struggled moving here and they’ve relayed to some other children in the classroom that they are fine now [but] they’re still not fine, so it’s borderline. Do they go to a counsellor? Mum’s talking to me all the time and I’m trying - but I’m not trained. I don’t know what to do. Mum’s also having a hard time. I really don’t know. Supporting TCKs to develop resilience in the face of change and challenges was a priority area requiring attention at the school administration level. Some TCKs require teacher pastoral support, while others require a more serious level of intervention provided by qualified school counselors.

Induction Training for Staff and Students It is evident that teachers need a clear and transparent induction process to support their own, as well as TCKs, transition into the international school context. Current induction programs were viewed as superficial, lacking in quality, and “a lucky dip”. For TCKs, the induction process seems to vary according to the dominant nationalities enrolled at the school and whether parents provide an informal support network. Curriculum induction and the particular age at which a student enters the curriculum program of the international school was reported as a further challenge for TCKs, their parents and teachers. Teachers recognize that there is limited, if any, support for students facing this challenge, particularly in relation to the language or terminology that is used as part of the ‘new’ curriculum. As one teacher explains, Apart from year 6 when they have an induction to the MYP [Middle Years Program], if you start

in any year other than at the very beginning of year 6, you have to pick it up as you go on. It’s pretty chunky stuff. Another teacher shared a personal story in relation to her own child’s experience at the school, giving her invaluable insight into the potential challenges many TCKs face: Our boy came in at year 10 and he’s been faced with having to do a personal project. [But] he had no exposure to any of the language of MYP at year 10 level because at least more than half of the teachers don’t use any MYP language when they teach. So we had to complete this enormous personal project not understanding the terminology. As a family it was a really, really big thing because he’s a kid who likes to work hard and do well, and yet he would come up with things and say ‘I don’t know what they mean by this [so] how can I comment’? We spent weekend after weekend sitting down trying to teach him the terms. I did report that back to [name of colleague] and said ‘do you understand for the kids who are new to year 10 what an absolute mine field this is?’. Thing is – I am a teacher. All I could think of was what happens to the kids whose parents aren’t teachers, whose dad maybe travels all the time, mum’s at home with three or four kids and this kid’s trying to do their personal project? Or for the kids with the language difficulties. It would be terrible. Providing a clear and transparent induction process was seen to ensure that teachers and students (and, in some instances, their parents and/ or guardians) do not fall through the gaps in terms of transition, emotional, social, psychological, curriculum, and learning support. This induction needs to be ongoing throughout the year, but the question of whose jurisdiction it is to develop, implement and monitor the induction process remains unclear. Reflecting on their class composition, some teachers voiced concern as to how best to support

375

 International School Teachers’ Professional Development

international students who are being educated in international schools cared for by guardians while their parents remain in their country of citizenship or elsewhere: We’ve got kids with no parents at all, who come here as international students. They have guardians. We are very fortunate at this school to have a dedicated person who does look after them [but] some schools don’t have anything like that in place. The degree of responsibility and work that a guardian will do is so wide … it creates further impact on these kids. The family composition including siblings that remain in the country of citizenship while TCKs relocate to the host country was identified as a challenge many TCKs and their families experience. Labelled as ‘split families’ by the participants, examples were given where older siblings remain in a prior host- or home-country to attend university and the family structure in terms of first, second, and third child (and so on) subsequently changes, albeit temporarily. Teachers noticed that such changes impacted on student engagement in the curriculum and relationships with peers, which they often felt ill-equipped to deal with. Professional development in terms of supporting these students pastorally and academically was highlighted by staff in this study as a proactive way of supporting TCKs: When families move here, some are split. One of the big issues for my family was leaving two boys behind to come here - there are two that I have left at home. It’s the idealisation of them as brothers. So the two that came here with us, they changed from being third and fourth children to first and second children, and the behaviours changed. It took me a couple of years as a parent, regardless of being a teacher, to realise that there were issues. And I have come across it a lot more since I was working in the welfare program with the upper secondary kids. Often they are really missing

376

their brothers and sisters that have been left at university, that have been left behind. An additional aspect of student induction is that in some instances the year level and age differences across countries and hemispheres can be a problem, particularly when TCKs are older or younger in age than the typical age of the child in their class. This can impact on TCKs identity, wellbeing and ability to settle in. Although teachers often flagged this issue during enrolment, most TCKs were dismissive and unaware of the potential ramifications for themselves at some point once enrolment has passed. as one teacher explains: I had a girl and she’s older than all the kids in her year group because she’s actually moved from China to Singapore from a northern hemisphere thing, so she’s lost half a year coming here. She’s actually a year older than everyone in that group and at 15 and 16 years, that’s a big age difference, and that’s one of the things we spoke about in the enrolment interview with her: how are you going to feel going into a class full of 15-year-old boys and you’re almost 17. She said: I’ll get over it. Now she’s like: I think I realise what that question was about now.

Multilingual TCKs A central issue named by participants was the token acknowledgment and respect given to the multilingual TCK student body. Accepting the reality of English or bilingual being the language of instruction in the international school content, the language support subject offered to multilingual TCKs not conversant in English, is English as an Additional Language (EAL). However, what appears to be missing is an understanding of cultural sensitivity in relation to the various languages that students’ speak and not allowing segregation to occur in the playground and in class in terms of social groupings.

 International School Teachers’ Professional Development

Teachers were conflicted with integrating TCKs or allowing them to work with their ethnicity of choice. Some teachers shared their struggle of stipulating what nationalities TCKs interact with. Inclusiveness arose as an important issue, along with subsequent rejection and exclusion of minority TCK students. This was perceived as a complex issue because language barriers hinder TCKs ability to integrate beyond seeking friendships with their own foreign language culture.

TCK Identity Staff in this study acknowledged that students of certain ages struggle with TCK identity issues. There’s a clear recognition that, when they’re younger they’re not grappling with the bigger questions like the older kids are, but that adolescents by their very nature,are trying to identify who they are, what they are, where they fit, and who’s like them. Findings in the study clearly showed that, TCKs need that conversation and outlet. As one teacher said,

esteem, and where they’re headed. Often there is a lot of work to do with kids. Let’s find out where you were born, let’s have a look where you have been, let’s have a look at your family system and the roots, your family tree, and that sort of thing and see if we can work out an identity for you. At the beginning of the year we do the usual thing: where does everyone come from, and you get their pictures and you put it on the map, and the parents will come in for the parent/teacher, meet the teacher, and they’ll be stunned because their kids are saying, “I’m Singaporean, I’m from Singapore, right, because I was born here?” But they’re English and it’s like, hey, if that’s what they are identifying with at this point in time let it be, encourage it, enrich it. I wouldn’t jump on it and say, “You’re not Singaporean, you’re actually British”.

We need the kids to be aware, to understand that they’re not alone, and to celebrate that.

A few staff indicated that one avenue of supporting TCKs with identity challenges is through the IB learner profile, and in particular, the international mindedness attribute. However, as the following teacher explains, there can be ongoing problems when the adoption of the international mindedness attribute is lagging:

In terms of professional development, more formal education is required to inform teachers, TCKs and their parents, about lifespan identity issues, specifically in reality to TCKs. Some teachers addressed it based on personal and private experiences (as the parents of TCKs or being an adult TCK themselves), some staff were sufficiently knowledgable to refer TCKs to the school counsellor, and others relied on logic and common sense, as the following teachers explain:

International mindedness [is] the only learner profile that will establish all of these things we’re talking about with TCKs. But without school context, without that vision and understanding, we will always come up against hurdles every time we look at this concept. It’s very, very slow moving. It was evident throughout all of our evaluations and our authorisation processes, that that’s something that we struggle with. The cost of [not doing] it is the identity crisis.

I can think of one boy in year 5 who has been to six different countries, six different schools … the concern is when kids don’t know what country they’re from, or where they were born. And that has a big impact on who they are, and their self-

Repatriation and Re-Assignment A consistent issue for international school teachers is the high mobility of students in and out of the school system, “a revolving door” as one teacher

377

 International School Teachers’ Professional Development

put it. Repatriation or re-assignment to another location was found to be a major source of stress because teachers often felt ill-equipped to prepare TCKs, the class and themselves for the loss and grief that accompanies the regularity of students transitioning out of their international school. As one teacher explained: I don’t think we do it [well] at all. It’s like, ‘you’re leaving? Bye’. Another said: Some [students] find out that they’re going home last minute – it’s ‘Miss, I’m leaving on Friday, let’s go party’ and then they’re gone. More professional development is needed to support and empower teachers to respond effectively to the grief and loss experienced by TCKs for the class/year level, themselves and the parent group, as evidenced by the following incident: I had a situation last term where a year 6 girl went home to South Africa, and the rest of her class were inconsolable. They were howling, seriously, for the next couple of days. The girl who was leaving wasn’t upset, but the kids here were because she was moving on. About three quarters of that class had been in Singapore for a while and there were a couple of kids who had only just met her this year, but it was a big thing and the co-ordinators had to come in and have a chat to these kids and try and calm them down. It was a big issue and very, very unsettling for the kids who were still here. For many staff, preparation for TCKs’ leaving was considered a significant gap, and the question frequently arose, In the wider sense of what we do, what are our duties in terms of preparing them to transition home? Is it our responsibility?

378

Acknowledging the role teachers’ play in supporting the holistic development of TCKs, some staff voiced their opinion that, We have to be realistic as to how we are supposed to prepare students to move back. I think ultimately the problems are the responsibility of the parents.

DISCUSSION Generally, findings in the study point to a level of overall professional development training in relation to TCKs that seems to disappoint school teachers and staff at an international school in Singapore. The reality is that virtually no professional development training is provided specific to the international context in which teachers are employed. While ad-hoc and informal professional development was accessed consistently by staff to address the needs of TCKs in their care, more formal and specialized training is desired and needed. Confirming some aspects of prior research (e.g., Holderness, 2001; Hayden, 2002), the issues that were unsuccessfully addressed included staff induction to TCKs in an international school context, TCK transitions, identity lifespan and cultural issues, multilingual TCKs, pastoral care, and international mindedness curriculum education. On a more positive note, findings from the study provide an interesting perspective on professional development for international school teachers which emerges as multifaceted and uniquely specialized in comparison to teachers in domestic school settings. Following Hayden’s (2002) line of thinking, a four-stage model of professional development is proposed as necessary in order to equip international school teachers to effectively manage TCKs in the classroom: (1) initial staff induction and TCK professional development; (2) continuing and ongoing TCK professional development; (3) building teachers’ capacities and competencies in responding to the holistic

 International School Teachers’ Professional Development

needs of TCKs in the classroom; and, (4) formal qualifications at the post graduate level for international school teachers employed in international schools, as well as those in administrative, head, and strategic roles. Specialised professional development in relation to TCKs is necessary because the international school setting is perceived as a more complex and demanding environment for teachers academically, socially, emotionally, and psychologically, due to the cultural context and the high degree of mobility inherent in international communities. But there is another reason to consider: findings show that many international school teachers and staff are passionate and deeply committed to their profession and the international context of their work, along with a profound understanding as to the challenges they and TCKs face, as explained by the following comment: There are lots of pitfalls obviously moving countries a lot, and it’s hard finding the right way to teach these kids sometimes, and it’s hard for kids to transition. But some of the most fabulous, spectacular and amazing kids have been the ones who have moved to a lot of different countries … they have got such an amazing wealth of experience … they are so resilient … and they’re really, really vibrant and interesting people. Furthermore, many staff suggested that they intend to remain overseas and to continue working in international schools with TCKs for quite some time, as this participant suggests: Teachers go overseas, they work for ten years overseas and then they go back and they work in that small state school somewhere and they just go, “these kids are so boring, I’ve got to get out of this place”. As such, enhancing international school teachers capacity and competencies to manage

TCKs more effectively seems both appropriate and necessary.

Implications The theoretical framework of Bronfenbrenner’s ecological systems theory guides the professional development focus for international school teachers working with TCKs. It also sets the direction for action at the family, educational administration, and support staff levels in the international school setting. This theory locates the individual at the centre of the bio-ecological system, in this case the international school where teachers working with TCKs in the classroom are situated. What happens at each level of the five interconnected systems influences the quality of professionalism the international school teacher emanates when working with TCKs in their classroom. Bronfenbrenner classified the ecological system as comprising five discrete yet interconnected nested subsystems that interact with the developing person’s own professional and personal development. These organized subsystems, representing different contexts in society, are classified as the microsystem, mesosystem, exosystem, macrosystem, and chronosystem (see Table 1). The developing international school teacher is positioned at the centre of the ecological system. International school teachers may be active in one system or may never have entered that system, but the environmental events in each of the systems influences and reinforces what happens or does not happen in the developing professional’s schema. In other words, what occurs in terms of TCK professional development (i.e., the quality, depth, frequency and duration of sessions) influences the capacity of the international school teacher to respond to the needs of individual TCKs. On a practical level, teaching staff expressed an overwhelming need for more discerning and sophisticated induction programs for themselves as well as TCKs. Also required is formalized training to imbed the TCK phenomenon into the

379

 International School Teachers’ Professional Development

Table 1. Bronfenbrenner’s Ecological System of Subsystems Sub-System

Characteristics

Microsystem

Represents the international school teachers’ everyday immediate environment in the host country in which they live and work. It refers to the most direct agents of social change that influence their paradigms, principles, beliefs and values. It includes interactions and relations with TCKs and their immediate families, education administration personnel, colleagues, employers, and friends.

Mesosystem

Represents the interconnection of various microsystems, linking with direct change agents in the teachers’ micro subsystem. It may include links between TCKs and their families, TCKs within the class and school environment, and education administrators.

Exosystem

Signifies the layer in society in which the international school teacher is external and indirectly involved. Events in this system have the potential to interact and influence the teachers’ microsystem. Community engagement and education, digital technology, and mass media are agents of change located at this level.

Macrosystem

Denotes the overarching cultural ideologies and attitudes of the national, political, and economic systems. How is the international school teacher affected by living in the host country and teaching TCKs in the international school? This system underpins and influences all subsystems.

Chronosystem

Provides an historical time dimension, representing events occurring over time that have shaped the growth and development of the environment in which the international school teacher lives (e.g., employment, place of residence, socioeconomic status, and family structure).

curriculum and pedagogy, using the international mindedness attribute as a foundational construct. Additionally, there is frustration at the lack of pastoral care and counseling that is available to staff to support TCKs as well as themselves to cope with the high mobility and transitional nature that is an inherent part of the international school context. The following processes and strategies are recommended as part of the mesosystem, recognizing that what happens in one system impacts the other systems. First, when a school represents a national curriculum (such as the school in this study), diversity among staff is critical to ensure a broader representation of nationalities and cultures on the teaching staff beyond the school’s home-country culture. This will likely include employing local staff in the host-country, which is a common feature in many international schools in Singapore. Diversity among staff is necessary at all staffing levels, including teaching, administration, paraprofessional, welfare, counselling, and learning support. Doing so can help with developing ‘international mindedness’ so that children can be taught differently, and beyond only, the national curriculum of the home-country. People from

380

different backgrounds who work together, engage and communicate with one another also demonstrate inclusiveness as an important international competency. Second, most staff identified that in order to competently support TCKs to cope and adapt within the international school setting, parents of TCKs also require ongoing support specific to parenting TCKs given that, in their view, parents have got no idea. While staff recognise that their client per se is the student, they are nonetheless aware that spillover of issues from home to school is a reality, thus, on the basis that, you’ve got to sort yourself out before you’re any help to the child, parental support is seen as critical to ensure better adjusted children. What is needed is a partnership between the school, the teacher and the family at home. In this study, parental support is currently undertaken by teachers on an individual basis, as well as by counsellors if the child has been referred. However, what seems important is a formal and more systematic approach in the form of curriculum training, as well as general training about life with TCKs.

 International School Teachers’ Professional Development

A further critical aspect is clear and supportive communication between parents, TCKs and school staff in relation to the students welfare and other significant events in their lives, be it daily routine events (e.g. absence of one or both parents), or one-off more specific and unique events (e.g. repatriation, re-assignment, a family death, or grandparent visits). This skilled communication with families from multicultural backgrounds is not counseling but rather as teacher communication. Ideally, teachers need to develop their capacity as culturally competent communicators. Hence, communication training is a key issue, as the following teacher suggests: If a teacher can be told, kept in communication, when dad goes away or when mum goes away, and when they’re back, that’s when you can see patterns in the children’s behaviour, not only mood swings but even down to their work sometimes makes a very big difference. That’s where the gap exists, because these kids have been ripped away from grandparents and all that support, cousins, and so on. It does have a huge bearing. Pastoral care for TCKs is critical. Findings show that one important area to focus on for TCKs is to allow them space and time to simply share and talk about their TCK experiences in a nonjudgmental environment. This can be led by TCKs themselves or facilitated on a more formal basis by counselors and welfare staff. Another suggestion is to create a newcomer’s club for TCKs perhaps as an informal part of the induction program. Whose jurisdiction this may fall within would need to be decided and agreed upon. It was evident throughout the study that staff identifies the school as having responsibility to provide them with relevant in-depth professional development to help them to support, understand, respond to, and engage with TCKs. This professional development needs to be ongoing, transparent, and aimed at building their capacity as staff working within an international school context.

This intervention would target and involve the mesosystem, exosystem and macrosystem of the Bronfenbrenner model. Interactions between these subsystems will significantly influence and build the capacity of the international school teacher working with TCKs.

Limitations and Future Research This exploratory study has several limitations. First, it is focused on one English speaking school in Singapore which subsequently limits the generalizability of the findings to other international schools both in Singapore and in the Asia region, noting there would likely be cultural and language differences among other countries in Asia (e.g., international schools in China or Hong Kong). The study is also limited to an international school of one national curriculum, thereby restricting the findings to the perceptions of international school staff in the context of one country. Yet, although focus group data provide only a single-rater response, validity and reliability concerns were addressed to some extent by using an inter-rater procedure to check for accuracy of the data collected and to limit researcher bias. To address these limitations, future research would ideally investigate a range of schools in different locations in Asia in order to adopt a broader perspective on international school teachers’ professional development in relation to TCKs which this chapter does not directly consider. Replication of the exploratory study would likely provide important data from which comparisons could be drawn across different national curriculums, as well as across cultures and international communities. Future research might also consider obtaining the views of parents who, in the international school context, are important stakeholders in the overall well-being and ‘life’ of the international school community. Additionally, parents may bring considerable knowledge as to the specific needs of their TCK children in the international school classroom.

381

 International School Teachers’ Professional Development

CONCLUSION This study was intended to extend understanding of the professional development needs of international school teachers in response to the needs of TCKs. The contribution is threefold. First, it demonstrates that formal professional development for international school staff is lacking, wherein staff predominantly rely on informal, ad-hoc and onthe-job training to acquire competencies that equip them to work with TCK issues in the classroom. A second contribution is that the study moves empirical research on international schools beyond only a focus on recruitment and retention, to consider the professional development needs of staff as a necessary component of ongoing employment. Importantly, the focus on continuous training and the building of a core set of international skills and competencies pertaining to TCKs may in turn have implications for international school staff recruitment and retention. Additionally, the study extends the focus of professional development for international school teachers beyond only induction training within schools, to consider other types of professional development which can be provided both internally as well as externally throughout the contracted period of employment, including the attainment of formal qualifications at the post-graduate level. A third contribution is that the study highlights professional development in relation to TCKs as an important gap in international school teachers’ capacity building, and one which they would like to see addressed. The findings, therefore, constitute an incremental but important step towards understanding how professional development in the international school context can support staff to acquire a specialised skillset to effectively cater for the specific needs of TCKs. In doing so, the TCK phenomenon can be more specifically reflected in the curriculum to become part of the culture of the international school community, which will ultimately enhance the overall wellbe-

382

ing and wholeness of TCKs in the international school context.

REFERENCES Alviar-Martin, T., & Ho, L. (2011). ‘So, where do they fit in?’ Teachers’ perspectives on multicultural education and diversity in Singapore. Teaching and Teacher Education, 27(1), 127–135. doi:10.1016/j.tate.2010.07.009 Black, D., & Armstrong, P. (1995). Some aspects of staff development in international schools. International Journal of Educational Management, 9(4), 27–33. doi:10.1108/09513549510088426 Black, D., Harvey, T., Hayden, M., & Thompson, J. (1994). Professional development for teachers. International Journal of Educational Management, 8(2), 27–32. doi:10.1108/09513549410055405 Brocki, J., & Wearden, A. (2006). A critical evaluation of the use of interpretative phenomenological analysis (IPA) in health psychology. Psychology & Health, 21(1), 87–108. doi:10.1080/14768320500230185 Bunnell, T. (2005a). Perspectives on public relations training in international schools. Journal of Educational Administration, 43(5), 480–499. doi:10.1108/09578230510615242 Bunnell, T. (2005b). Strategic marketing planning in international schools. International Journal of Educational Management, 19(1), 59–66. doi:10.1108/09513540510574957 Cambridge, J. (2002). Recruitment and deployment of staff: A dimension of international school organization. In M. Hayden, J. Thompson, & G. Walker (Eds.), International Education in Practice: Dimensions for National and International Schools (pp. 158–169). London: Kogan Page.

 International School Teachers’ Professional Development

Cappellen, T., & Janssens, M. (2010). The career reality of global managers: An examination of career triggers. International Journal of Human Resource Management, 21(11), 1884–1910. doi: 10.1080/09585192.2010.505090 Czinkota, M., & Ronkainen, I. (2008). Trends and indications in international business: Topics for future research. Management International Review, 49(2), 249–266. doi:10.1007/s11575008-0138-1 Evers, A., Kreijns, K., Van der Heijden, B., & Gerrichhauzen, J. (2011). An organisational and task perspective model aimed at enhancing teachers’ professional development and occupational expertise. Human Resource Development Review, 10(2), 151–179.

Holderness, J. (2002). The role of continuing professional development in the improvement of international schools. In M. Hayden, J. Thompson, & G. Walker (Eds.), International Education in Practice: Dimensions for National and International Schools (pp. 83–98). London: Kogan Page. Kamberelis, G., & Dimitriadis, G. (2008). Focus groups: Strategic articulations of pedagogy, politics and inquiry. In N. Denzin & Y. Lincoln (Eds.), Collecting and interpreting qualitative materials (pp. 375–402). Thousand Oaks, CA: Sage. Langford, M. (1998). Global nomads, third culture kids, and international schools. In M. Hayden & J. Thompson (Eds.), International Education: Principles and Practice (pp. 28–43). Sterling, VA: Stylus Publishing.

Fail, H., Thompson, J., & Walker, G. (2004). Belonging, identity and third culture kids: Life histories of former international school students. Journal of Research in International Education, 3(3), 319–338. doi:10.1177/1475240904047358

McNulty, Y., De Cieri, H., & Hutchings, K. (2013). Expatriate return on investment in Asia Pacific: An empirical study of individual ROI versus corporate ROI. Journal of World Business, 48(2), 209–221. doi:10.1016/j.jwb.2012.07.005

Gould, N., & Baldwin, M. (2004). Social Works, Critical Reflection, and the Learning Organisation. Surrey, UK: Ashgate Publishing.

Papalia, D., & Feldman, R. (2012). Experience Human Development (12th ed.). New York: McGraw Hill.

Grimshaw, T., & Sears, C. (2008). Where am I from? Where do I belong?: The negotiation and maintenance of identity by international school students. Journal of Research in International Education, 7(3), 259–278. doi:10.1177/1475240908096483

Pascoe, R. (2009). Raising Global Nomads: Parenting in an On-demand World. Vancouver, Canada: Expatriate Press.

Hardman, J. (2001). Improving recruitment and retention in quality overseas teachers. In Managing International Schools. London: Routledge Falmer. Hayden, M. (2002). International education: Pragmatism and professionalism in supporting teachers. In M. Hayden, J. Thompson, & G. Walker (Eds.), International Education in Practice: Dimensions for National and International Schools (pp. 112–128). London: Kogan Page.

Peterson, B., & Plamondon, L. (2009). Third culture kids and the consequences of international sojourns on authoritarianism, acculturative balance, and positive affect. Journal of Research in Personality, 43(5), 755–763. doi:10.1016/j. jrp.2009.04.014 Pollock, D., & Van Reken, R. (2009). Third Culture Kids: Growing Up Among Worlds. Yarmouth, ME: Nicholas Brealey/Intercultural Press.

383

 International School Teachers’ Professional Development

Raban, B., Nolan, A., Waniganayake, M., Ure, C., Deans, J., & Brown, R. (2007). Building Capacity: Strategic Professional Development for Early Childhood Practitioners. South Melbourne: Thomson Social Science Press. Richards, N. (2002). Professional development: an international schools’ perspective. In M. Hayden, J. Thompson, & G. Walker (Eds.), International Education in Practice: Dimensions for National and International Schools (pp. 99–111). London: Kogan Page. Robinson, R., & Carrington, S. (2002). Professional development for inclusive schooling. International Journal of Educational Management, 16(5), 239–247. doi:10.1108/09513540210434612 Rodd, J. (2006). Leadership in Early Childhood (3rd ed.). Maidenhead, UK: Open University Press. Sears, C. (2011). Integrating multiple identities: Narrative in the formation and maintenance of the self in international school students. Journal of Research in International Education, 10(1), 71–86. doi:10.1177/1475240911399262 Selmer, J., & Lam, H. (2004). Third culture kids: Future business expatriates? Personnel Review, 33(4), 430–445. doi:10.1108/00483480410539506

The Straits Times. (2011, June 6). TCKs an asset to Singapore. The Straits Times, p. 19. Tsumagari, M. (2010). The enduring effects of a United World College education as seen through a graduate’s eyes. Journal of Research in International Education, 9(3), 289–305. doi:10.1177/1475240910388916 Useem, R. H. (1973). Third cultural factors in educational change. In C. Brembeck & W. Hill (Eds.), Cultural Challenges to Education: The Influence of Cultural Factors in School Learning. Lexington, MA: Lexington Books.

ADDITIONAL READING Bates, R. (2011). Assessment and international schools. In R. Bates (Ed.), Schooling Internationally: Globalisation, Internationalisation and the Future for International Schools (pp. 148–164). Oxon, UK: Routledge. Bell-Villada, G., & Sichel, N. (2012). Writing Out of Limbo: International Childhoods, Global Nomads and Third Culture Kids. Cambridge, UK: Cambridge Scholars Publishing.

Siong, O. (2012, October 19). International schools part of Singapore’s infrastructure. The Straits Times, p. 23.

Bonebright, D. (2010). Adult third culture kids: HRD challenges and opportunities. Human Resource Development International, 13(3), 351–359. doi:10.1080/13678861003746822

Tanu, D. (2008). Global nomads: Towards a study of ‘Asian’ third culture kids. In Proceedings of the 17th Biennial Conference of the Asian Studies Association of Australia. Melbourne, Australia: Academic Press.

Bunnell, T. (2011). The International Baccalaureate. In R. Bates (Ed.), Schooling Internationally: Globalisation, Internationalisation and the Future for International Schools, (pp. 165–181). Oxon, UK: Routledge.

Tanu, D. (2010). Negotiating the global in a local setting: Exploring cultural hierarchies in international schools in Indonesia. In Proceedings of the 18th Biennial Conference of the Asian Studies Association of Australia. Adelaide, Australia: Academic Press.

Bushong, L. (2013). Belonging Everywhere and Nowhere: Insights into Counseling the Globally Mobile. Indianapolis, IN: Mango Tree Intercultural Services.

384

 International School Teachers’ Professional Development

Cambridge, J. (2011). International curriculum. In R. Bates (Ed.), Schooling Internationally: Globalisation, Internationalisation and the Future for International Schools (pp. 121–147). Oxon, UK: Routledge. Carter, M. (2008). Young children’s social behaviour ... taught not caught. Educating Young Children: Learning and Teaching in the Early Childhood Years, 14(3), 39–40. Carter, M. (2013). Setting children up for social mastery: Building young children’s social capacity - looking through a teaching and learning lens. Procedia: Social and Behavioral Sciences, 93, 1696–1703. doi:10.1016/j.sbspro.2013.10.102 Carter, M., & Doherty-Roe, N. (2012). Our image of the child. Paper presented at 3rd World Conference on Learning, Teaching and Educational Leadership, Brussels, Belgium: 25-28 October. Carter, M., & Fewster, C. (2013). Diversifying early years professional learning – one size no longer fits all. Australian Journal of Early Childhood, 39(1), 73–80. Cartus. 2008. International Schooling: Issues and Challenges in Asia Pacific. Connecticut, USA: Cartus. Cole, N., & Nesbeth, K. (2014). Why do international assignments fail? The expatriate families speak. International Studies of Management and Organization, 44(3): in-press. Dalton-Bradford, M. (2013). Global Mom: Eight Countries, Sixteen Addresses, Five Languages, One Family. Familius: www.familius.com Fail, H. (2011). Teaching and learning in international schools: A consideration of the stakeholders and their expectations. In R. Bates (Ed.), Schooling Internationally: Globalisation, Internationalisation and the Future for International Schools (pp. 102–120). Oxon, UK: Routledge.

Gandotra, R. (2010). The Road Home. London: Nomadosphere Inc. Retrieved on December 28, 2013, from: (www.roadhomefilm.com) Haslberger, A., & Brewster, C. (2008). The expatriate family: An international perspective. Journal of Managerial Psychology, 23(3), 324–346. doi:10.1108/02683940810861400 Hayden, M., & Thompson, J. (2000). International Schools and International Education: Improving Teaching, Management and Quality. Oxon, UK: Routledge Falmer. Hayden, M., & Thompson, J. (2011). Teachers for the international school of the future. In R. Bates (Ed.), Schooling Internationally: Globalisation, Internationalisation and the Future for International Schools (pp. 83–100). Oxon, UK: Routledge. Hayden, M., & Thompson, J. (2013). Taking the MYP forward. Suffolk, UK: John Catt Educational Ltd. Hill, I. (2006). Student types, school types and their combined influence on the development of intercultural understanding. Journal of Research in International Education, 5(1), 5–33. doi:10.1177/1475240906061857 Holderness, J. (2001). Teaching and managing English as an additional or second language in international schools. In S. Blandford & M. Shaw (Eds.), Managing International School, (pp. 63–79). London: Routledge Falmer. King, M., & Newmann, F. (2001). Building school capacity through professional development: Conceptual and empirical considerations. International Journal of Educational Management, 15(2), 86–93. doi:10.1108/09513540110383818

385

 International School Teachers’ Professional Development

Lazarova, M., & Pascoe, R. (2013). ‘Moving sucks!’: What expatriate families really want (and get) when they relocate. In M. Lazarova, Y. McNulty, and S. Reiche (symposium organizers), “We are not on vacation! Bridging the scholarpractitioner gap in expatriate family research”. Symposium at 2013 U.S. Academy of Management Annual Meeting, Lake Buena Vista, FL: 9-13 August.

McNulty, Y., & Inkson, K. (2013). Managing Expatriates: A Return on Investment Approach. New York: Business Expert Press.

Lazarova, M., Westman, M., & Shaffer, M. (2010). Elucidating the positive side of the workfamily interface on international assignments: A model of expatriate work and family performance. Academy of Management Review, 35(1), 93–117. doi:10.5465/AMR.2010.45577883

Roman, B. (2005). Footsteps Around The World: Relocation Tips For Teens (2nd ed.). Jacksonville, FL: BR Anchor Publishing.

MacDonald, J. (2006). The international school industry: Examining international schools through an economic lens. Journal of Research in International Education, 5(2), 191–213. doi:10.1177/1475240906065618 Mann, J., & Heineck, J. (2012). Third culture kids: Growing up with a three dimensional worldview. Mobility, 33(8), 58–62. Marston, R. (2012). Uprooting children without damaging education. BBC News. London: BBC. Accessed on January 13, 2014, from: http://www. bbc.co.uk/news/business-16422840) McNulty, Y. (2012). ‘Being dumped in to sink or swim’: An empirical study of organizational support for the trailing spouse. Human Resource Development International, 15(4), 417–434. doi :10.1080/13678868.2012.721985 McNulty, Y., & Carter, M. (2013). TCK professional development for international school teachers in China. In P. Mandal (Ed.). Proceedings of the International Conference on Managing in the Asian Century (ICMAC), pp. 39-46. Singapore, 11-13 July: Springer Publishing. doi:10.1007/978981-4560-61-0_5

386

Pittman, L., & Smit, D. (2012). Expat Teens Talk. Great Britain: Summertime Publishing. Quick, T. (2010). The Global Nomad’s Guide to University Transition. Great Britain: Summertime Publishing.

Shah, A., & Shah, A. (2005). Club Expat: A Teenagers Guide to Moving Overseas. Indianapolis, IN: Dog Ear Publishing. Simens, J. (2011). Emotional Resilience and The Expat Child. Great Britain: Summertime Publishing. Snowball, L. (2007). Becoming more internationally-minded: International teacher certification and professional development. In M. Hayden, J. Thompson, & J. Levy (Eds.), Handbook of Research in International Education (pp. 247–255). London: Sage. doi:10.4135/9781848607866.n22 Sullivan, S., Aldred, G., & Taylor, J. (2013). The link between expatriate family issues and a shrinking – and changing - talent pool: What we know and where we need more research. In M. Lazarova, Y. McNulty, Y., and S. Reiche (symposium organizers), “We are not on vacation! Bridging the scholar-practitioner gap in expatriate family research”. Symposium at 2013 U.S. Academy of Management Annual Meeting, Lake Buena Vista, FL: 9-13 August. Tarique, I., & Weisbord, E. (2013). Antecedents of dynamic cross-cultural competence in adult third culture kids (ATCKs). Journal of Global Mobility, 1(2), 139–160. doi:10.1108/JGM-12-2012-0021

 International School Teachers’ Professional Development

Thompson, J., & Hayden, M. (1999). International Education: From Principles to Practice. Oxon, UK: Routledge Falmer. Useem, J., Useem, R., & Donoghue, J. (1963). Men in the middle of the third culture: The roles of American and Non-Western people in crosscultural administration. Human Organization, 22(3), 169–179. Van Reken, R. (2012, Spring). Who am I, really? Redefining identity in a culturally complex world. Intercultural Management Quarterly, 9-11, 23. Van Reken, R., & Bethel, P. (2005, Fall). Third culture kids: Prototypes for understanding other cross-cultural kids. Intercultural Management Quarterly, 3, 8–9. Wilkinson, A., & Singh, G. (2010). Managing stress in the expatriate family: A case study of the State Department of the United States of America. Public Personnel Management, 39(2), 169–181. Wylie, M. (2011). Global networking and the world of international education. In R. Bates (Ed.), Schooling Internationally: Globalisation, Internationalisation and the Future for International Schools (pp. 21–38). Oxon, UK: Routledge. Yamato, Y., & Bray, M. (2006). Economic development and the market place for education: Dynamics of the international schools sector in Shanghai, China. Journal of Research in International Education, 5(1), 57–82. doi:10.1177/1475240906061864 Yamazaki, E. (2011). Neither Here Nor There: A Documentary Film About Growing Up in Multiple Cultural Worlds. Retrieved on November 18, 2014, from: www.neitherherenorthere-thefilm.com Zoer, M. (2007). The Kids Guide to Living Abroad. Washington, DC: Foreign Service Youth Foundation.

KEY TERMS AND DEFINITIONS Capacity Building: Enhancing and expanding existing knowledge, skills, competencies, and capabilities. Agency is an important element of capacity building, meaning that teachers are active in their own professional development. Collegial Reflective Dialogue: Purposeful and effective engagement in reflective thinking with others. Reflective thinking influences reflective practice, an integral part of analysing and evaluating professional action. Learning thus occurs through constructing knowledge in shared social communication with others. Constructivist Approach: Persons deepening their knowledge and understanding by participating in shared discourse with others. Persons construct their knowledge through the transformation of experiences, linking new knowledge with existing knowledge. The learning takes place through the activity of the learner. Expatriate: An employee of an organization who voluntarily chooses to be sent from their country of origin and/or permanent residence to a foreign country to work temporarily but does not take up citizenship of that country. Focus Group: A qualitative research method in which an interactive group of people are asked about their perceptions, opinions, beliefs, and attitudes about a particular topic. Home-Country: Country of origin from where an expatriate has been recruited prior to undertaking an international assignment. Host-Country: Country to which an expatriate is temporarily assigned, but for which they do not usually have citizenship. International Assignment: The project or temporary role in another country to which an expatriate is dispatched by his or her employing organization in service of corporate goals, typically for a period of 1 to 5 years. International Baccalaureate (IB): An international education foundation headquartered in Geneva, Switzerland that offers four educational

387

 International School Teachers’ Professional Development

programs for children aged 3–19. “IB” can refer to the organization itself, any of the four programs, or the diploma or certificates awarded at the end of the diploma program. International Labour Market: An informal employment market that exists globally to meet the supply and demand of talent for multinational corporations. International School Teacher: A qualified and suitable person employed in an international school, who is a registered teacher. International School: A school that is independent of any national system of education and offers a curriculum that is different from that in the host country. The curriculum focuses on international education, while responding to requirements of the host country’s Ministry of Education. The school is usually, but not always, located overseas from a student’s country of citizenship. There is a multinational and multilingual student body, with English or bilingual being the language of instruction. Some international schools have local students from the host country whose parents pay high tuition fees so their children have exposure to an international education, learn in the language of the international school, and obtain qualifications necessary for applying for higher education studies overseas. Priority is given to developing an ‘international mindedness’ among its students. Inter-Rater Reliability: A statistical term relating to the degree of agreement among raters, providing a score of how much consensus there is in the ratings given by each rater. Learner Profile: At the centre of the IB program is the “learner profile”, which defines the type of students the program is intended to develop, e.g., global citizens that are caring, balanced, open-minded, knowledgeable, communicative, risk-taking, principled, reflective, inquiring, and thinker. NVIVO: A qualitative analysis software program. Pastoral Care: Looking after the emotional, personal and social wellbeing of children or

388

students (and their parents) including emotional wellbeing, health, social and moral education, and behavior development. Pedagogy: Linking the science and art of education, pedagogy combines the subject matter and the content being taught, with the method of teaching this content in such a way that engages students in the learning process. Professional Development: Authentic participation in professional learning sessions including training, reading, dialoguing, experimenting, reflecting, and collaborative activities, which can be both formally delivered and informally experienced as on-the-job work integrated learning. Re-Assignment: An international assignment that is undertaken at the immediate conclusion of a prior international assignment without an intervening period of repatriation. Reflective Action: Reflecting on, constructing and integrating new knowledge within the context of existing knowledge, to build on and from experiences, and to be actively engaged in developing theories that can be used in practice. Repatriation: The reintegration of an expatriate into their original home operation/country from where they undertook their (first or only) international assignment. Third Culture Kids: The children of parents who live in a foreign country for their work.

389

Chapter 18

Research of Strategic Global Development Trends and Competitiveness in the World Pharmaceutial Industry Dragan Kesic University of Primorska, Slovenia

ABSTRACT In this chapter, the authors analyze strategic global development trends and competitiveness in the world pharmaceutical industry. They find some most significant characteristics of the world pharmaceutical industry, which greatly influence the global development in this “high-tech” industrial sector. The global pharmaceutical industry has been consolidating over the past 30 years. According to the research, the main strategic reasons for the intensive consolidation processes in the world pharmaceutical industry include the following: lack of new products to drive sales growth, huge investments needed for R&D activities to develop new products, fast globalization processes of the global economy, global marketing and sales activities that need large investments, and changed structure of competitors created by M&A strategies and consolidation processes. The concentration process, which is still going on, has created many new phramaceutical players; however, some previously well-known pharmaceutical firms have disappeared from the global marketplace.

1. GLOBALIZATION We can stipulate that globalization is almost a synonym for the modern economy. Globalization could not be possible without fast and profound technological achievements and changes. Today, global competition is mostly based on knowledge and technology and the ability to serve customers

properly, swiftly, and repeatedly. Globalization has become almost a synonym for economic liberalisation and foremost opening up of numerous world economies. However, alongside the world markets, competition has tremendously changed as well. Internationalization has been replaced by a globalization and the world economy has been replaced by a global economy. The Organization of

DOI: 10.4018/978-1-4666-6551-4.ch018

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Research of Strategic Global Development Trends and Competitiveness

Economic Cooperation and Development (OECD) (1993) defines globalization as »The spreading and deepening of companies performance with the target to produce and sell goods or services on multiple markets ‘’(p.56). Later definition of globalization by the OECD (1994) emphasizes that ‘’More precisely we may define globalization as a developing pattern of international business cooperation, which includes investments, trade and contractory ways of cooperation, and targets the development of products, production, procurement and marketing. Such kind of international performance enables the companies to conquer new markets, use their technological and organisational advantages and to lower the costs and risk’’ (p.37). Globalization is strongly related to the increased mobility and competition. We may highlight that the most important and influential drivers of globalization are transnational or multinational companies. We may also stipulate that the following characteristics are significant for their performance, especially by taking into consideration activities, business strategies and performances of multinational companies in world pharmaceutical industry, which we aim to research and present in more detail:

We may even emphasize that globalization is, at its core, a very complex and definitively market conditioned and driven process strongly related and driven by a whole palette of elements of marketing way of thinking and performing, sudden changes, and ever-changing ways of doing business, alongside an increasing competition and competitiveness, in a strive to optimally identify changing needs of various world customers and by ability to satisfy their longterm yet uncovered needs. We can say that globalization is a strong market-and competitiveness-driven process. Thus, in a process of globalization it is of utmost importance to be fast, strongly market oriented, to have loyal customers, to be inventive and innovative, to have proper knowledge, to be able to learn fast, to have proper information, and to make quick decisions. Peter Drucker (1992) mentioned five important elements of development which would influence greatly the strategies, structure and performance of future companies:

•

•

• • • • •

390

Multinational pharmaceutical companies have had a strong market position on the most important and strategic world markets with holding of their considerable and major market shares, They globally integrate and connect their business performance, so national identity is no longer important, They have a flexible purchasing management strategy, Have a global network structure of production, Have a global network organisation of research and development activities, Have built a global marketing organization structure which supports a dedicated

market orientation and a strategic priority focus to global customers.

•

•

• •

“Economic relations would be performed in the direction among trade blocs instead of countries, Business performance would increasingly be a matter of strategic alliances integrated into a world eceonomy, Restructuring of business would be intensifying and more globalizing, so it would be important to have information and knowledge, Strategic management of companies would be decisive for competitive success, Intensive market orientation of companies would be a core advantage for achieving a competitive advantage over competitors” (p.112).

Professor Svetlicic (1996) from Slovenia defined globalization as a:

 Research of Strategic Global Development Trends and Competitiveness

•

•

•

•

•

“Multidimensional process, which includes economic, political, legal and cultural contents, which together create a new quality Globalization means the global international,lisation or at least internationalisation of activities such as trade, foreign direct investments (FDI), contractual ways of international economic cooperation in the most important markets, Globalization supports common alliancing, which needs the global coordination and integration of activities in a brand new manner, Globalization means a production of, on a basis of the same products, for a domestic consumption and foreign markets as well; the products are able to satisfy local needs and habits. Globalization means a high share of components from foreign suppliers in the products for domestic consumption and for the export as well” (p.43).

Bartlett and Ghosal (1989) underlined that ‘’Successful companies of today and tomorrow are those capable of satisfying local needs, increasing global effectiveness, and striving for a constant innovativeness and global learning at the same time« (p.86). The globalization process continues and has, to some extent, influnced development and competitiveness in all industrial sectors. However, there are some so-called »high-tech« industrial sectors and segments where globalization has completely changed the development, structure, and strategies of particular companies, and one of the strategically most important industrial sectors where globalization has the most influence is definitively in the world pharmaceutical industry.

2. GLOBALIZATION IN THE PHARMACEUTICAL INDUSTRY Following this brief review of the world pharmaceutical industry and its development trends, we have discovered some significant key development elements which may lead us to the most significant current characteristics of world pharmaceutical industry: • • • • • • • •

Increased globalization, Changing structure of competitors and increased competitiveness, Lack of new products, despite increased investments into R&D (Research & Development), Increased importance of regulatory issues (registrations, intellectual property rights, litigations), Fast consolidation and concentration of world pharmaceutical industry, Development of new therapeutic fields and technologies (biotechnology, pharmacogenomics), Ageing of the world population and opening up of new, not yet covered therapeutic fields, Quick development of world generic markets.

The pharmaceutical industry is one of the most inventive, innovative and most lucrative ‘’high-tech’’ industries. However, we should also mention the period of great changes in this sector. The pharmaceutical industry today probably unites the biggest of all human potential. The basic activity for each inventive pharmaceutical company is to research and develop new products to provide new therapies to patients and to cover all unmet medical needs. There are still many unfulfilled therapeutic fields such as cancer and diabetes or severe deseases like rheumatoid arthritis, psoriasis and rare genetic deseases (Scrip Reports, 2003, p.17). However, the basic research

391

 Research of Strategic Global Development Trends and Competitiveness

and development of a new product is an extremely demanding, comprehensive and expensive task We can stipulate that basic research and development activities (R&D), together with marketing and sales, are definitively two most important operative and even more significant strategic activities of pharmaceutical companies. These two activities require the biggest investments in all pharmaceutical companies. Having analysed the figures, we found that the most inventive pharmaceutical companies invest on average around 16% of their sales into R&D and even more (approximately 25% or higher) into marketing and sales activities (Kesic, 2006, p. 22). However, these ratios, especially those for R&D investments, are even higher with specialist firms in biotechnology and pharmacogenomic pharmaceutical companies, and much lower with generic pharmaceutical companies (Kesic, 2006, p. 28). The global pharmaceutical industry is structurally not unique, as pharmaceutical companies differ very much according to their basic mission, core activities, performance and their strategic development and vision. Considering all these issues, we define three different groups of pharmaceutical companies (Kesic, 2006, p. 21): •

•

•

392

Pharmaceutical companies which primarily work on basic research, development, marketing and sales of brand new, inventive, original pharmaceutical products (the inventors or originators), Pharmaceutical companies which primarily work on development and sales of generic products (the generic or copycat producers), Pharmaceutical companies which primarily work on basic research and development of biotechnology and pharmacogenomic products and technologies of new delivery systems (the specialists).

3. WORLD PHARMACEUTICAL MARKET In 2011, the global pharmaceutical market achieved total sales of US$828 billion and a growth rate of four percent (World Review, 2012, p. 8). It is forecasted that global pharmaceutical market will grow, on average, by four percent CAGR (Compounded Annual Growth Rate) until 2018 (Pharma Strategy Group, 2009, p. 52). Several major factors such as the expiration of patent protection for some of world best sold pharmaceutical products in the most developed world markets (major impact in the USA), the worldwide healthcare cost reduction and restructuring, and the ageing of population and price pressures will allow the world generic markets to grow even faster by an average 10% CAGR until 2018 (Pharma Strategy Group, 2009, p. 65). Leading world pharmaceutical markets in terms of sales as well of per capita consumption of medicines include the USA, Japan, and Germany. However, some above-average fast growing world markets such as those in China, India, Turkey, and Brazil have been recording much higher growth rates. Reviewing more closely the Chinese pharmaceutical market, we can see it has been growing at an annual average rate of 21% over the past five years, and is set to continue rising at 17% a year to 2020 according to forecasts by McKinsey & Company. (McKinsey, 2013, para.1). Sales will rise from US$98 billion in 2012 to US$310 billion by 2020, by which time China is expected to become the world’s second-largest pharmaceutical market, ultimately assuming the global number one position (McKinsey, 2013, para.1). The Chinese pharmaceutical market has definitively emerged as a major driver of revenue growth for global drugmakers. On average, Chinese sales for the top 10 multinationals accounted for 3.8% of their global business in 2012 compared to 3% just a year earlier, while cumulative sales for the world’s top 10 drugmakers have soared from

 Research of Strategic Global Development Trends and Competitiveness

Table 1. World pharmaceutical market value and growth from 2007 to 2011 Value in bn $

Growth in %

2007

Year

684

6.4

2008

715

4.5

2009

750

4.9

2010

796

6.1

2011

828

4.0

Source: adapted from World Review, 2012, p.12

US$2.5 billion in 2005 to US$12.3 billion last year (McKinsey, 2013, para.1). The most important individual brands in China are also rising; 85 drug brands topped US$50 million in sales last year from just eight brands in 2005, while in 2012 the single largest-selling prescription drug brand reached nearly half a billion US dollars in sales up from US$110 million for the largest brand in 2005 (McKinsey, 2013). Some 90% of pharmaceutical industry leaders surveyed for the study published by McKinsey stated China is already a top five global strategic priority for their company, while 65% said the country would be among their top three global strategic priorities within five years (McKinsey, 2013, para.2). The study also finds that multinationals have been ramping up R&D investment, with the number of R&D centres in China having more than quadrupled from seven to 30 in the last decade. Given the enormous market potential, multinationals are planning to keep up the pace of R&D investment in China, with annual spending expected to grow at a compound annual rate of 15%, says the China Association of Enterprises with Foreign Investment R&D-based Pharmaceutical Association Committee (RDPAC) (McKinsey, 2013, para.2).

4. PHARMACEUTICAL INDUSTRY Investigating the details of the performance of leading pharmaceutical companies and their sales

revenues, we note double digit sales revenues (expressed in US$ billions), and that the majority of them are from the USA, two are from the UK and Switzerland, and one is from France. This also means these countries are the main world centers for basic pharmaceutical R&D which is, besides marketing, the most important activity in the global pharmaceutical industry. Additionally, we see a relative strong concentration of market share of the world pharmaceutical market in 10 leading world pharmaceutical companies, despite the fact that the leading pharmaceutical company Pfizer has had merely 7% of pharmaceutical global market share. A total of 10 leading pharmaceutical companies had close to a 44% market share of the global pharmaceutical market in 2011. For comparison, this figure was below 30% only a decade ago. This is a clear sign of how intensive market consolidation and concentration of the pharmaceutical industry has changed its global composition over the last few years, especially the structure and strategic market position of particular pharmaceutical companies. Numerous mergers and acquisitions (M&A) have occurred, resulting in the formation of entirely new companies. Examples can include Novartis which acquired the American pharmaceutical company Alcon, Pfizer which acquired Wyeth and King Pharmaceuticals, Merck & Company purchased ScheringPlough, and leading French pharmaceutical company Sanofi acquired the USbased biotechnology company Genzyme (Kesic, 2011, p. 32).

393

 Research of Strategic Global Development Trends and Competitiveness

Table 2. Leading pharmaceutical companies in 2011* Position

Company

Country of Origin

Sales in bn $

World Market Share in %

1.

Pfizer

USA

57.7

6.9

2.

Novartis

Switzerland

44.5

5.4

3.

Merck&Co.

USA

41.3

4.9

4.

Roche

Switzerland

41

4.9

5.

sanofi

France

40.5

4.9

6.

GlaxoSmithKline

UK

34.4

4.2

7.

AstraZeneca

UK

33.6

4.1

8.

Johnson&Johnson

USA

24.4

2.9

9.

E.Lilly

USA

22.6

2.7

10.

Abbott

USA

22.4

2.7

*- according to consolidated sales of pharmaceuticals and vaccines Source: adapted from official published annual and business reports for 2012

After analyzing the major strategic issues for these acquisitions, we discovered that the most important reason for them were products which the acquiring companies were able to include in their respective portfolios. It may be argued that competitiveness in the world pharmaceutical industry has increased tremendously; thus, the need for new products is indeed a reality in today’s pharmaceutical industry. As an example, the development of a new drug, NAS or New Active Substance, is estimated to require an investment in excess of US$1.3 billion and require more than 12 years to get it to market as a finished, legally registered, and approved product (Pharma Strategy Group, 2007, p.43). This is a very complex, comprehensive, and highly risky effort with no guarantee the new product might succeed in the market and provide a Return-on-Investment (ROI).

4. DEVELOPMENT TRENDS IN THE PHARMACEUTICAL INDUSTRY As mentioned above, the global pharmaceutical industry has been consolidating over the past 30 years. In addition, both R&D and marketing

394

activities form two of the most important and strategic priorities of pharmaceutical companies and into which the greatest part of corporate funds are invested. According to our research, it may be emphasized the main strategic reasons for the intensive consolidation processes in the world pharmaceutical industry include the following: • • • • •

Lack of new products to drive sales growth, Huge investments needed for R&D activities to develop new products, Fast globalization processes of the global economy, Global marketing and sales activities which need large investments, Changed structure of competitors created by M&A strategies and consolidation processes.

The concentration process has created many new phramaceutical players; however, some previously well-known pharmaceutical firms have disappeared from the global market place. When we analysed the most important reasons for such consolidation, we found that the most important strategic reason for numerous M&As is

 Research of Strategic Global Development Trends and Competitiveness

Table 3. Some major acquisitions in pharmaceutical industry and main strategic reasons for deals Acquirer

Target

Year of Closing Deal

Value in bn $

Main Strategic Reasons for Take-Overs

Zeneca, UK

Astra, Sweden

1999

32

product Losec (omeprazole)

Pfizer, USA

Warner Lambert, USA

2000

89

product Lipitor (atorvastatin)

Novartis, Switzerland

Alcon, USA

2008/2010

52

product portfolio ophtalmology

Roche, Switzerland

Genentech, USA

2008

42

product Avastin (bevacizumab)

Source: own estimation, adapted from the companies’ official published reports

definitively the product itself as the most important value and strategic development and competitive advantage which can not only drive further sales growth but also the entire business cycle for each pharmaceutical company. In addition, maintaining and increasing the global competitiveness is another extremely imporatant strategic reason for the consolidation of global pharmaceutical industry in its three previously defined sectors. Due to the intensive consolidation process in the global pharmaceutical industry, we can argue the industry has become increasingly oligopolistic. Consolidation processes continue to speed up as pharmaceutical firms attempt to follow the M&A strategies of their competitors to maintain their global market position and long-term competitiveness. It is significant that some standalone pharmaceutical companies are not able to satisfy long-term and ever-changing market needs and customer expectations, to invest heavily into R&D and marketing activities in their goal to bring new products to global markets, and to sustain increased global competitiveness. It can be argued this process enables pharmaceutical companies to enter new development circles and provide long-term development and growth. Formation of partnerships for the sake of maintaining longterm competitiveness is today one of the most usable strategies in the pharmaceutical industry. We may stipulate that pharmaceutical companies

make alliances in endeavours to create common synergies, to manage product life cycles, to ensure better strategic development and to increase their global competitiveness. Below are the most important strategic activities of creating common strategies for the pharmaceutical companies: • • • •

• •

Research and development (R&D) for new product creation, Products to drive the sales growth and gain increased market shares, Markets for geographic and market expansion, Marketing and sales to enforce marketing and sales activities to compete on the global markets and to drive further sales growth, Strategic development, Increasing global competitiveness.

We may say as well that due to the complexity chracteristic of the pharmaceutical industry, it is really not unusual that some pharmaceutical companies tend to form partnerships and even, surprisingly, to compete aggressively at the same time. They can cooperate on some particular projects (for example R&D projects, co-marketing, marketing sharing projects); however they compete strongly on open global markets for bigger market shares. Our research shows this is the so-called “C and C phenomenon’’ or sometimes called

395

 Research of Strategic Global Development Trends and Competitiveness

Table 4. Overview of the largest M&A (merger and acquisition) deals in pharmaceutical industry, according to transaction values Year

Acquirer - Target

Transaction Value in USD Billion

2000

Pfizer - Warner Lambert

89

2000

GlaxoWellcome - SKB

79

2009

Pfizer – Wyeth

68

2004

Sanofi-Synthelabo - Aventis

66

2003

Pfizer - Pharmacia

61

2009

Roche – Genentech

48

1999

Zeneca - Astra

32

1999

HMR - RPR

28

1996

Sandoz – Ciba Geigy

28

2000

Pharmacia&Upjohn – Monsanto (Searle)

27

Source: own research, according to companies’ official published data

‘’co-opetition’’ (cooperation and competition simultaneously) (Zineldin, 2004, pp.780-790). This means some pharmaceutical companies cooperate and compete strongly at the same time in their endeavour to assure and increase their global competitiveness. Following are some of the more significant examples to illustrate the current situation for better understanding (Kesic, 2003, p.34): •

•

396

In the group of inventive companies several acquistions of US-based Pfizer (Warner Lambert, Pharmacia), the merger of GlaxoWellcome and SmithKlineBeecham to create GlaxoSmithKline, the merger of Astra and Zeneca to create AstraZeneca, and the merger of Ciba Geigy and Sandoz to form Novartis. In the group of generic companies the leading Israeli company Teva has performed over 15 big acquisitions in the last decade, having last acquired the American generic company Ivax; in addition, Swiss Sandoz owned by Novartis, has acquired several generic companies worldwide, including Lek in Slovenia, Hexal from Germany, and Eon Labs from the USA; in 2006, the USbased firm Barr Pharmaceuticals acquired

•

Croatian pharma company Pliva and the American major generic player Mylan acquired German generic entity Merck Generics. In the group of specialists the US-based biotechnology company, Amgen, has been greatly active (predominantly in the USA) by acquiring four specialists in the same group segment.

We have studied all available published pharmaceutical firm data regarding their M&A activities and the reasons for them. According to our research and findings, there have been more than 10,000 various alliances formed in global pharmaceutical industry over the last three decades (Datamonitor, 2006, p.22). We have discovered that consolidation processes have been conducted practically in all three sectors (inventive - original pharmaceutical companies, generic producers, and specialists). The concentration process has created new phramaceutical players; however, some previously well-known pharmaceutical firms have disappeared from the global market. We have also discovered that the world pharmaceutical industry has become increasingly oligopolistic. We may support this statement with the Knickerbrocker

 Research of Strategic Global Development Trends and Competitiveness

Table 5. Main strategic reasons for creating mergers and acquisitions in pharmaceutical industry Key Elements for Creating LongTerm Competitiveness

Originators (Inventive Pharmaceutical Companies)

Generic Companies

Specialists (Biotechnology, Pharmacogenomics)

Sales growth

yes

yes

yes

New products

key factor

key factor

key factor

New markets

key factor

key factor

key factor

Marketing and sales activities

key factor

key factor

key factor

Research&Development

key factor

yes, if posible

key factor

Creating of common synergies

yes

yes

yes

Stronger market position- increased competitiveness

key factor

key factor

key factor

Shareholders impacts - financials

yes

yes

yes

Coordination of management and cultures of the companies

yes

yes

yes

Power of globalization

key factor

key factor

key factor

Global competitiveness

key strategic factor

key strategic factor

key strategic factor

Source: own research

(1973) theory of oligopolististic reaction which says that ‘’Oligopolistic companies, as minimizators of taking risks in avoidance of destroying effects of competition follow each other to new markets to protect their own interests. It is significant that the action of one player creates a reaction of the other competitors, an action creates a reaction and so the story of oligopolisation continues’’ (p.94). We may conclude that Knickerbrocker’s theory perfectly illustrates and explains the consolidation process in pharmaceutical industry. Pharmaceutical companies tend to internationalize and globalize their business activities sooner as in the past due to market liberalization, increased global competitiveness and a need to react properly to strategic consolidation and concentration activities of competitors. According to Svetlicic (1996) who stipulates that “Modern ways of internationalisation with the aid of network formation and strategic alliances enable internationalisation without company growth. Today, companies decide for internationalization and alliances because they desire to:

• • • •

Be closer to customers, Increase effectiveness, Gain better access to technologies and knowledge (know-how), Protect themselves from competitors (strategic reasons)” (p.79).

We may say that in a certain way the concept of strong market oriented management clearly designates a company’s business philosophy. We may entirely agree with Corstjens’ (1991) estimation that “The sector of pharmaceutical industry, despite being very specific in all aspects, is an ideal case, how a practice and usage of the marketing management concept directly relates to a very successful business performance of this industrial sector”(p.87).

5. DISCUSSION, CONCLUSION AND IMPLICATIONS We thoroughly researched strategic development trends in the global pharmaceutical industry

397

 Research of Strategic Global Development Trends and Competitiveness

for the last several years and discovered it has changed profoundly during the last three decades. In addition, we see that an intensive globalization process has definitively influenced and reinforced a concentration and consolidation process in the industry. To explain this phenomenon properly, we have analysed in detail the trends in the industry and the key reasons for them. We provided evidence that intensive processes of concentration and consolidation have continued in all three sectors of the world pharmaceutical industry. Our research shows that M&As prevail as a viable strategic orientation for a number of pharmaceutical companies. Furthermore, we argue that increased global competitiveness and amended structure of competitors which is conditioned by the M&A process and strategy, have greatly impacted and influenced the strategic orientation of the majority of pharmaceutical companies. By creating new alliances they tend to create strategic synergies in an endeavour to become more successful, globally more competitive, and to remain able to continue with further business operations, marketing, and R&D circles. We found out that intensive globalization process influences the concentration and consolidation in the global pharmaceutical industry which becomes more oligopolistic and is likely to be, according to our own estimation and forecasting, even more monopolistic in the future. In addition, the lack of new products, fight for global market shares, increased global competitiveness, and changed structure of competitors further support the concentration and consolidation in the pharmaceutical sector; moreover, concentration and consolidation is evident in all three defined sectors of the world pharmaceutical industry. Based on findings and outcomes of our research and study, we forecast that further projected intensive concentration and consolidation processes in the world pharmaceutical industry will continue in the future to form even bigger pharmaceutical firms and to speed up oligopolization and a higher degree of monopolization of the global

398

pharmaceutical industry. Based on our research findings, it can be forecasted that in the not very distant future there will only be three major groups of world pharmaceutical companies globally active and present: • • •

Huge-mega inventive pharmaceutical companies. Transnational generic companies. Focused specialists in the specialised sectors of biotechnology and pharmacogenomics.

We highlight that fast consolidation in the pharmaceutical industry is strongly a market driven process and conditioned by typical strategic management issues such as the lack of new products, intensive and increasing global competitiveness, fast globalization processes, increased global marketing and sales activities, a fast changing structure of global competitors, and a furious fight for global market shares and customer loyalty. We emphasize that a focused, straight-on strategic management will play a decisive role in the future globalization and concentration processes in the world pharmaceutical industry. We may further conclude the future strategic development of world pharmaceutical industry will be predominantly dependent on strategic management issues the pharmaceutical companies will be capable to understand, develop and imply properly in their operational and strategic business performances. Last but not least, we argue that very strong and dedicated market oriented management practices with very important strategic connotations are urgently needed for a successful business performance today and in future in highly globalized, transparent, complex, demanding, uncertain and extremely competitive world.

REFERENCES Abbott. (2013). Retrieved May 18,2013 from www.abbott.com

 Research of Strategic Global Development Trends and Competitiveness

Actavis. (2013). Retrieved July 22, 2013 from www.actavis.com AstraZeneca. (2013). Retrieved May 14, 2013 from www.astrazeneca.com Bartlett, C. A., & Ghosal, S. (1989). Managing across Borders: The Transnational Solution. Boston, MA: Harvard Business School Press. Corstjens, M. (1991). Marketing Strategy in the Pharmaceutical Industry. Cambridge, UK: Chapman and Hall University Press. Datamonitor. (2006). Merger and Acquisition 2006. London, UK: Datamonitor. Datamonitor. (2013). Retrieved May 12, 2013 from www.datamonitor.com Dow Jones & Company, Inc. Wall Street Journal. (2013). Retrieved August 12, 2013, from www. wsj.com Drucker, P. F. (1992). Managing for the Future. London, UK: Butterworth-Heineman Ltd. Economist Intelligence Unit. (2013). Retrieved April 10, 2013 from www.eiu.com Eli Lilly and Company. (2013). Retrieved June 16, 2013, from www.lilly.com F. Hoffmann-La Roche Ltd. (2013). Retrieved May 13, 2013, from www.roche.com Financial Times. (2013). Retrieved September 2, 2013, from www.ft.com GlaxoSmithKline. (2013). Retrieved May 22, 2013, from www.gsk.com IMS Health. (2013) Retrieved April 28,2013, from www.imshealth.com Informa plc. Scrip Intelligence. (2013). Retrieved May 5, 2013, from www.scripintelligence.com Johnson & Johnson. (2013). Retrieved May 17, 2013, from www.jnj.com

Kesic, D. (2003). Strategic alliancing between Lek and Novartis. In Proceedings of the 5th MBA scientific meeting – Management of companies and take-overs. Maribor, Slovenia: Institute for Management Development and Educational Association MBA club. Kesic, D. (2006, May 22). Dynamic development of world pharmaceutical market. Delo, p. 12. Kesic, D. (2011, February 21). This year higher growth: consolidation in the world pharmaceutical industry is going on. Delo, p. 32. Knickerbrocker, F. T. (1973). Oligopolistic Reaction and the Multinational Enterprise. Cambridge, MA: Harvard University Press. McKinsey & Company. (2013). Retrieved October 15, 2013, from www.mckinsey.com Merck & Co. Inc. (2013). Retrieved July 12, 2013, from www.merck.com Mylan Inc. (2013). Retrieved August 15, 2013, from www.mylan.com New York Times. (2013). Retrieved October 5, 2013, from www.inyt.com Novartis. (2013). Retrieved July 12, 2013, from www.novartis.com Organisation for Economic Co-Operation and Development. (1993, December). STI Review No.13: Special Issue on Globalisation. Paris, France: OECD. Organisation for Economic Co-Operation and Development. (1994). Globalisation of Industrial Activities (OECD/GD 60). Paris, France: OECD. Pfizer Inc. (2013). Retrieved July 22, 2013, from www.pfizer.com Pharma Strategy Group London. (2009). Current Issues, 2005, 2006, 2007, 2008,2009. London, UK: Pharma Strategy Group Ltd.

399

 Research of Strategic Global Development Trends and Competitiveness

Pharmaceutical Executive Magazine. (2013). Retrieved September 10, 2013, from www.pharmexec.com Pharmalive. (2013). Retrieved July 10, 2013, from www.pharmalive.com PharmaTimes. (2013a). Drugmakers looking to China for growth. PharmaTimes Online. Retrieved October 18, 2013, from http://www.pharmatimes. com/Article/1322/Drugmakers_looking_to_China_for_growth_study_finds.aspx PharmaTimes. (2013b). Takeda acquires Nycomed. PharmaTimes Online. Retrieved June 10, 2013, from http://www.pharmatimes.com/ Article/11-0519/Speculation_over_as_Takeda_ acquires_Nycomed.aspx Pharmatimes. (2013). Retrieved May 10, 2013, from www.pharmatimes.com Pharmiweb. (2013). Retrieved July 19, 2013, from www.pharmiweb.com Sandoz. (2013). Retrieved July 10, 2013, from www.sandoz.com Sanofi. (2013). Retrieved May 21, 2013, from www.en.sanofi.com Scrip Reports. (2003). Where is the Pharma Industry Going? London, UK: PJB Publications. Svetlicic, M. (1996). World Company. Ljubljana, Slovenia: Znanstveno in publicistično središče. Teva Pharmaceutical Industries Ltd. (2013). Retrieved July 5, 2013, from www.tevapharm.com Thomson Reuters. (2013). Retrieved July 22, 2013, from www.reuters.com World Review - The World Pharmaceutical Market. (2012). IMS Health Statistics. London, UK: IMS. Zineldin, M. (2004). Co-opetition: The organization of the future. Marketing Intelligence & Planning, 22(7), 780–790. doi:10.1108/02634500410568600

400

KEY TERMS AND DEFINITIONS Concentration: This designates the number of companies and their respective shares in markets. Consolidation: The action and process of a joining together of two or more companies into one company, usually in the form of merger and acquisition of smaller companies to make much larger ones. Globalization: This is the process of international integration, arising from the interchange of world information, ideas, products, and aspects of culture as well. Merger and Acquisition: This is a dealing with the buying, selling, dividing and combining of different companies that can help them to grow more rapidly in their sector or location of origin, without creating a subsidiary, or using a joint venture. Strategy: This is a company top level plan how to achieve longterm goals under conditions of uncertainty. World Pharmaceutical Industry: World pharmaceutical companies which invent, innovate, develop, produce, and market pharmaceuticals drugs which are registered and licensed for final use as medications.

401

Chapter 19

Waiting to Exhale:

Marketing of E-Cigarettes Teresa M. Martinelli-Lee University of La Verne, USA Jeffery Kahan University of La Verne, USA

ABSTRACT Tobacco companies have long been on the defensive, but a new product, digital vapor cigarettes, offers what seems to be a social compromise: smoke-free smoking or “vaping.” This chapter explains and examines how this controversial product, new to the U.S. and European markets as of 2007, has affected the retail tobacco industry, both reinvigorating its sales and reviving some of its best integrative marketing strategies. The only adversaries strong enough to hinder its success are laws and regulatory action.

INTRODUCTION Globally, a paradox exists for international tobacco marketers. On one hand, the United Nations (UN) has stepped up to include non-smoking programs as part of its international development agenda in preparation for the next Conference (post-2015) (ASH, 2013). Tobacco control has also been the topic of several non-communicable diseases (NCD) roundtable discussions. On the other hand, tobacco, which is a cash crop, is part of the ongoing push for a greater green economy (United Nations, 2011). Certainly, tobacco products, while more socially accepted in some countries than in others, are a worldwide health issue. Smoking obviously

cuts life expectancy, adds to healthcare costs, adds to life insurance premiums, affects worker productivity, affects male fertility, and jeopardizes normal fetal development. According to the Centers for Disease Control and Prevention (CDC): •

•

More deaths are caused each year by tobacco use than by all deaths from human immunodeficiency virus (HIV), illegal drug use, alcohol use, motor vehicle injuries, suicides, and murders combined. Smoking causes an estimated 90% of all lung cancer deaths in men and 80% of all lung cancer deaths in women.

DOI: 10.4018/978-1-4666-6551-4.ch019

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Waiting to Exhale

• •

•

An estimated 90% of all deaths from chronic obstructive lung disease are caused by smoking. Those who smoke are: ◦◦ 2 to 4 times more likely to suffer coronary heart disease, ◦◦ 2 to 4 times more likely to suffer stroke, ◦◦ 12 to 23 times more likely to develop lung cancer, ◦◦ 12 to 13 times more likely to die from lung diseases. Smoking has also been linked to the following: ◦◦ Acute myeloid leukemia, ◦◦ Bladder cancer, ◦◦ Cancer of the cervix, ◦◦ Cancer of the esophagus, ◦◦ Kidney cancer, ◦◦ Cancer of the larynx, ◦◦ Lung cancer, ◦◦ Cancer of the oral cavity (mouth), ◦◦ Pancreatic cancer, ◦◦ Cancer of the pharynx (throat), ◦◦ Stomach cancer (Centers for Disease Control and Prevention, 2012).

E-cigarettes may offer the tobacco companies a way of radically redefining their product, not only via technology that makes second-hand smoke a thing of the past, but also by a brand strategy the recasts tobacco as both appealing and, relatively speaking, socially responsible and even healthful. Given these aims and the millions spent in advertising, it is no surprise that while smoking overall in the United States continues to trend downward, use of e-cigarettes among adults and youth has increased from its initial introduction, in fact doubling between 2011 and 2012 among youth (Committee on Energy & Commerce, 2013; CDC, 2013a; USDHHS, 2013; Volkman, 2012) (see Figure 1). Numbers in Europe and other countries tell much the same story. In France, for example,

402

surveys suggest smoking is, overall, in decline: 55 billion cigarettes were smoked in 2009, down from 97 billion cigarettes in 1991 (Lichfield, 2010). In South Africa, smoking declined some 40% between 1995 and 2008 (WHO, 2011, p. 17). E-cigarettes, however, are on the rise globally and in virtually every demographic category. According to the CDC, US$20.8 million was spent on e-cigarette advertising (CDC, 2013b); furthermore, the CDC reports 1.78 million adolescents are e-cigarette users. Globally, e-cigarette manufacturing has grown nearly exponentially in the last five years. Sales figures for the United States for 2013, topped US$507.7 million, a 134% increase over 2012 figures and more than 200% over the 2011 sales figure of US$216.5 million (Liebeck, 2014). Projections for 2014 all indicated another triple-digit gain. Liebeck’s (2014) report derived from the Nielsen Co. market research data indicated the unit volume per store is targeted to increase by 130%. The key players in the tobacco industry include Phillip Morris, R. J. Reynolds Tobacco Company, Lorillard, and British American Tobacco (Etter, 2012; Gray, 2013b; Rollans, 2013). While it is possible that e-cigarettes will prove to be a passing fad and that the numbers will eventually level off as the product matures, a number of factors suggest this will not occur: • Realtors are increasing shelf space for the product; • The product is highly addictive; • There is no (American) regulation over this tobacco product (European legislation is nascent); • The product has been marketed as both healthy and cool. Taking these factors into account, Bonnie Herzog, managing director and senior beverage analyst at Wells Fargo Securities, LLC predicts that “consumption of e-cigarettes could surpass consumption of conventional cigarettes within the next decade” (Liebeck, 2014, para. 10).

 Waiting to Exhale

Figure 1. Cigarette consumption U.S. retail cigarette sales (CDC, 2013b, n. p.)

Currently, e-cigarettes are not regulated in the same manner as other tobacco products, yet according to a 2010 study in the British Medical Journal the same demonstrably harmful carcinogens can be found in e-cigarettes (Flouris & Oikonomou, 2010). While the American tobacco industry has endured bans and regulatory action since 1970 and been, nonetheless, financially successful, e-cigarettes have yet to be labeled as cigarettes. This fact provides the industry with the opportunity to expand marketing efforts without regulatory concerns normally associated with

other tobacco products. Indeed, advertising for e-cigarettes reached US$15.7 million by April of 2013, a seven-fold increase over the 2012 budget which is a sign that tobacco companies are beginning to increase production volume to meet what they assume will be an expanding market (Wieczner, 2013). This chapter is designed to investigate domestic and international marketing strategies of e-cigarettes. The breakthrough technology of such a device enables marketing agents to seek new customers in amazingly creative ways, including

403

 Waiting to Exhale

Figure 2. Electronic cigarettes (2013, para. 4).

the uses of Four-Square-like technology that alters e-cigarette users to the presence of other e-cigarette users. In summary, e-cigarettes are nothing short of a revolution, turning an antebellum product into a hip, trendy, and seemingly health-conscious alternative to traditional tobacco products.

ANATOMY OF AN E-CIGARETTE Sized and shaped the same as traditional cigarettes, e-cigarettes have a battery-operated metal housing that contains flavored nicotine solutions that, when inhaled, produces water vapor. The silicone tipped mouthpiece has a hole designed for maximum intake providing similar sensations to “taking a drag” — a nicotine drag that is. The LED tip lights up blue in color and glows much like a traditional cigarette with every inhale (see Figure 2). Much as any other electronic device, the battery needs recharging or replacement after 250-300 puffs, indicated by the diminishing blue glow (Lorillard Technologies, Inc., 2013a). Puff

404

numbers vary depending on the manufacturer and will likely increase as micro-battery technology improves. The liquid, which generates the vapors in the mouthpiece, is a nicotine-based product and revolutionary in terms of traditional smoking practices. Users can enjoy the classic tobacco flavor, a nicotine-free version, and menthol, but varieties such as cherry, Piña Colada, peach, coffee, chocolate, mint, and vanilla, among others, are available depending on the manufacturer.

THE FIRST E-CIGARETTES GENERATION Originally designed for smoking cessation, ecigarettes have quickly turned into a socially acceptable way to smoke in public without risk of secondary smoke. Inventor Herbert A. Gilbert filed a patent for a smokeless and tobacco-free device in 1963 (Gilbert, 1963). However, the technology to create the device was out of reach for some 40

 Waiting to Exhale

years. Dr. Hon Lik eventually brought the product to market, and his goal was not to make tobacco socially acceptable, but rather to stop smoking and related lung cancers (Elliott, 2009). Dr. Lik’s design was introduced domestically in China in 2004. Export of the product followed, with introduction to the U.S. market and the first international patent both in 2007 (Etter, 2012). In 2009, both Australia and Canada banned the sales of e-cigarettes containing nicotine, although consumers were free to purchase nicotine cartridges legally via the internet (Ayers, Ribisl, & Brownstein, 2011). In other countries, such as Cambodia, Cuba, China, Japan, and most of the Middle Eastern (i.e., Shisha) countries, where conspicuous smoking is not frowned upon or where smoking is not considered a health issue, e-cigarettes were marketed and sold as any another tobacco product (Laygo Dolor Managing, 2013). It should be noted that smoking in these countries is a cultural trait of high distinction primarily for the male smoker and his effendi (i.e., a Mediterranean or Middle Eastern identity) to represent leisure, a rite of passage, and companionship (male bonding). Any anti-smoking campaigns in these countries are half-hearted at best (Schechter, 2006). In the West, e-cigarettes remain controversial and challenge public health laws and tobacco regulations. With the promise of “a tar-free and tobacco-free way to enjoy smoking,” e-cigarettes are often promoted as a safe and relatively healthy alternative to traditional cigarettes (SmokingAnywhere.com, 2013, n. p.). However, the marketing of e-cigarettes, as we will discuss, also harkens after older romantic and glamorous images of stars and starlets puffing on tobacco (Committee on Energy & Commerce, 2013).

Marketing and Pricing As academian, Juan Carlos Castillo, reminds us, “In marketing, there are those who satisfy needs and those who create wants” (as cited in Cotton, Flavey, & Kent, 2010, p. 14). The use of integrated

marketing as a strategy aimed at fusing mass marketing with the objective toward generating product development and distribution is a concept fully developed and continuously applied by the tobacco companies. Tobacco products have been heavily marketed to adults and youths (Kerin, Hartley, & Rudelius, 2011). This advertising, while still a small part of Big Tobacco’s overall budget, has been especially effective with teens. As of this writing, roughly 76% of U.S. high school students who smoke have tried e-cigarettes (CDC, 2013b). New to the industry is the use of high-tech brain scanning called neuromarketing, whereby the brain is scanned to determine responses and stimuli to a variety of items including brand logos, television ads, package designs, and even fragrances. Anything related to the senses can be neuro-scanned, studied, and marketed. One of the surprising outcomes of neuromarketing is that cigarette-warning labels do not work. The warning label instead tends to offer a craving stimulant in the brain. Marketers use such science technology to learn and understand “the why” of consumer choices enabling strategic and creative designs of ads, logos, branding, and labels (Kerin et al., 2011). In terms of pricing, the industry adheres to price elasticity (price elasticity of demand is equal to percentage change in quantity demanded divided by percentage change in price) (Kerin et al., 2011, p. 333). For example, youths (12-17-year olds) have limited disposable income (i.e., spending money). As such, U. S. state and federal legislators tend to increase taxes on packs of cigarettes to reduce teenage smoking. In Manhattan, for example, among the highest state and local taxes, a box of Marlboro costs US$12 (2012 data); the tax alone is US$5.85 (Expatistan, 2014; Fisher, 2013; PR, 2013). As Daniel Fisher highligts, “right now e-cigs operate virtually free of federal regulation and only one state, Minnesota, subjects them to more than ordinary sales taxes” (Fisher, 2013). A pack of e-cigarettes sells nationally at US$8.99 (NJOY, 2014).

405

 Waiting to Exhale

The industry, while fighting all regulation (see next section) in this new tobacco market, agrees that with growing profits, taxation is inevitable. Miguel Martin, an 18-year Altria veteran who joined independent e-cig manufacturer LOGIC Technology, stated, “There’s an expectation there will be some level of taxation” (Fisher, 2013, para. 3). However, Martin rejects the notion that e-cigarettes should be taxed along the lines of traditional cigarettes explaining, “If indeed they are going to tax these products, the tax should be commensurate with what our product is, not a replacement tax for forecasted lost revenue from declining sales of traditional tobacco cigarettes” (Fisher, 2013, para. 8). The future regulatory laws of the U.S. and the European Union (EU) will determine whether Martin beliefs will be upheld.

Regulatory Action The European Parliament, while deciding to ban menthol cigarettes, is not sure what to do about e-cigarettes. In keeping with traditional tobacco products, lawmakers did initiate strict limits for advertisers and refused to identify e-cigarettes as a medical cessation product (Gray, 2013a). Had the device been branded as a purely medical treatment device, its sale would have been restricted to pharmacies in some countries. The legislation still must be reviewed by other branches of the EU’s government, a process that may take years, but its open sale across Europe is clearly a victory the tobacco industry. Nonetheless, Craig Weiss, CEO of e-cigarette manufactures NJOY, objected to any regulation saying, “The European vote is a step in the right direction” (Gray, 2013a, para 5). Indeed, CEO Weiss indicated that as a market leader in the American e-cigarette markets, he was apprehensive that, “At the same time, we are concerned about the proposed advertising restrictions. It is critical that companies like NJOY be able to fully inform tobacco smokers that they have an alternative (para. 5).

406

In the U.S., the regulation and legislation for e-cigarettes is still in draft form (Hemphill, 2013). As in Europe, the U.S. Food and Drug Administration (FDA) will not regulate electronic cigarettes as a purely medical device. While restrictions on print, radio, and television advertising are a possibility, the agency set a self-imposed limit of October, 2013 to create new guidelines (Gray, 2013a). More than six month later, no guidelines have been suggested or imposed. A visit to the FDA’s website confirms that discussions proceed at a glacial pace: “FDA intends to issue a proposed rule extending FDA’s tobacco product authorities beyond the above products to include other products like e-cigarettes” (FDA, 2014) The FDA’s inability to regulate e-cigarettes may in part be due to the tobacco industry’s allies in the medical community. Various medical associations have agreed that e-cigarettes can be considered a lower-risk option to traditional smoking. E-cigarettes, while offering nicotine, do not offer the other four thousand chemicals associated with regular paper and tobacco cigarettes, such as tar, charcoal, carbon monoxide, etc. (WHO, 2011, p. 17). Accordingly, e-cigarettes are no worse than nicotine gum or nicotine patches, both of which have been used for years to help “kick-the-habit” (AMA, 2010). It should be noted that nicotine gums and patches, as far as cessation goes, are ineffective. A 2012 the Harvard School of Public Health and the University of Massachusetts at Boston study of nicotine-replacement therapy (gums or patches) found that smokers “were just as likely to relapse as those who used nothing at all” (Gray, 2013b, para. 23). Until regulations are established, sellers and manufactures will likely continue to jockey for market share through aggressive advertising campaigns. Currently, NJOY, Blu (owned by tobacco giant Lorillard), and Logic Technology dominate of e-cigarette sales in the U.S. market (see Figure 3). Marketing agencies tend to watch such sale de-

 Waiting to Exhale

Figure 3. Shares of e-cigarette sales in the USA by brand (Esterl, 2013, n. p.)

velopments closely in an effort to understand both the competition and the consumer’s preferences. Of the 250 different e-cigarette brands currently available, companies such as Logic Technology will wait for the FDA’s proposed regulations to avoid investing further in something that can potentially be banned. Logic Technology will continue to advertise on radio stations and to consider television spots and push to reach smokers in bars and nightclubs (Opfer, 2013). Larger companies such as Lorillard (makers of Blu), R. J. Reynolds (makers of Vuse), and Altria (makers of MarkTen) are concerned with the upcoming FDA ruling. Lorilland, in particular, has been extremely aggressive in its advertising campaigns,

featuring several Hollywood stars, each “vaping” for the camera. That term needs some explanation: Cigarette smokers “smoke” while e-cigarettes users “vape.” Offering something nearly identical to a “smoker’s experience”, vaping offers a physiologically and psychologically satisfying experience without exposing anyone else to secondhand smoke. Moreover, the cool designs and slick marketing promote the unregulated freedom to “vape” in public, particularly in non-smoking areas. Further, the ability to customize through flavors of liquids, sizes, and colors provides a total “vaping” experience.

407

 Waiting to Exhale

Vaping: Where Fashion Meets Vapor As part of its 2013 season premier, Saturday Night Live aired a parody on e-cigarettes. Their ad sold safe “e-meth.” While an outrageous thought, the idea is not so implausible. If tobacco, a highly addictive drug, can be made “safe,” then why not meth? This lampooning of vaping is in effect a counterstrike to anti-smiling regulation. Following, and in some cases leading, governmental regulations, many have companies banned workplace smoking or designating smoking zones. However, company policies on handling e-cigarettes vary. For example, Exxon Mobile and General Motors have designated vaping spaces much as the traditional smoking areas, whereas companies such as CVS and Lowe’s have banned both regular smoking as well as e-cigarettes. Levi Strauss & Co indicates vaping can occur outdoors, while Kraft Foods Group and Walgreens Company permit management to set rules by locating thus taking a laissez-faire approach. Still others are waiting for the “smoke to clear” given regulatory uncertainties (Burritt, 2013). Far more radically, and out of keeping with the national scope of e-cigarette acceptance, New York City recently banned indoor vaping in bars and restaurants. According to the American Nonsmokers’ Rights Foundation (ANRF), nationally, three US states (North Dakota, New Jersey, and Utah) regulate the use of e-cigarettes (ANRF, 2014). While 10 other states regulate the use of e-cigarettes in specific venues such as school districts, public places, and correctional facilities, many cities and counties (139) within those states have enacted law have taking steps to restrict or right out ban e-cigarettes in certain public places. However, both Harps (2014) and Winograd (2013) emphasize national advertisements continue to promote indoor bar and restaurant vaping. Under the Family Smoking Prevention and Tobacco Control Act of 2009, e-cigarette advertisements can be aired on television or in movie theaters, as well as at sport arenas and concert

408

venues. These placements are key for e-cigarette promotions. Chief Marketing Officer for NJOY, Geoff Vuleta, believes that renormalizing the identity of e-cigarettes (that is, not as a societal evil) can bring about acceptance and help to settle public debate. Vuleta explains that, for example, if Keith Richards of the Rolling Stones were to vape onstage, the power of such an action would inspire audiences worldwide to accept e-cigarettes nearly unconditionally (Richtel, 2013). Employing tactics reminiscent of the marketing campaigns of the 1950s and 1960s, Lorillard’s Blu has used the “Tough Guy” and the “Sex Kitten” image to promote e-cigarettes. For example, the old tobacco commercials featured the iconic Marlboro Man; one of Blu’s most popular e-cigarettes promos features ruggedly handsome American actor Stephen Dorff; Eva Gabor used to pitch Camel cigarettes; and Blu has sassy American model and actress, Jenny McCarthy. In addition, other celebrities have been photographed “vaping”, including Katherine Heigl from Grey’s Anatomy, Leonardo DiCaprio (Titanic, Django, and Inception), supermodel Kate Moss (brander for Chanel, Gucci, D&C, and Calvin Klein), singer-songwriter Courtney Love, and über-controversial actress Lindsay Lohan. While it is unclear whether these celebrities were paid for their public vaping or whether they are simply users of the product, these stars encapsulate the overall strategy of the e-cigarette marketers, which is make vaping as cool today as smoking was in the golden era of Hollywood. In this regard, Leonardo DiCaprio’s public vaping seems to have a special significance. While having portrayed a poet/junkie in The Basket Ball Diaries and the troubled billionaire playboy, Howard Hughes, in The Aviator, he is best known for his role in James Cameron’s 1997 film Titanic, in which he played Jack Dawson, the poor artist, who falls in love with society-girl, Rose DeWitt Bukater (played by Kate Winslet). Capturing the unbridled prosperity of the era, Titanic seems to be one glamorous floating ballroom of well-

 Waiting to Exhale

coifed men in dinner jackets, elegant women in expensive gowns, and all seemingly living on a diet of martinis and cigarettes, It is, however, in television commercials that Blu and other e-cigarette companies are placing their bets. Two recent advertisements highlight their overall strategy. In the 2012, Blu advert, chiseled actor Stephen Dorff, standing by a windswept beach, proclaims that he is “tired of smelling like an ashtray” and has found a “smarter alternative”: Blu. Continuing, Dorff explains that he can now “enjoy smoking without affecting the people around me”, and that Blu has “no offensive odor.” In closing, he suggests that smokers “rise from the ashes” and that “Guys” can now “take their freedom back.” We cannot overlook the messenger here. Dorff’s IMDB entry outlines his star power: Stephen Dorff has become one of the most respected young actors in Hollywood. His recent credits include Oliver Stone’s World Trade Center, Robert Ludlum’s Covert One: The Hades Factor, .45 with Milla Jovovich, Shadowboxer with Cuba Gooding Jr. and Helen Mirren, and the Disney thriller, Cold Creek Manor, with Dennis Quaid and Sharon Stone. (IMDB, 2013, para. 1) As for the message, Dorff‘s language is curiously polite and hedonistic. On one hand, he admits that smoking is socially offensive; smoking smells; he admits it is no fun to have to leave a room or a bar whenever he feels the need to light up; Blu offers him a socially acceptable option. The health risks, while significant, play no part in his argument. He would just like to “take [his] freedom back.” He can now smoke or “vape” with impunity because anyone who finds his behavior offensive can no longer point to any noxious smell or secondary smoke. In essence, Dorff argues that smoking itself is not offensive. Dorff’s behavior then challenges the very nature of acceptable behavior. Furthermore, his message is openly directed toward “guys” who have been made social pariahs by recent anti-smoking

regulations. Blu offers a chance to “rise from the ashes”— a phoenix image of rebirth in flame — by, paradoxically, smoking without flame. This alchemistic trick, akin to having your cake and eating it too, suggests that the real issue for men is that they would like to thumb their noses at authority, and Blu offers just such an option. As for marketing aimed at women, the same company offers an advertisement with Jenny McCarthy, a “blonde bombshell” who has lent her body to a variety of “food porn” commercials for Carl’s Jr. fast-food restaurants. McCarthy, who supports the fast food industry with its GMO (genetically modified organism) products, not to mention its questionable treatment of cattle and other livestock, is also well known for her outspoken views on childhood vaccinations and its supposed link to autism. McCarthy claims that childhood vaccinations can cause the condition. She is, in short, a sexy homoeopathist, and her forthcoming commercial for e-cigarettes will likely make vaping still cooler, sexier, and, due to McCarthy’s stance on immunization, help align the product more closely to alternative or health lifestyles. Stated McCarthy, “As a smoker who is single, I was instantly drawn to e-cigarettes as a smoking alternative to better suit my activities on-set and my lifestyle offset” (Sebastian, 2013, para. 4). The ad shows Jenny in a bar next to a handsome stranger. She holds our attention by confessing that e-cigarettes have allowed her to become still more uninhibited and guilt-free in her pursuit of amorous pleasure. She tells us, fresh off her famous breakup with Jim Carey, that she “she loves being single” but “doesn’t love a kiss that tastes like an ashtray.” This oral allusion (Blu and blow) takes on a more suggestive tone as she compares vaping to guilt-free sexual activity. Blu, she coos, “satisfies me”; “I get to have a Blu without the guilt . . . which means I don’t get the stink eye from others.” Going on, she says that she “fell in love with Blu” and “feels better about myself and I feel free to have one almost anywhere.” The

409

 Waiting to Exhale

uninhibited McCarthy is now free to indulge her primal urges. Provocatively, she adds that in a club she can now “whip out my Blu without driving that special someone away. You know what I am saying?” (Lorillard Technologies, 2013b, You Tube video). Blu e-cigarettes, we are to believe, have reawakened Jenny McCarthy’s love life and restored her self-esteem – powerful messages to teen girls everywhere and equally powerful triggers to men, who may, in the wake of the commercial, associate female vaping with an easy sexual conquest. Sensing the dangers McCarthy presents to unwitting consumers, Peter Hamm, of the Campaign for Tobacco-Free Kids, states, “I don’t think that it’s their [the tobacco companies’] finest marketing hour” (Sebastian, 2013). E-cigarette companies are also prompting do-it-yourself promotions. One website suggests that fans of the product buy e-cigarettes in bulk and then sell them on Facebook for a profit: “To get your social media presence started, Facebook pages are the first and best option for you. You can use these to promote your company — let’s call it ‘Magical E-cigarettes.com,’ for fun. Get yourself a ‘Magical E-cigarettes’ Facebook page for your company, and ‘Like’ that Page from your own personal Facebook page” (Hendricks, 2013, para. 6). Perhaps most amazingly, this same Blu brand comes with a box burnishing a gem-like blue triangle sensor. When one Blu user comes within proximity of another, the triangles on each of their respective boxes will glow. The experience is explained by Sean Cole, technology reporter for of Marketplace explains: “The Blu Cigs smart pack looks like a normal, flip-top box of cigarettes – except it is hard plastic. You keep your replacement cartridges in there. It’s also totally sci-fi. Say you’re out for a casual stroll with your Blu Cig…And another Blu Cig user is standing on the corner. When you come within 50 feet of each other and both of your packs start vibrating and flashing a blue light” (Cole, 2011, para. 4). The two Blu users can then discuss their love of

410

the product. It is only a matter of time before a couple meets and marries because of their mutual use of Blu. That will obviously be a great day for Blu marketers. Some might even consider buying Blu simply as a way of meeting new friends and potential partners.

Convenient Partnership Relatedly, e-cig companies have aligned themselves with various sports and music icons. R. J. Reynolds used to sponsor the “Kool Jazz” festival, but now has shifted to sponsoring other types of large public events (Committee on Energy & Commerce, 2013). Both Phillip Morris and R. J. Reynolds promote e-cigarettes at NASCAR races, branding their products with successful drivers, racing teams, and pit crews. Tobacco companies also market e-cigarettes at other venues and events such as festivals, parades, and seasonal events (examples include Miami Beach Spring Break, Bonnaroo, Governors Ball, SXSW, and the Sasquatch Music Festivals). On the international market, fashion shows across the globe (London, Paris, Rome, and Tokyo) are also settings for the distribution and promotion of e-cigarette samples (Donnelly, 2013). Partnership is another marketing tool employed by the e-cigarette industry. In 2012, NJOY, for example, signed a long-term partnership with Circle K, a Quebec-based network of convenience stores. Circle K began distribution of e-cigarettes in its 3,100 retail locations in the U.S. The Circle K network also includes licensing agreements with other countries including China, Guam, Indonesia, Japan, Macau, Mexico, Vietnam, and the United Arab Emirates (PR, 2012). Other convenience store chains, such as 7-Eleven, have jumped on the e-cigarette wagon (PR, 2013).

 Waiting to Exhale

VAPING: MARKETING NIRVANA

REFERENCES

Once seen as an old-fashion product, smoking has gone digital -- the e-cigarette. Advertising for the e-cigarette’s reinvention has been aggressive and aesthetically appealing. With celebrities promoting vaping as both stylish and sexy, promotion of an otherwise controversial product has resulted in a marketing nirvana. In the meantime, the world waits for the U.S. and European lawmakers to regulate this new tech-product. As of this writing, policies have yet to be written, and existing “smoking” policies are increasing outmoded by a smoker’s product that produces no smoke. Still, many domestic and international airlines have banned the act of vaping on flights (Lee, 2013). That being said, e-cigarette components (cartridges, batteries, and juices) can be carried onboard while staying within TSA regulations on liquids. Marketers of e-cigarettes have thus far circumvented the existing Family Smoking Prevention and Tobacco Control Act, and have aggressively marketed their products through mainstream media (e.g., cable stations, radio, and newsprint). With a media campaign and distribution network in place, with governments worldwide at a loss as how to define the product, and with medical officials scrambling to study Big Tobacco’s technology, it is likely that e-cigarettes will build a strong market share well before the legislative process and the medical community muster a coherent response. By that time, market share among the major players will have solidified and tobacco companies may be still more difficult to combat, simply because of a mixed perception that e-cigarettes are both cooler and somehow less harmful or more healthful than traditional tobacco products.

About One in Five U.S. adult cigarette smokers have tried an electronic cigarette. (2013). Managed Care Outlook, 26(6), 11-12. Action on Smoking & Health (ASH). (2013). Global action for everyone’s health: ASH website. Retrieved on January 8, 2014, from: www.ash.org American Medical Association (AMA). (2010). Report six of the Council on Science and Public Health (A-10): Use of electronic cigarettes in smoking cessation program. Retrieved on November 22, 2013, from: http://www.ama-assn. org//resources/doc/csaph/a10csaph6ft.pdf American Nonsmokers’ Rights Foundation (ANRF). (2014, April 1). State and local laws regulating use of electronic cigarettes. Retrieved on May 9, 2014, from: http://www.no-smoke.org/ pdf/ecigslaws.pdf Ayers, J., Ribisl, K., & Brownstein, J. (2011). Tracking the rise in popularity of electronic nicotine delivery systems (electronic cigarettes) using search query surveillance. American Journal of Preventive Medicine, 40(4), 448–453. doi:10.1016/j. amepre.2010.12.007 PMID:21406279 Burritt, C. (2013, November 6). E-cigs wafting into workplace 25 years after smoking ban. Bloomberg. Retrieved on January 10, 2014, from: http://www.bloomberg.com/news/201311-06/e-cigs-wafting-into-workplace-25-yearsafter-smoking-ban.html Center for Disease Control and Prevention (CDC). (2013a, November 8). Trends in current cigarette smoking among high school students and adults, United States, 1965–2011. Retrieved on January 18, 2014, from: http://www.cdc.gov/tobacco/ data_statistics/tables/trends/cig_smoking/index. htm

411

 Waiting to Exhale

Center for Disease Control and Prevention (CDC). (2013b, September 6). Notes from the field: electronic cigarette use among middle and high school students — United States, 2011–2012. Morbidity and Mortality Weekly Report. Retrieved on January 18, 2014, from: http://www.cdc.gov/mmwr/ preview/mmwrhtml/mm6235a6.htm Cole, S. (2011, June 21). Smart pack encourages social networking among e-cig users. Retrieved on November 11, 2013, from: http://www.marketplace.org/topics/tech/smart-pack-encouragessocial-networking-among-e-cig-users Cotton, D., Falvey, D., & Kent, S. (2010). Market leader: Business English course book (3rd ed.). New York: FT Publishing. Dawkins, L., Turner, J., Roberts, A., & Soar, K. (2013). ‘Vaping’ profiles and preferences: An online survey of electronic cigarette users. Addiction (Abingdon, England), 108(6), 1115–1125. doi:10.1111/add.12150 PMID:23551515 Donnelly, T. (2013, September 19). E-cigs catch on citywide – and face a big backlash. Retrieved on October 8, 2013, from: http://nypost. com/2013/09/19/e-cigs-catch-on-citywide-andface-a-big-backlash/ Electronic Cigarette. (2013). Company website. Retrieved on March 7, 2014, from: http://www. ecigaretteuser.com Elliott, D. (2009, August 5). E-Cigarettes: The new frontier in war on smoking. NPR Health. Retrieved on July 15, 2013, from: http://www.npr.org/ templates/story/story.php?storyId=111578997 Elliott, S. (2013, August 29). E-cigarette maker’s ads echo tobacco’s heyday. The New York Times. Retrieved on July 15, 2013, from: http://www. nytimes.com/2013/08/30/business/media/ecigarette-makers-ads-echo-tobaccos-heyday. html?_r=0

412

Esterl, M. (2013, June 9). E-cigarettes fire up investors, regulators. The Wall Street Journal. Retrieved on July 15, 2013, from: online.wsj. com/news/articles/SB100014241278873249040 04578535362153026902 Etter, J. (2012). Commentary on Wagener et al. (2012): Electronic cigarettes - the Holy Grail of nicotine replacement? Addiction (Abingdon, England), 107(9), 1550–1552. doi:10.1111/j.13600443.2012.03909.x PMID:22594671 Expatistan Cost of Living Index. (2014, April 17). The price of 1package of Marlboro cigarettes in New York City is $12. Retrieved on May 4, 2014, from: http://www.expatistan.com/price/cigarretes/new-york-city Fisher, D. (2013). Will taxes and regulation rein in the booming e-cigarette market?. Forbes.Com, 25. Flouris, A. D., & Oikonomou, D. N. (2010). Electronic cigarettes: Miracle or menace? [BMJ]. British Medical Journal, 340, c311. doi:10.1136/ bmj.c311 PMID:20085989 Food and Drug Administration (FDA). (2014, January 10). Electronic cigarettes (e-cigarettes). Retrieved on January 18, 2014, from: http:// www.fda.gov/NewsEvents/PublicHealthFocus/ ucm172906.htm Gilbert, H. A. (1963, April 17). Smokeless nontobacco cigarette (U. S. Patent No. 3200819). Washington, DC: U. S. Patent and Trademark Office. Retrieved on June 2, 2013, from: http:// www.google.com/patents Gray, E. (2013a). European lawmakers: Good news and bad news for e-cigarettes. Time.Com, 1. Gray, E. (2013b). This is not a cigarette. Time, 182(14), 38.

 Waiting to Exhale

Harps, T. (2014, April 17). Electronic cigarettes increasingly being banned. Liberty Voice. Retrieved on April 30, 2014, from: http://guardianlv. com/2014/04/electronic-cigarette-increasinglybeing-banned/ Hemphill, T. A. (2013). Electronic cigarettes at a regulatory crossroads. Regulation, 36(3), 10–12. Hendricks, D. (2013, August 22). How to earn money from the e-cigarette business in social media. Soshable.com. Retrieved on September 22, 2013, from: http://soshable.com/how-toearn-money-from-the-e-cigarette-business-insocial-media Kerin, R. A., Hartley, S. W., & Rudelius, W. (2011). Marketing (10th ed.). New York: McGrawHill-Irwin. Laygo Dolor Managing, B. (2013, November 4). Global, local tobacco firms in brutal battle for market dominance. The Manila Times (Philippines). Lee, D. (2013, August 30). The e-cig traveler: To vape or not to vape (and where): Why traveling with e-cigarettes can be a drag. ReadWrite. Retrieved on October 11, 2013, from: http:// readwrite.com/2013/08/30/ecig-traveler-vaperules-where#awesm=~onaax9t9HNZLs7 Liebeck, L. (2014, February 2). E-cigarettes light up convenience stores. Convenience Store News, 10-14. Lorillard Technologies, Inc. (2013). Blu Cigs website. Retrieved on December 4, 2013, from: www.blucigs.com McKee, M. (2013, September 26). E-cigarettes and the marketing push that surprised everyone. British Medical Journal, 347, 1–2. doi:10.1136/ bmj.f5780 PMID:24070876 NJOY. (2014). Company website. Retrieved on May 3, 2014, from: http://www.njoy.com/njoykings.html

NPR. (2012a, October 30). Eonsmoke secures loan financing to invest into further expansion of American electronic cigarette industry. PR Newswire US. NPR. (2012b, July 18). Circle K and NJOY electronic cigarettes enter into long term partnership for chain-wide distribution. PR Newswire US. NPR. (2013, February 14). NE-WHERE electronic cigarettes now available at 7-Eleven Stores. PR Newswire US. Opfer, C. (2013, November 8). Coming soon to the e-cigarette regulation debate: A sliver of clarity. The Atlantic Cities. Richtel, M. (2013, October 26). The e-cigarette industry, waiting to exhale. The New York Times. Retrieved on November 2, 2013, from: www. nytimes.com Rollans, S. (2013). Electronic-cigarette sales explode. Canadian Business, 86(6), 18. Schechter, R. (2006). Smoking, culture, and economy in the Middle East: The Egyptian tobacco market 1850-2000. New York: I. B Tauris & Co. Ltd. SmokeAnywhere.com. (2013). Company website. Retrieved on December 7, 2013, from: www. SmokingAnywhere.com United Nations Conference on Sustainable Development. (2011). Rio+20 Conference. Retrieved on August 15, 2013, from: www.uncsd2012.org/ about.html U.S. Department of Health & Human Services (USDHHS). (2013). Preventing tobacco use among youth and young adults. Retrieved on November 4, 2013, from: http://www.surgeongeneral. gov/library/reports/preventing-youth-tobaccouse/factsheet.html

413

 Waiting to Exhale

U.S. House of Representative Committee on Energy & Commerce. (2013). E-cigarette flashbacks. Retrieved on October 14, 2013, from: http:// democrats.energycommerce.house.gov/index. php?q=page/e-cigarette-flashbacks Volkman, E. (2012, April 30). Lorillard’s feeling Blu. The Motley Fool Daily Finance. Retrieved on September 8, 2013, from: http://www.dailyfinance.com/2012/04/30/lorillards-feeling-blu/ Wieczner, J. (2013, November 10). 10 things e-cigarettes won’t tell you: They may be safer, but they also threaten to upend decades of antismoking efforts. Market Watch The Wall Street Journal. Retrieved on November 30, 2013, from: http://www.marketwatch.com/story/10-things-ecigarettes-wont-tell-you-2013-11-08 Winograd, D. (2013, December 19). New York City bans e-cigarettes indoors. Time.com. Retrieved on January 22, 2014, from: http://nation. time.com/2013/12/19/new-york-city-bans-ecigarettes-indoors/

414

415

Chapter 20

Eco-Innovation Enablers and Typology in Green Furniture Manufacturing Yudi Fernando Universiti Sains Malaysia, Malaysia Muhammad Shabir Shaharudin Universiti Sains Malaysia, Malaysia Wah Wen Xin Universiti Sains Malaysia, Malaysia

ABSTRACT Fierce competition has forced firms to be more creative and innovative to increase market share. Differentiating between green products or services with conventional products or services is one of the ways for firms to improve their business sustainability. The objective of this chapter is to explore the eco-innovation enablers and design its typology to measure the current green business practices in industry. Although there are many well-documented enablers or practices of eco-innovation that have been researched, this chapter focuses on practices that contribute towards the successful adoption of eco-innovation by one SME in green furniture manufacturing. This chapter uses the case study method as a source of data collection. Eco-innovation typology has been found in this study to define the effort of green company by looking at the target of eco-innovation versus the mechanism of eco-innovation.

INTRODUCTION The furniture industry will grow and prosper through constant innovation and improvements in the manufacturing process. (H. Mardiyanto, Central Java Governor, 2013)

Firms today face a number of environmental challenges such as pollution, scarcity of natural resources, global warming, and a growing demand for environmentally-friendly goods. It is not a secret that environmental management, also

DOI: 10.4018/978-1-4666-6551-4.ch020

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

known as eco-innovation (Kemp & Pearson, 2008), plays an important role due to increasing climate change and uncontrollable business activities. Some many major business disasters include the 2011 earthquake and resulting tsunami in Japan, various earthquakes in Indonesia, flooding in Thailand, and pollution in China. It is no longer one nation’s problem but rather a global concern in which such catastrophes mostly affect poor and developing countries. As such, it has an impact on the policymaking and rules in the business industry. However, considering social, economic, and environmental benefits alone is not sufficient as policies and businesses are also subject to political factors. Businesses are very concerned about expansion and profitability, and for any business to achieve this it has to ensure continuity in improvement and innovation (Schumpeter, 1934; Baumol, 2002). This chapter has two objectives: 1) to explore the eco-innovation enablers in green furniture; 2) to design eco-innovation typology to measure the current green business practices in industry. Some of the drivers of eco-innovation from previous studies are discussed from past studies to guide the authors in identifying enablers. This chapter is organized by first explaining various types of eco-innovation definitions and concepts that would be useful to know when comparing the results of this chapter with previous research, as well as ecoinnovation practices that are useful to SMEs. In this study we first reviewed the furniture industry in Indonesia and then selected a sample from a company that managed eco-innovation activities successfully. This company is also as a premier supplier of green furniture to overseas markets. As this is a case study, brief information concerning the firm is presented. Then, the chapter discusses the methodology used and several tools that helped in the analysis of the findings. Last, this chapter provides the discussion, limitations, recommendations for future studies and the conclusion. It is hoped our work concerning the eco-innovation practices in this SME will contribute to the existing

416

eco-innovation concepts and practices, especially in understanding how SMEs in emerging markets can compete by undertaking eco-innovation.

LITERATURE REVIEW Innovation In extant management literature, innovation is perceived as a relatively new concept (Türker, 2012). However, innovation is no longer a new concept and phenomenon to popular belief. Türker (2012) argued that innovation is as old as humankind itself. According to Fagerberg, Mowery, and Nelson (2006), innovation seems to be something integrally “human” about the tendency to deliberate about better ways of doing things and practice in reality. This deep-rooted and well-established concept had been worked by scientists during the history of the social sciences. According to Schumpeter (1934), innovation is defined as “to produce means to combine materials and forces within our reach. To produce other things, or the same things by a different method, means to combine these materials and forces differently”. To explain the statement above, Schumpeter (1934) used the concept named “new combinations” for his explanation. It is a strong connection between the definition of innovation that commonly being adopted today and Schumpeter’s “new combinations”. The “new combinations” can be any new product with which customers are not familiar; a new technique of production that not yet being practised in the branch of manufacture concerned; a new supply source of raw materials and resources; a new target marketplace; or a new organization of any industry (Schumpeter, 1934). Therefore, “new goods” do not fully reflect the meaning of innovation.

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

Green Technology in Globalization So-called “Green Technology” is an advance which includes various kinds of methodologies and materials enhancement ranging from techniques for generating energy to non-toxic cleaning products (Kamrudin Bakar et al., 2011). It is increasing the societal push for environmental friendly mechanisms to help reduce the impact resulting from fossil fuel consumption, landfill and industrial sector wastages since there are many studies discussing climate changes and global warming (Cheng & Shiu, 2012; Rennings, 2000). According to Barlett and Trifilova (2010), the goals underlying the eco-innovation are defined as follows: •

•

•

“New or improved use of environmental resources” shows the alternatives which people can reduce waste and pollution by improved use of environmental resources or through the discovery of new uses of such resources; “Removing harmful environmental toxins” is concerned with how people can remove environmental pollutants which are potentially harmful to human health and; “Recycling” is concerned with how people can re-use the manufacture products and the creation of products from recycled materials.

Eco-Innovation There seems to be various research conducted on eco-innovation linking business with environmental issues throughout the year. Initially, the ecoinnovation definitions from empirical research are similar to the definitions of innovation but with the addition of environmental, economic and social value as its aspiration. The eco-innovation research paper of Kemp and Pearson (2008), which was supported by the European Commission, defined eco-innovation as the production, assimilation,

or exploitation of a product, production process, service or management, or business method that is novel to the organization (developing or adopting it) and which results, throughout its life cycle, in a reduction of environmental risk, pollution and other negative impacts of the resources used (including energy use) compared to relevant alternatives (OECD, 2009). Additionally, Oltra and Saint Jean (2009) also defined eco-innovation similar to the innovation definition of Schumpeter (1934) but with the goal of being to contribute to environmental sustainability. As the line between eco-innovation and innovation becomes thinner, more researchers have attempted to further distinguish the two. Foxon and Pearson (2008) defined sustainable innovation as innovation towards more sustainable technological and institutional systems, and processes broadly understood as systems for which the resources used and waste production remain within appropriate environmental limits through which socially acceptable levels of economic prosperity and social justice are achieved. Although most researchers and policy makers are well-acquainted with the concept of innovation, eco-innovation is a new concept for which a standardized definition does not yet exist (Kesidou & Demirel, 2010). Kemp and Pearson (2008) provided an ecoinnovation typology following diverse objectives. Eco-innovation is categorized in four different categories. Table 1 shows a comparison of four different typologies. The first category is the environmental technologies which are divided into eight subcategories. Environmental technologies are only a part of eco-innovation, and are not limited to it. The second category corresponds to organisational innovation with methods and management systems for dealing with environmental issues in production and products. The third category is product and service innovation which is offering environmental benefits such as new or environmentally improved products and environmentally beneficial services, whereas the last category includes green system innovation.

417

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

Table 1. Typology of eco-innovation 1. Environmental Technologies:      • Pollution control technologies including waste water treatment technologies.      • Cleaning technologies that treat pollution released into the environment.      • Cleaner process technologies: new manufacturing processes that are less polluting and/or more resource efficient than relevant alternatives.      • Waste management equipment.      • Environmental monitoring and instrumentation.      • Green energy technologies.      • Water supply.      • Noise and vibration control. 2. Organisational Innovation for the Environment:      • Pollution prevention schemes: aimed at prevention of pollution through input substitution, more efficient operation of processes and small changes to production plants (avoiding or stopping leakages and the like).      • Environmental management and auditing systems: formal systems of environmental management involving measurement, reporting and responsibilities for dealing with issues of material use, energy, water and waste such as EMAS and ISO 14001.      • Chain management: cooperation between companies so as to close material loops and to avoid environmental damage across the value chain (from cradle to grave). C. Product and Service Innovation Offering Environmental Benefits:      • New or environmentally improved material products (goods) including eco-houses and buildings.      • Green financial products such as eco-leases or climate mortgages.      • Environmental services: solid and hazardous waste management, water and waste water management, environmental consulting, testing and engineering, other testing and analytical services.      • Services that are less pollution and resource intensive. D. Green System Innovations: Alternative systems of production and consumption that are more environmentally benign than existing systems: biological agriculture and a renewables-based energy system are examples. Source: Kemp & Pearson (2008)

Drivers of Eco-Innovation Traditional scholars believed regulation is an additional cost to firms which impacts the ability of firms to gain profit and reduces the competitiveness of the firm (Jaffe et al., 1995). However, this view has been challenged by authors such as Porter and van der Linde (1995), who stated that, in a static world, firms make the decision whether to seek social responsibility (not polluting the environment) or business growth (profit maximization). Furthermore, real world competition is more vigorous and innovation is important because it can offset the cost incurred by the firm. There are five major drivers found to be main determinants of eco-innovation in the extant literature. Table 2 shows the distribution over the time period and it provides the reader with essential information about the literature sample. From the following tables, this study found that the five drivers (regulation, technology, cross-

418

functional coordination, supplier involvement, and market focus) are important for eco-innovation. Regulation: It is acknowledged that strict regulations and policies enhance the decision of firms to engage in eco-innovation and increase firm performance (Doran & Ryan, 2012). However, there are two views regarding the impact of regulation on firm performance. Since the main concern of businesses is about profit maximization and increasing shareholder’s wealth, a traditional view, also known as the cost-based view, argues that if managing the environment is profitability, then firms would long seek to pursue ecoinnovation (Jaffe et al., 1995). Porter and van der Linde (1995) believed that firms are able to gain a competitive advantage over non-eco-innovation adoption firms once they have become more expert at reducing or removing pollution, while complying with regulation and improving their products or services that can affect the environment. Eco-innovation regulation drives firms to

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

Table 2. Descriptive analysis of article review Reviewed Papers

Aim/Main Topic

Sub-field 1: General reviews eco-innovation • OECD (2008) • Horbach (2008) • OECD (2009) • Santolaria et al. (2011) • Boons et al. (2012)

Linking economy, society, environment Determinants of eco-innovations by type of environmental impact Sustainable Manufacturing and Eco-Innovation Eco-design in innovation driven companies Sustainable innovation, business models and economic performance

Sub-field 2: Regulation • Brunnermeier and Cohen (2003) • Beise and Rennings (2005) • Horbach (2008) • Khanna et al. (2009) • Kammerer (2009)

Determinants of environmental innovation in US Lead markets and regulation Determinants of environmental innovation The role of management systems and regulatory pressures The effects of customer benefit and regulation on environmental product innovation

Sub-field 3: Technology • Rennings (1998) • Baumol (2002) • Horbach (2008) • Khanna et al. (2009) • Doran and Ryan (2012)

Towards a theory and policy of eco-innovation The free-market innovation Machine Determinants of environmental innovation The role of management systems and regulatory pressures Regulation and firm perception, eco-innovation and firm performance

Sub-field 4: Supplier involvement • Hult and Swan (2003) • Rao and Holt (2005) • Georgiadis and Besiou (2008) • Arundel and Kemp (2009)

Research on product development and supply chain management Green supply chain lead to competitiveness and economic performance Sustainability closed-loop supply chains Measuring eco-innovation

Sub-field 5: Market focus • Day and Wensley (1988) • Kohli and Jaworski (1990) • Pujari (2006) • Piercy (2009) • Hermosilla et al. (2010)

A framework of diagnosing competitive superiority Construct, proposition and implications of market orientation Eco-innovation and new product development Change of market-led strategic Diversity of eco-innovations with selected case studies

Sub-field 6: Firm specific • Love and Roper (1999)

The determinants of innovation

reduce the cost to firms in the future as well as gain a competitive advantage over other firms. Technology: The technology driver is essential in the initial development phase of eco-innovation (Horbach, 2008). This statement refers to the capability of firms to gain core competencies or increase their profitability through new products or services that are derived from the adoption of new technology. Technology comes from investment in knowledge, which, ultimately, will introduce more innovation (Baumol, 2002). That is why many Multinational Corporations (MNCs) allocate budgets for the Research and Development (R&D) department to acquire more knowledge. Supplier: By learning from consumers (forward linkages), suppliers (backward linkages),

competitors (horizontal linkages) and universities (private linkages) (Roper et al., 2008), firms can develop the knowledge and skills necessary for innovation. On the supplier side, eco-innovation practice is possible if firms and suppliers together adopt a greener perspective (Doran & Ryan, 2012). Market: Horbach (2008) discovered there is great demand for eco-innovation products, processes and management systems, while Jansson et al. (2011) stated that customer perception is an important indicator for innovation adoption. Such research shows that a firm’s innovation is greatly linked to the marketing of its green products or services to customers. Thus, marketing is one of the reasons why firms adopt eco-innovation practices, and is one of the earliest and strongest

419

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

reasons why firms adopt eco-innovation in the first place. Firm Specific: Factors such as the size of the firm and industry to which the firm belongs have a different impact on the performance and innovation of the firm (Love & Roper, 1999). Therefore, SMEs with flexible decision making, a lean organizational structure, and less bureaucratic communication are able to respond to changes or develop innovative products or higher quality services. However, industries such as the automobile and pharmaceutical industries where resources such as financial capital play an important role would be disadvantageous for SMEs to operate and become competitive. Since all eco-innovation practices that are deemed important to the firm have been identified, this chapter will discuss the Indonesia furniture industry, the firm involved for this chapter and the methodology used.

Indonesia Furniture Market Overview Indonesia is renowned for its traditional culture. Indonesians are very fond of their culture and beliefs, and one of the characteristics of Indonesian furniture or handicraft is that it resembles their culture and heritage. Interestingly, there are different styles or designs for furniture and handicraft across Indonesia due to the many ethnic groups in Indonesia of which the majority is Javanese. According to the Indonesia Furniture Industry and Handicraft Association (Tjahyono, 2007), there are clusters of solid wood and furniture production in the Java and Bali regions. The solid wood industry in Indonesia is not well-developed and the Java region has trouble obtaining a solid wood supply. Accordingly, Tjahyono (2007) also mentioned that wood processing industries are scattered in Sumatera, Kalimantan, Sulawesi, and Papua. This explained why two out of three KWaS (this study’s example firm located in Yogyakarta, Indonesia) suppliers for Forest Stewardship Council (FSC)certified wood are from Kalimantan. Additionally,

420

the majority of furniture manufacturers are SMEs, while ASEAN reported there are approximately 4,000 furniture firms in Indonesia (Global Indonesia Guide, 2013). The furniture industry in Indonesia is a labourintensive and segmented with SMEs. In central Java alone, KWaS comprised a total of 26.5% of furniture production while over half of the rattan furniture production is based in Cirebon, a port city north of Java (IFMAC, 2012). As timber is one of the commodities exported to other countries, it is understandable that ASMINDO, the International Furniture & Craft Fair Indonesia (IFFINA), the National Handicraft Council (DEKRANAS), and the ASEAN Furniture Industries Council (AFIC) were created to develop the furniture and handicraft industries. In Indonesia, furniture manufacturers are segmented in Java Island where wood furniture, rattan furniture, and panes furniture are manufactured. However, the other regions in Indonesia are rich in wood supply. Indonesia is the world’s largest rattan producer and has abundant supply of teak wood. Moreover, Indonesia exports reached US$2.2 billion in 2011 and are expected to reach US$2.7 billion in 2012. Previously, the furniture industry has only been an export-driven business until lately when consumer purchasing power increases and rises of middle class people in Indonesia enabled them to increase consumption and home ownership (Global Business Indonesia, 2013). According to Tjahyono (2007), domestic sales of furniture and housewares are worth over US$700 million annually. This explained how SME furniture manufacturers could sustain themselves in the furniture industry. Since China can produce furniture at low cost, the Indonesian furniture industry faces stiff competition. Nevertheless, Indonesia furniture is still produced at a lower cost because the supply of wood is circulated in Indonesia alone and this advantage has helped Indonesian SMEs furniture manufacturers to produce furniture at a competitive price. Furthermore, Indonesian furniture is also

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

unique in terms of design rather than competing on cost. Nonetheless, in 2014, the large Swedish firm IKEA will open its first franchise in Indonesia due to demand by local consumers (The Jakarta Post, 2012). International market remains the profitable market with a total of 58.1% of Indonesia total export from furniture exports (Global Indonesia Guide, 2013). Many furniture manufacturing firms seek to open business in Indonesia because some 85% of all rattan is made there and Indonesia is rich with timber such as teak, bamboo, and plywood in addition to natural materials such as water hyacinth. An interesting fact regarding furniture demand is that it is seasonal in the local market, especially during festive seasons such as Eid Fitri (Global Indonesia Guide, 2013). In order to do improvements and innovates in the production process, there is a need to implement green practices, especially in furniture manufacturing. This is because competition in the furniture industry is very stiff. As more international firms can penetrate into the Indonesia market, local firms such as our example firm (KWaS) needed to go to another level. As green practices in furniture manufacturing are still in the infant stage, local firms need to adopt eco-practices earlier to sustain long-term competitive advantage. Malaysia, Indonesia, Philippines, Thailand, and Vietnam are five strong emerging economies which manufacture furniture not only for export, they also import from other countries.

Green Industry Indonesia Green industry can be in the shape of various criteria such as clean production, energy conservation, resource efficiency, and adopt eco-design and low carbon technology. The Indonesian government has contrived to introduce more incentives such as tax allowance to develop its green industry in Indonesia (The Jakarta Globe, 2013). Nonetheless, the incentives for “going green” are still feeble (POS Kota, 2013). Furthermore, the Chamber of

Commerce and Industry (Kadin) has confirmed that only several SMEs are benefitting from the green incentives provided by the government (Suara Merdeka, 2013). The government is attempting to boast green incentive in Indonesia by giving discounts for equipment and machines to prosper green business (Embassy of Indonesia, 2013). WWF-Indonesia Conservation Director Nazir Foead said in Indonesia there are only 1.1 million Hectares (Ha) of FSC-certified forest, or 2% of the total Indonesian production forest. However, since 2009 the Borneo Initiative has facilitated 26 companies with a total of 2.6 million Ha for FSC-certification (Lang, 2007). FSC is the only green incentive for furniture industry, even though it is expensive. The Indonesian government has made it mandatory for local firms to implement a Timber Legality Verification System (TLAS) by the end of 2013 as this regulation has a unique capability to meet European Union (EU) Timber regulations. Nonetheless, both certifications are more of a guideline rather than for incentives. Applying FSC and TLAS can ensure sustainable business in the long-term and regulation is one of the most important factors for green practices. This indicates that environmental awareness is still lacking in Indonesia because most firms still seek to maintain their business financially. Eco-innovation has been addressed to better manage resources for the environment, society, and economy. Realistically, the Indonesian government should focus on green incentives in term of green economics more so that firms can achieve its objective. The Global Green Growth Institute (2014) stated that the green economic development strategy should refer to the four pillars of growth; namely: pro-growth, pro- business, pro-poor, and pro-environment. After satisfying these pillars, then more local firms will be more incline towards eco-innovation.

421

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

Outlook of Indonesia Furniture Industry The Indonesian government predicts the nation’s economy will grow 7% in year 2012 and ASMINDO Chairman, Mr. Ambar Tjahyono, states the furniture industry in Indonesia will grow due to demand by the USA, Japan, and 27 EU nations have increased their demand for furniture following the recovery of the global economy (IFMAC, 2012). However, a study by Zainuri, Waridin, Santoso, and Susilowati (2012) on the performance and the prospect of SME of furniture industry in Jepara, Central Java found that the furniture industry structure has a monopolistic competition. This is due to many SMEs competing in a segmented market on Java Island while most firms practice product differentiation. Firms engage in differentiation due to many competitors in an industry; thus, every firm must produce a unique or quality product to attract customers. Nevertheless, the marketplace is changing after the global economic recovery. International consumers are more demanding as a survey also found that consumers now request product specification, meaning the barrier to entry will be much higher in the future. More firms need to invest in technology and meeting customer specification to sustain the business, so green certificates such as FSC and TLAS will make Indonesian furniture manufacturers more competitive.

METHODOLOGY The Organization for Economic Co-Operation and Development (OECD) is a forum where governments from 30 countries collaborate to address economic, social, and environmental issues. As such, attention has been drawn towards ecoinnovation, and the OECD has developed its own definition, framework, practices, and measurement of eco-innovation to expand the study. The typology tool is a framework to study eco-innovation

422

targets and mechanisms by identifying products and processes, organizations and marketing methods, and institutions as eco-innovation targets with modification, re-design alternatives, and creation as standard mechanisms for eco-innovation. This chapter uses the case study method as a source of data collection. Karya Wahana Sentosa (KWaS) is a pioneer in furniture manufacturing, and is currently active in promoting green practices. KWaS, a firm located in Yogyakarta, Indonesia with over 80 employees, produces four containers of furniture monthly. Data was obtained from company reports and interviews with key informants in the company such as the managing director, production managers, logistics managers, and sales and marketing managers. The data was collected and analyzed by the authors. The literature review was used as a guideline for the interpretation of data. A framework developed by OECD (2009) called Eco-innovation Typology was used to position KWaS based on its understanding and practices at the firm. The typology tool is a framework to paper the eco-innovation target and mechanism. This tool identified ‘products and processes’, ‘organizations and marketing’ ‘methods and institutions’ as eco-innovation targets while ‘modification’, ‘re-design alternatives’ and ‘creation’ are standard mechanisms for eco-innovation. By classifying the firm’s position according to the target and mechanism, this chapter is able to determine the level of eco-innovation and on what improvements the firm needs to focus.

Results Based on the interviews with key informants and document reviews, we found that the several steps of eco-innovation adoption related to the eco-innovation enablers in the company. Some of the results include the following: 1. Regulation: This is a key factor for eco-innovation practices. We found that regulation

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

2.

3.

4.

5.

6.

is the key factor for eco-innovation enabler in the company. This relates and to meets the demand from the market to be served. To meet the criteria set by the international market, companies must change the business strategy and production processes. Technology: The use of environmentallyfriendly technology is also the basis for the creation of furniture products which are manufactured without causing negative effects to the environment. The company stopped using any toxic chemicals in the production of its products and reduced usage of synthetic materials. The company is now using equipment approved by local authorities and has passed international certification. Machineries used have met standards for environmentally-responsible equipment and materials. Supplier Involvement: The company learned from suppliers to improve knowledge of the eco-innovation. Supplier informs about the latest technologies and international regulation on green products. Suppliers also contribute to the quality of product. The company is working with the University to share knowledge and find new method to improve the quality of products produced and environmentally friendly production. Firm Specific: The company has changed the company’s vision and mission as a producer of green furniture which produce product quality. The company is also changing production methods which are more efficient and lower cost. Market Orientation and Focus: The company also frequently gets consumer feedback on specification of product they want and continuously improve the production process. The concept of built to order and online ordering system are introduced to responses the market demand. Green Network: The company actively establishes and develops cooperation with

external parties such as government agencies, Non-Governmental Organizations (NGOs), and international trade agencies to expand green furniture markets, especially in developed countries.

KWaS Steps/Stages of Ecoinnovation Adoption KWaS adopted eco-innovation and began when the firm was in financial difficulty and required something “special” to survive. The KWaS ecoinnovation implementation timeline is as below: •

•

•

•

•

2004: On the day of restructuring the business by Robertus Agung, KWaS changed its vision and mission to reflect more of an image of green furniture manufacturer to attract more international consumers. 2004: After KWaS changed its organizational structure, Robertus Agung placed put more effort in creating KWaS network of customers and suppliers. This is the start of “Green Networking” practice at KWaS. 2005: Collaboration with IFC-PENSA, part of the International Finance Corporation for sustainable wood program, brings KWaS closer to eco-innovation. This program was introduced to increase the supply of sustainable legal wood in the market as well as to use alternative material in furniture manufacturing. 2006: KWaS joined WWF-Indonesia to expand its knowledge and network in using sustainable legal wood. This program however, focuses on supporting producers to use Acacia Mangium wood. 2007: As the firm actively participating in international fairs, KWaS accumulated enough experience to understand customer’s preference for sustainable furniture. KWaS won the “Sustainable Home Furnishing Design” competition this year, providing the company with more confi-

423

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

•

•

•

dence and motivation to fully implement eco-innovation. 2009: KWaS yet again received aid from international organization, this time from the USA in capital and knowledge transfer to support a creation of sustainable business in developing country through New Venture Indonesia. 2009: KWaS earned the FSC-COC (Chain of Command) certificate, thus requiring the firm to comply with tough and substantial requirements to separate between sustainable and normal wood. This is the year in which KWaS fully adopted eco-friendly practices. 2012: FSC influences in green industry seem to trigger Indonesian government to start its own regulation on sustainable legal wood regulation. This is a starting point for Indonesia to strengthening the infrastructure and promotes green policy.

Based on the findings, it is understood that the understanding of eco-innovation from the perspective of KWaS is quite similar to previous research that has been conducted (Fussler & James, 1996; Little, 2005; Charter & Clark, 2007; Kemp & Pearson, 2008; OECD, 2009). Our research found all of these components to be the same except one new factor that can contribute to the existing knowledge of eco-innovation. During the data collection, the Managing Director of KWaS explained the current activities of eco-innovation which provided us with an understanding of ecoinnovation. Our findings define eco-innovation as follows: Eco-innovation is mostly about producing raw materials from legal natural resources (supply of sustainable legal wood), which are transformed to become a green product (producing green furniture) utilizing certain technology and procedures. Eco-innovation shall consider the concepts of cost management and recycling without any negative effect on the environment (market push-for cost

424

effective and efficiency in production that does not harm the environment). The final product also needs to obtain approval and certificates from the respective agency (regulations for environment, social and economic benefits) and target the local and international markets that need the product (market pull). Hence, managing this element can help KWaS sustain its business, as it was also part of the KWaS customer network. Furthermore, there is a need to determine the strength of the position of KWaS in green innovation ecology and how the firm can improve its business and position. Using the OECD eco-innovation typology enables us to show the position of KWaS according to the eco-innovation practices at the company with an internationally recognized eco-innovation acceptable tool. This is useful for future comparison and improvements as shown in Figure 1. Eco-innovation typology can be used to define the effort of KWaS in eco-innovation by viewing the target of eco-innovation versus the mechanism of eco-innovation. As shown in Figure 1, the company’s efforts in green marketing are classified as the organization and marketing method and modification mechanism. This means the manner in which KWaS quotes for both green furniture and normal furniture at an agreeable customer price is seen as a part of small and progressive product or process adjustment. The connotation of this marketing method is regarded as a minor ecoinnovation practice that contributes towards the sustainability of the firm in the furniture industry. The ability of KWaS to work well with its network consisting of green suppliers and customers has proven to be substantial according to the typology. If KWaS is able to integrate more suppliers or customers, it will be more challenging and difficult to coordinate but it could put KWaS in a better position, enabling the firm to prolong the production lifecycle of the products and create alternative products or services in innovative ways. Our research also found that the synergy between the suppliers and business partners will lower the

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

Figure 1. Eco-innovation typology

production cost and meet the expectations of the customers’ green consciousness.

Discussion SMEs still lack an understanding of the concept of eco-innovation and sometimes do not have a clear standard how best to apply the techniques of eco-innovation. In this chapter, we have outlined some of the enablers that can help SMEs apply the concept of eco-innovation. These include five eco-innovation enablers such as regulation, technology, supplier involvement, firm specific, market orientation and focus, and a green network. In this chapter, we also have discussed eco-innovation typology to measure the attainments of the company in applying eco-innovation. Previous findings postulated that the network is a mediating factor to foster eco-innovation while our research shows that the green network is one

of the main drivers of eco-innovation practices, and, hence, should be put into practice from the beginning of the business or production process. As the firm continues to reap the benefits through its green network, this driver is an inseparable part of the eco-innovation drivers to sustain in the green industry, especially in an emerging market. SMEs will find it difficult to sustain in the green business without fully utilizing the green network to market their products, as this mechanism helps to make the production cost cheaper and reach a wider target market. The argument is that green products are perceived as a luxury lifestyle product rather than a part of social responsibility to promote environmental sustainability, especially in emerging markets such as Indonesia and Malaysia. In contrast, green-conscious consumers in developed countries such as Canada, France, Germany, Italy, Japan, Spain, the UK, and the USA are willing to pay

425

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

5-10 percent more for green products (Manget et al., 2009) because of their high quality perception concerning green products and as part of their responsibility to support environmental care causes. Today, not only are businesses required to take care of the environment, but consumers are also required to support green initiatives. KWaS furniture is built to order only when the firm’s representative (usually the owner) meets potential customers then the customer can customize the furniture according to their needs. Implementing online ordering systems such as that found in the Texas-based Dell Computer Company enables customers to choose the material, components, design, measurement, and additional items for furniture almost everywhere via Internet connection. This system also permits customers to know the price of their custom-made furniture and the desired delivery method. Online ordering systems should be able to capture customer demand or innovation and record of type of materials, components and additional information for KWaS to forecast demand. While it can be argued that the definition of the green network falls between networking and the green supply chain, it must not be mistaken for a green supply chain as the green network is about sharing knowledge, contacts and fostering a relationship between the supplier and customer with the firm to sustain in the green industry. Although Hermosilla et al. (2010) argued that the diverse contexts of different connotations of eco-innovation may eventually reduce its practical value, as more research regarding green network as a driver of eco-innovation surface in the future, it is expected that the concept will be much clearer, especially in the SME environment.

Future Work and Conclusion In the future, more research should be done to identify and strengthen knowledge of green networking. In addition, green networking should be associated more with eco-innovation to enhance

426

its relationship. After all, contributes towards business sustainability. Furthermore, more research should occur in emerging markets where technology and huge investments on R&D and innovation are expensive and limited. As a result, firms seek other alternatives to reduce cost. One way to reduce cost while being innovative and considering the environment is to practice lean management (reducing waste) while continuing to improve and innovate by considering customer demands. Such activity is also more practical and affordable for small firms. Additionally, more research should focus on the contribution of SMEs towards eco-innovation and its impact on society as a whole because SMEs with their limited resources are responsible for improving society’s quality of life and are regarded as an engine for the economic growth of a country. A country such as Indonesia has the potential to be one of the top producers of green furniture since it is blessed with rich natural resources and a large number of SMEs. Hence, there is a high demand to conduct further studies in this area. Firms must also continuously add value to their products or services by considering current and future consumer trends. This case study shows that a firm, especially an SME, needs strong support from the government in terms of regulation and policies to encourage them to be innovative. The lack of proper infrastructure and support led to KWaS implementing eco-innovation practices on their own initiative and paying for an expensive FSC certificate which remains limited in its function. The success of the green network that KWaS and its suppliers and customers formed has helped all parties involved to remain in the green business. By practicing eco-innovation, it is expected that society will benefit from increasing the quality of life and future generations will not suffer from the scarcity of natural resources and pollution. It is understood that in a static world, as explained by Porter and van der Linde (1995), firms will try to balance between profitability and

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

environmental care. However, in the real world it is difficult to find the right balance. As such, both researchers and practitioners have shown that by committing to eco-innovation, firms can create a “win-win” situation as the end results of adopting eco-innovation are profitability and less pollution to the environment.

REFERENCES

Cheng, C. C., & Shiu, E. C. (2012). Validation of a proposed instrument for measuring ecoinnovation: An implementation perspective. Technovation, 32(6), 329–344. doi:10.1016/j. technovation.2012.02.001 Day, G. S., & Wensley, R. (1988). Assessing advantage: A framework of diagnosing competitive superiority. Journal of Marketing, 52(2), 1–20. doi:10.2307/1251261

Arundel, A., & Kemp, R. (2009). Measuring eco-innovation. Netherlands: United Nations University.

Doran, J., & Ryan, G. (2012). Regulation and firm perception, eco-innovation and firm performance. European Journal of Innovation Management, 15(4), 421–441. doi:10.1108/14601061211272367

Barlett, D., & Trifilova, A. (2010). Green technology and eco-innovation: Seven case studies from a Russian manufacturing context. Journal of Manufacturing Technology Management, 21(8), 910–929. doi:10.1108/17410381011086757

Fagerberg, J., Mowery, D. C., & Nelson, R. R. (2006). The Oxford Handbook of Innovation. London: Oxford University Press. doi:10.1093/ oxfordhb/9780199286805.001.0001

Baumol, W. (2002). The Free-Market Innovation Machine – Analysing the Growth Miracle of Capitalism. Princeton, NJ: Princeton University Press. Beise, M., & Rennings, K. (2005). Lead markets and regulation: A framework for analyzing the international diffusion of environmental innovations. Ecological Economics, 52(1), 5–17. doi:10.1016/j.ecolecon.2004.06.007 Boons, F., Montalvo, C., Quist, J., & Wagner, M. (2012). Sustainable innovation, business models and economic performance: An overview. Journal of Cleaner Production, 1–8. Brunnermeier, S. B., & Cohen, M. A. (2003). Determinants of environmental innovation in US manufacturing industries. Journal of Environmental Economics and Management, 45(2), 278–293. doi:10.1016/S0095-0696(02)00058-X Charter, M., & Clark, T. (2007). Sustainable Innovation. Sustainable Design. Retrieved June 13, 2012, from: http://cfsd.org.uk/Sustainable%20 Innovation/Sustainable_Innovation_report.pdf

Foxon, T., & Pearson, P. (2007). Overcoming barriers to innovation and diffusion of cleaner technologies: Some features of a sustainable innovation policy regime. Journal of Cleaner Production, 16(1), 148–161. doi:10.1016/j. jclepro.2007.10.011 Fussler, C., & James, P. (1996). Eco-innovation: A Breakthrough Discipline for Innovation and Sustainability. London: Pitman Publishing. Georgiadis, P., & Besiou, M. (2008). Sustainability in electrical and electronic equipment closed-loop supply chains: A System Dynamics approach. Journal of Cleaner Production, 16(15), 1665–1678. doi:10.1016/j.jclepro.2008.04.019 Global Green Growth Institute. (2014). Indonesia’s Green Growth Program to include Private Sector and Civil Society in new Steering Committee. Retrieved January 23, 2013, from: http:// gggi.org/indonesias-green-growth-program-toinclude-private-sector-and-civil-society-in-newsteering-committee/

427

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

Global Indonesia Guide. (2013). Indonesia’s Furniture & Homeware Sector. Retrieved July 19, 2013, from: http://www.gbgindonesia.com/ en/manufacturing/article/2012/indonesia_s_furniture_and_homeware_sector.php Hermosilla, J., Rio, P., & Konnola, T. (2010). Diversity of eco-innovations: Reflections from selected case studies. Journal of Cleaner Production, 18(10-11), 1073–1083. doi:10.1016/j. jclepro.2010.02.014

Kammerer, D. (2009). The effects of customer benefit and regulation on environmental product innovation. empirical evidence from appliance manufacturers in Germany. Ecological Economics, 68(9), 2285–2295. doi:10.1016/j.ecolecon.2009.02.016 Kemp, R., & Pearson, P. (2008). Final Report MEI Project about Measuring Eco-innovation: Deliverable 15 of MEI project (D15). Retrieved March 26, 2013, from: http://www.merit.unu.edu/MEIS

Horbach, J. (2008). Determinants of environmental innovation - New evidence from German panel data sources. Research Policy, 37(1), 163–173. doi:10.1016/j.respol.2007.08.006

Kesidou, E., & Demirel, P. (2010). On the drivers of eco-innovations: Empirical evidence from the UK. Research Policy, 41(5), 862–870. doi:10.1016/j. respol.2012.01.005

Hult, G. T., & Swan, S. K. (2003). A research agenda for the nexus of product development and supply chain management processes. Journal of Product Innovation Management, 20(6), 333–336. doi:10.1111/1540-5885.00039

Khanna, M., Deltas, G., & Harrington, D. R. (2009). Adoption of pollution prevention techniques: The role of management systems and regulatory pressures. Environmental and Resource Economics, 44(1), 85–106. doi:10.1007/s10640009-9263-y

IFMAC. (2012).Overview of Indonesia. Furniture Manufacturing Components Show. Retrieved September 4, 2013, from: www.ifmac.net/images-en/ Overview%20of%20Indonesia.pdf Jaffe, A., Peterson, S., Portney, P., & Stavins, R. (1995). Environmental regulation and the competitiveness of US manufacturing: What does the evidence tell us? Journal of Economic Literature, 33(1), 132–163. Jansson, J., Marell, A., & Nordlund, A. (2011). Exploring consumer adoption of a high involvement eco-innovation using value-belief-norm theory. Journal of Consumer Behaviour, 10(1), 51–60. doi:10.1002/cb.346 Kamarudin Bakar, M., Tahir, H., Rajiani, I., & Muslan, N. (2011). Green Technology Compliance in Malaysia for Sustainable Business Development. Journal of Global Management, 2(1).

428

Kohli, A. K., & Jaworski, B. J. (1990). Market orientation: The construct, research propositions and managerial implications. Journal of Marketing, 54(2), 1–18. doi:10.2307/1251866 Lang, C. (2007). Banks, Pulp and People A Primer on Upcoming International Pulp Projects. Retrieved June 21, 2012 from: http://www.greenpressinitiative.org/documents/bankspulppeople.pdf Little, A. D. (2005). How leading companies are using sustainability-driven innovation to win tomorrow’s customers. Innovation High Ground Report. Love, J., & Roper, S. (1999). The determinants of innovation: R&D, technology transfer and networking effects. Review of Industrial Organization, 15(1), 43–64. doi:10.1023/A:1007757110963

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

Manget, J., Roche, C., & Munnich, F. (2009). Capturing the green advantage for consumer companies. Retrieved June 16, 2013, from: http:// www.bcg.com/documents/file15407.pdf OECD. (2008). Linking economy, society, environment. New York: McGraw-Hill. OECD. (2009). Sustainable Manufacturing and Eco-Innovation: Framework, Practices and Measurement. Paris: OECD. Oltra, V., & Saint Jean, M. (2009). Sectoral systems of environmental innovation: An application to the French automotive industry. Technological Forecasting and Social Change, 76(4), 567–583. doi:10.1016/j.techfore.2008.03.025 Piercy, N. (2009). Market-Led Strategic Change: Transforming the Process of Going to Market (4th ed.). Oxford, UK: Butterworth-Heinemann. Porter, M., & van der Linde, C. (1995). Toward a new conception of the environment competitiveness relationship. The Journal of Economic Perspectives, 9(4), 97–118. doi:10.1257/jep.9.4.97 Pujari, D. (2006). Eco-innovation and new product development: Understanding the influences on market performance. Technovation, 26(1), 76–85. doi:10.1016/j.technovation.2004.07.006 Rao, P., & Holt, D. (2005). Do green supply chains lead to competitiveness and economic performance? International Journal of Operations & Production Management, 25(9), 898–916. doi:10.1108/01443570510613956 Rennings, K. (1998). Towards a theory and policy of eco-innovation: Neoclassical and (Co-) Evolutionary Perspectives. ZEW Discussion Paper, 98-124. Rennings, K. (2000). Redefining innovation - ecoinnovation research and the contribution from ecological economics. Ecological Economics, 32(2), 319–332. doi:10.1016/S0921-8009(99)00112-3

Roper, S., Du, J., & Love, J. (2008). Modeling the innovation value chain. Research Policy, 37(7), 961–977. doi:10.1016/j.respol.2008.04.005 Santolaria, M., Sola, J. O., Gasol, C. M., Pinzon, T. M., & Rieradevall, J. (2011). Eco design in innovation driven companies: Perception, predictions and the main drivers of integration. The Spanish example. Journal of Cleaner Production, 19(12), 1315–1323. doi:10.1016/j.jclepro.2011.03.009 Schumpeter, J. A. (1934). The Theory of Economic Development. Cambridge, MA: Harvard University Press. Suara Merdeka. (2013). Kadin: Pemerintah Harus Fokus Turunkan Defisit. Retrieved from December 19, 2013 from: http://m.suaramerdeka.com/index. php/read/news/2013/12/19/183937 The Jakarta Globe. (2013). Government Considers Incentives to Turn the Economy Green. Retrieved on December 25, 2013 from: http:// www.thejakartaglobe.com/news/governmentconsiders-incentives-to-turn-the-economy-green/ Tjahyono, A. (2007). The Readiness of Asmindo Member for SVLK Implementation. Retrieved December 18, 2013, from: http://www.illegallogging.info/sites/default/files/Ambar%20Tjahyono.pdf Türker, C. (2012). Patent trolls and technology diffusion. TILEC Discussion Paper No. 2012-030. Zainuri, M. W., Santoso, P. B., & Susilowait, I. (2012). The Performance and Prospect of Small Medium Enterprises of Furniture Industry in Jepara Regency, Central Java, Indonesia. In Proceedings of 2012 2nd International Conference on Business and Economics Research. Academic Press.

429

 Eco-Innovation Enablers and Typology in Green Furniture Manufacturing

KEY TERMS AND DEFINITIONS Built to Order: The furniture produces when customer ordered and paid. This system is able to let customers know the price of their custom made furniture and the delivery method they want. Eco-Innovation: Innovative in production process which consent to a reduction of environmental risk and benefited to society and stakeholders. Green Industry: Can be in the shape of various criteria such as clean production, energy conservation, resource efficiency, and adopt eco-design and low carbon technology. Green Network: Falls between networking and the green supply chain, it must not be mistaken for a green supply chain as the green network is about sharing knowledge, contacts and fostering a relationship between the supplier and customer with the firm to sustain in the green industry. Online Ordering System: Is system to capture customer demand and record of type of materials, components and additional information for company to forecast the demand. Typology: Is a framework to study ecoinnovation target and mechanism. This tool identified ‘products and processes’, ‘organizations and marketing’ ‘methods and institutions’ as eco-innovation targets while ‘modification’, ‘re-design alternatives’ and ‘creation’ are standard mechanisms for eco-innovation.

430

431

Chapter 21

Linking Cost Control to Cost Management in Healthcare Services:

An Analysis of Three Case Studies Michele Bertoni University of Trieste, Italy Bruno De Rosa University of Trieste, Italy Guido Grisi University of Trieste, Italy Alessio Rebelli Azienda Ospedaliera Universitaria “Ospedali Riuniti”, Italy

ABSTRACT The issue of healthcare costs has become increasingly problematic over the years. This chapter summarizes the problems faced by hospitals when measuring the costs of healthcare treatments, explaining how an Activity-Based Costing (ABC) framework can be successfully adopted in healthcare settings. After describing the theoretical foundations of cost control and cost management, the chapter continues with the analysis of three real-life applications of ABC in a hospital, drawn from the process analysis and activity-based costing experience developed at the Azienda Ospedaliero-Universitaria (AOU – University Hospital) “Ospedali Riuniti” (Joint Hospitals) of Trieste, Italy. In particular, the cases are about cost measurement in cardiology, odontostomatology, and radiology, and describe the technical solutions applied for computing the costs of selected therapeutic and diagnostic treatments. A particular emphasis is placed on how these measures have been subsequently used by hospital managers and medical personnel in order to gain insights and to improve the efficiency of the processes developed within the organization.

DOI: 10.4018/978-1-4666-6551-4.ch021

INTRODUCTION

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Linking Cost Control to Cost Management in Healthcare Services

Healthcare has experienced significant changes in competition and regulation over the last decades, with an ever prominent role played by market forces in shaping national policy debates regarding funding and cost containment (Cardinaels & Soderstrom, 2013). Considering that in many countries healthcare ranks among the largest economic sectors (Ditzel et al., 2006), it is not surprising that healthcare represents a significant portion of public spending. Moreover, most countries have experienced a rise in the percentage of Gross Domestic Product (GDP) devoted to national health systems over the past few decades (Reinhardt et al., 2004; Perotti, 2006; Pammolli & Salerno, 2006; WHO, 2000, 2010; McKinsey Global Institute, 2008; Armeni & Ferrè, 2013; Scheggi, 2012). In 2011, countries in the Organization of Economic Cooperation and Development (OECD) spent an average of 9.5% of their GDP in healthcare, up from an average total spending of 7.8% in 2000 (OECD Health Statistics, 2013). The reduced growth rates (or, in some cases, even recessions) that several European countries experienced between 2008 and 2013 put a strain on public spending, and forced some governments, where national health services are established, to introduce drastic measures for ensuring financial stability. The compounded effect of aging populations and increases in health care costs prompted many governments to strive for betterments in the efficiency of the management of their national health services, often by means of tightened budget constraints and widespread cost cutting efforts. The gradual introduction, started in the 1980s, of Diagnosis-Related Groups (DRG) for funding healthcare providers is an example of such efforts. Under this mechanism, the payment to the providers (hospitals and physicians) depends on the nature of the patient’s illness, not on the amount of resources used to treat the payment. An increase of resources used to treat the illness, therefore, does not translate in an increase in hospital reimbursement, thus shifting the cost risk from the insurers (private or governmental) to the providers

432

of healthcare (Cardinaels & Soderstrom, 2013). Hospitals have reacted by introducing cost containment measures, including governance models and cost accounting systems designed around corporate examples. However, simply transferring systems and methods from for-profit corporations to providers of healthcare services could lead to erroneous results (Alexander & Weiner, 1998), especially when decisions concerning the appropriateness of different medical treatments are based exclusively on cost information. In order to understand the root causes of the surge in healthcare expenditures, it is useful to consider that, even if in most countries healthcare is not provided a in competitive market context, there is nonetheless a demand for and supply of healthcare services. Healthcare demand, although peculiarly subjective, is mainly driven by supply. In fact, the availability of specific medical treatments often generates its own demand. In turn, supply is influenced mainly by technology (i.e., the ability to treat). Historically, technology has transformed medicine into a discipline in which professionals deal not only with the symptoms, but also with the causes of the disease (Drouin et al., 2008). New therapies, products, and medical services set expectations to a new level, pulling up demand. Supply is influenced by capacity: since health care is free or heavily subsidized for many patients, the mere presence of healthcare facilities affects the rate of their consumption (Drouin et al., 2008; Ehrbeck et al., 2010). Finally, supply is also affected by incentives offered by providers: funding policies set by healthcare regulators and governments can determine under- or overproduction of specific treatments or services. Demand, on the other hand, is relatively insensitive to price (being most users fully or partly subsidized), and it is mainly driven by social norms, wealth (the higher a country’s GDP, the higher the demand for healthcare services), current and expected health. The influence of said variables on the demand and supply of healthcare tends almost invariably to generate an increase in

 Linking Cost Control to Cost Management in Healthcare Services

the availability of healthcare products and services, since the system is apparently unbounded, given the probable evolution of medical technology and healthcare expectations. Although the above factors are indubitably relevant, it is our opinion that one of the drivers which can explain a significant part of the healthcare costs is complexity, and how it is managed. In the last century, the role of medicine and physicians has changed dramatically. Approximately a century ago, before the discovery of penicillin, medics acted like craftsmen in that they could have all the necessary knowledge in their field, and they had the ability to apply it. As a result, autonomy, in sense of independence and self-sufficiency, emerged as one of the principal values of the medical profession. The current situation is completely different: the number of medical treatments and surgical procedures has increased, and so has the number of drugs available. Quoting a TED talk on the subject (Gawande, 2012): There was a study where they looked at how many clinicians it took to take care of you if you came into a hospital, as it changed over time. And in the year 1970, it took just over two full-time equivalents of clinicians. That is to say, it took basically the nursing time and then just a little bit of time for a doctor who more or less checked in on you once a day. By the end of the 20th century, it had become more than 15 clinicians for the same typical hospital patient -- specialists, physical therapists, the nurses. The increased complexity in the medical treatments had as a side-effect the emergence of coordination issues among different specialists, because the processes have become more fragmented, involving a larger number of professionals. Therefore, organizational problems have become increasingly important for healthcare providers, and so have the costs associated with them. However, there is mounting evidence that the most expensive care is not necessarily the best

care: the most effective and often the most efficient healthcare treatments are those developed with a systematic approach. Having components of the highest quality does not assure the best results, and yet in today’s medicine there is a great emphasis on components (the best drugs, the best technologies, the best specialists, etc.). What it lacks is a holistic approach to processes. Therefore, it is not surprising that, given the recent surge in healthcare costs, cost analysis and control in the production of healthcare services has become increasingly important. In our view, one of the most important supports for providers to better organize their activities is the availability of relevant information. Therefore, the data analyzed should be elaborated within a framework that takes into consideration the systemic reality (i.e., the information should be able to reflect the level of complexity, the interconnections, and the constraints of the system). Translating this concept into the measurement and reporting of costs means the cost accounting system should provide information with a level of detail and a depth of analysis consistent with the complexity of the processes being measured. In this sense, Activity Based Techniques (ABT) represents an indubitable improvement over traditional measurement systems in providing valuable information for process management interventions such as Activity Based Management (ABM) and Business Process Reengineering (BPR).

BACKGROUND The traditional view of cost accounting is that services or products consume resources (Baker, 1998, p. 3). Conventional cost systems therefore, assume a direct relationship exists between the level of product or services provided and the amounts of the resources utilized. Traditional performance measures of productivity, such as “labor productivity”, defined according to this view, are therefore flawed. Traditional cost systems

433

 Linking Cost Control to Cost Management in Healthcare Services

led to over-emphasize the distinction between “variable costs” (i.e., costs that are correlated to variation in the output performed) and “fixed costs” (i.e., costs that are not dependent on the level of goods or services produced) (Cooper & Kaplan, 1998, p. 111). In contrast, Activity Based Costing (ABC) theory recognizes that resource usage is intimately linked with the implementation of activities. The causal relation among these “entities” is expressed by a parameter called a “resource driver” which explains the measure of the resource consumption triggered by a definite activity (Cooper & Kaplan, 1988; Bubbio, 1993; Kaplan & Cooper, 1998; Sandison et al., 2003). Products and services, instead, consume activities. An “activity driver” thus defines the consumption of activities caused inside the organization by the delivery of products or services. As we will specify better later, activity drivers may synthetize either volume-related or non-volume-related connections between activities and products. The ABC framework reveals a “double productivity circuit” that must be properly managed to achieve a superior level of efficiency (De Rosa, 2000, p. 17). At one side of the circuit there is what we may call a “resources productivity” which compares outputs in term of activities performed to inputs expressed by the amount of resources consumed. At the other side of the circuit stands the “activities productivity” which matches outputs obtained, articulated in term of products or services delivered, to inputs consumed, measured by the quantity of activity required to produce the outputs (Grisi, 1997, p. 101). Cokins (2001) uses the analogy of an optical lens to show how ABC “serves as a translator of general ledger data to provide more focused information for improved decision support. The lens not only translates the ledger costs into a more useful and flexible format, it also provides more sensory information”. ABC, therefore, is neither a replacement for the general ledger accounting nor for responsibility accounting.

434

Rather, it is a decoder of information provided by these systems in favor of its end users, such as managers and analysts, who apply cost data in decision making. “It translates expenses into a language that people can understand. It translates expense into elements of costs, namely the work activities, which can be more flexibly linked or assigned to business processes or cost objects based on demand-driven consumption patterns, not simplistic cost allocations” (Cokins, 2001, p. 11-12). Figure 1 summarizes the present stage of the cost assignment process at the hospital analyzed by this study, where the ABC still operates within a specific responsibility center (Hospital Departments), providing information to final users expressed in terms of cost of activities performed in that Department. The accuracy of information provided certainly increases when compared to a traditional cost accounting system, but it still lacks the completeness of information encompassing all responsibility centers. The aim of the project launched by the hospital, based on the case studies conducted to date, is to expand the model to its full potential, providing information common to all responsibility centers of the organization, as shown in Figure 2. A major improvement in cost assessment provided by the ABC methodology consists of the proliferation of cost objects. While the organizational departments are necessarily linked to the product or the service they contributed to deliver, activities may be perceived as performed in order to serve numerous “entities”, such as different “customers”, “suppliers”, “channels” or, even, “type of customer order”, “type of freight-haul trip”, etc. Each of these entities may “serve as an intermediate repository to capture the diversity of the type of work output”. By means of this attribution of costs to intermediate cost objects, ABC is able to recognize the role of complexity in determining the level of resource usage. Once activity costs have been preliminary traced to intermediate cost-objects, these costs are further

 Linking Cost Control to Cost Management in Healthcare Services

Figure 1. Current stage of the cost assignment process

retraced to subsequent stages based on appropriate activity drivers. Not recognizing this pattern of input-output relationship among activities would normally produce a significant distortion on the final cost figure computed. In Health Care Organizations, “cost-objects are any patient, product, service, contract, project, or other work unit for which a separate cost measurement is desired” (Baker 1998, p. 5). Another fundamental difference between “activity-based” and “conventional” cost systems is the use of non-unit cost drivers for assigning resource usage to cost object. ABC system assign costs using drivers based on the “quantity” of each activity used. Since the drivers are expected to appropriately synthetize the “root causes” that

induced the activity to be performed, they may occur on several levels: 1. Unit level drivers correlate the increase of the resource consumption with every “unit” of a “cost-object” served. The “cost-object” may be a product or service delivered (e.g., a “specific treatment”) or a customer served (e.g., “a single patient”); nevertheless, it can also be a supplier. 2. Batch level drivers link, instead, the variation of the inputs to activities carried out for every “batch” of “cost-objects”. The costs incurred in performing these activities must, therefore, be assigned to individual batches, provided that they are completely “fixed”, regardless of the number of units in the batch.

435

 Linking Cost Control to Cost Management in Healthcare Services

Figure 2. Desired stage of the cost assignment process

3. In addition to activities and costs that are outlined by “unit” and “batch” drivers, there is a third, higher-level of activities, usually labeled “sustaining activities”. Their occurrence does not vary in accordance with the amount of “batches” or “unit” of the selected cost-object served in a specific period of time. Indeed, the amount of sustaining activities performed “reflect policy or strategy or response to the importance” of the costobject. In short, they are “overhead work activities whose existence can be attributed to suppliers, products, service lines, channels, or customers” (Cokins, 2001). Each of those entities will have its “sustaining” cost object. This led to existence of specific sustaining activity drivers that must be used

436

in order to correctly trace costs incurred in performing these activities to the pertaining “sustaining” cost object. Among these drivers, the following two should be certainly mentioned: a. Product Level Drivers: Which assume the necessity of the inputs to support the production of each different type of product. b. Facility Level Drivers: Which are related to the facility’s manufacturing process. Users of the ABC system will need to identify the activities which generate costs and then match the activities to the level bases used to assign costs to the products.

 Linking Cost Control to Cost Management in Healthcare Services

Figure 3. Framework for cost assignment in healthcare using ABC

Moreover, among the sustaining activities, we should mention the so-called “business sustaining activities” which “do not directly contribute to customer value, responsiveness, and quality. That does not mean those activities can be eliminated or even reduced without doing harm to the business entity. For example, preparing required regulatory reports certainly do not add to the value of any cost object or to the satisfaction of the customer. However, that activity does have value to the organization because it enables it to function in a legal manner” (Cokins, 2001, p. 71) Costs incurred in performing these activities are usually traced to a “sustaining cost object group”. Although these costs may be attributed to the main cost objects in order to determine their full cost, their allocation is always arbitrary. The existence of numerous cost objects and the presence of multiple levels of variability conduce to the identification of intermediate

stages of activities; that is, activity outputs that are inputs to successive work activities. The cost of the resource used at the intermediate level cannot easily be traced directly to final cost objects because it is extremely difficult to perceive the causal relationship linking them. As a result, a multistage cost assignment process emerges in which a significant amount of what may be labeled as “organizational work activity” supports the activities that are in closer proximity to products and customer services. It is, therefore, possible to explicitly detect and measure the variation and diversity of resource consumption due to different products or service lines. By means of the multistage cost assignment process, the cost of these support activities is traced in proper proportions to other activities that require their work. These costs are eventually burdened into the primary activity costs. The ABC approach requires mapping every administrative and clini-

437

 Linking Cost Control to Cost Management in Healthcare Services

cal activity involved in the treatment of specific medical condition (Ostinelli, 1995). The activities identified are the analytical components of a process (i.e., a “net” of activities performed in the accomplishment of a specific aim) that “starts when the patient first presented for treatment and extended through surgery, recovery and discharge” (Baker, 1998). In order to adequately perceive the major interrelations existing among different activities, a process map should consequently be drawn. In hospitals, as in businesses, this requires the involvement in the project of “groups of experts” (i.e., multidisciplinary teams composed of personnel that possess “expertise” in performing each and every step of the process). Significant improvements in the level of efficiency may arise in this step of the work through the removal or the amendment of activities that prove to be redundant, erroneous, or useless and therefore are labeled as “non-value-added”. In fact, ABC is not only a method of costing, it also represents the first step toward Activity Based Management (ABM), a group of techniques for better managing the organization. ABC measures the cost and performance of activities, resources and cost-objects in order to generate more accurate and meaningful information for decision-making. By means of the data and information provided by ABC systems, managers gain a thorough understanding of their processes and cost behavior. This knowledge is easily diffusible within the organization: ABC and ABM describe activities using an “action-verb-adjective-noun” grammar convention that is highly understandable. “Such wording is powerful because managers and employee teams can better relate to these phrases, and the wording implies that the work activities can be favorably affected, changed, improved, or eliminated” (Cokins, 2001). In conclusion, the knowledge provided by the ABC system acts as a strong incentive for reengineering initiatives such as non-continuous improvement projects. It also supports ABM and its quest for continuous improvement by allowing management to gain new

438

insights into activity performance by focusing their attention on the sources of demand for activities. One major enhancement introduced by ABC is the focus placed on capacity costs. Prior to its introduction, in fact, “many organizations had very little insight and understanding about the location and cost of unused and non-productive capacity” (Gupta & Galloway, 2003, p.136). By means of measuring unused capacity, the ABC framework provides the critical link between the cost of resources used and the cost of resources available, as reported in the conventional financial statements. Advocates of ABC therefore developed the following fundamental equation (Kaplan & Cooper, 1998, p.118): Cost of resources supplied = cost of resources used + cost of unused capacity In the three case studies presented in this chapter, this relationship will be employed in order to explain the different components of the cost of treatments. Additionally, we should mention Time-Driven Activity Based Costing (TDABC) as an enhancement of traditional ABC systems. Its proponents advocate that it improves the original methodology by: eliminating the need for time consuming, subjective, interviews and survey process to define resource pools; that it reduces the processing time required to elaborate the data (thus allowing a more detailed mapping of the resource consumption patterns); that it is easier to maintain and update; and that it enables more accurate representations of over/under capacity by expressing it in units of time (Kaplan & Anderson, 2003; Cleland, 2004; Kaplan, 2005; Demeere et al., 2009; Dewi et al., 2009; Dejnega, 2011; Öker et al., 2013). Accurate cost measurement in health care is a difficult task, mainly because of the inherent complexity of healthcare itself (Kaplan & Porter, 2011). In fact, every treatment involves the consumption of many different types of resources – personnel, equipment, space, and supplies – each

 Linking Cost Control to Cost Management in Healthcare Services

with different capabilities and costs. If one follows the care cycle, it appears clear how different resources, pertaining to different responsibility centers, are being activated every time a patient requires a treatment. This mix of clinical and administrative activities, and the variety of medical conditions presented by patients, adds complexity to the process, rendering the calculation of costs particularly difficult (Francesconi, 1993; Waters et al., 2001; Doyle et al., 2002, 2008; Geri & Ronen, 2005; Järvinen 2005; Cinquini et al., 2009; Chea, 2011; Bahadori et al., 2012; Eriksen et al., 2011; Groves et al., 2013; Kaplan et al., 2013; Kuchta & Zabek, 2011; Popesko, 2013). The already complex path of care is further complicated by the highly fragmented way in which health care is delivered today (Kaplan & Porter, 2011). Care is also idiosyncratic; patients with the same condition often take different paths through the system. There is also a lack of standardization due to the fact that medical practices allow for considerable discretion – physicians in the same organizational unit performing the same medical process often use different procedures, drugs, devices, tests, and equipment. In operational terms, healthcare could be described as a highly customized job shop (Kaplan & Porter, 2011).

AN ANALYSIS OF THREE CASE STUDIES IN HEALTHCARE COST ACCOUNTING The three case studies that follow summarize the results of a research effort aimed to improve the theoretical and operational framework of the process analysis and activity-based costing (ABC) at the Azienda Ospedaliero-Universitaria (AOU – University Hospital) “Ospedali Riuniti” (Joint Hospitals) of Trieste, Italy. The AOU arises from the integration between the pre-existent hospitals of Trieste and the Faculty of Medicine and Surgery of the University of Trieste.

The aim of the project undertaken was to gradually enhance the AOU cost system, providing it with some ABC features that are currently still lacking. As a matter of fact, the hospital’s cost system is still based on the traditional paradigm of organizational structure and control which is based upon responsibility centers. While this logic might still be considered useful for budgetary control reasons, it is not certainly helpful in determining the accurate costs of specific healing treatments provided by the hospital, especially when these treatments differ in complexity and intensity of resource usage. Indeed, the cost data gathered within the current AOU cost system lack the granularity required in order to correctly “trace” the resource consumption to definite activities or processes performed. It is, consequently, very challenging to compute the realistic cost of a detailed cost object. All the case studies where developed by multidisciplinary teams in which there was a jointly contribution of competences pertaining to different scientific areas (medicine and accounting).

Case Study 1: Cost Measurement in Hemodynamics This case study describes the project undertaken in 2012 at the Cardiovascular Department of the AOU (Azienda Ospedaliera Universitaria – University Hospital) of Trieste, Italy, and more exactly in the Cardiology Unit, in order to measure the costs of two specific procedures. G. Sinagra, Head of the Cardiovascular Department at the University Hospital of Trieste, significantly contributed to the development of this case study, along with A. Salvi, A. Perkan, and L. Massa. The authors are also thankful to C. Ciccarelli, who developed a thesis on this topic under the supervision of G. Sinagra, A. Rebelli, and G. Grisi, and to the entire staff of the Cardiology Unit. The organizational structure of the unit presented a high level of complexity, and the relevant data were stored in a multitude of databases. For

439

 Linking Cost Control to Cost Management in Healthcare Services

Figure 4. Organizational chart of the cardiovascular department

these reasons, the analysis focused preliminarily on the macroscopic aspects of the organization, limiting the microanalysis to just two specific diagnostic and therapeutic processes. The two investigated processes, however, played a relevant role in the activities performed within the organizational unit. As a preliminary result, the following organizational chart was developed to illustrate the structure of the Cardiovascular Department: The conventional cost system, already adopted by the hospital and although structured by responsibility centers, does not possess the required level of analysis necessary to reflect the organizational complexity shown in the above chart. For example, the Cardiovascular Department has nine different clinics (each requiring a specific cost pool), while the hospital cost system has only one cost center for all the clinics included in the Department. Therefore, it was necessary to implement a specific phase for the definition of the analytical cost pools and the measurement of the resources they used. The assigned resources were grouped by their nature as follows:

440

1. Labor Costs: Fixed costs traced to the specific cost pools using a driver based on personnel shifts. 2. Cost of Equipment Utilization: Fixed costs that correspond to yearly depreciation charges. 3. Consumables: Variable costs that, at least for medical supplies (the most relevant items in terms of value) are specific to the single treatments performed. The term “specific” in this context is used to identify the cost of a resource that is used exclusively for a specific treatment, or within a specific center, etc. 4. Intermediate Care and Medical Services: Variable costs linked to the specific treatments that require them. 5. Administrative and General Overhead: Indirect fixed costs that, not being accurately traceable, have been attributed to the cost pools using a traditional allocation basis. Once computed the amount of resources used within each cost pool, the project shifted its focus to the cost of single treatments. As already stated, the project aimed to measure the cost of only few medical treatments, due to the high level of

 Linking Cost Control to Cost Management in Healthcare Services

Figure 5. Process flow of elective treatments

technical complexity encountered (number and variability of treatments performed by the organizational units), and the time and cost constrains of the studies. More specifically, the attention of the research team shifted to the Clinic of Hemodynamics which deals with diseases related to the blood circulation. This clinic performs about 1,800 treatments per year, highly differentiated by nature and complexity, classified in the following three categories, in order of growing immediateness of action required: electives, urgencies, and emergencies. The study focused on the measurement of costs attributable to the activities performed within the Cardiology Unit. In particular, the analysis concerned three specific treatments: coronarography, percutaneous transluminal coronary angioplasty (PTCA) and coronarography followed by PTCA which correspond to different DRG (DiagnosisRelated Group). The following step consisted in defining the flow of the activities performed within the organizational units analysed, in order to determine the cost of the objects identified. At the present stage, the analysis of the activities was confined to those performed in the chosen units, whereas, in more advanced stages of the project, it would be advisable to extend the analysis to interactions arising among different Departments.

Figure 5 illustrates the main activities that compose the therapeutic and diagnostic processes in case of to the elective (i.e., scheduled) treatments: As shown in Figure 5, the process for elective cases starts with patient check-in and pre-hospitalization tests. Then, pre-treatment hospitalization, medical treatment (diagnostic and/or therapeutic), and treatment hospitalization follow. After discharge, the protocols usually require a set of post-dismissal controls. The above chart illustrates the standard procedure in the Clinic; in reality, the processes may show considerable deviation from the norm, depending on the results of the procedures performed, or on the specific conditions of the patients. The process flow changes dramatically in cases of emergencies, when the entire procedure is started by emergency room or ambulance personnel. The analysis performed by the research team involved the entire personnel belonging to the Clinic, and identified different types of procedures, differentiating among elective, urgency, and emergency treatments. Table 1 summarizes the volume of single treatments analyzed, grouped by category. The cost attribution process that was developed within the Clinic of Hemodynamics for the three medical treatments previously mentioned (coronarography, PTCA, coronarography+ PTCA) is shown in Figure 6.

441

 Linking Cost Control to Cost Management in Healthcare Services

Table 1. Volume of treatments analyzed Number of Treatments Analyzed

Average Time (Minutes)

Coronarography

938

88.0

Angioplasty without coronarography

40

96.7

Coronarography followed by angioplasty

554

120.8

Other treatments performed

254

141.6

Total number of treatments performed

1,786

106.0

The first step in the four-stage cost allocation process developed by the research team required the determination of costs specifically attributable to the three cost objects (i.e., the processes corresponding to the three single treatments analysed). Direct costs consist of drugs, medical and general materials, linens, laboratory analyses and other diagnostic treatments provided by other departments. The precision of these measurements is assured by the availability of accurate record keeping activities performed by the personnel and gathered in specific databases used within the unit. Where necessary, missing data were

collected (measuring the standard usage ratio of each resource consumed) and summarized in an appropriate bill of material for each treatment. The amount of these costs is approximately €350 for coronarography, €1,225 for PTCA without coronarography, and €1,484 for coronarography followed by PTCA. In step 2, indirect unit and overhead costs were traced to the functional cost pools, according to specific resource drivers. The most important overhead cost was certainly represented by personnel costs, which amounted approximately to €7 million per year, corresponding to 134 full-time

Figure 6. The logic of cost allocation in the cardiovascular department

442

 Linking Cost Control to Cost Management in Healthcare Services

equivalent workers. The resource driver chosen in this case was a duration driver, derived by the analysis of personnel average shifts. Starting from the yearly cost data available from the traditional cost accounting system, it was possible to trace personnel expenses to each functional cost pool using as a driver the time dedicated by the different professional figures (physicians, nurses, physiotherapists, and technicians) to each cost pool. Temporary shifts of personnel among different cost pools were also accurately recorded, in order to obtain precise cost measures. Table 2 illustrates the time and cost data details relevant to this attribution process. It should be noted that data reported in the previous table represent, by themselves, a noteworthy result for the Hospital’s management made possible by the thorough organizational analysis performed by the team. From a cost measurement point of view, the high level of detail of the analysis allowed us to identify the precise mix of activities performed by different professional figures, and, therefore, to compute the accurate cost of resources utilized. The remaining overhead costs consisted of depreciation, maintenance, cleaning, laundry, utilities, garbage disposal, security, EDP, and other indirect costs. Within this class, there are also consumables of indirect usage (medical and non-medical), and intermediate care and medical services not included in the previously mentioned bill of materials. These costs are classified as indirect because of some limits of the current Hospital information system, which does not provide the detailed information needed in order to trace them directly. The amount of this various resources usage had been attributed to the functional cost pools using the same traditional allocation basis employed by the Hospital cost system to assign these costs to the responsibility cost units. In step 3, the indirect line costs (e.g., depreciation of medical equipment, depreciation of furniture, and costs used by the different line for multiple procedures) have been determined and charged to

the different lines. The results of the second and third steps are reported in Table 3. The cost of hospitalization (step 4) was attributed to the cost objects by means of a driver represented by the number of days of hospitalization. This choice constituted a deliberate simplification assumed by the project team in order to contain the complexity of the cost measurement process when the project was being initially developed. In fact, to provide more precise cost information, it would be possible to apply resource drivers capable of capturing the different complexity and length of the treatments performed in favour of the hospitalized patient, and, therefore, the intensity of the resource consumption. The management of the Hospital is aware of the measurement error deriving by this choice, and is currently pondering the use of more informative drivers, similar to those described above. Table 4 illustrates the relative importance of resource usage for ordinary hospitalization and for coronary unit hospitalization (intensive care), and provides information about the average cost arising from combining the two classes of cost. It should be emphasized that the use of an average cost measures such as these can lead to cross-subsidization effects among treatments requiring different levels of care. In the final step (4), activity drivers were also applied in order to trace the amounts of resources used within the Hemodynamics cost pool to serve the two cost objects considered. In this case the team decided to use a time driven method. As an example, for medical personnel cost, the activity driver was linked to the standard duration of the treatment, and was so calculated (shown in Box 1). The Department has two surgery rooms devoted to Hemodynamics treatments. Their production capacity was determined as the sum of the hours of programmed activities (seven hours per day, five days a week – holidays excluded) and the hours necessary for facing emergencies). The second addendum was assessed considering the number of hours in which the four specialized cardiologists working for the Department are

443

444

72

110

Holter amb.

Pacemaker amb.

972

7

Ergometry amb.

Total

48

Electrocardiography amb.

261

48

Divisional amb.

Secretary

61

Cardiomyopathy amb.

218

49

Cardiac dysrhythmia amb.

Ecocardiography

146

Electrophysiology lab.

67

375

Hemodynamics lab.

292

1,022

Hospitalization unit

Rehabilitation amb.

1,037

Coronary Unit

Heart failure amb.

Hours

Activity lines

100.0

6.8

5.7

7.7

1.8

2.9

1.9

0.2

1.3

1.3

1.6

1.3

3.8

9.8

26.8

27.2

Weight (%)

Total

1,691,278

112,298

424,141

448,542

127,595

224,679

80,265

16,252

87,653

87,653

104,876

89,621

250,979

977,522

2,036,893

2,198,719

Costs (€)

224

74

40

19

38

0

3

12

12

13

13

38

114

213

183

Hours

100.0

9.6

5.2

2.5

4.9

0.0

0.4

1.6

1.6

1.6

1.6

4.9

14.8

27.6

23.7

Weight (%)

Physicians

Table 2. Time and cost data of the different activity lines

801,385

264,755

143,111

67,978

135,955

572

11,914

43,291

43,291

45,259

45,259

135,955

425,618

762,065

653,301

Costs (€)

604

72

216

48

72

36

4

36

36

48

36

36

225

773

818

Hours

100.0

2.9

8.8

2.0

2.9

1.5

0.1

1.5

1.5

2.0

1.5

1.5

9.1

31.5

33.3

Weight (%)

Nurses

744,641

88,724

266,172

59,618

88,724

44,362

4,338

44,362

44,362

59,618

44,362

44,362

516,573

1,235,569

1,506,159

Costs (€)

36

36

36

36

100.0

33.3

33.3

33.3

Weight (%)

39,259

39,259

39,259

39,259

Costs (€)

Physiotherapists Hours

Profile

108

261

72

36

72

36

Hours

22.6

54.7

15.1

7.5

15.1

7.5

Weight (%)

105,992

112,298

70,662

35,331

70,662

35,331

Costs (€)

Administratives and Technicians

 Linking Cost Control to Cost Management in Healthcare Services

 Linking Cost Control to Cost Management in Healthcare Services

Table 3. Indirect costs charged to the different units

Cost Voices Physicians and nurses

Cardiology Unit Costs (€)

Macro-Activity Line Costs (€) Hospit. Unit

Coronary Unit

Hemodynamics Laboratory

Other Lines

7,155,392

2,036,893

2,198,719

977,522

1,942,257

Other personnel

112,298

32,312

32,777

11,847

35,362

Materials

61,547

36,114

25,433

Chemical tests, radiological tests

942,529

553,043

389,486

Instruments, furniture

743,515

50,163

133,358

402,031

157,964

Inpatient meals

202,722

152,216

50,506

Laundry services and related supplies

371,013

84,140

72,819

19,747

194,307

Cleaning services

248,772

58,991

82,298

26,788

80,695

Overhead costs

1,965,896

605,962

567,085

167,648

625,202

Total

11,803,684

3,609,834

3,552,481

1,605,582

3,035,787

normally required to be available for emergencies. The organizational analysis, developed by the research team in order to assess the impact of the personnel shifts on the level of production,

has revealed the high level of efficiency achieved in the management of the resources. As a matter of fact, the existence of unused capacity is fully justified by the necessity to grant the immediate-

Table 4. Comparison of costs of ordinary hospitalization and intensive care (Coronary unit) Cost Voices Physicians and nurses Other personnel

Hospit. Unit

Coronary Unit

Total (€)

2,036,893

2,198,719

4,235,613

32,312

32,777

65,089

Materials

36,114

25,433

61,547

Chemical tests, radiological tests

553,043

389,486

942,529

Instruments, furniture

50,163

133,358

183,520

Inpatient meals

152,216

50,506

202,722

Laundry services and related supplies

84,140

72,819

156,959

Cleaning services

58,991

82,298

141,289

Overhead costs

605,962

567,085

1,173,046

3,609,834

3,552,481

7,162,315

10,235

2,196

12,431

Total costs Total days of confinement Total Day Hospital accesses Total Cost per day

883

883

11,118

2,196

13,314

325

1,618

538

445

 Linking Cost Control to Cost Management in Healthcare Services

Box 1.­

Cost of personnel ×

Avg. total time needed for the treatment Total surgery room hours available

ness of treatment to emergency cases (15% of the annual number of treatments), and by the relevant number of urgency cures performed by the unit (44% of the annual cases), for which, of course, no planning is possible. The high incidence of urgency and emergency treatments can be explained by the “hub” role played by the Hospital within its surrounding reference area (provinces of Trieste and Gorizia, with a total population of 376,500 inhabitants). It is worthwhile to observe that the above described production capacity was measured in terms of theoretical capacity, whereas ABC authors normally suggest the use of practical capacity (Cooper & Kaplan, 1998, p. 112; Kaplan & Anderson, 2007, p. 52-54), such as the maximum level at which an organization can operate efficiently, net of unavoidable operating interruptions, such as repair time or waiting time. This choice was made for streamlining the cost measurement process, and was also applied to the two following case studies. In addition to cost of personnel, the above reported activity driver was deemed suitable to trace most of other cost items, including equipment, laundry services, secretarial costs, utilities, management of human resources, cleaning services, waste disposal services, heating and conditioning, security, legal services, IT services, etc. For some of these costs, the driver adopted does not fully reflect the cause and effect relationship between the usage of the resource and the service provided. However, the measurement error thus introduced has been considered not relevant, while the benefits arising from streamlining the cost measurement process have been reputed significant. A second class of drivers, based on the amount of the supplies or drugs used, was instead applied,

446

respectively, to administrative and purchase costs, and to hospital pharmacy costs. In line with the methodology initially proposed by Cooper and Kaplan (1992, p.3), according to whom the cost measurement system must be designed in order to respect the following equation: Activity availability = Activity usage + Unused capacity The cost model designed by the team separates the costs of unused capacity referring to the Hemodynamics clinic from the total of the costs attributable to the treatments. The costs of unused capacity, that, in this context, can be aptly described as the costs caused by “readiness to perform”, have been estimated as 23% of total costs. As previously mentioned, this amount can be considered moderate, due to the degree of optimization achieved in the use of human resources. Table 5 reports the non-specific costs (total and per unit), resulting from the cost measurement process developed in the Cardiology department, when applied to the cost objects selected for this study. As shown in the above table, after separating the cost of unused capacity from the cost of the activities performed, the management of the Hospital decided to attribute this cost to the single treatments to compute their full cost. This choice arises from considering this portion of capacity not as an inefficiency, but rather as a constraint imposed by the peculiarities of healthcare services performed by governmental entities which need to be ready to properly face urgencies and emergencies. This requirement, from an economic point of view, is reflected in an increase of the average cost for the average intensity (elective, urgent, and

 Linking Cost Control to Cost Management in Healthcare Services

Table 5. Total and per-unit indirect costs of the different treatments Hemodynamics Laboratory Costs (€) Cost Voices

Total

Coronarography

PTCA

Coronarography Followed by PTCA

Other

Total

Unit

Total

Unit

Total

Unit

Total

Physicians and nurses

977,522

328,804

351

15,408

385

266,581

481

143,268

Other personnel

11,847

3,985

4

187

5

3,231

6

1,736

Instruments, furniture

402,031

135,229

144

6,337

158

109,638

198

58,923

Cleaning services

26,788

9,011

10

422

11

7,305

13

3,926

Laundry and related supplied products

19,747

6,642

7

311

8

5,385

10

2,894

Overhead costs Total Procedure weight

167,648

47,695

51

2,997

3

50,019

53

29,137

1,605,582

531,366

566

25,661

570

442,159

761

239,885

1.00

0.44

0.02

0.35

366,512

0.19

Unused capacity cost

159,816

170

7,489

187

129,572

234

69,635

Indirect costs

691,181

737

33,150

757

571,731

995

309,520

emergent) with which the treatments are provided. The intensity of the treatment, therefore, drives the intensity of resource usage. However, it should be noted the cost of unused capacity has been allocated to the treatments on the basis of their volume, thus employing a transaction driver, not a duration or intensity driver. The final results of the cost measurement process are summarized in the following tables. Column number 3 of Table 6 reports the amounts of specific costs determined in step 1 of the process, while column 4 summarizes the combined

Unused Capacity

results of steps 2, 3 and 4. The total cost of each procedure is therefore determined by the sum of its direct and indirect costs. Table 7 instead summarizes the average cost for hospitalization. Considering jointly the data provided by Tables 6 and 7, it is possible to determine the standard cost of various kinds of treatments performed arising from the combination of the variables considered (type of treatment, and length and type of hospitalization). This leads to different cost levels for each type of treatment, depending on the length and on the kind of hospitalization required. It is

Table 6. Unitary costs of the diagnostic and therapeutic treatments studied Number of Procedures (1)

Average Duration (Minutes) (2)

Single Procedure Direct Cost (3)s

Single Procedure Indirect Costs (4)

Total Single Procedure Costs (5)

Coronarography

938

88.0

350

737

1,087

PTCA

40

96.7

1,225

757

1,982

554

120.8

1,484

995

2,479

1,532

100.1

€783

€831

€1,614

Coronarography + PTCA Total/average

447

 Linking Cost Control to Cost Management in Healthcare Services

Table 7. Average unitary cost for hospitalization

Cost of one day of hospitalization (€)

also possible to calculate average cost figures for recurring classes of treatments. For example, in the case of coronoragraphy followed by angioplasty, out of 544 observed instances, 494 were treated exclusively within the Cardiology department; therefore the cost of hospitalization reported in Table 4 is appropriate. The average hospitalization length for this treatment was 6.3 days, of which 1.5 in intensive care, leading to a total cost for the treatment as summarized in the Table 8.

Case Study 2: Cost Measurement in Odontostomatology The second case study is about the Dentistry and Stomatology Clinic within the Department of Specialist Surgery of the AOU (Azienda Ospedaliera Universitaria – University Hospital) of Trieste, Italy. R. Di Lenarda, Chair of the Department of Medical, Surgical and Health Sciences at the University of Trieste and Head of the Dentistry and Stomatology Clinic at the AOU (University Hospital) of Trieste, significantly contributed to the development of this case study. The authors are also thankful to A. Avanzini, who developed a master thesis on this topic (under the supervision of R. Di Lenarda, A. Rebelli, and G. Grisi) and

Hospitalization Unit

Coronary UNIT

Average

325

1.618

538

to the entire staff of the Dentistry and Stomatology Unit. The Clinic, which hosts a graduate program in Odontostomatology Surgery, has adopted an organizational model where teaching, research, and assistance to patients coexist. In this unit, in fact, the three activities produce tangible synergic benefits, as it will be explained in the course of this paragraph. The involvement of medical students in the activities of the clinic allows them to hone their skills, thanks to a learning by doing process, while simultaneously increasing the efficiency level of the treatments provided by the clinic. As a matter of fact, their presence allows the clinic to reach significant volumes of treatments, without a corresponding increase in personnel costs. Obviously, this model requires the constant presence of tutors who supervise the activities performed by the medical students, within the boundary of their privileges, thus enabling the transfer of knowledge and competencies through field training. This case study outlines, on one hand, the process developed in order to compute the actual cost of the treatments performed within the clinic, and, on the other hand, the “what if” analysis done in order to appraise the “cost savings” granted by the organizational model above described. All the data collected refer to 2011.

Table 8. Total cost of a selected treatment, including hospitalization Coronarography Followed by Angioplasty

Costs (€)

Procedure cost

2,479

Hospitalization unit cost

1,560

Coronary Unit cost

2,427

Total

6,466

448

 Linking Cost Control to Cost Management in Healthcare Services

Figure 7. Primary and auxiliary cost pools identified within the Clinic

Similarly to the previous case study, the project team undertook an in-depth analysis of the organizational structure of the clinic, in order to determine the macro-activities performed within the organization and to define the cost pools necessary to the cost allocation process. Figure 7 illustrates the cost pools identified as a result of this first stage of the research.

The different cost pools, illustrated in Figure 7, mainly collect the costs of resources specifically used to perform the same set of activities. The cost of these resources was traced to the pertaining pools considering the specific usage of equipment and physical space. The same can be said for labor costs that were traced to the pertaining cost pools in accordance to the specific and rigorous schedule of personnel shifts adopted

449

450 5

27

128

1,074

Root smoothing

Other

Total volume

12,209

318

809

Wound irrigation

5

43

8

4,587

1,203

233

49

43

50

2,734

9

0

1,498

125

0

144

Removal of therapeutic devices

192

193

Small suture

1,307

242

920

Prosthetics and gnathology

Extraction

188

Dental radiograph

9,512

33

Endodontics

444

7

Dental restoration

202

Conservative

Dental prosthesis

195

Inpatients clinic

Visit

Cost pool Treatment

3,835

967

4

47

337

340

324

372

113

1,331

Oral Pathology

4,706

1,492

58

220

39

14

424

1,520

939

Pediatric dentistry

Table 9. Volumes and descriptions of selected treatments provided by the different cost pools

11,076

5,393

2,436

626

7

27

7

1,842

8

730

Hygiene and Prevention

21,446

920

18

1,084

1,020

492

1,064

7,157

343

9,348

Emergency Room

14,552

946

19

41

4,385

3,610

4,357

450

48

696

Oral and Periodontal Surgery

74,983

11,947

2,509

2,898

6,215

4,738

6,017

14,479

11,793

14,387

Total

 Linking Cost Control to Cost Management in Healthcare Services

81,893 280,393 372,902 169,436 192,144 253,514 428,617 183,861 3,629,409 Costs after allocation

580,988

4,918 50,720 66,637 17,562 21,005 6,860 55,908 98,207 343,367 Overhead costs

21,550

0 45,009 59,135 15,584 18,640 6,087 49,614 0 213,193 Check-in

19,124

3,317

0 0

33,113 60,488 9,771

0

11,509 3,556

96,568 0

40,408

0 96,568 Dental Laboratory

0

36,605 214,202 Sterilization

15,434

73,658 151,551 186,642 126,519 140,990 140,443 282,687 127,753 446,176 2,762,079 Costs before allocation

Endodontics Prosthetics and Gnathology Conservative Pediatric Dentistry Emergency Room

Total costs (€)

Table 10. Allocation of the auxiliary cost centers to the primary cost centers

Primary Cost Centers

Oral Pathology

Oral and Periodontal Surgery

Hygiene and Prevention

Inpatients Clinic

 Linking Cost Control to Cost Management in Healthcare Services

by the unit. In ABC terms, the parameters used to trace the resource costs to the cost pools are called resource drivers. Auxiliary clinic costs and overhead were attributed to the cost pool using traditional allocation bases. Some cost pools (Hospitalization and Surgery room) aggregate cost of resources devoted to serve inpatients. The volume of the output performed by these resources, however, is negligible when compared to the main area of activities, constituted by ambulatory care. In fact, due to the importance of the latter, the relative cost pool is detailed in more analytical, second-level, cost pools, corresponding to sets of activities grouped according to similarity in therapeutic characteristics and use of specific resources. Given the prevalence of ambulatory care, the case study focused on the costs of outpatient treatments. In order to compute their costs, however, it was necessary to determine the costs of ancillary services (Check-in, Dental Laboratory, and Sterilization), which were consequently aggregated in specific cost pools. These costs were eventually allocated to the primary cost pools. The cost pool called “Overhead cost” is a mere aggregate of indirect costs that could not be correctly attributed to other cost pools, and it was mainly created for practical reasons. Table 9 illustrates the relations existing among the cost pools and the volume of selected treatments (described as activities in the ABC terminology) performed by the resources that belong to the cost pools, highlighting how the same treatment can be performed using resources pertaining to different cost pools. The measurement of the costs specifically attributable to each treatment (mainly constituted by materials and medicines) was a difficult, yet essential, stage of the research process. The complexity of this endeavor was mainly due to the lack of detailed databases in the hospital information system. As a matter of fact, the only information available was the total amount of materials and drugs consumed in the reporting period, divided in five main categories. A Bill of Material (BOM)

451

 Linking Cost Control to Cost Management in Healthcare Services

Figure 8. Cost allocation process in the Dentistry and Stomatology Clinic

for each treatment was therefore prepared, thanks to the direct involvement of medical and clinical staff. However, only the most relevant costs were considered in the BOM, while the residual material costs were attributed to the treatments using a volumetric cost allocation basis. As previously mentioned, the cost measurement process developed by the team required, in this case, the preliminary determination of the costs of ancillary services. Three auxiliary cost pools were therefore identified (Dental Laboratory, Sterilization, and Check-in). The amounts

452

so determined were then allocated downward to the principal cost pools. In one instance the entire cost of the auxiliary cost pool (Dental Laboratory) was traced to a single primary cost pool (Dental Prosthetics and Gnathology), because the totality of the outputs of the former was used as inputs by the latter. In all other cases, the costs were traced to the primary cost pools by means of traditional, yet appropriate, drivers. The organizational structure of this Clinic is characterized by the presence of a check-in service internal to the unit, whereas other hospital departments generally rely on a

 Linking Cost Control to Cost Management in Healthcare Services

centralized check-in system. Consequently, the cost of the treatments determined in this case, unlike the costs calculated for the Hemodynamics clinic, also includes the cost of the resources used to perform this activity. Table 10 shows the results of the allocation of the costs of the auxiliary centers to the primary centers. Once the full amount of costs pertaining to the primary cost pools was determined, these costs were traced to the single treatments using activity drivers differentiated between personnel cost and other fixed costs. An intensity driver (time needed for performing each single treatment) was chosen in order to trace the personnel costs (previously attributed to the cost pools) to each treatment. The reason for employing an intensity driver lay in wanting to place the right emphasis on the different costs deriving from the use of personnel with different skills and wages. As a matter of fact, the intensity driver chosen was determined by combining data regarding the time needed to perform a task by different categories of personnel and their hourly cost. The other costs were mainly attributed using duration drivers. Quantifying the time needed for the different treatments was another complex task faced by the project team, since such measurements had never been attempted before in the organization. Moreover, in order to determine the intensity driver needed to trace the personnel costs, the average time for performing a treatment was measured for each category of personnel involved (physicians, nurses, medical students, etc.). For this purpose, each treatment was divided into three different phases: 1) preparation of the patient and of the necessary devices; 2) treatment; 3) cleaning and reset of the dental unit. Physicians are rarely involved in the first stage, and never in the third. The methodology adopted does not allow for the separation of the cost of unused capacity that is, therefore, attributed to the treatments. The cost allocation process is summarized in Figure 8. As shown in Figure 8, the various primary activity cost pools may perform the same treat-

ments; therefore, their cost may vary depending on where it is performed. For this reason, the project team deemed necessary to calculate the average cost of each treatment. When designing this cost measurement model, it was decided to take into account only the actual costs incurred by the hospital. The cost of medical students, who do not receive a salary from the hospital, therefore, does not affect the cost calculation process described above. This choice was consciously taken by the project team, in order to fully appreciate the cost containment effects generated by this particular form of organization. As an example of the data produced by the cost measurement implemented, Table 11 shows the cost of selected treatments performed using the resources pertaining to a specific cost pool (Oral and Periodontal Surgery). In the subsequent phase of the project, the research team developed a simulation aimed to quantify the cost containment effects generated thanks to the involvement of medical students in the processes analyzed. In the previous phase of the process, costs were calculated employing what could be described as a “top-down” approach. In fact, the starting point for the calculations was represented by the total costs incurred by the hospital for the physicians employed in the Dentistry and Stomatology Clinic, which was then traced to the different cost pools, as shown in Table 12. The simulation employed a “bottom-up” approach, attempting to estimate the total cost of the physicians necessary to perform the same set of activities offered by the Clinic, starting from the standard costs of the treatments. The first step consisted in determining the per-minute cost of medical staff. The yearly average cost of physicians was, therefore, divided by the number of average minutes worked, resulting in a per-minute cost of physicians of approximately €1. On the basis of the standard time of each treatment (measured in the first phase of the project), the research team then calculated the total minutes necessary to perform the various treatments offered within the Clinic.

453

 Linking Cost Control to Cost Management in Healthcare Services

Table 11. Total and per-unit costs of selected treatments performed by the Oral and Periodontal Surgery cost pool Qty Treatment

Cost (€) Total

Per Unit

Small suture

4,357

96,498.96

22.15

Removal of therapeutic device

3,610

56,066.48

15.53

Extraction of permanent tooth

2,330

77,789.96

33.39

Extraction of residual root

1,698

61,433.77

36.18

Short visit

444

8,805.39

19.83

Removal of dental prosthesis

389

7,014.84

18.03

Surgical tooth extraction

350

19,251.69

55.00

Gingivectomy

295

20,560.68

69.70

Intraoral radiograph

273

4,165.44

15.26

Specialist visit

252

6,376.66

25.30

Ortopantomograph

177

2,787.71

15.75

Dental scaling and root planing

49

1,677.25

34.23

Other wound irrigation

41

738.32

18.01

Treatment of stomatitis

30

893.07

29.77

Dental restoration through filling – up to 2 layers

23

1,074.98

46.74

Pre-prosthetic surgery

22

598.34

27.20

Dental restoration through filling – more than 2 layers

21

1,040.17

49.53

Removal of oral lesion

20

712.88

35.64

Root smoothing

19

674.14

35.48

Oral swab

16

253.11

15.82

Oral biopsy

16

525.32

32.83

Removal of internal fixator

13

501.62

38.59

Other dental repair (selective polishing)

13

428.72

32.98

Removal of gingival tissue

9

224.82

24.98

Gingival biopsy

9

295.49

32.83

Gingivoplasty

8

217.27

27.16

Crown reapplication

8

155.23

19.40

Extraction of deciduous tooth

7

200.54

28.65

Osteoplasty

7

311.75

44.54

Apicoectomy

6

269.42

44.90

Removal of mandibular dental lesion

5

305.80

61.16

Splinting

5

236.02

47.20

Tooth polishing

4

85.09

21.27

Temporary filling

4

73.92

18.48

This approach allowed for the attachment of a value

454

to the activities performed by medical students as

 Linking Cost Control to Cost Management in Healthcare Services

Table 12. Simulated “bottom up” approach in the calculation of physician costs in the Dentistry and Stomatology Clinic Cost Pool

Actual Costs (“Top Down” Approach) (€)

Number of Physicians Necessary on the Basis of the Volume of Output

Annual Average Cost of a Physician (€)

Simulated Costs Based on Output (“Bottom Up” Approach) (€)

Emergency Room

91,785.51

2.93

84,005

245,879.92

Pediatric dentistry

36,714.21

0.93

84,005

78,227.59

Conservative

45,892.76

3.87

84,005

324,982.31

Prosthetics and gnathology

59,856.04

0.64

84,005

54,097.05

Endodontics

45,892.76

1.34

84,005

112,852.77

Oral Pathology

45,892.76

0.82

84,005

68,899.35

Oral and Periodontal Surgery

64,249.86

2.87

84,005

241,207.88

Hygiene and Prevention

45,892.76

4.59

84,005

385,803.49

Inpatients clinic

18,357.10

0.21

84,005

17,390.07

Total

454,533.74

18.21

84,005

1,529,340.41

if they were physicians employed by the hospital. The results of the simulation are reported in Table 12, and show a considerable difference in financial resources needed, in this hypothesis, in order to offer the same set and volume of treatments. The above described simulation, although based on extremely simplified assumptions, still offers valuable contributions to a better understanding of the economic benefits arising from this peculiar method of organizing the delivery process of the treatments.

Case Study 3: Cost Analysis of Computed Tomography The third case study, building on previous experiences of cost measurement in radiology (Stacul et al., 2006; 2009), was developed within the Radiology department of the University Hospital of Trieste, which offers specialist radiological treatments grouped in the following areas: interventional radiology, echography, nuclear magnetic resonance, and computed tomography. M.A. Cova, Chair of the Radiology Department at the AOU (University Hospital) of Trieste significantly

contributed to the development of this case study, along with R. Cuttin, F. De Grassi. The authors are also thankful to V. Tolot, who developed a master thesis on this topic (under the supervision of M.A. Cova, A. Rebelli, and G. Grisi) and to the entire staff of the Radiology department. A specific cost pool was designed for each of the specialties previously listed. The project, however, primarily focused on the analysis of the cost drivers relevant for the computed tomography (CT) treatments. In fact, the department recently invested in new CT equipment, thus expanding the set of diagnostic treatments offered and the volume of activities performed. All the data collected in this study refer to 2012. A particular emphasis was placed on time as the main determinant of the costs for CT, because the treatment is also performed under conditions of urgency. Given the high volume of treatments performed under those circumstances, it was not possible to staff the equipment using on-call personnel. Instead, it was necessary to have on-duty personnel available on site, in order to face emergency and urgency situations. This differentiates the organization of the Radiology

455

 Linking Cost Control to Cost Management in Healthcare Services

Table 13. Schedule of usage of CT equipment CT Section 1 Time slot

Mon

Tue

Wed

Thu

Fri

Sat

Sun

Holidays

7:20am-2pm

Elective

Elective

Elective

Elective

Elective

Urgent

Urgent

Urgent

2pm-8pm

Urgent

Urgent

Elective

Urgent

Urgent

Urgent

Urgent

Urgent

8pm 7:20am

Urgent

Urgent

Urgent

Urgent

Urgent

Urgent

Urgent

Urgent

CT Section 2 Mon

Tue

Wed

Thu

Fri

Sat

Sun

Holidays

7:20am-2pm

Time slot

Elective

Elective

Elective

Elective

Elective

---

---

---

2pm-8pm

Elective

Elective

Urgent

Elective

Elective

---

---

---

---

---

---

---

---

---

---

---

8pm 7:20am

department from the one of the Hemodynamic clinic, leading to a greater difference in costs between elective and urgency CT treatments, compared to the same difference calculated for the hemodynamics treatments. The methodology applied was developed along the following phases: 1. Organizational analysis aimed to identify: a. Different sets of resources devoted to perform the same type of specialist treatments (cost pools); b. Clusters of treatments, differentiated by type and conditions of performance (elective/urgency). 2. Definition of costs specific to each cluster (mainly consumable material costs). 3. Designation of appropriate resource drivers and other cost allocation bases needed in order to trace or allocate the overhead costs to the previously identified cost pools. 4. Definition of the proper activity drivers necessary for tracing the cost aggregated in the previous step to the different treatments. The hospital cost accounting system aggregates all the financial information regarding the Radiology department in one single cost center,

456

although the department is divided into two different subunits. Moreover, the level of analysis of data provided by the cost accounting system is not adequate for the aims of the project team. This led to some difficulties in gathering and analyzing all the necessary data, only overcome thanks to interfunctionality of the team. With reference to phase 1b), seven types of CT treatments were initially identified: 1. 2. 3. 4. 5. 6. 7.

CT angiogram, Abdominal CT, Neck CT, Cranial CT, Skeletal muscular CT, Thoracic CT, Urinary tract CT.

All the treatments listed above were differentiated upon the employment of a contrast medium (i.e., a substance used to enhance the contrast of structures or fluids within the body in medical imaging), since its use determines an increase in the time needed to perform the treatments, adding further medical procedures, otherwise unnecessary. Additionally, treatments were differentiated depending on whether the patient was internal or external (most, but not all, external patients

 Linking Cost Control to Cost Management in Healthcare Services

Figure 9. Steps of the cost measurement process for CT treatments

are subject to elective treatments). This led to 28 theoretical clusters of treatments, subsequently reduced to 24 thanks to the elimination of some unlikely combinations (some treatments are only performed using a contrast medium). The clusters so identified represent the final cost objects selected by the research team. As previously mentioned, one relevant factor influencing the amount of costs of the treatments is represented by the use of resources during night and holiday shifts, according to the work organization adopted by the unit, which requires the presence of personnel on-duty during those periods. As it will explained later, this factor influences the amount of available capacity and, therefore, the cost of the treatments performed under urgency regimes. CT scans are performed using two separated sets of resources (CT machines and physical spaces), called “sections” from now on, with a total output of approximately 21,000 treatments

per year. Table 13 shows time schedule for the Table 14. Direct costs of the CT treatments Treatment

CT angiogram Abdominal CT Neck CT Cranial CT

With/Without Contrast Medium

Cost of Direct Materials (€)

With contrast

30,4

Without contrast

0,9

With contrast

29,8

Without contrast

0,9

With contrast

29,4

Without contrast

0,9

With contrast

29,4

Without contrast

0,9

Skeletal muscular CT

With contrast

29,4

Without contrast

0,9

Thoracic CT

With contrast

29,4

Urinary tract CT

Without contrast

0,9

With contrast

29,7

457

458

136,152 100.0% 108 1,880,817 100.0% 1.091 686,129 100.0% 540 2,390,237 604 2.324 Total

100.0%

5,093,335

100.0%

136,152 100.0% 108 1,448,907 77.1% 841 504,334 73.3% 396 1,701,182 430 1.756 Other pools

75.6%

3,790,574

71.2%

0 0.0% 0 431,910 22.9% 250 181,795 26.7% 144 689,056 174 568 CT pool

24.4%

1,302,761

28.8%

Total cost (€) % Avg, weekly hours % % Avg, weekly hours Avg, weekly hours

%

Total cost (€)

%

Total cost (€)

Avg, weekly hours

Nurses Physicians All Personnel

Table 15. Cost of personnel divided by category in Radiology cost pools

Total cost (€)

Avg, weekly hours

Technicians

Total cost (€)

Other Personnel

 Linking Cost Control to Cost Management in Healthcare Services

two groups of resources: As shown in Table 13, the two sections do not always operate at the same time. Section 1 is operational 24 hours a day, 7 days a week, whereas section 2 does not work at nights and on weekends and holidays (although it is sometimes used as a backup facility during downtimes of section 1). Therefore, the total capacity is compounded considering the working hours of the two sections combined, including both personnel and equipment. The greater level of costs caused by urgencies (due to the necessity of having resources available for a longer period of time) and the different rates of utilization of capacity during urgencies (due to the more efficient saturation attainable for elective treatments), make particularly important differentiating the cost of the treatments in reference to this attribute of the activity. In cost accounting literature, attributes are coding schemes associated with each activity that facilitate reporting of activity cost (Kaplan & Cooper, 1998, p. 92). For this reason, determining the per-unit cost of each section was considered less relevant. Moreover, the different equipment used by the two sections, characterized by different levels of efficiency, could lead to different levels of cost per treatment, without any relevance from an economic point of view, since the use of different equipment does not appear to be linked to a deliberate choice. Figure 9 illustrates the steps undertaken for measuring the cost of CT treatments provided by the unit. Figure 9 highlights the following steps: 1. Costs of materials are traced to the treatments (step 1). 2. Indirect and overhead costs are attributed to different cost pools, including the one relevant for our analysis (CT), using resource drivers and appropriate allocation bases (step 2). 3. Costs directly referring to a single cost pool are traced to it (step 3).

 Linking Cost Control to Cost Management in Healthcare Services

Table 16. Final per-unit cost figure, divided by type of CT scan, origin of patient, and timing of the treatment (elective/urgent) Treatment

Origin of Patient

Contrast Medium (CM)

CT Angiogram

External

With CM

Urgent

Elective

Total/Average

Volume

PerUnit Cost (€)

Volume

PerUnit Cost (€)

Volume

PerUnit Cost (€)

4

314

695

162

699

163

567

323

753

166

1,320

233

16

283

904

149

920

151

Without CM Internal

With CM Without CM

Abdominal CT

External

With CM Without CM

Internal Neck CT

External Internal

Cranial CT

External

1

160

127

76

128

76

With CM

972

270

1,335

142

2,307

196

Without CM

245

159

185

75

430

123

4

259

148

138

152

142

Without CM

1

134

1

64

2

99

With CM

19

239

73

128

92

151

Without CM

4

133

8

63

12

86

With CM

7

183

310

103

317

105

With CM

Without CM Internal

Without CM Skeletal muscular CT

External Internal External

113

469

55

475

56

186

508

104

753

131

5,527

113

3,321

54

8,848

91

17

104

17

104

With CM Without CM

2

154

229

73

231

74

With CM

65

290

65

152

130

221

1,320

155

828

73

2,148

123

18

243

459

131

477

135

Without CM Thoracic CT

6 245

With CM

With CM Without CM

Internal Urinary tract CT

External

5

130

128

62

133

64

With CM

278

237

750

127

1,028

157

Without CM

104

129

494

60

598

72

1

385

124

197

125

199

3

377

73

191

76

199

9,414

157

12,004

102

21,418

126

With CM Without CM

Internal

With CM Without CM

Total/Average

4. Costs of the CT cost pool are differentiated between operating hours dedicated to elective treatments and hours needed to face demand of treatments arising from urgencies

(step 4). Naturally, the resource driver used in this step was a duration driver.

459

 Linking Cost Control to Cost Management in Healthcare Services

5. Costs pertaining to each cost pool are traced to the treatments, by means of an activity driver also represented by a duration driver. Table 14 shows the direct costs of the treatments, typically consumable materials. As a result of the activities performed in step 2, Table 15 reports costs of personnel, divided by category, for the CT cost pools and for the other pools combined. Table 16, reports, for all the clusters of treatments considered, the volume of output and the per-unit cost figures obtained as the final outcome of the cost measurement process here described. The ratio between the volume of urgent and elective treatments is 3:4, while the ratio between their respective costs varies from 1.8 to 2.1, depending on the treatment. The same cost ratio, when calculated taking into consideration the average cost for each of the two classes of treatment, decreases to 1.5 due to the greater weight of elective treatments (characterized by a lower perunit cost). The management of the hospital reputes that the ratio of 1.5 represents a valid measure of the different intensity in the consumption of the resources between urgent and elective treatments. The average cost per treatment, calculated ignoring the attribute of urgency, is approximately equal to €126. It is therefore evident the measurement error it conveys, since it underestimates (by €31, or 19.7%) the cost of urgent treatments, and overestimates (by €24, or 23.6%) the cost of elective treatments. The size of the error demonstrates how insidious comparisons may be, when made between structures devoted uniquely to elective treatments and structures that, instead, also need to face urgencies. In particular, comparisons are improper when conducted in terms cost per unit (i.e., on the basis of volumetric terms). Such calculations, in fact, do not allow to adequately consider the greater complexity (and, therefore, the increase in costs) deriving from the delivery of urgent treatments.

460

The differentiation between internal and external patients, instead, did not lead to uniform and significant variances in cost figures. An additional step in the analysis could consist in further detailing the diagnostic treatments, achieving a more precise and accurate measurement of times.

FUTURE RESEARCH DIRECTION The methodology applied in the previous case studies allowed to identify a unitary framework for organizational analysis and cost measurement, developed within the University Hospital of Trieste. This framework is susceptible to be applied to other units of the hospital in order to fully appreciate differences in cost of treatments arising from complexity in the activities performed and different use of available resources. Information so generated should be subsequently employed to develop new forms of organizations capable of reducing the level of process complexity (without affecting the volume and the quality of the care provided), and the amount of unused capacity. In order to improve the performance levels of healthcare processes it is indispensable to transcend departmental boundaries. Cost reductions and performance improvements, in fact, can only be achieved through reconfiguring treatment processes, adopting what Cokins (2001, p. 38) calls “a cross-functional process-based thinking”. The purpose of accounting is to provide decision makers with reliable and relevant information. Its value is therefore maximized if it drives management to change unnecessary routines. Additional research opportunities exist in examining how incentive systems may be configured in order to achieve this goal.

CONCLUSION The application of the ABC framework within the University Hospital of Trieste, in order to

 Linking Cost Control to Cost Management in Healthcare Services

obtain new and relevant information about the costs of selected treatments, has led to highlight the following issues: 1. ABC methodology is particularly useful for appreciating the different levels of complexity at which activities can be performed. Complexity, in fact, is one of the typical characteristics of healthcare services because of the tight interconnection among all the different activities involved in the therapeutic processes, and because of the high technological content of the resources employed. Moreover, processes in healthcare cannot be easily standardized, since the manners of their execution are imposed by the conditions of the patient. The three case studies emphasized the significant differentials in costs arising from contexts characterized by varying degrees of complexity. At the same time, the cases allowed to illustrate the cost measurement methodology employed, underlining how the analysis of a complex system can only be performed by adopting a set of complex parameters. In fact, any organization involved in the delivery of complex activities needs to adopt a complex (and therefore expensive) managerial accounting system. However, the benefits, in terms of relevance of the information generated by the system, almost invariably repay the costs. 2. Some organizations, such as hospitals, banks, and insurance companies, are already used to measurement because they are subject to various forms of control by external authorities, requiring them a constant flow of data. In these contexts, developing an advanced cost accounting system is a relatively simplified process, because: a. Available databases are often already adequate to the task, although integrations and adjustments may be needed, b. The gathering of new data needed to fill the informational gap is usually

facilitated by a habit of attention to measurement. 3. Companies reap the full benefits of ABC systems if they use them as a basis for developing “what-if” analyses. Information generated by ABC systems does not need to be systematic, but it can be produced on an ad hoc basis when the organizational decision making process requires it. The relevance of ABC information is connected to its capability of drawing attention to cost determinants. Therefore, the ABC methodology is a valid support for decision-making, and an excellent cost analysis tool, but it does not necessarily represent the most efficient cost measurement system. As a matter of fact, being based on the analysis of activities, ABC systems are prone to a high rate of obsolescence, and their maintenance costs tend to be steep, because activities evolve over time, especially in complex organizations. Traditional cost accounting systems, on the other hand, tend to be more stable and less expensive, because responsibility centers change less frequently than activities do. Unfortunately, the quality of information they provide is not up to the level of that assured by the implementation of ABC systems.

ACKNOWLEDGMENT This chapter is the result of joint work of the authors. However, M. Bertoni is responsible for the “Introduction”, B. De Rosa for the “Background”, A. Rebelli for the “Future research direction”, G.Grisi for the “Conclusion”. Case study 1 is attributable to B. De Rosa and A. Rebelli; Case study 2 to M. Bertoni and A. Rebelli; and Case study 3 to G. Grisi and A. Rebelli. This research was funded by the University of Trieste under the FRA 2013 program.

461

 Linking Cost Control to Cost Management in Healthcare Services

REFERENCES Alexander, J. A., & Weiner, B. J. (1998). The adoption of the corporate governance model by non-profit oganizations. Nonprofit Management & Leadership, 8(3), 223–242. doi:10.1002/nml.8302 Armeni, P., & Ferré, F. (2013). La spesa sanitaria: Composizione ed evoluzione. In Rapporto OASI 2013: Osservatorio sulle aziende e sul sistema sanitario Italiano. Milano: Egea. Bahadori, M., Babashahy, S., Teymourzadeh, E., & Mostafa Hakimzadeh, S. (2012). Activity based costing in health care center: A case study of Iran. African Journal of Business Management, (6), 2181-2186. Baker, J. J. (1998). Activity-Based Costing and Activity-Based Management for Health Care. Gaithersburg, MD: Aspen Publishers. Bubbio, A. (1993). L’Activity Based Costing per la gestione dei costi di struttura e delle spese generali. Liuc Papers, (4), 1-27.

Cokins, G. (2001). Activity-Based Cost Management, An Executive’s Guide. New York: John Wiley & Sons, Inc. Cooper, R., & Kaplan, R. S. (1988, SeptemberOctober). Measure Costs Right: Make the Right Decisions. Harvard Business Review, 96–103. Cooper, R., & Kaplan, R. S. (1992). ActivityBased Systems: Measuring the Cost of Resource Usage. Accounting Horizons, (September), 1–13. Cooper, R., & Kaplan, R. S. (1998). The Promise – and Peril – of Integrated Cost Systems. Harvard Business Review, (July-August), 109–119. PMID:10181585 De Rosa, B. (2000). Attività aziendali e processi di attribuzione dei costi. Trieste: Edizioni Goliardiche. Dejnega, O. (2011). Method Time Driven Activity Based Costing – Literature Review. Journal of Applied Economic Sciences, (1), 7-15.

Cardinaels, E., & Soderstromm, N. (2013). Managing a Complex World: Accounting and Governance Choices in Hospitals. European Accounting Review, 22(4), 647–684. doi:10.1080/0 9638180.2013.842493

Demeere, N., Stouthuysen, K., & Roodhooft, F. (2009). Time-driven activity-based costing in an outpatient clinic environment: Development, relevance and managerial impact. Health Policy (Amsterdam), 92(2-3), 296–304. doi:10.1016/j. healthpol.2009.05.003 PMID:19505741

Chea, A. C. (2011). Activity-Based Costing System in the Service Sector: A Strategic Approach for Enhancing Managerial Decision Making and Competitiveness. International Journal of Business and Management, (11): 3–10.

Dewi, D. S., di Mascio, R., & van Voorthuysen, E. J. (2012). Application of Time Driven Activity Based Costing to an Industrial Service Provider. In Proceedings of APIEMS. Asian Institute of Technology.

Cinquini, L., Miolo Vitali, P., Pitzalis, A., & Campanale, C. (2009). Process view and cost management of a new surgery technique in hospital. Business Process Management Journal, 15(6), 895–919. doi:10.1108/14637150911003775

Ditzel, E., Strach, P., & Pirozek, P. (2006). An inquiry into good hospital governance: A New Zealand – Czech comparison. Health Research Policy and Systems, 4(2). PMID:16460571

Cleland, K.N., (2004). Limitations of Time-Driven Activity Based Costing, from a Contribution Based Activity™ perspective. In Proceedings of CIMA. CIMA.

462

 Linking Cost Control to Cost Management in Healthcare Services

Doyle, G. A., Duffy, L., & McCahey, M. (2002). An Empirical Study of Adoption/Non-adoption of Activity Based Costing in Hospitals in Ireland. UCD Business Schools Working Paper. Retrieved on January 27, 2014, from: http://www.researchgate.net/publication/228376730_An_Empirical_Study_of_AdoptionNon-adoption_of_Activity_Based_Costing_in_Hospitals_in_Ireland Doyle, G. A., Eden, R., & Maingot, M. (2008). Case Studies of ABC Adoption in Hospitals: A Comparison across Canada and Ireland. In Proceedings of Administrative Sciences Association of Canada. Halifax, Canada: Dalhousie University. Drouin, J. P., Hediger, V., & Henke, N. (2008, September). Health care costs: A market-based view. The McKinsey Quarterly. Ehrbeck, T., Henke, N., & Kibasi, T. (2010). The emerging market in health care innovation. McKinsey & Company. Retrieved on February 3, 2014, from: http://www.mckinsey.com/insights/ health_systems_and_services/the_emerging_ market_in_health_care_innovation Eriksen, S. D., Urrutia, I., & Cunningham, G. M. (2011). Design of an activity based costing system for a public hospital: A case study. Journal of Managerial and Financial Accounting, (1), 1-21. Francesconi, A. (1993). L’Activity - Based Costing nei servizi sanitari: un’analisi critica. Economia & Management, (1), 33-46. Gawande, A. (2012). How do we heal medicine? TED Talks [video file]. Retrieved on December 2, 2013, from: http://www.ted.com/talks/atul_gawande_how_do_we_heal_medicine.html Geri, N., & Ronen, B. (2005). Relevance lost: the rise and fall of activity-based costing. Human System Management, (24), 133-144. Grisi, G. (1997). Introduzione alle misure di efficienza nelle aziende ospedaliere. Trieste: Edizioni Goliardiche.

Groves, P., Kayyali, B., Knott, D., & Van Kuiken, S. (2013). The ‘big data’ revolution in healthcare Accelerating value and innovation. McKinsey & Company. Retrieved on January 7, 2014, from: http://www.mckinsey.com/insights/health_systems/~/media/7764A72F70184C8EA88D80509 2D72D58.ashx Gupta, M., & Galloway, K. (2003). Activitybased costing/management and its implications for operations management. Tecnnovation, (23), 131-138. Järvinen, J. (2005). Rationale For Adopting Activity-Based Costing In Hospitals: Three longitudinal case studies. Oulu, Finland: University of Oulu. Retrieved on November 8, 2013, from: http://herkules.oulu.fi/isbn9514279484/ isbn9514279484.pdf Kaplan, R., & Anderson, S. R. (2004). TimeDriven Activity-Based Costing. Harvard Business Review, (November), 1–8. PMID:15559451 Kaplan, R., Witkowski, M. L., & Hohman, J. A. (2013). Boston Children’s Hospital: Measuring Patient Costs. Harvard Business School Case 112-086. Retrieved on December 12, 2013, from: http://www.hbs.edu/faculty/Pages/item. aspx?num=41595 Kaplan, R. S. (2005). Rethinking Activity-Based Costing. HBS Working Knowledge. Retrieved on November 22, 2013, from: http://hbswk.hbs.edu/ item/4587.html Kaplan, R. S., & Cooper, R. (1998). Cost & effect. Using integrated cost systems to drive profitability and performance. Boston: Harvard Business School Press. Kaplan, R. S., & Porter, M. E. (2011). How to Solve the Cost Crisis In Health Care. Harvard Business Review, 47–64. PMID:21939127

463

 Linking Cost Control to Cost Management in Healthcare Services

Kuchta, D., & Ząbek, S. (2011). Activity-based costing for health care institutions. In Proceedings of 8th International Conference on Enterprise Systems, Accounting and Logistics, (pp. 300-311). Academic Press. McKinsey Global Institute. (2008). Accounting for the cost of US health care: A new look at why Americans spend more. Retrieved on August 9, 2013, from: http://www.mckinsey.com/~/media/ McKinsey/dotcom/Insights%20and%20pubs/ MGI/Research/Health%20Care/Accounting%20 for%20the%20Cost%20of%20US%20Health%20 Care%20-%20Why%20Americans%20spend%20 more/MGI_Accounting_for_cost_of_US_health_ care_full_report.ashx OECD. (2013). Health Statistics. Retrieved on October 4, 2013, from: http://www.oecd.org/ health/health-systems/oecdhealthdata.htm Öker, F., & Özyapici, H. (2013). A New Costing Model in Hospital Management: Time-Driven Activity-Based Costing System. The Health Care Manager, 32(1), 23–36. doi:10.1097/ HCM.0b013e31827ed898 PMID:23364414 Ostinelli, C. (1995). La mappatura e l’analisi dei processi gestionali: al cuore dell’activity based management. Liuc Papers, (22), 1-46. Pammolli, F., & Salerno, N. C. (2011). Le proiezioni della spesa sanitaria SSN. Working paper CERM, 3. Perotti, L. (2006). Analisi e valutazione dei costi delle prestazioni sanitarie. Economia Aziendale Online, (4), 36-71. Popesko, B. (2013). Specifics of the ActivityBased Applications in Hospital Management. International Journal of Collaborative Research on Internal Medicine & Public Health, (3), 179-186.

464

Reinhardt, U. E., Hussey, P. S., & Anderson, G. F. (2004). U.S. Health Care Spending In An International Context. Health Affairs, 23(3), 10–25. doi:10.1377/hlthaff.23.3.10 PMID:15160799 Sandison, D., Hansen, S.C., & Torok, R.G. (2003). Activity-Based Planning and Budgeting: A New Approach from CAM-I. Cost Management, (17), 16-22. Scheggi, M. (2012). Il governo della spesa sanitaria: Rigore ed equità. Retrieved on June 2, 2013, from: http://www.health-management.it/GSS.pdf Stacul, F., Pozzi-Mucelli, F., Lubin, E., Gava, S., Cuttin-Zernich, R., Grisi, G., & Cova, M. A. (2006). MR angiography versus intra-arterial digital subtraction angiography of the lower extremities: Activity-based cost analysis. La Radiologia Medica, 111(1), 73–84. doi:10.1007/ s11547-006-0008-5 PMID:16623307 Stacul, F., Sironi, D., Grisi, G., Belgrano, M. A., Salvi, A., & Cova, M. (2009). 64-Slice CT coronary angiography versus conventional coronaryangiography: Activity-based cost analysis. La Radiologia Medica, 114(2), 239–252. doi:10.1007/s11547009-0376-8 PMID:19266257 Waters, H., Abdallah, H., & Santillán, D. (2001). Application of Activity-Based Costing (ABC) for a Peruvian NGO Healthcare System. The International Journal of Health Planning and Management, (16): 3–18. doi:10.1002/hpm.606 PMID:11326572 World Health Organization. (2000). The World Health Report - Health System: Improving Performance. Retrieved from http://www.who.int/ whr/2000/en/ World Health Organization. (2010). The World Health Report - Health System financing: The path to universal coverage. Retrieved from http:// www.who.int/whr/2010/en/

 Linking Cost Control to Cost Management in Healthcare Services

ADDITIONAL READING Aidermark, L.-G. (2001). The meaning of balanced scorecards in the health care organization. Financial Accountability & Management, 17(1), 23–40. doi:10.1111/1468-0408.00119 Ballou, J. P., & Weisbrod, B. A. (2003). Managerial rewards and the behaviour of for-profit, governmental, and nonprofit organizations: evidence from the hospital industry, Journal of Public Econ-omics, 87(9 – 10), 1895 – 1920. Brickley, J. A., & Van Horn, R. L. (2002). Managerial incentives in nonprofit organizations: Evidence from hospitals. The Journal of Law & Economics, 4(1), 227–249. doi:10.1086/339493 Brooks, J. H., Dor, A., & Wong, H. S. (1997). Hospital-insurer bargaining: An empirical investigation of appendectomy pricing. Journal of Health Economics, 16(4), 417–434. doi:10.1016/ S0167-6296(96)00536-X PMID:10169099 Cardinaels, E., Roodhooft, F., & Van Herck, G. (2004). Drivers of cost system development in hos-pitals: Results of a survey. Health Policy (Amsterdam), 69(2), 239–252. doi:10.1016/j. healthpol.2004.04.009 PMID:15212870

Eldenburg, L., & Kallapur, S. (2000). The effects of changes in cost allocation on the assessment of cost containment regulation in hospitals. Journal of Accounting and Public Policy, 19(1), 97–112. doi:10.1016/S0278-4254(99)00024-1 Eldenburg, L., & Krishnan, R. (2007). Management accounting and control in health care: an economics perspective. In C. S. Chapman, A. G. Hopwood, & M. D. Shields (Eds.), Handbook of Management Accounting Research (Vol. 2, pp. 859–883). Oxford: Elsevier Science. doi:10.1016/ S1751-3243(06)02016-5 Eldenburg, L., & Soderstrom, N. (1996). Accounting system management by hospitals operating in a changing regulatory environment. Accounting Review, 71(1), 23–42. Foster, G., & Swenson, D. W. (1997). Measuring the success of activity-based cost management and its determinants. Journal of Management Accounting Research, 9, 109–142. Harris, J. E. (1977). The internal organization of hospitals. Some economic implications. The Bell Journal of Economics, 8(2), 467–482. doi:10.2307/3003297

Chua, W.-F., & Preston, A. (1994). Worrying about accounting in health care. Accounting, Auditing & Accountability Journal, 7(3), 4–17. doi:10.1108/09513579410064097

Hill, N. T. (2000). Adoptions of costing systems in US hospitals: An event history analysis 1980 –1990. Journal of Accounting and Public Policy, 19(1), 41–71. doi:10.1016/S02784254(99)00013-7

Eden, R., Lay, C., & Maingot, M. (2006). Preliminary findings on ABC-adoption in Canadian hospitals: Reasons for low rates of adoption. The Irish Accounting Review, 13(2), 21–34.

Hsu, S. H., & Qu, S. Q. (2012). Strategic Cost Management and institutional changes in hospitals. European Accounting Review, 21(3), 499–531.

Eldenburg, L., & Kallapur, S. (1997). Changes in hospital service mix and cost allocation in response to changes in Medicare reimbursement schemes. Journal of Accounting and Economics, 2(1), 31–51. doi:10.1016/S0165-4101(96)00447-8

Jacobs, K., Marcon, G., & Witt, D. (2004). Cost and performance information for doctors: An internal comparison. Management Accounting Research, 15(3), 337–354. doi:10.1016/j.mar.2004.03.005

465

 Linking Cost Control to Cost Management in Healthcare Services

Jegers, M. (1996). Budgeting and cost accounting in European intensive care units: A note. Financial Accountability & Management, 12(4), 323–334. doi:10.1111/j.1468-0408.1996.tb00240.x Lehtonen, T. (2007). DRG-based prospective pricing and case-mix accounting – exploring the mechanisms of successful implementation. Management Accounting Research, 18(3), 367–395. doi:10.1016/j.mar.2006.12.002 Lowe, A. (2000). Accounting in health care: Some evidence on the impact of case mix systems. The British Accounting Review, 32(2), 189–211. doi:10.1006/bare.2000.0131 Naranjo-Gil, D., & Hartmann, F. (2007). How CEOs use management information systems for strategy implementation in hospitals. Health Policy (Amsterdam), 81(1), 29–41. doi:10.1016/j. healthpol.2006.05.009 PMID:16781001 Pizzini, M. J. (2006). The relation between costsystem design, managers’ evaluations of the relevance and usefulness of cost data and financial performance: An empirical study of US hospitals. Accounting, Organizations and Society, 31(2), 179–210. doi:10.1016/j.aos.2004.11.001 Scapens, R. W., & Roberts, J. (1993). Accounting and control: A case study of resistance to accounting change. Management Accounting Research, 4(1), 1–32. doi:10.1006/mare.1993.1001 Shields, M. (1995). An empirical analysis of firms’ implementation experiences with activity-based costing. Journal of Management Accounting Research, 7, 148–167. Wu, V. Y. (2009). Management care’s price bargaining with hospitals. Journal of Health Economics, 28(2), 350–360. doi:10.1016/j. jhealeco.2008.11.001 PMID:19108922

466

Zwanziger, J., & Melnick, G. A. (1988). The effects of hospital competition and medicare PPS program on hospital cost behavior in California. Journal of Health Economics, 7(4), 301–320. doi:10.1016/0167-6296(88)90018-5 PMID:10303150

KEY TERMS AND DEFINITIONS Activity-Based Costing (ABC): A costing methodology that identifies activities performed within an organization and use them to assign the cost of resources to products or other cost object. Activity Driver: A measure of frequency and intensity of cost object demands on an activity, used in ABC for tracing activity costs to cost objects. Capacity: The ability to produce during a given time period, with an upper limit imposed by the level and quality of resources available. Cost Pool: An accounting term that refers to a group of associated costs that all relate to a specific cost object. It is usually used to correlate costs with a specified cost driver. Overhead: A group of costs that are necessary to the continued functioning of an organization but cannot be immediately associated with its output. Resource Driver: A measure of quantity of resource consumed or required by an activity. It is used in order to trace an appropriate portion of cost to the activity.

467

Chapter 22

Corruption, Business Climate, and Economic Growth Harish C. Chandan Argosy University, USA

ABSTRACT Corruption is globally pervasive. Defined as abuse of entrusted power for private gain (Transparency International, 2013), corruption represents a set of economic, social, cultural, and political practices that are secretive and rooted in greed, ambition, or quest for power. This chapter reviews causes of corruption including the macro- and micro-level determinants of corruption such as leadership, management, and organizational culture. Various subjective and objective measures of corruption are discussed. Transparency International’s Corruption Perception Index (CPI) and Heritage Foundation’s Economic Freedom Index (EFI) are reviewed. The World Bank’s Business Environment and Enterprise Performance Survey (BEEPS), Doing Business Indicator (DBI), and World Bank Institute’s Governance Indicator (WBI-GI) are also reviewed, as is the role of global anti-corruption agencies and various instruments. Additionally, the relationship between corruption and foreign domestic investment, economic growth, and economic and political institutions are considered, as are anti-corruption intervention strategies for corruption and business ethics training.

INTRODUCTION Corruption is pervasive globally and represents a set of economic, social, cultural, and political practices that are secretive and rooted in greed, ambition, or quest for power. These practices occur in government institutions, non-profit organizations, multi-national corporations, and private businesses (Kaufmann & Vicente, 2011). Some of these practices include bribery, embezzlement, money laundering, abuse of entrusted power,

trading influence, and diverting organizational funds or property for personal gain. Other corrupt practices include avoiding taxes, skirting the law, financial fraud, insider trading, money laundering, manipulating the system using legal loopholes, nepotism, and discrimination. Some examples of the political corruption include voter fraud, political finance, political payback and retribution. Corruption is a very large global ‘underground industry’ in both emerging economies with high

DOI: 10.4018/978-1-4666-6551-4.ch022

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Corruption, Business Climate, and Economic Growth

growth rates and developed economies with relatively small growth rates. Corruption is defined as abuse of entrusted power for private gain (Transparency International, 2013). The abuse of power, secret dealings, and bribery continue to ravage societies around the world. An international survey of 114,000 respondents in 107 countries revealed that more than one in four people (27%) reported having paid a bribe in the last 12 months (Global Corruption Barometer, 2013). The scale of corruption varies significantly from country to country. While many developing countries face the challenge of addressing systemic corruption, some emerging economies, in fact, have lower levels of corruption than some wealthy countries (Kaufmann, 2013). Corruption is not a victimless transaction as the victims of corruption are outside the parties who participate in a corrupt act and benefit from it. Corruption is associated with increased income inequality in a country, and may be viewed as unreported white-collar crime that is often considered a way of doing business. The World Bank estimates approximately US$1 trillion is paid in bribes each year around the world, representing 5% of world Gross Domestic Product (GDP). This estimate of annual worldwide bribery does not include the extent of embezzlement or ‘leakage’ of public funds. Corruption is equivalent to a 20% tax on foreign investors (World Bank, 2013). The African Union estimates the African continent loses 25% of GDP to corrupt practices. A study on the causal relationship between economic growth and corruption in 42 developing countries concludes that adequate institutional facilities must be in place in developing economies to reduce losses from corruption especially within and after periods of economic growth (Wright & Craigwell, 2013). The business sector grows significantly faster where corruption is lower and property rights and rule of law are safeguarded. Good governance and anti-corruption measures lead to an improved investment climate and business environment. Both the public and private sec-

468

tors have responsibility in improving investment climate since they interface each other (World Bank, 2013). This chapter reviews causes of corruption including the macro- and micro-level determinants of corruption such as leadership, management, and organizational culture. Various subjective and objective measures of corruption are discussed. Transparency International’s Corruption Perception Index (CPI) and Heritage Foundation’s Economic Freedom Index (EFI) are reviewed. The World Bank’s “Business Environment and Enterprise Performance Survey (BEEPS)”, “Doing Business Indicator (DBI)” and “World Bank Institute’s Governance Indicator (WBI-GI)” are also reviewed, as is the role of global anti-corruption agencies and various instruments. Additionally, the relationship between corruption and foreign domestic investment, economic growth, and economic and political institutions are considered, as are anti-corruption intervention strategies for corruption and business ethics training.

CAUSES OF CORRUPTION Corruption is a social and cultural transaction between at least two parties motivated by rational calculations of individual gain (David, 2010). Once it reaches a critical mass point, corruption spreads like a virus and gets entrenched in an institution and spreads to other institutions within a country. One must understand corruption in the context of the national culture and the individuals involved in the corrupt act. Corruption affects public institutions and private businesses in all countries to varying degrees. Some practices are illegal in one country but can be perfectly legal in another country. These practices are motivated by ambition, success, and/or economic gain. Bribing government officials appears to be an inevitable ritual for business leaders operating globally, especially in many developing countries.

 Corruption, Business Climate, and Economic Growth

People are ‘social animals’ embedded in their relationships and networks in the organizations. An otherwise honest citizen, investor, bidder, or a firm may act in a corrupt manner due to the belief that their competitors are doing it and the probability of getting caught is low. The investigation into the United Nations oil-for-food program suggests that more than half of the 4,500 companies involved in the program paid illegal surcharges and kickbacks to Saddam Hussein. Some of the implicated companies avoided corruption in their own country where the level of corruption was low. However, in a different context, the same companies decided to engage in corrupt practices (Hoge, 2005). The shared social perception about corruption in a given country determines the incidence of corruption. Internationally, business practices in many countries are in direct conflict with laws and regulations in other countries which makes it difficult for multi-nationals to conduct business. Corruption has emerged as an “institution” in many emerging economies as it becomes a part of the local culture and has a strong negative influence on the business climate. Anti-corruption measures should reduce the gain and increase the cost of the illegal and harmful act of the violation of public trust (Ackermann, 1999, 2004). Corruption affects public institutions and private businesses in all countries to varying degrees, involves abusing the organizational position or power for personal gain (Triesman, 2000), and is not an individual phenomenon. One must understand corruption in the context of the individuals involved in the corrupt act as it represents social, political, and economic practices involving a secretive exchange resulting in mutual benefit. The exchange occurs by mutual agreement and for mutual benefit (Rabl & Kuhlmann, 2008; Park, 2003; Ashforth & Anand, 2003). The benefit can be economic, social influence, or political advantage. Corruption is not a victimless crime or transaction. The victims of corruption are outside the parties who participate in a corrupt act. Corruption may

be viewed as unreported white-collar crime that is often considered a way of doing business, but it is an immoral/criminal proactive practice whose victims are always outside the exchange group. Since the exchange often violates moral, ethical and/or legal norms (Van Duyne, 2001), the practice of corruption is mostly hidden or secretive. Figure 1 illustrates a conceptual framework for corruption. The macro-level determinants of corruption include economics, culture, history, and political systems. The micro-level of causes of corruption includes the structural variables in organizations including leadership styles and organizational culture. The management in an organization is directed towards processes and the leadership towards people (Davenport & Harding, 2010). Managers and leaders communicate desirable values and act as role models to the employees. The managers’ reputation for integrity has an impact on the likelihood of corruption in an organization. An inconsistency between organizations’ declared values and its managers’ actual behavior may result in corrupt behavior and inferior performance by the employees (Carvajal, 1999). Corruption becomes normalized in an organization through the processes of socialization, rationalization, and institutionalization. Leaders and mangers do not have to actively engage in corruption, but they can reinforce the culture of corruption by ignoring corruption or otherwise facilitating unethical behavior (Ashforth & Anand, 2003). Moralists and behaviorists view corruption as an immoral individual phenomenon which manifests itself in “selfish and improper” conduct of individuals (Gould, 1991). The incidence of corruption in organizations is related to low ethical standards and insufficient professionalism (Tanzi, 1988). However, corruption is not an individual phenomenon. One has to understand corruption in the context of the individuals and organizations involved in the corrupt act. Individual characteristics alone are not sufficient to account for a person’s deviant behavior. It has been suggested that such

469

 Corruption, Business Climate, and Economic Growth

behavior is partly induced by the unfair treatment the employees experience in the organization by the unethical actions of supervisors (Biron, 2010). Management’s unjust actions and /or decisions may result in counterproductive behavior on the part of employees (Sauser, 2007). The social choices are shaped, mediated, and channeled by institutional arrangements (Powell & DiMaggio, 1991). Normative systems in organizations play a key role in generating criminal activity. They may even cause deviant behavior in those who would act in a socially acceptable manner in other types of setting (Apel & Paternoster, 2009). Various aspects of organizational culture have the potential to facilitate corruption in an organization. A formalistic approach towards corruption does not help employees to make decisions about what constitutes corruption and corrupt decisions can be a ‘grey area’ for employees and management. The understanding of corruption depends on the social class to which an employee belongs (Collier, 2002). The formal code of ethics itself does not prevent management and employees to engage in corrupt practices. Complex, excessive, and ambiguous regulations that allow multiple interpretations may encourage the use of position for personal gain. They encourage discretion over the rule of law and weak legal systems can be a source and consequence of corruption simultaneously (Jain, 2001). Laws that are inconsistent with prevailing morals may create pressure on employees and management to enforce them selectively. The notion that the corrupt act does not break any law or harm anyone perpetuates the practice. Managing ethical problems through legal instruments alone is not very effective. Along with legal instruments, organizational expectations regarding acceptable and unacceptable behavior have to be communicated (Gorta, 1998). Along with legal sanctions, a change in organizational culture is necessary to ensure to reduce corruption. Corruption represents both legal and illegal abuse of public office or entrusted power for private gain (Bardhan, 1997; Kaufmann, 2005).

470

Examples of these include the exchange of legal political contribution for the passage of legislation favoring specific firms and exchange of publicsector procurement for private sector jobs. Many developing countries face illegal corruption in a context of high social inequality and low income. The motivation for corruption in poor countries is to increase income. The relative power of the general population in challenging the elite’s corruption practice is low due to large income inequality. However, the elite are forced out of power once the frustration of the population reaches a tipping point. Income inequality in many developed nations is low, but the elite-built legal defenses lead to legal corruption that burdens the poor disproportionately and increases the income disparity. The motivation for legal corruption may be to maintain status quo for the elite. Low political accountability in many rich countries can lead to legal corruption in the context of private firms lobbying the government for legislation favoring specific firms. Nordic countries, in general, have low corruption due to emphasis on rule of law and egalitarian attitudes. Higher accountability determines the lower levels of legal corruption in more equal and richer societies. Political economy model of legal and illegal corruption (Kaufman & Vicente, 2011; Vicente, 2007) considers both public and private sectors together responsible for corruption. Society represents a collection of elite public official, general population, and private agents. The elite may build a legal framework to protect their own the conduct of corruption. The public officials and private agents compete with the general population regarding allocation of goods. Corruption transaction occurs when a public official allocates a good to the private agent who competes with the general population. Corruption is also present when the private agent allocates a good to the public official who competes with the population. Bribery is the simple case of having money as the good allocated by the private agent. The rent at stake in these allocations is divided

 Corruption, Business Climate, and Economic Growth

in some manner between the public official and the private agent. The political economy model of corruption suggests three types of outcomes regarding corruption. First is illegal corruption in which the elite do not face any binding incentives to limit corruption. Second is legal corruption in which the elite must incur a cost to legally protect corruption. The third outcome represents a case where the population is able to effectively react to corruption leading to no corruption (Kaufman & Vicente, 2011; Ackermann, 2004; Danon, 2010). Transparency, accountability, and the rule of law in dealing with corrupt government officials and politicians can lead to improved CPI ranking, induce investment, and foster economic growth (Nageri et al., 2013). Based on the relationship between wealth and power, four distinctive syndromes of corruption have been suggested in Asian economies: “influence markets”, “elite cartels”, “oligarchs and clans”, and “official mogul”. Japan is an example of influence markets where the powerful private interests buy influence over specific policy outcomes. Korea represents the “elite cartels” where collusion and corrupt incentives enable elites to cooperate in governing, enriching themselves and resisting political competition. The Philippines represent the oligarchs and clan type of corruption where powerful families dominate the weak state. China experiences the “official mogul” type of corruption where state officials abuse power with impunity (Johnston, 2008).

MEASURES OF CORRUPTION Since corruption is hidden and illegal, it is difficult to quantify. Surveys are often used to measure the level of perceived corruption but may not necessarily reflect the actual degree of corruption (Pederson & Johannsen, 2006). The respondents may overestimate due to hearsay, latest scandals, and a general mistrust of politicians and administrators alike (Rose & Mishler, 2007). If the survey ques-

tions ask about first-hand experience of corruption, it may underestimate the level of corruption as the respondents will refrain from reporting their own involvement despite anonymity. Corruption can be measured subjectively based on perceptions or objectively based on convictions. The objective measures of corruption include the use of reports from anti-corruption agencies (Spector et al., 2005), press reports (Rehren, 1997) and court conviction records (Della Porta & Vannucci, 1999; Hill, 2003). The validity and reliability of these published data is questionable due to the possibility of bias in the press reports, political manipulation, and possible corruption in judiciary. Subjective perception of corruption is not the same as actual corruption. The subjective measures include perception-based and participationbased. A second subjective measure of corruption concentrates on people’s direct experience with or participation in corruption in terms of victimization index (Saligson, 2006). The victimization index focuses on the observed behavior of people involved in actual corruption. This is different from the perception of corruption based on peoples’ beliefs. A weak correlation has been observed between the perception of corruption and actual corruption (Morrris, 2008).

CORRUPTION PERCEPTIONS INDEX (CPI) First launched in 1995, cross-national data on subjective corruption perceptions index by Transparency International has been widely credited with putting the systemic issue of corruption on the international policy agenda (CPI, TI, 2013). Transparency International is a non-governmental organization that monitors and publicizes corporate and political corruption in international development. Transparency International data is a subjective measure of perceived corruption based on people’s beliefs about the nature of the system.

471

 Corruption, Business Climate, and Economic Growth

The Corruption Perceptions Index ranks 177 countries and territories based on how corrupt their public sector is perceived to be on a scale of 0 - 100, where 0 means that a country is perceived as highly corrupt and 100 means it is perceived as very clean. A country’s rank indicates its position relative to the other countries and territories included in the index. No country has a perfect score, and two-thirds of all countries score below 50. This indicates a serious, worldwide corruption problem. Denmark and New Zealand lead the world with the highest score of 91. The USA and Uruguay both placed 19th in the world with a score of 73. China and India score 80 and 94, respectively (Transparency International, 2013). The CPI ratings of select nations around the world represent undeveloped, developing, and developed economies (Table 1).

CORRUPTION AND ECONOMIC FREEDOM INDEX The Heritage Foundation (2014) reports the Economic Freedom Index (EFI) based on 10 quantitative and qualitative factors, grouped into four broad categories, or pillars, of economic freedom for 186 countries. They include rule of law (property rights, freedom from corruption); limited government (fiscal freedom, government spending); regulatory efficiency (business freedom, labor freedom, monetary freedom) and open markets (trade freedom, investment freedom. Each of the 10 economic freedoms within these categories is graded on a scale of 0 to 100. Averaging these 10 economic freedoms, with equal weight being given to each, derives a country’s overall score. The index of economic freedom is a measure of the fundamentals of economic growth. Hong Kong leads the world with a score of 90.1, followed by Singapore (89.4), Australia (82.0), Switzerland (81.6), New Zealand (81.2), and Canada (80.2). The USA is ranked 12th with a score of 75.5.

472

Table 1 compares the corruption score from the Economic Freedom Index and (EFI) and Corruption Perception Index (CPI). Economic Freedom Index (EFI) documents the positive relationship between economic freedom and a variety of positive social and economic goals. EFI is strongly associated with prosperity, healthier societies, cleaner environments, greater per capita wealth, human development, democracy, and poverty elimination. In an economically free society, individuals are free to work, produce, consume, and invest in any way they please. In economically free societies, governments allow labor, capital, and goods to move freely and refrain from coercion or constraint of liberty beyond the extent necessary to protect and maintain liberty itself. Economic freedom brings greater prosperity. Correlations between economic freedom, globalization, corruption and GDP were determined for 114 countries.

CORRUPTION AND “DOING BUSINESS INDICATOR” Engaging in corrupt practices also creates a very unfavorable business environment by encouraging unfair advantage and anti-competitive practices. Paying off government officials appears to be an inevitable ritual for business leaders operating globally, especially in many developing countries. The World Bank collects data on “Doing Business” by measuring business regulations. The Doing Business project provides objective measures of business regulations for local firms in 189 economies and selected cities at the sub national level (Doing Business, 2014; World Bank, 2014). The report examines five areas as measured by Doing Business: starting a business, dealing with construction permits, registering property, enforcing contracts, and trading across borders. The ease of doing business indicator ranks economies from 1 to 189. Rank of 1 represents the regulatory environment that is most conducive to doing business. The index ranks the simple

 Corruption, Business Climate, and Economic Growth

Table 1. 2013 Corruption Perception Index (CPI)*, GDP Growth Rate Economic ** Freedom Index (EFI) # and corruption score within EFI# #

COUNTRY

2013 CPI SCORE*

GDP GROWTH RATE**

2014 ECONOMIC FREEDOM INDEX (EFI)

2014 CORRUPTION SCORE WITHIN EFI

1.1

76.1

93.7

1

Denmark

91

2

New Zealand

91

3.9

81.2

94.0

3

Australia

81

3.07

82.0

87.7

4

Canada

81

2.42

80.2

87.7

4

USA

73

2.63

75.5

72.0

5

Uruguay

73

4.3

69.3

70.6

6

United Arab Emirates

69

3.4

71.4

66.4

7

Taiwan

61

3.58

73.9

59.7

8

Malaysia

50

5.3

69.6

44.3

9

Turkey

50

3.6

64.9

44.0

10

Brazil

42

4.19

56.9

37.9

11

China

40

7.7

52.5

35.0

12

Philippines

36

5.69

60.1

26.1

13

India

36

6.11

55.7

31.5

14

Argentina

34

3.9

44.6

29.5

15

Mexico

34

4.1

66.8

29.7

16

Indonesia

32

6.3

58.5

28.0

17

Russia

28

3.46

51.9

22.1

18

Iraq

16

8.1

n/a

n/a

*Transparency International (2013) **United Nations Global Economic Outlook Database, http://www.un.org/en/development/desa/policy/proj_link/global_economic_ outlook.shtl # Economic Freedom Index (EFI), Heritage Foundation, www.heritage.org

average of the country’s percentile rankings on 10 topics covered in the World Bank’s Doing Business project (World Bank, 2013). The ranking on each topic is the simple average of the percentile rankings on its component indicators. The ranking for ease of doing business is similar to that for corruption perception index. For ease of doing business, the ranking for New Zealand (3), Denmark (5), China (96), and India (134) is similar to the ranking for the corruption perception index (CPI) for New Zealand (91), Denmark (91), China (40), and India (36). Note that the high score for

CPI represents less corruption whereas the small score for Doing Business means less regulation.

CORRUPTION AND “BEEPS” The Business Environment and Enterprise Performance Survey (BEEPS) provides firm-level data on a broad range of issues about the business environment and performance of firms including business-government relations, firm financing, labor, infrastructure, informal payments and corruption, and other topics such as training and

473

 Corruption, Business Climate, and Economic Growth

innovation. The Business and Enterprise Environment Survey (BEEPS) addresses the corruption at the firm and country levels. It was designed to assess the quality of governance across 20 countries of Central and Eastern Europe and the former Soviet Union from a firm level perspective (Hellman, et al. 2000). The BEEPS asks 200-600 firms in each country questions about their business environment and their interactions with the state. The samples are chosen in a uniform way in each country, with sector composition divided according to contribution to GDP. The BEEPS can be thought of as a compilation of indicators about what firms are saying about the ways that government policies, rules, and procedures are implemented in practice. The BEEPS allows one to explore the relationship between different characteristics of firms (such as ownership, control, size, sector, etc.) and their effects on the firms’ interactions with the state. Second, it provides an opportunity to investigate in depth the types of “services” for which firms pay bribes and the characteristics of these transactions. Third, it provides a microeconomic perspective on the costs and benefits to firms associated with corruption and different levels of governance. The firm-level perspective provides one of the first opportunities to analyze empirically the problem of “state capture”; that is, the efforts of firms to shape and influence the underlying rules of the game (i.e., legislation, laws, rules, and decrees) through private payments to public officials. There has been analysis of how firms in the transition economies use their political influence to distort both the legal framework and the policymaking process in an effort to gain concentrated rents with detrimental consequences for the economy and society at large. The BEEPS provides the first opportunity to explore empirically the methods and mechanisms by which firms seek to influence the state, providing a new perspective on the phenomenon of state capture in the region

474

and opening insights into larger questions of the political economy of reform. The BEEPS is not just a corruption survey. Although corruption is one of the topics covered by the questionnaire, many other aspects of the business environment and enterprise performance are also present, including: crime, regulations and red tape, customs and taxes, labor issues, firm financing, legal and judicial issues, infrastructure, etc. To place matters in perspective, of the more than 400 variables in the BEEPS dataset, fewer than 25 pertain to corruption, unofficial payments, or tax evasion which represents less than 7% of the database. “Doing Business” and BEEPS often suggest the same conclusions. In countries where the results do not seem congruent, there are many possible explanations. Firms may have found ways to work around problematic regulations so that they are less burdensome; conversely, the formal rules and procedures may appear benign, while non-transparent implementation may cause firms considerable difficulty. In addition, improvements captured in the Doing Business indicators may take time to be recognized by the business community. For example, reductions in the minimum capital requirements to start a company will not help the firms already in existence. Preparatory work conducted on the basis of previous surveys and within the framework of the recent cooperation agreement between United Nations Office on Drug and Crime (UNODC) has produced a questionnaire and methodology for international standardized “Crime and Corruption Business Surveys” (CCBS). The questionnaire addresses bribery/ corruption, fraud, extortion and several forms of crime, which impact on business and industry.

 Corruption, Business Climate, and Economic Growth

CORRUPTION AND WORLD BANK INSTITUTE GOVERNANCE INDEX There is a tremendous amount of overlap between the questionnaires used in the BEEPS and the ones used in Investment Climate Surveys (ICS). The participation of the World Bank’s Investment Climate Unit in the BEEPS helped to enhance cross-regional comparability of results. There are, however, differences in the sampling approach used in the ICS which tend to focus on manufacturing firms. The BEEPS is different from the World Bank Institute’s Governance Indicator (WBI-GI) and Transparency International’s Corruption Perception Index (CPI). Aggregate governance indicators, such as WBI-GI and TI-CPI, attempt to take various forms of existing indicators (expert opinions and surveys) and merge them together into a single index (In the case of WBI-GI, six indexes.) Neither WBI’s indicators nor the TICPI is an original source of data as they are both essentially compilations and manipulations of other indicators. These indexes are popular among researchers because they cover hundreds of countries and have been useful for raising the profile of corruption and governance issues. The BEEPS, in contrast, is an original source of data that offers several useful features not found in aggregate indicators: The aggregate indicators employ different combinations of indicators in different countries. In contrast, the BEEPS apply a common yardstick to country comparisons. Neither WBI’s indicators nor Transparency International’s Corruption Perception Index (CPI) allows for examination of changes over time, although they are often improperly used for this purpose. The WBI indicators are scaled to have a mean of zero every year, and the TI-CPI focuses only on relative ranks. The TI-CPI uses data up to three years old, and both TI-CPI and the WBI indicators offer heavy weight to expert opinions which tend to be adjusted infrequently. The WBI indicators generally do not reuse identical data, al-

though the 2002 round of the BEEPS was included in both the 2002 and 2004 sets of WBI indicators. BEEPS, in contrast, allows for simple statistical checks for changes over time using techniques that have been around for some 80 years. Aggregates such as WBI’s indicators and the TI-CPI lump everything together as “corruption” or “control of corruption.” In contrast, the BEEPS allows for an examination of different types of corruption, how much, how frequent, to which sorts of government officials, etc. The BEEPS also allow an examination of which firms are most impacted. Business regulatory environment indicator assesses the extent to which the legal, regulatory, and policy environments help or hinder private businesses in investing, creating jobs, and becoming more productive. Countries are rated from 1 to 6 (World Bank Group, CPIA database).

IMPACT OF CORRUPTION ON FOREIGN DOMESTIC INVESTMENT (FDI) Foreign domestic investment (FDI) and local domestic investment (LDI) are necessary for economic development of a country. FDI refers to the economic investment coming from abroad and is influenced by several economic and political variables of the host country. These include the size of the economy (GDP), GDP/capita, GDP growth rate, export orientation, political stability, inflation rate, and fiscal strength of a country (Habib & Zurawicki, 2001). In the short-term, corruption can have a beneficial effect for FDI since the corruption allows the businesses to get started quickly by paying bribes and bypassing the institutional and regulatory framework. However, corruption has a negative effect on FDI in the long-term. The corruption promotes arbitrariness and facilitates bypassing the regulations. This represents an uncertainty for the new foreign businesses and reduces FDI (Tanzi, 1998). In addition to FDI,

475

 Corruption, Business Climate, and Economic Growth

local direct investment (LDI) is also necessary for economic development. The uncertainty in the business climate due to corruption affects both FDI and LDI negatively. However, FDI is affected more than LDI since the local investors are better informed regarding the ‘voluntary tax’ due to corruption (Habib & Zurawicki, 2001). Thus, in the long run, the level of FDI and economic development are lowered by the presence of corruption in the host country. In addition to lowering the FDI, corruption in the host country changes the nature of technology transfer. When corruption is high, the foreign partner in the joint ventures limits the technology transfer to low technology goods and services (Smarzynska & Wei, 2000). A decline in corruption of 1% led to a 20% increase in FDI per capita for the 117 countries studied. Foreign investors prefer institutional stability and good governance to corruption (Al Sadig, 2009). The relationship between corruption and FDI inflow works both ways. Corruption facilitates FDI inflow and FDI inflows cause an increase in corruption. The massive FDI influx in Ecuador was followed by a 13% increase in corruption since a simultaneous establishment of regulations and controls did not occur. However, in Estonia a gradual increase in FDI was accompanied by a gradual drop in corruption where new institutions, regulations and controls were put in place to manage the incoming new business (Robertson & Watson, 2004; Danon, 2010). A power law functional dependence was found between FDI and corruption perception index, CPI. In other words, FDI increase as CPI increased or FDI increased for less corrupt countries (Podobnik et al., 2008).

IMPACT OF CORRUPTION ON ECONOMIC GROWTH The effect of corruption on the economy of a nation is influenced by four factors simultaneously including: unobserved country specific fixed ef-

476

fects, endogeneity of corruption and investment, the persistence of growth, and differences in how the corruption market is organized (Swaleheen, 2011). The first factor is time-invariant heterogeneity among countries in terms of religion, culture, and institutions. Cross-country differences in corruption (Treisman, 2000) and rate of growth (Islam, 1995) are influenced by this time-invariant heterogeneity. The second factor is that the corruption and investment for economic growth are endogenously or internally determined for a country and are correlated with exogenous or external shocks that affect the rate of economic growth. Third, as a variable, the current rate of economic growth is correlated with its own lagged value. The fourth factor is related to the corruption level in a country and how the corruption participants are organized (Swaleheen, 2011). In studying effect of corruption on economic growth, three factors are crucial. These include political stability, property rights, and the political system. The interplay between these three institutional factors determines whether the institutional environment hampers or fosters growth. Removing a distortion does not automatically increase economic growth and corruption is considered a distortion. Removing corruption does not automatically increase economic growth. Corruption affects the relationship between institutions and growth. Efforts to eliminate corruption can lead to political instability since corruption serves as a positive function to hold the society together. When property rights are not strong, corruption may become a positive element to reduce uncertainty and facilitate investment and production (Vaal & Ebben, 2011). Human capital is considered the engine of economic growth. In the presence of corruption, firms must spend resources on business facilitation which reduces the resources available for developing human capital. This leads to lower economic growth (Kaufman & Wei, 2000). The growth reducing effect of corruption is larger in countries with a low level of human capital;

 Corruption, Business Climate, and Economic Growth

typically low income countries (Ehrlich & Lui, 1999). The opponents of the growth-reducing view of corruption argue that corruption weakens the restrictions on output by greasing the wheels of the government for firms burdened by controls. Therefore, corruption is growth enhancing (Nye, 1989). The country wealth is negatively associated with corruption (i.e., richer countries are less corrupt) (Svensoon, 2005). The corruption perception index (CPI) is positively related to GDP per capita growth rates. In other words, less corrupt countries show higher growth rates. For all countries in the world during the period 1999-2004, an increase in one unit of CPI (i.e., a decrease in corruption) led to an increase of GDP per capita growth rate increase of 1.7%. For European countries with transition economies, an increase in CPI by one unit delivered an increase in GDP per capita growth rate of 2.4% (Podobnik et al., 2008). The role of corruption is different in a democratic system and a totalitarian system. Corruption is a distortion misusing resources and infects economic agent’s incentives. Corruption is decentralized in a democratic political system and is detrimental to economic growth since it does not reduce uncertainty. In a totalitarian government, corruption is centralized and removes the uncertainty. In a totalitarian system, corruption can be conducive to economic growth (Vaal & Ebben, 2011). Corruption slows down the longterm growth through a wide range of channels and it can also have a beneficial effect on economic growth. Corruption undermines firm growth and reduces the propensity to growth (Kimuyu, 2007). Most instances of implementation of economic reform (making the economy more open) and anti-corruption measures do not produce growth acceleration immediately (Hausman et al., 2005). The economic reform affected the growth positively after a lag of four years and the perception of the quality of governance (corruption) after a lag of three years (Giavazzi & Tabellini, 2005).

China’s unique experience of economic transition is characterized by the duality forms and effects of crony corruption underlying local corporatism in a dual track (i.e., market and political tracks) (Li, 2009).

IMPACT OF LEGAL AND REGULATORY INSTITUTIONS ON CORRUPTION The economic growth in a country depends of institutions that deal with property rights and contracting institutions (labor and finance). Institutions establish the rules of the game in a society that shape human interaction (North, 1990). Property rights institutions provide private agents protection from predation by the state or powerful elites, while contacting institution regulate contracts between private parties. The major role of the institutions is to reduce uncertainty by establishing a stable structure for human interaction. They provide a framework for transactions and cooperation to occur. Institutions that regulate contracting, property rights, labor, and finance have an influence on economic activity. Corruption may efficiently grease the wheels of institutional framework. Institutions influence the transaction cost of the human economic interactions. Institutions affect economic performance by their effect on the cost of exchange and production (North, 1990). Good institutions promote economic growth by establishing a good business environment where economic transactions occur under trust and order. When property rights are well established, the business partners do not need to spend resources to monitor and enforce transactions and can focus on production or doing business. The institutional feature of property rights enhances economic growth (Fedderke, 2001). Corruption can be viewed as a proxy for the quality of institutions of property rights (Fernandes & Kraay, 2006). Corruption represents the use of political authority in order to make private

477

 Corruption, Business Climate, and Economic Growth

economic gain in the form bribes. Corruption should therefore be higher where property rights institutions are weaker. Corruption can also influence the labor regulation, financial institutions, and availability of power (Acemoglu & Johnson, 2005). Specifically, one would expect weak contracting institutions to be a binding constraint on business performance only where property rights institutions are not (Honorati & Mengistae, 2007). Based on the study of the interaction between corruption, aggregate efficiency, and other dimensions of governance for a panel of 69 developed and developing countries, it was found that corruption is less detrimental or even positively related to efficiency in countries with less effective institutions When the institutions are not effective, people have to invest resources to track transactions, which take away resources from production. Diverting resources from production to transaction hampers economic growth (Meon & Weill, 2010). Some institutions are formal while others are informal. Formal institutions have laws and contracts. The legal system deals with specific problems but it does not cover all possible human interactions. The informal institutions cover the areas of human interaction that formal laws do not. The informal institutions include codes of conduct, norms of behavior and conventions. These informal institutions are embedded in the national culture of a society and change very slowly. Both formal and informal institutions complement each other and are necessary for efficient functioning of a society. The quality of the formal institutions is the most important determinant of differences in income levels between countries (Roderick et al., 2002). The quality of informal institutions offers a statistically significant explanation for inter-country variations in growth rates of real per capita income (Scully, 1988). Property institutions exert stronger influence on long term economic outcomes than contracting institutions Private agents usually circumvent the problem of poor contracting institutions by

478

developing informal substitutes for them even if there is an added cost in terms of bribes. Businesses withdraw if property rights are not secure. In other words, the economic outcomes of the failure of contracting institutions tend to be less extreme than those of the failure of property rights institutions (Acemoglu & Johnson, 2005). Corruption and tax evasion can have ambiguous effects on economic growth. Tax evasion increases the capital available to entrepreneurs. It also reduces the amount of public services offered by the government. Lin and Yang (2001) extended the portfolio choice model of tax evasion from static to dynamic setting. In the dynamic setting model, the public services represent nonproductive capital. Diverting resources from the non-productive public sector to productive private sector, tax evasion is conducive to economic growth. The growth decreases with respect to the tax rate in the absence of tax evasion. In the presence of tax evasion, the growth rate is U-shaped with respect to the tax rate (Lin & Yang, 2001). Historical factors, geographic influence, and the government influence corruption, and both the size and scope of government impacts corruption. The historical inertia of institutions that induce corruption persists, and some geographic factors can mitigate corruption (Goel & Nelson, 2010). Nations with more government regulation for business nurture corruption (Woodside et al., 2012).

IMPACT OF GOVERNANCE ON CORRUPTION Most existing cross-country surveys of national governance and corruption rely on the subjective views of outsiders, namely expert assessments, country analysts, or foreign investors. Corruption thrives where states are too weak to control the discretionary power of their bureaucrats, to protect property and contract rights, and to provide the institutions that enforce the rule of law. Recent studies of corruption have tended to focus on key

 Corruption, Business Climate, and Economic Growth

characteristics and policies of the state, especially the extent of state intervention in the economy and the degree of discretionary power of bureaucrats. The Worldwide Governance Indicators (WGI) project reports aggregate and individual governance indicators for 215 economies over the period 1996–2012, for six dimensions of governance including Voice and Accountability, Political Stability and Absence of Violence, Government Effectiveness, Regulatory Quality, Rule of Law and Control of Corruption (World Bank, 2014). National governance consists of the traditions and institutions by which authority in a country is exercised. This includes the process by which governments are selected, monitored, and replaced; the capacity of the government to effectively formulate and implement sound policies; and the respect of citizens and the state for the institutions that govern economic and social interactions among them. The links between corporate governance and national governance have been largely unexplored. The interaction between corporate governance and national governance shape the business environment. Corruption is associated with a variety of problems such as impeding economic development. Effective corporate governance that restricts corruption benefits not only the business firm but also economic activity in host countries. Using data obtained from the Organization for Economic Co-operation and Development’s (OECD) and Transparency International (TI), bribery, corporate fraud, cartels, and corruption in supply chains and transnational transactions have been investigated. Countries with lower corruption levels have experience significantly less unemployment than higher-corruption countries. In addition, gross fixed capital formation and foreign direct investment were more favorable (though not significantly different) for the lowercorruption countries (Smith et al., 2011). In Asia, the most dominant form of the private sector is a family-owned business group. The corporate governance of such businesses is not

as formal and lacks checks and balances found in the board-type governance structures in large corporations in advanced economies. Using Rose-Ackerman’s typology of petty and grand corruption, Results show the dilemmas faced when trying to operate within the precepts of corporate governance while dealing with the practical reality of corruption in public sector institutions (Rama, 2012). Corruption is related to growth volatility. From the empirical analysis of 121 developed and developing countries, it was discovered that only corruption control and government effectiveness adversely affect the growth rate. A higher corruption control, expropriation risk control, government effectiveness and government consumption decreases growth volatility (Evrensel, 2010). Corruption and economic growth are determined by political accountability. In countries with high quality political institutions, corruption has a substantial negative impact on growth. In countries with low quality political institutions, corruption has no impact on growth (Aidt et al., 2008; Blackburn et al., 2009). Political institutions influence the perception of corruption. Ideological polarization predicts perception of corruption. The perception of corruption is influenced by specific institutional features of the political system such as elements of the voting system, ballot structure, and separation of powers (Brown et al., 2011)

INTERVENTION STRATEGIES FOR CORRUPTION Corruption circumvents the fairness and impartiality of the rule of law and benefits the private actors who practice it. The most effective strategy for these actors to behave ethically needs to be a combination of the carrot and the stick. To combat corruption, Singapore instituted the reversal of burden of proof and increased punishment and extraordinary investigation rights (Klitgaard,

479

 Corruption, Business Climate, and Economic Growth

1988). These measures may be in conflict with the democratic virtues of human rights and respect for the individual. The reverse burden of proof assumes the individual is guilty until proven otherwise. Granting extraordinary investigation rights to special anti-corruption units can create corruption in these units if the judiciary lacks independence and transparency. Based on more than 1,500 interviews in Estonia, Latavia, and Lithuania, civil servants’ perception found that increased detection and punishment for corrupt officials was effective. Conducting campaigns and ethical training was also helpful in reducing corruption. Women believed more in the effectiveness of sanctions, control and awareness instruments (Johannsen & Hilmer, 2012). Corruption is a multifaceted and context specific problem. One requires a context-specific approach to diagnose and intervene in corruption cases. Four prevailing frameworks or intervention policy approaches include law enforcement, economics, moralism, and cultural relativism (Bellows, 2013). First, the law enforcement framework treats corruption as violation of law. This legal approach is used by anticorruption agencies, the International Bar Association’s Anti-Corruption Committee, and legal conventions such as the OECD and the Anti-Bribery Convention. Intervening in corruption using the legal approach requires increasing resources for the law enforcement agencies and promoting their political independence. Second, the economic framework views corruption as a product of incentives. Bribes are paid to or demanded by rational participants when the benefits of bribery exceed the costs. The focus is on monetary trade-offs. The risk of legal conviction or loss of reputation becomes secondary. The economic intervention involves adjusting incentives and external conditions to change behavior of the participants to reduce corruption. There is no value judgment in the economic framework.

480

The third corruption intervention strategy is based on moralism as corruption is considered intrinsically wrong and is not simply illegal and economically conditioned. Corrupt officials who become prosperous through corruption are not viewed favorably. A moralistic perspective on corruption uses the “name and shame” approach. The TI Corruption Perceptions Index is such an approach. A moral rejection of corruption can lead to the citizen activism to demand accountability. However, the moral perceptions of the citizens can be influenced by domestic law enforcement which may ignore corruption. This can lead to a sense of resignation on the part of the citizens about the possibility of eliminating corruption. The fourth corruption intervention strategy recognizes cultural relativism regarding what is considered corruption in a specific culture. This perspective is based on the view that corruption is in the “eye of the beholder” and views corruption through the lens of local culture. What is seen as a corrupt practice in one country can be perceived as a legitimate action in another country (Dion, 2010). In some cultures, corruption is so pervasive that people believe nothing can be done about it so it is considered a necessary evil. They believe corruption may be ugly but it is unavoidable and here to stay. Using such arguments, savvy bribe payers continue bypassing regulations to promote their business interests in countries where corruption is pervasive. Elites from developing countries assert that permitting bribes in international business transactions is their competitive advantage, welldeserved after decades of economic subservience (Bellows, 2013). In many developing countries, corruption has evolved over time to serve a social function. In the absence of a social safety net, earnings from corruption are considered as retirement savings. A context-specific integrated approach using all four frameworks is proposed for diagnosing corruption and taking corrective action (Bellows, 2013). Most of the anti-corruption measures focus on the enforcement of controls and punishment of

 Corruption, Business Climate, and Economic Growth

violations. These functional measures designed to combat corruption can be outmaneuvered by corruption. Transformative measures like amnesty as an anti-corruption strategy can also be effective since corruption is a social and cultural phenomenon (David, 2010). The idea of functional and transformative measures to combat corruption is based on the Rustow’s (1970) concepts of ‘function’ and ‘genesis’ in the context of transition to democracy. This view distinguishes between correlation and causation. In other words, the factors that keep democracy stable may not be the ones that brought it into existence. Applying that to corruption, measures leading to less corruption differ from those that contribute to maintaining less corruption. Amnesty has been proposed as an anti-corruption measure (David, 2010). Hong Kong created an independent commission against corruption (ICAC) in 1974. The success of ICAC in reducing corruption rests on the structural and resource independence. It uses a three-pronged approach of operations, corruption prevention and community relations (Wong, 1981). Amnesty was granted to the Royal Police Force in Hong Kong in 1977 and was a transformative measure targeting corruption as a social and cultural phenomenon. The transformative role of the amnesty paved the way for ICAC’s success and reduced corruption in Hong Kong (David, 2010). The United Nations Convention against Corruption (UNCAC) is the only legally binding, comprehensive, global anti-corruption instrument to fight corruption and promote integrity. The UNCAC covers five main areas: prevention, law enforcement measures, international cooperation, asset recovery and information exchange. The United Nations’ (UN) office on Drugs and Crime (UNODC), acts as a catalyst and a resource to help effectively implement the provisions of the UNCAC. The UNODC provides practical assistance and helps build the technical capacity needed to develop effective anti-corruption policies and institutions, including preventive anticorruption frameworks in the public and private sector. This

is especially helpful for vulnerable developing or transitional economies. The UNODC has a webbased anti-corruption portal known as TRACK (Tools and Resources for Anti-Corruption Knowledge). The portal features a legal library on the UNCAC, thus providing a unique gateway to an electronic database of legislation and jurisprudence relevant to UNCAC from over 175 countries systematized in accordance with the requirements of the convention. The TRACK portal brings together legal and non-legal knowledge on anti-corruption and asset recovery enabling member states, the anticorruption community, and the general public to access this information in a central location. An anti-corruption learning platform is also incorporated, providing a common space where analytical tools generated by partner organizations can be searched and accessed by users worldwide. An anti-corruption learning platform is also incorporated, providing a common space where analytical tools generated by partner organizations can be searched and accessed by users worldwide. A further key objective of TRACK is to create a community of practice where registered users can communicate, exchange information and schedule events. The common workspace is intended for partner institutions, anti-corruption practitioners and experts to communicate and collaborate directly with each other.

IMPACT OF ORGANIZATIONAL CULTURE AND LEADERSHIP ON CORRUPTION Corruption should not be regarded as primarily an individual phenomenon. Corrupt individuals represent a network that is embedded in an organization whose culture tolerates corruption. Corruption becomes normalized in organizations through the process of institutionalization, rationalization, and socialization (Figure 2). It represents a cultural and societal phenomenon.

481

 Corruption, Business Climate, and Economic Growth

Normative systems in an organization play an important role in generating corrupt activities. They may even cause deviant behavior in some who would act in a responsible manner in other settings (Apel & Paternoster, 2009). Leaders do not have to actively engage in corruption, but they can reinforce the culture of corruption by ignoring corruption or facilitating unethical behavior (Ashforth & Anand, 2003). Good managerial ethics is essential to curbing corporate crime in organizations (Paternoster & Simpson, 1996). Both managers and leaders act as role models for the employees. They strongly influence the organizational culture and set the ethical tone of an organization. Management in an organization is directed towards processes and the leadership towards people (Davenport & Harding, 2010). Role modeling, openness and strictness of leaders have a direct impact on the frequency of integrity violations by employees (Huberts et al., 2007). At the macro-level, corruption is influenced by economics, national culture, and political systems. At the micro-level, organizational culture plays a significant role. The organizations shape, mediate, and channel social choices (Powell & DiMaggio, 1991). An individual’s values alone are not sufficient to explain a person’s deviant behavior. Unethical actions by supervisors and the unfair treatment experienced by employees also contribute to their illegal behavior (Sauser, 2007; Biron, 2010). Organizations have written code-of conduct for the employees to follow. This requires a clear understanding of what is considered corruption. For employees, there may be “grey areas” and their interpretation may depend upon the social class they belong to (Heidenheimer, 2002; Collier, 2002). Written ethical norms in organizations must be converted into everyday practices so that management and employees behave morally (Pucetaite et al., 2010). Management must act as a role model in this regard. Organizations often tend to manage the corruption issues through

482

legal action alone. A two-pronged approach is necessary where one combines the legal action with an effective communication of organizational expectations of non-corrupt conduct. Weak legal system can be a source of corruption and also a a consequence of corruption. Complex and ambiguous regulations that permit multiple interpretations may encourage the use of position of authority for personal gain (Jain, 2001). Laws that are not consistent with prevailing norms may create pressure on employees and management to enforce them selectively (Carvajal, 1999). Employees and management may interpret that since their actions are not harming anyone, they are not corrupt. Clear and consistent communication of what is corruption, converting written code of conduct into everyday practices, role modeling by management, sanctions against corrupt actions, and ethical training are effective ways for an organization to be corruption-free. Ethical training makes people behave in noncorrupt ways not because of sanctions, but because people believe corruption is not good for the individual and the organization (Mulder et al., 2009).

IMPACT OF BUSINESS ETHICS TRAINING ON REDUCING CORRUPTION Increased teaching of business ethics can have a positive effect on the fight against corruption (Niekirk, 2003). Can theory influence practice? A Hegelian approach to the problem, in terms of which theory can and does influence practice, is compared to a Marxist approach in terms of which theory is only a reflection of practice. The author chooses a position mediating between these two extremes and develops a model that relies heavily on the idea of an ethics of responsibility based on Aristotle’s idea of phronesis (practical wisdom based on deliberation). The practical implications of these ideas for the utilization of business ethics teaching

 Corruption, Business Climate, and Economic Growth

in companies are consequently explained. While more teaching of this discipline cannot guarantee better morals in a company, it can better equip all involved to deal with the ever increasing moral problems facing business people. There can be no doubt about the seriousness of the crisis faced by morality.

SUMMARY Corruption represents the abuse of entrusted power for personal gain and is a social, economic, and political issue for all nations. Corruption is pervasive globally in both developed and developing economies and provides an economic advantage to the parties participating in the act. Corruption exists in government institutions, non-profit organizations, small and medium enterprises, multi-national corporations and private businesses, and also exists in democratic, dictatorial, feudal, capitalist, and socialist or centrallyplanned economies. Corruption exists in societies practicing Christianity, Islam, Hinduism, Jewish, Buddhism, and no religion. Corruption ranges from petty corruption to political/bureaucratic or systemic corruption and becomes embedded in a society’s culture and way of life. Corruption is one of the primary obstacles to the economic development of a country and also decreases firm growth. Corruption and rapid growth have coexisted in many Asian countries. Nations with many rules nurture growth in corruption which undermines the rule of law, weakens trust in public institutions, and challenges democratic institutions which leads to government instability. Corruption attacks the foundation of democratic institutions by influencing the electoral processes. Economic development is hampered due to reduced foreign direct investment and adverse business climate. Corruption is a multifaceted and context specific problem. One requires a context-specific approach to diagnose and intervene in cases of corruption.

Various approaches to combat corruption include legal, economic, moral and organizational culture. Strengthening the legal and regulatory agencies help combat the corruption. Legal enforcement of anti-corruption practices, protecting property rights and rule of law help reduce corruption. Transparency and accountability promote ethical behavior. Positive role-modeling by leadership and management creates an organizational culture of integrity. Ethical training also helps to reduce the corrupt practices. Combating corruption in the local and international business has become the 21st century ethical, social, and political challenge.

REFERENCES Acemoglu, D., & Johnson, S. (2005). Unbundling Institutions. Journal of Political Economy, 113(5), 949–995. doi:10.1086/432166 Ackermann, R. (1999). Corruption and Government: Causes, Consequences and Reform. Cambridge, UK: Cambridge University Press. doi:10.1017/CBO9781139175098 Ackermann, R. S. (2004). The Challenge of Poor Governance and Corruption. Copenhagen Consensus Paper. Aidt, T., Dutta, J., & Sena, V. (2008). Governance Regimes, Corruption and Growth: Theory and Evidence. Journal of Comparative Economics, 36(2), 195–220. doi:10.1016/j.jce.2007.11.004 Apel, R., & Paternoster, R. (2009). Understanding ‘Criminogenic’ Corporate Culture: What WhiteCollar Crime Researchers Can Learn From Studies of the Adolescent Employment-Crime Relationship. In S. S. Simpson & D. Weisburd (Eds.), The Criminology of White-Collar Crime. New York: Springer. doi:10.1007/978-0-387-09502-8_2

483

 Corruption, Business Climate, and Economic Growth

Ashforth, B. E., & Anand, V. (2003). The Normalization of Corruption in Organizations. Research in Organizational Behavior, 25, 1–25. doi:10.1016/ S0191-3085(03)25001-2 Asiedu, E., & Freeman, J. (2009). The Effect of Corruption on Investment Growth: Evidence from Firms in Latin America, Sub-Saharan Africa and Transition Countries. Review of Development Economics, 13(2), 200–214. doi:10.1111/j.14679361.2009.00507.x Ayaydin, H., & Hayaloğlu, P. (2014). The Effect of Corruption on Firm Growth: Evidence from Firms in Turkey. Asian Economic and Financial Review, 4(5), 607–624.

Brown, D. S., Touchton, M., & Whitford, A. (2011). Political Polarization as a Constraint on Corruption: A Cross- National Comparison. World Development, 39(9), 1516–1529. doi:10.1016/j. worlddev.2011.02.006 Carvajal, R. (1999). Large Scale Corruption: Definition, Causes, and Cures. Systemic Practice and Action Research, 12(4), 335–353. doi:10.1023/A:1022492112414 Cerqueti, R., & Coppier, R. (2011). Economic Growth, Corruption and Tax Evasion. Economic Modelling, 28(1-2), 489–500. doi:10.1016/j. econmod.2010.07.006

Bardhan, P. (1997). Corruption and Development: A Review. Journal of Economic Literature, 35, 1320–1346.

Collier, M. W. (2002). Explaining Corruption: An Institutional Choice Approach. Crime, Law, and Social Change, 38(1), 1–32. doi:10.1023/A:1019802614530

Basu, K. (2014). Global Economic Prospects, World Bank. Retrieved on March 3, 2014, from: www.worldbank.org

Corruption Perception Index. (2013). Retrieved on February 3, 2014, from: http://cpi.transparency. org/cpi2013/results/#myAnchor1

Bellows, A. (2013). Winning the War on Corruption: The Six-Step Solution. Retrieved on December 2, 2013, from: www.harvardkenedyschoolreview.com

Danon, M. (2010). Contemporary Economic Research of Corruption. Contemporary Legal and Economic Issues, 252-268.

Biron, M. (2010). Negative Reciprocity and the Association between Perceived Organizational Ethical Values and Organizational Deviance. Human Relations, 63(6), 875–897. doi:10.1177/0018726709347159 Blackburn, K., & Forgues-Puccio, G. F. (2009). Why is Corruption Less Harmful in Some Countries than in others? Journal of Economic Behavior & Organization, 72(3), 797–810. doi:10.1016/j. jebo.2009.08.009 Boch, H. (2007). Regional Brief. Retrieved on November 18, 2013, from: http://go.worldbank.org

484

Davenport, T. O., & Harding, S. D. (2010). Manager Redefined: How Your Top Performers Manage Work. San Francisco: Towers Watsos. David, R. (2010). Transitions to Clean Government: Amnesty as an Anticorruption Measure. Australian Journal of Political Science, 45(3), 391–406. doi:10.1080/10361146.2010.509309 Della Porta, D., & Vannucci, A. (1999). Corrupt Exchanges: Actors, Resources and Mechanisms of Political Corruption. New York: Aldine de Gruyter. Dion, M. (2010). Corruption and Ethical Relativism: What is at Stake? Journal of Financial Crime, 17(2), 240–250. doi:10.1108/13590791011033926

 Corruption, Business Climate, and Economic Growth

Dridi, M. (2013). Corruption and Economic Growth: The Transmission Channels. Journal of Business Studies Quarterly, 4(4), 121–152. Ehrlich, I., & Lui, F. (1999). Bureaucratic Corruption and Endogeneous Economic Growth. The Journal of Political Economy, 107(6), S270-S293. doi:10.1086/250111 Evrensel, A. Y. (2010). Corruption, Growth and Growth Volatility. International Review of Economics & Finance, 19(3), 501–514. doi:10.1016/j. iref.2009.08.002 Fernandes, A., & Kraay, A. (2006). Property rights institutions, contracting institutions, and growth in South Asia: Macro and Micro Evidence. In World Bank, South Asia: Growth and Regional Integration. Washington, DC: World Bank Group. Giavazzi, F., & Tabellini, G. (2005). Economic and Political Liberalization. Journal of Monetary Economics, 52(7), 1297–1330. doi:10.1016/j. jmoneco.2005.05.002 Goel, R., & Nelson, M. A. (2010). Causes of Corruption: History, Geography and Government. Journal of Policy Making, 32, 433–447. Gorta, A. (1998). Minimizing Corruption: Applying Lessons from the Crime Prevention Literature. Crime, Law, and Social Change, 30(1), 67–87. doi:10.1023/A:1008352924634 Gould, D. J. (1991). Administrative Corruption: Incidence, Causes and Remedial Strategies. In A. Farazmand (Ed.), Handbook of Comparative and Development Public Administration. New York: Marcel Dekker. Habib, M., & Zurawicki, L. (2001). Country Level Investments and the Effect of Corruption – Some Empirical Evidence. International Business Review, 10(6), 687–700. doi:10.1016/ S0969-5931(01)00038-5

Hausman, R., Pritchett, L., & Rodrik, D. (2005). Growth Accelerations. Journal of Economic Growth, 10(4), 303–329. doi:10.1007/s10887005-4712-0 Heidenheimer, A. (2002). Perspectives on the Perception of Corruption. In A. Heidenheimer & M. Johnston (Eds.), Political Corruption: Concepts and Contexts (3rd ed., pp. 141–154). Brunswick, NJ: Transaction. Hellman, J. S., Jones, G., Kaufmann, D., & Schankerman, M. (2000). Measuring Governance, Corruption, and State Capture: How Firms and Bureaucrats Shape the Business Environment in Transition Economies (Policy Research Working Paper 2312). The World Bank World Bank Institute Governance, Regulation and Finance And European Bank for Reconstruction and Development Chief Economist’s Office. Heritage Foundation. (2014). Economic Freedom Index. Retrieved on February 3, 2014, from: www. heritage.org Hill, K. Q. (2003). Democratization and Corruption. American Politics Research, 31(6), 613–632. doi:10.1177/1532673X03255178 Hoge, W. (2005, October 28). Thousands Implicated in Paypffs to Saddam. International Herald Tribune. Honorati, M., & Mengistae, T. (2007). Corruption, the Business Environment, and Small Business Growth in India (Policy Research Working Paper 4338). World Bank Development Research Group, Macroeconomics and Growth Team. Huberts, L., Kaptein, M., & Lasthuizen, K. (2007). A Study of the Impact of Three Leadership Styles on Integrity Violations Committed by Police Officers. Policing: An International Journal of Police Strategies & Management, 30(4), 587–607. doi:10.1108/13639510710833884

485

 Corruption, Business Climate, and Economic Growth

Jain, A. K. (2001). Corruption: A Review. Journal of Economic Surveys, 15(1), 71–121. doi:10.1111/1467-6419.00133

Meon, P. G., & Weill, L. (2010). Is Corruption Efficient Grease? World Development, 38(3), 244–259. doi:10.1016/j.worlddev.2009.06.004

Johannsen, L., & Hilmer, K. (2012). How to Combat Corruption: Assessing Anti- Corruption Measures from a Civil Servant’s Perspective. Halduskultuur- Administrative Culture, 13(2), 130-146.

Morris, S. D. (2008). Disaggregating Corruption: A Comparison of Participation and Perceptions in Latin America with a Focus on Mexico. Bulletin of Latin American Research, 27(3), 388–409. doi:10.1111/j.1470-9856.2008.00276.x

Johnston, M. (2008). Japan, Korea, the Philippines, China: Four Syndromes of Corruption. Crime, Law, and Social Change, 49(3), 205–223. doi:10.1007/s10611-007-9095-z

Mulder, L. B., Verboon, P., & de Cramer, D. (2009). Sanctions and Moral Judgments: The Moderating Effect of Sanction Severity and Trust in Authorities. European Journal of Social Psychology, 39(2), 255–269. doi:10.1002/ejsp.506

Kaufman, D. (2013). Six Questions on the Cost of Corruption with World Bank Institute. Retrieved on October 18, 2013, from: http://web.worldbank.org Kaufmann, D. (2005). Myths and Realities of Governance and Corruption. Global Competitiveness Report, 81-98. Kaufmann, D., & Vicente, P. C. (2011). Legal Corruption. Economics and Politics, 23(2), 195–219. doi:10.1111/j.1468-0343.2010.00377.x Kimuyu, P. (2007). Corruption, Firm Growth and Export Propensity in Kenya. International Journal of Social Economics, 34(3), 197–217. doi:10.1108/03068290710726748 Klitgaard, R. (1988). Controlling Corruption. Berkeley, CA: University of California Press. Li, P. P. (2009). The Duality of Crony Corruption in Economic Transition: Towards an Integrated Framework. Journal of Business Ethics, 85(1), 41–55. doi:10.1007/s10551-008-9747-7 Lin, W. Z., & Yang, C. C. (2001). A Dynamic Portfolio Choice Model of Tax Evasion: Comparative Statics of Tax Rates and Its Implication for Economic Growth. Journal of Economic Dynamics & Control, 25(11), 1827–1840. doi:10.1016/ S0165-1889(99)00081-0

486

Nageri, K. I., Umar, G., & Abdul, F. A. (2013). Corruption and Economic Development: Evidence from Nigeria. Kuwait Chapter of Arabian Journal of Business and Management Review, 3(2), 46–56. Niekerk, A. A. V. (2003). Can More Business Ethics Teaching Halt Corruption in companies? South African Journal of Philosophy, 22(2). North, D. C. (1990). Institutions, Institutional Change and Economic Performance. Cambridge, UK: Cambridge University Press. doi:10.1017/ CBO9780511808678 Nye, J. S. (1989). Corruption and Political development: A Cost-Benefit Analysis. The American Political Science Review, 61(2), 417–427. doi:10.2307/1953254 Park, H. (2003). Determinants of Corruption: A Cross-National Analysis. The Multinational Business Review, 11(2), 29–48. doi:10.1108/1525383X200300010 Paternoster, R., & Simpson, S. (1996). Sanction Threats and Appeals to Morality: Testing a Rational Choice of Corporate Crime. Law & Society Review, 30(3), 549–584. doi:10.2307/3054128

 Corruption, Business Climate, and Economic Growth

Pederson, K. H., & Johannsen, L. (2006). Corruption: Commonality, Causes and Consequences in Fifteen Post-Communist Countries. In A. Rosenbaum & J. Nemec (Eds.), Democratic Governance in Central and Eastern European Countries. Bratislava: NISPAcee. Podobnik, B., Shao, J., Njavoro, D., Ivanov, P. C., & Stanley, H. E. (2008). Influence of Corruption on Economic Growth Rate and Foreign Investment. The European Physical Journal B, 63(4), 547–550. doi:10.1140/epjb/e2008-00210-2 Powell, W. W., & DiMaggio, P. J. (1991). The New Institutionalism in Organizational Analysis. Chicago: University of Chicago Press. Pucetaite, R., Lamsa, A. M., & Novelskaite, A. (2010). Building Organizational Trust in Low-Trust Societal Context. Baltic Journal of Management, 5(2), 197–217. doi:10.1108/17465261011045124 Rabl, T., & Kuhlmann, T. M. (2008). Understanding Corruption in Organizations – Development of Empirical Assessment of an Action Model. Journal of Business Ethics, 82(2), 477–495. doi:10.1007/s10551-008-9898-6 Rama, M. D. (2012). Corporate Governance and Corruption: Ethical Dilemmas of Asian Business Groups. Journal of Business Ethics, 109(4), 501–519. doi:10.1007/s10551-011-1142-0 Rehren, A. (1997). Corruption and Local Politics in Chile. Crime, Law, and Social Change, 25(4), 323–334. doi:10.1007/BF00572513 Robertson, C., & Watson, A. (2004). Corruption and Change: The Impact of Foreign Direct Investment. Strategic Management Journal, 25(4), 385–396. doi:10.1002/smj.382 Rodrik, D., Subramanian, A., & Trebbi, F. (2002). Institutions Rule: The Primacy of Institutions Over Geography and Integration in Economic Development. Journal of Economic Growth, 91, 131–165.

Rose, R., & Mishler, W. (2007). The GAP between Experience and Perception of Corruption: An Empirical Analysis. Paper presented at ECPR General Conference, Panel Perception of Corruption. Pisa, Italy. Rustow, D. (1970). Transitions to Democracy: Toward a Dynamic Model. Comparative Politics, 2(3), 337–363. doi:10.2307/421307 Sadig, A. A. (2009). The Effects of Corruption on FDI Inflows. Cato Journal, 1-29. Sauser, W. I. Jr. (2007, Summer). Employee Theft: Who, How, Why, and What Can Be Done. SAM Advanced Management Journal, 13-25. Scully, G. W. (1988). The Institutional Framework and Economic Development. Journal of Political Economy, 96(3), 652–662. doi:10.1086/261555 Seligson, M. A. (2006). The Measurement and Impact of Corruption Victimization: Survey Evidence from Latin America. World Development, 34(2), 381–404. doi:10.1016/j.worlddev.2005.03.012 Shera, A. (2011). Corruption and the Impact on Economic Growth. Journal of Information Technology and Economic Development, 2(1), 39–53. Smarzynska, B. K., & Wei, S. J. (2000). Corruption and the Composition of Foreign Direct Investments. Policy Research Working Paper Series, 2360, 25. Smith, L. M., Smith, Jr., L. C., Gruben, W. C., & Johnson, L. (2011). A Multinational Analysis of Corruption and Economic Activity. Proceedings of Academy of Legal, Ethical and Regulatory Issues, 16(1). Soot, M. L. (2012). The Role of management in Tackling Corruption. Baltic Journal of Management, 7(3), 287–301. doi:10.1108/17465261211245463

487

 Corruption, Business Climate, and Economic Growth

Spector, B. I., Johnston, M., & Dininio, P. (2005). Learning Across Cases: Trends in Anticorruption Strategies. In B. Spector (Ed.), Fighting Corruption in Developing Countries: Strategies and Analysis (pp. 213–232). Bloomfield, IN: Kumarian Press. Swaleheen, M. (2011). Economic Growth with Endogenous Corruption: An Empirical Study. Public Choice, 146(1-2), 23–41. doi:10.1007/ s11127-009-9581-1 Tanzi, V. (1998). Corruption around the World. IMF Staff Papers, 45(4), 559–594. doi:10.2307/3867585 Tanzi, V., & Davoodi, H. R. (2000). Corruption, Growth and Public Finances (IMF Working Paper, WP/00/182, 24). IMF. Transparency International. (2013). Global Corruption Barometer. Retrieved on October 28, 2013, from: www.transparency.org Transparency International. (2013). Retrieved on December 3, 2013, from: http://cpi.transparency. org/cpi2013 Triesman, D. (2000). The Causes of Corruption: A Cross-National Study. Journal of Public Economics, 76(3), 399–457. doi:10.1016/S00472727(99)00092-4 United Nations Convention against Corruption (UNCAC). (2014). United Nations Office on Drugs and Crime. Retrieved on January 3, 2014, from: http://www.unodc.org Vaal, A. D., & Ebben, W. (2011). Institutions and Relation between Corruption and Economic Growth. Review of Development Economics, 15(1), 108–123. doi:10.1111/j.1467-9361.2010.00596.x Van Duane, P. C. (2001). Will Caligula go Transparent? Corruption in Acts and Attitudes. Forum on Crime and Society, 1(2), 73–95.

488

Vicente, P. C. (2007). A Theory of Corruption, Political Exclusion and Windfalls. In M. Gradstein & K. A. Konrad (Eds.), Institutions and Norms in Economic Development. Cambridge, MA: MIT Press. Wong, J. K. H. (1981). The ICAC and Its AntiCorruptive Measures. In R. P. L. Lee (Ed.), Corruption and Its Control in Hong Kong: Situation Up to Late Seventies. Hong Kong: Chinese University Press. Woodside, A. G., Chang, M. L., & Cheng, C. F. (2012). Government Regulations of Business, Corruption, Reforms and the Economic Growth of Nations. International Journal of Business and Economics, 11(2), 127–142. World Bank. (2014a). Doing Business. Retrieved on January 13, 2014, from: www.doingbusiness. org World Bank. (2014b). International Finance Corporation, Investment Climate. Retrieved on January 8, 2014, from: https://www.wbginvestmentclimate.org/research-and- diagnostics/ World Bank, Doing Business Project. (2014). Retrieved on January 8, 2014, from: http://www. doingbusiness.org/ World Bank Group. (2014). CPIA database. Retrieved on January 8, 2014, from: http://www. worldbank.org/ida World Bank, Worldwide Governance Indicators (WGI) Project. (2014). Retrieved on January 8, 2014, from: www.info.worldbank.oeg/governance Wright, A. S., & Craigwell, R. (2013). Economic Growth and Corruption in Developing Economies: Evidence from Linear and Non-Linear Panel Causality Tests. Business. Finance & Economics in Emerging Economies, 8(2), 22–43.

 Corruption, Business Climate, and Economic Growth

KEY TERMS AND DEFINITIONS Business Climate: Refers to the attitude of government and lending institutions towards business activity. It also includes the tax rate, inflation and attitude of labor unions towards employers. Business Ethics: A form of applied ethics that examines ethical or moral problems that arise in a business environment. It applies to all aspects of business conduct and is relevant to the conduct of individuals and entire organizations. Corruption Perception Index (CPI): Is the annual ranking of countries “by their perceived levels of public sector corruption, as determined by expert assessments and opinion surveys. The CPI generally defines corruption as “the misuse of public power for private benefit”. Corruption: Is defined as abuse of entrusted power for private gain. Doing Business Indicator: Ranks the economies in 10 areas of business regulation, such as starting a business, resolving insolvency and trading across borders. Economic Freedom Index (EFI): Is an annual guide published by The Wall Street Journal and The Heritage Foundation. The Index covers 10 freedoms – from property rights to entrepreneurship – in 186 countries.

489

490

Chapter 23

A Case Study on CrossCultural Differences: A Failure Story Semra Boga İstanbul University, Turkey Ibrahim Efe Efeoğlu Adana Science and Technology University, Turkey

ABSTRACT Following the globalization trend in the world, Turkey and Belgium have become good business partners in the international arena. Belgium, with its geographically and politically critical location and high Turkish population has been a very attractive European country for Turkish investors. However, there are still Turkish companies leaving Belgium possibly due to adaptation problems to business culture in Belgium. In this chapter, cultural differences between Belgium and Turkey are investigated using qualitative research method with a single company case study. The results of the study indicate that differences between Turkish and Belgian cultures are mainly due to language, communication and relationship building styles, different level of individualism, and future orientation.

1. INTRODUCTION The introduction section presents background and problem definition, research question, purpose, and delimitations of the chapter.

1.1 Background and Problem Definition Since the second half of the 20th century, the dominant trend has been toward the reduction of

barriers to international trade. The liberalization of world trade agreements, beginning with formation of the General Agreement on Tariffs and Trade (GATT) in 1945, the creation of regional free trade agreements such as the European Union (EU) and the North American Free Trade Agreement (NAFTA), and the formation of the World Trade Organization (WTO) facilitated a broad transition (Bartlett & Ghoshal, 1989, 2002). Companies expand their operations internationally for different reasons such as diversifying the risks and

DOI: 10.4018/978-1-4666-6551-4.ch023

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 A Case Study on Cross-Cultural Differences

uncertainties of the domestic market, securing key supplies, increasing sales, reducing costs and increasing competitiveness (Rugman et al., 2006). According to Drucker, an important lesson of the last 40 years has been the increased participation in the world economy thus becoming the key to domestic growth. The world economy has become the engine of growth, prosperity, and employment for every developed country (Drucker, 1995). Since every developed economy has become world-economy led, more and more companies, both large and small, are becoming international businesses (Katsioloudes & Hadjidakis, 2007). According to United Nation (UN) estimates, by 2004 the number of Multinational Enterprises (MNEs) had risen to approximately 70,000, collectively managing at least 690,000 foreign affiliates and with total revenues in excess of US$18.7 trillion. Over the past 40 years, world exports as a share of output have doubled to almost 25 percent of world output. However, despite this enormous increase, economic evidence suggests that significant barriers to international trade still exist. These barriers include costs that occur specifically at the border such as tariffs, quotas, and paperwork due to customs and other regulations as well as the cultural differences between the countries (Ostapik & Yi, 2007). One of the most important of the barriers mentioned above to international trade is cultural differences. Since the values, attitudes, and tastes of customers are influenced by culture, trying to do business without fully understanding the local culture can cause business failures (Ricks, 2006). However, when successfully managed, cultural differences can lead to innovative business practices, faster and better learning within the organization, and sustainable sources of competitive advantage (Hoecklin, 1995). Even though companies can more easily enter foreign markets due to globalization and the international agreements mentioned above, the survival of international companies highly depends on understanding and embracing the local culture (Ricks, 2006).

Following the globalization trend in the world today, Turkey and Belgium have become good business partners in the international arena. Economic relationships between the two countries began in 1947 with the payment agreement, and accelerated from 1995 when the EU and Turkey signed the Customs Union Agreement. Trade volume between Turkey and Belgium reached a total of 5 billion Euros in 2009. Figure 1 shows the evaluation of trade volume between the two nations throughout the years. In addition to export-import activities, there is a bilateral interest towards direct investments through acquisitions of both Turkish and Belgian investors. Turkish Yildiz Holding’s acquisition of Belgian chocolate manufacturer Godiva for US$850 million in 2007 was considered the most noteworthy overseas purchase and drew worldwide attention. Additionally, Turkish Yildirim Holding’s acquisition of 75.11% shares of Belgian Sealease Yatch Leasing Company in 2011 was a valuable investment for both parties (Deloitte, 2012). However, Belgian companies also had strategic investments in Turkey such as hygiene products company Ontex’s acquisition of Astel in 2000, profile manufacturer Deceuninck’s acquisitions of Ege profil in 2000, and sealants manufacturer Soudal’s acquisition of Isik Group in 2011 (Hurriyet Daily News, 2010; Hbmedia, 2000; European Coatings, 2011). Belgium, with its geographically and politically critical location and high Turkish population, has been a very attractive European country for Turkish investors. Investment by Turkish companies exceeded 1 million Euros as of 2010. These companies are dominantly active in the fields of furniture, construction, and textiles. However, there are still Turkish companies leaving Belgium, and one of the reasons behind the exits are apparently due to adaptation problems to the business culture in Belgium. Despite the large number of studies made on cultural differences and their implications, no research exists comparing the cultures of Belgium

491

 A Case Study on Cross-Cultural Differences

Figure 1. Belgium: Turkey trade volume

Source: Foreign Affairs Ministry of Turkey (http://www.mfa.gov.tr)

and Turkey. Considering the potential business opportunities between these two countries due to the bilateral agreements, a high Turkish population, and geographic advantages, it is worth investigating possible cultural barriers and solutions for Turkey when conducting business in Belgium. Therefore, this research uses theoretical frameworks and a single-case study. For the investigation, company White Windows BVBA, a wholly-owned subsidiary of the Turkish company Turfan, Ltd. established in Belgium in 2008, was selected as a sample company since the firm failed in Belgium due to adaptation problems with the local business environment. In this study, we will investigate whether or not cultural differences led this company to the failure.

492

1.2 Purpose The purpose of this study to determine if cultural differences exist between Belgium and Turkey. Exploring this subject will help Turkish companies when doing business in Belgium to avoid possible failures due to cultural differences. Since there is no research conducted on this particular subject, we also aim to contribute to the field of cross-cultural studies.

1.3 Research Question •

Are there cultural differences between Belgium and Turkey that can impact business success?

 A Case Study on Cross-Cultural Differences

1.4 Delimitations This study is delimited to one Turkish company in Belgium. Therefore, it is not possible to make generalizations based on the findings. However, the study provides a good guide for companies who possess the same cultures as our case countries. The second delimitation of this research is the data collection. The primary data was collected only from Turkish people in the headquarters and the subsidiary, and the information about the Belgian culture comes from secondary sources.

2. LITERATURE REVIEW The literature review for this study starts with the concept of internationalization and its determinants of failure/success. It continues with the definition of culture and essential cultural theories such as Kluckhohn and Strodtbeck’s Values Orientation Model, E.T. Hall’s cultural factors, G. Hofstede’s cultural dimensions, S. Schwartz’s value dimensions, Tropmenaars’ cultural dimensions, and concludes with Gesteland’s patterns of cross-cultural business behavior.

2.1 Internationalization and the Determinants of Failure/ Success of MNEs Until the end of 1980’s, international business consisted mostly of large MNEs. However, thanks to the globalization movements and developments in information technologies, Small- and Mediumsized Enterprises (SMEs) have also gained great access to the overseas markets. According to the Organisation for Economic Cooperation and Development (OECD) in 1997, over one million SMEs – or as many as 30% of the manufacturing SMEs in the industrialized countries – are actively operating in the international arena. Even though the positive perspectives on globalization made it easier for SMEs to enter foreign markets, suc-

cess in the foreign business requires some critical skills and capabilities. The key success factors for international enterprises highly depend on the sector and the host-country in which the firm is operating. However, extant international business literature suggests that factors such as entry modes, firm size, economic distance, cultural distance, and organizational competences are the most important causal factors to explain the business success or failures.

2.1.1 Entry Modes The most well-known model for internationalization is the Uppsala Model which describes foreignmarket entry as a learning process. In this model, the company makes an initial commitment of resources in order to gain local market knowledge about customers, competitors, and regulations. It then makes a significant resource commitment, either acquiring its local distributer or investing in a local manufacturing plant. Choosing the entry mode consistent with the overall strategic intentions and motivations of the company is one of the most important stages of the internationalization process. The different modes of foreign-market entry determine the level of the commitment and the control over foreign activities as seen in Figure 2 (Barlette et al., 2008) There are two opposing theories regarding the impact of foreign entry modes. The resource-based view holds that as the degree of control increases, the success chances increase because the firm is able to keep the key resources essential to success (Isobe et.al, 2000). On the other hand, transaction cost theory postulates a high level of resource commitment and control will increase the cost of conducting business. Therefore, transaction cost theory considers wholly-owned subsidiaries and joint ventures as the most high-cost entry modes that imply higher levels of investment and risk (Johnson & Gerard, 2008). In their research involving 128 Chinese and 64 Indian firms, Johnson and Gerard (2008) found that success is higher

493

 A Case Study on Cross-Cultural Differences

Figure 2. Approaches to foreign market entry (Barlette et al., 2008)

for companies employing a mode of entry with greater control.

2.1.2 Firm Size There is no consensus in the extant literature regarding the role of firm size in international business success. However, it is well known that SMEs tend to possess far fewer tangible assets such as plant, property, and equipment, as well as financial and human resources, which usually favor the success of the large MNEs (Knight & Kim, 2009). For example, Coca-Cola’s success in buying the leading Cola brand, Thums Up, to enter the Indian market shows the power of being a large entity. Similarly, Nestlé’s huge portfolio of 7,695 brands permits the company to exploit any new market it enters (Parsons, 1996). However, experiences of many large MNEs show that being a large firm does not guarantee success. For ex-

494

ample, the withdrawal of Wal-Mart from Germany and South Korea in 2006 due to trouble attracting customers shows that the correlation between the firm size and the success in the host country is not always positive (Associated Press, 2006). Researchers have explained the failure of large MNEs as a result organizational inflexibilities and less innovative capability due to high bureaucracy in these companies (Johnson & Gerard, 2008).

2.1.3 Economic Distance According to Ghemawat (2007), differences in the wealth or income of consumers, and in the cost or quality of resources, inputs, infrastructure, and information are the most important economic attributes which create distance between countries, and the overall competitiveness of an MNE highly depends on the distance they face. A 1% increase in country’s economic size (GDP) and income

 A Case Study on Cross-Cultural Differences

level (GDP per capita) creates on average a 0.7% to 0.8% increase in trade. However, other factors related to distance such as cultural and administrative issues have larger effects (Ghemawat, 2007). Tsang and Yip (2007) argue that host countries economically more developed than an MNE’s home nation provides more resource opportunities and access to strategic assets, thus helping MNEs to develop firm-specific advantages and improve overall competitiveness in the long-term. However, Dunning (1998) states that firms entering markets which are economically different from their home markets will have less likelihood of success since they will need to adjust to new market conditions. According to economic indicators in 2010, the wealth of the population in Belgium (US$36,273 GDP per capita) is more than three times higher than that of Turkey (US$10,106 GDP per capita). Although this is highly related to high labor costs which may first seem a disadvantage, Belgium offers high productivity, high quality of transport, logistics, and telecommunications infrastructure – all factors highly important to business success (Bisciari & Piette, 2007).

2.1.4 Cultural Distance Definition of culture usually involves shared values and meanings, tastes, and preferences of society. Even though globalization and technological developments assisted products and services to flow much more easily across countries, there is no global consumer culture, and consumer behavior differences can be too large to ignore (De Mooij, 2004). For example, Euro Disney’s failure in Europe is a good example of ignoring consumer preferences. Contrary to the preferences of Americans, Europeans did not consider Euro Disney a vacation spot, but rather as a plce to spend a day. Some intellectual French people considered the park as a threat to the national culture and called the park a “cultural Chernobyl” or “the American nightmare”. In the end, Euro Disney reported a

US$900 million loss in the first operating year (Bondebjerg & Golding, 2004). According to a KPMG study, “…83% of all Mergers & Acquisitions (M&As) failed to create any benefit for the shareholders and over half actually destroyed value”. Interviews with over 100 senior executives involved in these 700 deals over a 2-year period showed the most important cause for failure “is the people and the cultural differences”. Difficulties experienced in M&As were mostly in cross-cultural situations when the companies involved were from two or more different countries (Gitelson et al., 2001).

2.1.5 Organizational Competences Peng (2001) suggest that firms’ valuable, unique, and hard-to-imitate resources and competences can make a significant contribution to international business, allowing smaller firms to differentiate themselves and succeed abroad. Observing the growing trend in the internationalization of SMEs, Knight and Kim (2009) proposed a model to link International Business Competence (IBC) and SME international performance. They define IBC as MNE’s international orientation, international marketing skills, international innovativeness, and international market-orientation. They measured the international performance of 16 SMEs in the United States in terms of international market share, international sales growth, international profitability, and export intensity and found that IBC leads to superior SME performance in these performance indicators. Based on their case study results, Knight and Kim (2009) argue that the following are critical factors to success abroad: • •

Having a global mindset wherein management views the world as the firm’s marketplace. Creating value for foreign customers through effective segmentation and targeting.

495

 A Case Study on Cross-Cultural Differences

• •

Developing and introducing new processes, products, services, or ideas to international markets. Understanding the client, the market, competitors, other market forces, and responding to that understanding.

Regarding organizational competences, Grant (1991) also argues that choosing a strategy which best exploits the firm’s resources and capabilities is the main source of competitive advantage. Black and Decker’s competence in the design and manufacture of small electric motors, Casio’s harmonization of “know-how” in miniaturization, microprocessor design, and material science, and Federal Express’s primary capabilities allowing them to guarantee next day delivery are good examples of developing capabilities and competences that are critical for success (Grant, 1991).

2.2 What is Culture? Culture is a term that can have different meanings depending on the field of study. Despite different definitions in different field of studies, there is a strong consensus that key elements of culture include language, religion, values, attitudes, customs, and norms of a group or society (Rugman et al., 2006)

2.2.1 Language Language is perhaps the most important key to understanding cultures. English is widely accepted as the language of business as many global institutions and companies have adopted English as their official language. However, any assumption that speaking the same language removes cultural differences is dangerous as it normally only hides them. Moreover, a reliance on English by British and American managers among a lack of other language skills can weaken their ability to empathize with and adapt to other cultures (Rugman et al., 2006). Even though English is widely accepted

496

in international business, learning the native language of the country when doing business can give the company a competitive advantage (Dow & Karunaratna, 2006). According to Bartlett et al., (2008), all other things being equal, trade between countries that share a language will be three times greater than between countries without a common language. In order to measure the effect of language on international trade and Foreign Direct Investment (FDI), Oh et. al. (2011) conducted research using a statistical model with more than 100 countries including Belgium and Turkey. Their findings show that speaking the same official language increases bilateral trade about 43% and inward FDI flows about 70%, assuming all other factors being equal. Research conducted by Lohmann (2010) using the Language Barriers Index, a newly constructed variable employing detailed data, shows that language barriers are a significant deterrent to bilateral trade so a 10% increase in the Language Barrier Index can cause a 7% to 10% change in trade flows between two countries (Lohmann, 2010). Australian-based Star TV’s failure in Asia with a US$500 million loss in four years is a good example of the cost of ignoring cultural differences. One of the mistakes Star TV made was assuming that Asian audiences would be interested in watching TV programs in English. After the resulting large failure, the company built a brand new strategy taking cultural differences and language barrier into consideration, an act eventually positioning the company among the top players in the field (Bartlett et al., 2008). In Belgium where our case is company located, there are three official languages: Flemish representing 58% of the population, French representing 31% of the population, and German representing the remainder of the population. Although the Flemish and French population groups share many values and practices, Belgians tend to be sensitive to their cultural and language differences. Therefore, it is essential for companies planning to

 A Case Study on Cross-Cultural Differences

enter the Belgian market to be aware and respect these differences (Katz, 2008).

2.2.2 Religion Religion is an important determinant of culture, especially in countries where a single religion is dominant. Therefore, it is important for companies to understand the different religions since an individual’s religion helps shape his or her attitude toward work and entrepreneurship (Hill, 2009). For instance, Protestants’ strong beliefs about the value of delayed gratification, saving, and investment was seen as the “spirit of capitalism” by the sociologist Max Weber (Rugman et al., 2006). Additionally, the key principles of Confucian teachings such as hard work, patience, and perseverance were the main reason for the impressive economic growth in Southeast Asian countries during the period 1965-1985 (House et al., 2004). However, since the main goal of Islam is skewed towards preparing for the next life, it leads to a lack of motivation and denial of welfare and prosperity in some Islamic countries. Although 99.8% of Turkey’s population is of the Muslim faith, the country was established in 1923 as a secular country, thus abolishing the power of religious authorities and functionaries. However, religion remained a strong force at the popular level (Ahmad, 1993). In contrast, Roman Catholicism, which constitutes 75% of the total population in Belgium, has traditionally been the country’s majority religion. According to the trade gravity model, as the distance between the two trading partners increases by 1%, bilateral trade decreases by 1.17%. However, Kang and Fratianni (2006) suggest that the distance elasticity is much larger when Christian and Islam countries trade. When one is a Christian country and the other is an Islam country, bilateral trade decreases by 1.47%.

2.2.3 Political and Economic Systems Political and economic philosophies can drastically influence the culture of a country. A country’s political system is the center for how economical and legal systems are constructed (Browaeys & Price, 2008). According to Frankel and Rose (2002), preferential trading agreements, common currency, and political union increase trade by more than 300%. They also argue that traditional economic factors such as the country’s wealth and size (GDP) remain important; a 1% increase in either of those measures creates, on average, a 0.7% to 0.8% increase in trade. Countries can also create political distance through tariffs, trade quotas, and restrictions on FDI. Other economic factors such as high minimum wages, healthy unemployment benefits, and unemployment protection laws in western Europe should be considered before investing in these countries since such factors can play an important role both in cost and in employee behaviors. According to Ghemawat, ignoring political sensitivities was Star TV’s other major miscalculation. Rupert Murdoch, the chief executive of Star TV, declaring that satellite television was an unambiguous threat to totalitarian regimes everywhere because it permitted people to bypass government-controlled news sources – not surprisingly – resulted in a ban on the reception of foreign satellite TV services soon after (Ghemawat, 2001).

2.2.4 Education Education is an important factor shaping culture. For example, at the micro level the teaching approach used and the manner of learning can also affect future learning. This, in turn, can determine the quality and versatility of human resources in the labor market (Browaeys & Price, 2008). According to Chang and Huang (2010), the setting of a country’s education system determines its talent distribution and comparative advantage in trade. In the Global Competitiveness Report 2011-2012,

497

 A Case Study on Cross-Cultural Differences

Belgium ranks five out of 142 countries on higher education and training, driving the country to be the 15th most-competitive economy in the world (Schwab, 2011). Japan’s success story began with its well-educated workforce. Today, India is an attractive destination for investment because of its well-educated workforce. A country’s education system can also be an indicator of what products might sell well, and what types of promotional materials should be employed. For example, in a country where literacy rates are low, written promotions will not work well (Hill, 2009).

2.2.5 Social Structure There are two important elements to considering social structure of the societies. First, the degree of individualism and communalism in the society, and the second, the degree to which society is divided into classes or castes. In some societies, the group is considered more important, while in others individual achievements are more important. In many Western societies, there is a strong focus on individual achievements. This mindset can be both beneficial and harmful for business. Focus on individual achievements leads to a high degree of entrepreneurship, which is beneficial because it is linked to the development of new products and processes (Hill, 2009). The concepts of individualism and collectivism are explained in detail n the theoretical section of this chapter.

2.3 Cultural Models To analyze the differences and similarities between people who come from different cultural backgrounds, researchers have developed cultural dimensions that can measure culture in some manner. These researchers and their dimensions are presented in the Table 1. Although they seem completely different at first, they hold many similarities since the researchers have influenced each other. In this section, a comparative and critical assessment of all cultural models is provided.

498

2.3.1 Kluckhohn and Strodtbeck’s Values Orientation Model One of the earliest attempts towards proposing cultural categories for analyzing culture can be found in Kluckhohn and Strodtbeck’s Values Orientation Theory (1961), which proposes all human societies are challenged by five common problems or orientations with five universal and value-based solutions (Carter, 2000). Their five value orientations are based on humans’ relationship with time, nature and each other, and basic human motives and the nature of human nature. According to this model, societies differ according to what extent they allow the past, present, and future to influence their actions and decisions. Some societies focus on the past, ancestors, and traditionalism, others are focused on the pleasures of today, while still others plan the future carefully. For example, American culture is highly future-oriented where many mottos exist like “always be prepared”, “what next”, “wave of the future”. In contrast, Muslim cultures believe it is not possible to control the future since only God, not mankind, knows what will occur in the future. Thefore, one may often hear the term “Inshaallah” (God Willing) in Muslim cultures (Hills, 2002). Relationship with nature is the other value orientation causing differences or similarities among cultures. In mastery cultures, society has a need and responsibility to control and use nature for its own benefit. However, in harmony cultures people believe they should maintain the natural balance and they try to preserve and support the nature. Relationships among individuals determine whether the society is hierarchical or individualistic. Lines of authority are clearly established and dominate subordinate relationships in hierarchical cultures. In contrast, in individualistic societies people make decisions independently from others. Cultures also differ based on their motives for behaving. In some cultures, there is a focus on “being” which means motivation is internal and individuals focus on living in the present moment. In some other

 A Case Study on Cross-Cultural Differences

Table 1. Cultural dimensions Authors Kluckhohn & Strodtbeck

Hall

Hofstede

Schwartz

Trompenaars

Gesteland

Dimensions Hierarchical

Individualistic

Mastery

Harmony

Past-Oriented

Future-Oriented

Being

Doing

Evil

Good

High Context

Low Context

Use of Space

Use of Space

Monochronic

Polychronic

Individualism

Collectivism

High Uncertainty Avoidance

Low Uncertainty Avoidance

Short-term orientation

Long-term orientation

Masculanity

Femininity

High Power Distance

Low Power Distance

Embeddedness

Autonomy

Hierarchy

Egalitarianism

Mastery

Harmony

Individualism

Communitarianism

Specific

Diffuse

Past -Orientation

Future-Orientation

Universalism

Particularism

Neutral

Effective

Achievement

Ascription

Inner Directed

Outer Directed

Deal Focused

Relationship Focused

Formal

Informal

Rigid Time

Fluid Time

Expressive

Reserved

Source: Author’s construction

cultures, motivation is external and there is an emphasis on “doing” to achieve specific goals which should also be valued by others. For example, “doing” is a characteristic of American culture where there is an emphasis on individual achievement. In American culture, expressions such as “How are you doing?” or “What is happening?” reflect the feature of their “doing culture”. However, in “being” cultures

like Chinese, Japanese, or Arab, an individual’s place of birth, family background, age, and rank are much more important than personal achievement (Hills, 2002). The last value orientation is related to human nature. In some cultures, people assume the basic nature of other people is evil and the control of the evil behavior is the only hope, while in some other cultures people believe all

499

 A Case Study on Cross-Cultural Differences

individuals are inherently good and will always remain as such (Hills, 2002). Kluckhohn and Strodtbeck developed a survey called Value Orientations Method (VOM) consisting of 16 situations with associated questions to show how cultures are different from each other. The VOM has been referenced increasingly as a valuable element in cross-cultural management (Gallagher, 2001). In order to gain some empirical evidence for evaluating the utility of the cultural orientations framework in cross-cultural research, Maznevzki et al. (2002) measured the orientations in five countries: Canada, Mexico, the Netherlands, Taiwan, and the United States. They developed a questionnaire called “Cultural Perspective Questionnaire, version 4” (CPQ4) in order to measure four cultural orientations: relationships, environment, nature of humans, activity. The CPQ4 instrument consisted of 79 statements to which respondents agree or disagree on a 7-point Likert scale. They concluded that the Value Orientations Theory appears to shed light on cross-cultural research both for within-country and between-country comparisons, and helps to diagnose cultural differences in organizations and to increase awareness of cultural diversity. Based on the value orientations, DiStefano and Maznevski (2000) conducted research to test the team performance in culturally diverse teams, and concluded that culturally diverse teams tend to perform worse than homogenous teams. Criticism of Kluckhohn and Strodtbeck Kluckhohn and Strodtbeck conducted rigorous analyses to develop their theory that has influenced many other cultural researchers such as Hofstede, Trompenaars and Hampden-Turner, and Hall. For example, the “relationship orientation” is repeated in Hofstede’s individualism and power distance concepts, and Trompenaars and Hampden-Turner’s individualism-communitarianism, achievement-ascription, and equality-hierarchy dimensions, while Hall’s concepts of private and

500

public space correspond to space-orientation. The cultural orientations proposed by Kluckhohn and Strodtbeck are straightforward and meaningful notions to a culture’s core, and are presumed to be found in all societies. In contrast to some frameworks such as Hofstede’s, these cultural orientations are not necessarily dichotomous, meaning high preference for one orientation does not necessarily mean a low preference for the other orientation. This characteristic may allow a better understanding of cultural phenomena in the area of organizational research. Their framework is marked by many other advantages such as comprehensiveness, dimensions’ exclusiveness, and being applicable both at individual and aggregate levels allowing researchers to test the hypothesis both within and between the cultures (Yeganeh et al., 2009). Despite its many advantages, Kluckhohn and Strodtbeck themselves suggested their theory was not complete. Moreover, they did not provide measures for all the orientations they did propose. Another shortcoming of their theory is that since it is concerned with values rather than attitudes, it is general rather than specific, thus making it useful to examine general trends in behavior but not specific behaviors in any particular situation. Moreover, its use of rankings and preferences makes it difficult to analyze statistically (Hills, 2002). Although later on they attempted to measure the attitudes through ratings scale, they realized attitudes are too complex to be measured without considering factors like context and strength. Moreover, they also concluded that attitudes vary so much over time and situation that one attitude can predict only a small amount of behavior. One another important limitation of their theory is that it is not centrally concerned with management studies, and did not describe the implications for management. Despite the disadvantages mentioned above, Kluckhohn and Strodtbeck’s framework can be used to understand the cultural beliefs at individual level and therefore helps us to understand

 A Case Study on Cross-Cultural Differences

the differences in organizational attitudes and management styles. Since this study aims to find the cultural differences between Turkey and Belgium, using the values orientations method permits us to find the impact of individual values on business practices.

2.3.2 Edward T. Hall’s Cultural Factors According to Hall, culture can be defined as the way of life of people, the sum of their learned behavior patterns, attitudes, and material things. Culture controls people’s behavior beyond their conscious control. The key message in his book, The Silent Language, is that people must learn these unconscious aspects of communication. According to Hall, the real challenge is not to understand foreign cultures, but rather to understand one’s own since people’s own culture is mostly taken for granted. According to Hall, culture is communication, and communication is culture. In order to understand communication and culture, one should be aware of the total spectrum of communication including language, non-verbal communication, customs, perceived values, concepts of time and space, and different levels of context (Hall, 1959, 1990). Similar to Kluckhohn and Strodtbeck, Hall also included the time dimension in his cultural model. He introduced the theory of monochronic and polychronic times, which he believes are the most important to international business. Monochronic time means paying attention to and doing only one thing at a time. Polychronic time means being involved with many things simultaneously. In monochronic countries, the schedule may take priority above all else and be treated as unchangeable. In monochronic cultures such as that which exists in the Flemish part of Belgium, time is perceived as tangible, and people in these cultures discuss it as something which can be spent, saved, wasted, and lost. In contrast, in polychronic countries like Turkey, time system is defined by the simultaneous occurrence of many things and

by a great involvement with people. There is more emphasis on completing human transactions than on holding to schedules. According to Hall, proper understanding of the difference between these two time systems will be helpful in dealing with different cultures (Hall & Hall, 1990). Manrai and Manrai (1995) examined the application of monochronic/polychronic cultures in cross-cultural contexts. They concluded that high-context cultures such as Asia, Latin America, and the Middle East emphasize social interactions and value social time over time spent alone. However, low-context cultures like the United States, Canada, and Western Europe treat time as tangible and value self-time. Their findings support the time usage patterns for work versus leisure time across different cultures suggested by Hall. Space is another key component of Hall’s cultural theory. He introduced the concept proxemics in his book, The Hidden Dimension. Proxemics is the study of culturally-determined perception and use of space. Hall states there are four distance zones: Intimate distance, personal distance, social distance, and public distance. The specific distance chosen depends on the transaction, the relationship of the interacting individuals, how they feel, and what they are doing (Hall, 1966, 1990). When investigating communication between different cultures, Hall introduced the concept of context and described its role in the communication process (Browaeys & Price, 2008). Context is the information that surrounds an event, and as such it is totally incorporated with the meaning of that event. The cultures of the world can be compared on a scale from high- to low-context (Hall & Hall, 1990). A high-context communication or message is one in which most of the information is either in the physical context or internalized in the person, while very little is in the coded, explicit, transmitted part of the message. The Walloon area of Belgium and Turkey are high-context cultures. A low-context communication is just the opposite; the mass of the information

501

 A Case Study on Cross-Cultural Differences

is vested in the explicit code (Hall, 1976, 1989). High-context people become impatient and irritated when low-context people insist on giving them information they do not need. However, in low-context cultures such as in the Flemish part of Belgium, people have difficulty to understand the conversation when high-context people do not provide enough information. It is important to know whether the culture of a particular country falls on the high or low side of the scale since every person is influenced by the level of context (Hall & Hall, 1990). High-versus low-context communication has been extensively examined in advertising, global marketing, and cross cultural management, communication, and negotiation. Karacay-Aydin et. al (2010) investigated the extent of differentiation of web communication on cultural grounds. They analyzed 88 websites of US- and Turkish-based companies using the content analysis research method. Their findings were in line with Hall’s contexting model, as they discovered the Turkish websites displayed high context oriented features like more pictures, less detailed information, and more sidebars compare to their US counterparts. In order to confirm the characteristics of high- and low-context cultures, Gudykunst et. al (1998) conducted research with the use of a survey consisting of 16 items that come from value studies using the agree/disagree scale. Samples were chosen from the business managers of three different cultures: the USA, China, and Korea. Their overall findings show that the three cultures differ in a way that is consistent with Hall’s conceptualization. However, contexting was better explained on an individual rather than on a cultural level. Criticism of Hall Hall was an anthropologist and developed his framework through many years of observation in foreign services around the world. He provided numerous anecdotes of various cultures, but unlike

502

Hofstede, Hall never mentioned his method for conceptualizing and measuring the rankings from low-context to high-context. His data collection was primarily through qualitative interviews and observation, not based on questionnaires and rigorous statistical analysis (Cardon, 2008). Although this issue may be considered a shortcoming at first, considering all inherent discrepancies in using questionnaires, Hall’s extensive and meticulous observations are regarded as a solid foundation for his theory. Hall’s theory consists of cognitive-based elements like conception of time, space, and communication patterns that differentiate his work from other cultural typologies that rely mainly on value systems. However, the major concern with these elements is they are not mutually exclusive and seem subjective. For example, the notions of high/low context and monochromic/polychromic elements are conceptually overlapping. Despite the concerns regarding Hall’s theory, his elements still provide a deep understanding of cultural differences and may be more appropriate in comparisons of unrelated cultures, in qualitative studies, and in areas such as communication, negotiation, organizational behavior and consumer behavior (Yeganeh et al., 2009). In order to understand the cultural differences between the two case countries, Hall contexting model will be used in this study to find the differences in communication styles between Turkish and Belgian employees that indeed constitute an important part of the culture.

2.3.3 Hofstede’s Cultural Dimensions In order to compare national cultures, Dutch physiologist, anthropologist, and cross-cultural researcher Geert Hofstede conducted a study in the late 1960s which continued through the following three decades. The original study was based on an employee opinion survey involving 116,000 IBM employees in 40 different countries. From the results of this survey that asked people

 A Case Study on Cross-Cultural Differences

for their preferences in terms of management style and work environment, Hofstede identified four “value” dimensions on which countries differed. These dimensions were power distance, uncertainty avoidance, individualism versus collectivism, and masculinity versus femininity. In 1988, Harris Bond found a new dimension called “Confucian Work Dynamism” which Hofstede renamed as “long-term orientation”, and was subsequently added as the fifth dimension in his study (Hofstede, 2001). The last dimension of Hofstede, indulgence versus restraint, was introduced via a study performed by Micheal Minkov in 2010 (Piepenburg, 2011). Hofstede’s dimensions show many similarities when compared with Kluckhohn and Strodtbeck’s. What Kluckhohn and Strodtbeck identified as people’s relationships to each other is reflected in Hofstede’s individualism, power distance, and to some degree in masculinity. Hofstede’s longterm orientation has also similar elements with Kluckhohn and Strodtbeck’s relationship to activity since activities can be conducted with hope for future reward. Hofstede’s uncertainty avoidance dimensions resembles to Kluckhohn and Strodtbeck’s relation to activity when considering that activities can carry future risks. Hofstede’s first dimension “power distance” refers to the extent to which members of a culture expect and accept that power is unequally distributed in society (Browaeys & Price, 2008). In organizations, power distance influences the amount of formal hierarchy, the degree of centralization, and the amount of participation in decision making (Newman & Nollen, 1996). In high power distance countries like Turkey, superiors and subordinates consider each other as unequal; the hierarchical system is based on some existential inequality. These organizations centralize power more and subordinates expect to be told what to do. There are more visible signs of status, and contacts between superiors and subordinates should be initiated only by superiors. In the large power distance situation, salary systems show wide

gaps between top and bottom in the organization. Workers are relatively uneducated, and manual work has a much lower status than office work. The ideal boss in the subordinates’ eyes is the one they feel most comfortable with and whom they respect most like a “good father” (Hofstede & Hofstede, 2005). Based on their field survey conducted in Turkey with a sample of 185 Turkish employees, Pellegrini and Scandura (2006) confirm that Turkey has a high power distance culture in which subordinates always accept their superiors’ directives without question. In contrast, in the small-power-distance situation subordinates and superiors consider each other as existentially equal; the hierarchical system is simply an inequality of roles, established for convenience, and roles may be changed so a subordinate today may be a boss tomorrow. In small-power distant countries like Belgium, organizations are fairly decentralized with flat hierarchical pyramids, and there is limited number of supervisory personnel. Salary ranges between top and bottom jobs are relatively small; workers are highly qualified, and high-skill manual work has a higher status than low-skill office work. Privileges for higher-ups are basically undesirable, and all should use the same parking lot, toilets, and cafeteria. Superiors should be accessible for subordinates, and the ideal boss is a resourceful democrat. Subordinates expect to be consulted before a decision is made that affects their work, but they accept that the boss is the one who finally decides (Hofstede & Hofstede, 2005). However, there is no research evidence of a systematic difference in effectiveness between organizations in large-power-distance versus small-power-distance countries. They may be good at different tasks: small-power-distance cultures at tasks demanding subordinate initiative, and large-power-distance cultures at tasks demanding discipline. The important thing is for management to utilize the strengths of the local culture (Hofstede & Hofstede, 2005).

503

 A Case Study on Cross-Cultural Differences

The second dimension of Hofstede’s cultural model is “uncertainty avoidance” which can be defined as the extent to which the members of a culture feel threatened by ambiguous or unknown situations. This feeling is, among other things, expressed through nervous stress and in a need for predictability: a need for written and unwritten rules (Hofstede & Hofstede, 2005). Both in Belgium and Turkey there exists high level of uncertainty avoidance resulting in formal laws controlling the rights and duties of employers and employees. There are also more internal regulations controlling the work process. In strong uncertainty avoidance societies, people prefer to work hard or at least to be always busy. Life is hurried, and time is money. These cultures have a strong belief in expertise on the work floor (Hofstede & Hofstede, 2005). Managers of this type of culture avoid taking risks, and are motivated by stability and security. The role of leadership is more one of planning, organizing, coordinating, and controlling (Bartlett et al., 2008). In order to study the impact of uncertainty avoidance differences between Headquarters and the host country, Brock et. al (2008) surveyed 298 general managers of multinational subsidiaries, and concluded that as the home country levels of uncertainty avoidance increases, the trust between the headquarter and the subsidiary decreases. As a result, multinationals from these cultures favor expatriate assignment and more formalized coordination mechanisms (Brock et. al, 2008). In countries with weak uncertainty avoidance, people believe rules should be established only in case of absolute necessity, such as to determine whether traffic should keep left or right. Examples of such countries include Singapore, Jamaica, Denmark, Sweden, China, Australia, USA, Canada, South Africa, and Indonesia. In these nations, people believe many problems can be solved without formal rules. In weak uncertainty avoidance societies, people are able to work hard if necessary, but they are not driven by an inner urge toward constant activity. Instead, such

504

individuals prefer to relax, and they consider the time framework in which to orient oneself, but not something one is constantly watching (Hofstede & Hofstede, 2005). Managers in cultures with weak uncertainty avoidance would be expected to uphold or establish rules only as absolutely necessary – they cannot possibly be the source of all wisdom and may need to draw others into their decision-making who are more competent (Browaeys & Price, 2008). The third dimension concerns itself with the relationship between the individual and the group. The majority of people live in societies in which the interests of the group take precedence over the interests of the individual. These are so-called “collectivist societies”, and in such countries such as Turkey, the group to which one belongs is the major source of identity and the unit to which one owes a lifelong loyalty (Hoecklin, 1995). On the contrary, in individualist societies the interests of the individual prevail over the interests of the group. A minority of people in the world live in individualist societies, and Belgium ranks as one of the most individualistic nations on earth. Based on Hofstede’s collectivism-individualism dimensions, Kirkman et. al (2001) examined the functioning of work teams in a variety of cultures. During their research they observed, interviewed, and collected survey data from 378 work teams in highly individualistic countries like Australia, Belgium, Great Britain, France, and the United States, and also in highly collectivistic countries like Argentina, Israel, Japan, Mexico, the Philippines, and Puerto Rico. Their findings suggest individualists tend to respond more to individual rewards versus team rewards, prefer to work alone rather than in groups, and make decisions without considering the welfare of the team members (Kirman et. al, 2001). In collectivist societies, collective achievement is the focus rather than an individual’s goals and careers. In a collectivist culture, an employer never hires just an individual, but rather a person who belongs to a group. The employee will act accord-

 A Case Study on Cross-Cultural Differences

ing to the interest of this group, which may not always coincide with his or her individual interest. The relationship between employer and employee is viewed in moral terms. Poor performance of an employee in this relationship is no reason for dismissal (Hofstede & Hofstede, 2005). The role of leadership in such cultures is to facilitate team effort and integration, to foster a supportive atmosphere, and to create the necessary context or group culture (Bartlett et al., 2008). In individualist cultures, the focus is more on rights and the achievements of the individual. Employed persons in an individualist culture are expected to act according to their own interests, and work should be organized in such a way that this self-interest and the employer’s interest coincide. The relationship between employer and employee is primarily considered a business transaction. Poor employee performance or a better pay offer from a potential employer are socially accepted reasons for terminating a work relationship. The level of employee commitment can also differ depending on different levels of individualism and collectivism (Hofstede & Hofstede, 2005). Endrawes and Matawie (2005) conducted research in the individualist country of Australia and the collectivist country of Egypt to investigate the relationship between individualism/ collectivism and the professional commitment by interviewing 264 accountancy professionals from these countries. Their results support Hofstede’s theory that professional commitment is higher in a collectivist society. Hofstede distinguishes cultures also as masculine and feminine. A society is called masculine when emotional gender roles are clearly distinct: men are supposed to be assertive, tough, and focused on material success, whereas women are supposed to be more modest, tender, and concerned with the quality of life. A society is considered feminine when emotional gender roles overlap: both men and women are supposed to be modest, tender, and concerned with the quality of life. Although both Turkey and Belgium have

moderate scores on these dimensions, Turkey is more closely related to femininity, and Belgium is more closely related to masculinity (Hofstede & Hofstede, 2005). Based on their cultural characteristics, masculine and feminine countries perform better in different types of industries. Industrially developed masculine cultures have a competitive advantage in manufacturing, especially in large volume: doing things efficiently, well, and fast. In countries with masculinity, the management style is likely to be more concerned with task accomplishment than with the development of social relationships. In masculine cultures, motivation will be based on the acquisition of money and things rather than the quality of life. In such cultures, the role of leadership is to ensure bottom-line profits in order to satisfy shareholders and to set demanding targets. Conversely, feminine cultures have a relative advantage in service industries like consulting and transport in manufacturing according to customer specification. In these cultures, the role of the leader would be to safeguard employee well-being and to demonstrate concern for social responsibility (Hofstede & Hofstede, 2005). Steensma et al. (2000) studied the relationship between masculinity and entrepreneur behaviors. They surveyed 1,846 independent small-to medium-sized company owners and general managers in masculine (Australia, Greece, and Mexico) and feminine (Finland, Indonesia, Norway, and Sweden) cultures. As predicted, masculinity had a negative influence on an entrepreneur’s acceptance of cooperative strategies. Another finding of their research was that entrepreneurs from masculine cultures place more importance on contractual safeguards and less importance on partner commonality compared to entrepreneurs in feminine cultures. The fourth dimension of Hofstede’s model explains the differences between “long-term” and “short-term” cultures. Long-term orientation stands for the fostering of virtues directed toward future rewards, particularly perseverance, and

505

 A Case Study on Cross-Cultural Differences

thrift. Its opposite pole, short-term orientation, stands for the fostering of virtues related to the past and present, particularly respect for tradition, preservation of face, and fulfilling social obligations (Hofstede & Hofstede, 2005). In long-term oriented countries like Belgium, the main work values include learning, honesty, adaptiveness, accountability, and self-disciple. In these societies, having a personal network is essential for success and it lasts lifetime, and one would not damage it for short-term, bottom-line reasons. The focus of the business in these cultures is on future market position and importance of profits 10 years from now. The owner-managers and workers share the same aspirations. Management practices are based on finding long-term solutions to the problems rather than quick fixes (Browaeys & Price, 2008). However, in short-term oriented nations like Turkey, the main work values include freedom, rights, achievement, and thinking for oneself. In these cultures, loyalty towards others can vary according to the needs of the business. The focus of the business is on the “bottom-line” and importance is given to this year’s profits, and managers and workers are psychologically in two camps (Browaeys & Price, 2008). Barkema and Vermeulen (1997) studied the impact of different cultural backgrounds on international joint venture survival based on the data of 828 international ventures in 72 different countries. Their study shows that differences in long-term orientation have a negative impact on international joint venture survival since the partners perceive and adapt to opportunities and threats differently. The last dimension, indulgence versus restraint, focuses on happiness and life control in which indulgence stands for free gratification, human drives related to enjoying life and having fun, whereas restraint reflects a society which suppresses gratification of need through strict social norms. People from indulgent societies are likely to have less moral disciplines, but have higher optimism. However, individuals in restraint societies

506

are likely to have more moral discipline but are more pessimistic (Piepenburg, 2011). Criticism of Hofstede Hofstede’s framework is one of the most widely used models in cross-cultural research. The major strength of his model is the simplicity in framing a complex and abstract notion such as culture into six clear, exclusive and bipolar dimensions that can be applied easily into research design. In addition, this method allows researchers to make quantitative analysis since the collected data is interval (Yeganeh et al., 2009). Professor Søndergaard, in his review of “Hofstede’s Consequences”, states that Hofstede’s study received 1,036 citations while another highly regarded study on strategy by Miles and Snow received only 200 citations. In Søndergaard’s bibliographical analysis, he also compared the 61 replications of Hofstede’s research. The majority of the replications confirmed Hofstede’s predictions. He agrees that the research framework used by Hofstede was based on rigorous design with systematic data collection and coherent theory (Søndergaard, 1994). Nonetheless, despite the popularity of Hofstede’s work, he has been subject to criticisms from fellow researchers. Regarding methodology, many researchers argued that surveys are not a suitable way of measuring cultural differences. Hofstede addresses this criticism by saying that surveys are one method, but they should not be the only way (Hofstede, 2001). In his criticism to Hofstede’s work, McSweeney argues that nations are not the proper units of analysis as cultures are not necessarily bounded by borders (McSweeney, 2002). Hofstede agrees with the idea that nations are not the best units for studying cultures, but he also suggests they are usually the only kinds of units available for comparison and are better than nothing (Hofstede, 2001). Since the research Hofstede conducted was limited to countries where IBM had its subsidiaries, he received another criticism that only one company

 A Case Study on Cross-Cultural Differences

cannot provide information about entire national cultures (Sivakamar & Nakata, 2001). Hofstede said he was not making an absolute measure; rather, he stated measuring differences between national cultures and this style of cross-sectional analysis was appropriate. In addition, Hofstede highlights that using a single multinational company eliminates the effect of the corporate culture that influences behavior differently. Another criticism to his work was the IBM data was outdated and therefore absolute. Hofstede claims the dimensions found are assumed to have centuries-old roots, and recent replications supported the validity of the dimensions and as well as the fact that the culture does not change overnight. The last important argument made against Hofstede’s work was by Kirkman et al. (2006) who stated four or five dimensions are not adequate to explain cultural differences. Hofstede’s reaction to this argument was that more dimensions are welcome if others can find that are independent of the ones he defined and can be validated (Hofstede, 2001). Since the purpose of this study to find the cultural differences between Belgium and Turkey, we believe exploring the levels of dimensions identified by Hofstede will help us to understand these two cultures.

2.3.4 Schwartz’s Values Dimensions of Culture Schwartz defines culture as a rich complex of meanings, beliefs, practices, symbols, norms, and values. According to him, values are desirable actions motivating the selection or evaluation of actions, people, policies, and events. In his model, values are considered universal because they are grounded in the universal requirements of human existence that are the needs of individuals as biological organisms, requisites of coordinated social interaction, and survival and welfare of groups (Schwartz, 2006).

Schwartz developed an instrument called the “Schwartz Value Inventory” in order to measure value differences. In his value survey, he asked respondents to assess the importance of 57 value items as a guiding principle of one’s life. Schwartz works include both individual and cultural-level analysis – the major difference compare to Hofstede and Trompenaar who generally worked at the cultural-level. From data collected in more than 70 countries that included more than 60,000 individuals, Schwartz identified 10 universal value types each expressing a motivational goal that gathered 57 value items into a single category. These values are power, achievement, hedonism, stimulation, self-direction, universalism, benevolence, tradition, conformity and security (Schwartz, 2006). The central goals of “power” values are reaching social status and prestige, and control or dominance over people and resources. “Achievement” values emphasize demonstrating competence in terms of prevailing cultural standards, thereby obtaining social approval. The motivational goal of “hedonism” is pleasure and self-gratification. “Stimulation” represents a group of values that express a preference for excitement, novelty, and challenge in life. The defining goals of “selfdirection” are independent thought and actionchoosing, creating, and exploring. “Universalism” value type represents the motivational goals like understanding, appreciation, tolerance, and protection of the welfare of people and nature. The “Benevolence” value type, considered as a narrower definition of universalism, represents the preservation and enhancement of the welfare of people with whom one is in frequent personal contact. The “tradition” value type is comprised of values representing respect, commitment, and acceptance of the customs and ideas which culture or religion impose on individuals. The defining goal of “conformity” value type is restricting of actions, inclinations, and impulses that are likely to upset or harm others. Lastly, the “security” value item includes safety, health, and social order (Schwartz, 1992).

507

 A Case Study on Cross-Cultural Differences

In addition to identifying 10 basic values, Schwartz’s theory explains the structure of dynamic relations of conflict and congruity among values, and summarizes the oppositions between competing values with two bipolar dimensions. The first dimension contrasts “openness to change” and “conservation”. This dimension captures the conflict between stimulation, self-direction and tradition, conformity, and security. The second dimension contrast “self-enhancement” and “selftranscendence” values. This dimension captures the conflict between universalism, benevolence and power, and achievement (Schwartz, 2006). Schwartz states three main problems exist which societies are universally challenged to resolve and corresponding cultural dimensions for resolving these problems that distinguish societies from one another. The first cultural dimension is “Autonomy vs. Embeddedness”. In embedded cultures like in Turkey, organizations function as extended families and they are likely to take the responsibility of employees in all the domains of life, and in return expecting them to work dutifully toward shared goals. In contrast, autonomous cultures such as those in Belgium are likely to treat the employees as independent actors with their own interest, preferences and abilities where the employees are likely to be granted some autonomy and encouraged to generate new ideas. The second cultural dimension is “Hierarchy vs. Egalitarianism”. Turkey is a country where the culture is hierarchical with an emphasis on authority and well-defined roles in organizations. The goals of the organization are set from the top where the employees are expected to the interest of the organization before their own interest. In contrast, in Belgium the egalitarian culture dominates with employees involved in the goal setting of the organization. The third cultural dimension of Schwartz is “Mastery vs. Harmony”. Turkey has the characteristics of mastery cultures where people are dynamic, competitive, and strongly achievement-oriented. In contrary, Belgium is an

508

example of harmony culture where the organizations are supposed to be integrated in the social and natural world (Schwartz, 2006). Schwartz’s Autonomy vs. Embeddedness dimension and Hofstede’s Individualism vs. Collectivism dimension overlap conceptually to some degree. They both concern relationships between the individual and the group and both contrast autonomous with an interdependent view of people. However, autonomy vs. embeddedness contrast openness to change with maintaining the status quo which individualism vs. collectivism does not. Another difference between these two dimensions is that Hofstede’s individualism includes selfishness, which is not a characteristic of autonomy in Schwartz’s model. Schwartz’s egalitarianism vs. hierarchy is the other dimension showing similarity to Hofstede’s power distance. They both concern legitimizing inequality, but Hofstede’s power distance expresses also people’s fear of authority, which is not included in Schwartz’s hierarchy dimension. Therefore, the dimensions of Hofstede’s and Schwartz’s are related but still distinct. This distinction can be seen easily on country results that the USA is first on individualism, but 30th on the autonomy vs. embeddedness dimension. Similarly, China is very high on power distance (9th), but very low on egalitarianism vs. hierarchy (Schwartz. 2004). In order to make a cross-national comparison of culture, Schwartz developed a co-plot map as seen in Figure 2 that summarizes locations of nations on seven different cultural orientations explained above (Schwartz, 2004). Schwartz’s values dimensions have been widely used in cross-cultural research to explain the differences in people’s behaviors. In her study of comparative analysis of German and Turkish managers’ personal values, Altintas (2008) found that Turkish managers give considerable importance to values such as being rich, social esteem, having authority, being influential, and maintaining an impression which is line with Schwartz’s projection for mastery cultures. Aycan

 A Case Study on Cross-Cultural Differences

et al. (2000) conducted a cross-cultural research in 10 countries to measure the impact of culture on human resource management practices. They prepared a questionnaire based on Schwartz’s value dimensions and surveyed 1,954 employees (of which 287 were Turkish) from both private and public sector organizations. Their findings regarding Turkey were in line with Schwartz’s hierarchical culture values in which there is a high level of hierarchy in Turkish organizations, resulting in a paternalistic management style that managers believe employees seek and accept responsibility by nature and managers should appear as a parental figure to motivate employees. Criticism of Schwartz Schwartz’s work represents a large-scale and innovative study that improved prior cross-cultural studies in many respects. First, Schwartz made a clear distinction between the individual and cultural levels and he analyzed the results of each level separately. Furthermore, his questionnaire was not based on outcomes, but instead on preferences of values that guide people’s lives. This approach is supposed to produce more accurate, results as it minimizes the effects of situational factors. The most important characteristic of the Schwartz model is that it examined both the content and the structure of human values. He also made a clear distinction between value types and value directions. With its unique characteristics, Schwartz’s work represents a novel way when analyzing cultural differences; however, the model was not developed to be used in cross-cultural management research. Some value types have broad notions without clear borders which makes them difficult to be included in research design. Additionally, despite its richness this framework does not indicate which value types are more or less essential in each culture (Yeganeh et al., 2009). Another shortcoming of his model is that it was based on studies only with school teachers and

college students in 54 mostly Western and (other) developed countries. Therefore, his model has been applied to basic areas of social studies, but its application to organizational studies and in non-Western countries have been limited (Nardon & Steers, 2009). Despite the criticisms mentioned above, by using Schwartz’s cultural dimensions it is possible to understand the differences between Belgian and Turkish culture and their impact on employee behaviors.

2.3.5 Trompenaars and HampdenTurner’s Cultural Dimensions Similar to Kluckhohn and Strodtbeck, Trompenaars and Hampden-Turner define culture within three main categories: relationships with other people, attitudes to time, and attitudes to the environment. Building on Hofstede’s work, they published the “Seven Dimensions of Culture” model in 1948 to help to explain the national cultural differences. These seven dimensions are universalism vs. particularism, individualism vs. communitarianism, neutral vs. affective relationships, specific vs. diffuse relationships, achieved vs. ascribed status, sequential vs. synchronic time, and inner- vs. outer-directed. The first five of the seven dimensions are related to the relationship with people whereas the last two dimensions are related to the relationship with time and nature (Browaeys & Price, 2008). Some of these dimensions can be regarded as nearly identical to Hofstede’s, Kluckhohn and Strodtbeck’s and Hall’s dimensions, whereas others offer a somewhat different perspective (Dahl, 2004). Universalism searches for sameness and similarity and attempts to impose the law of commonality on society. However, particularism searches for differences and for unique and exceptional forms to treat particular situations. Turkey is a highly particularistic country where legal contracts are often modified and people often change the way in which deals are executed. In universalistic countries like Belgium, the rules are valued more

509

 A Case Study on Cross-Cultural Differences

than the relationships. In these cultures, people believe “the deal is a deal”; therefore, they highly stick to the business contracts (Trompenaars & Hampden-Turner, 2000). Their universalism vs. particularism dimension, describing a preference for rules rather than relying on relationships, could be interpreted as part of Hofstede’s uncertainty avoidance dimension on one side and to some extent the individualism vs. collectivism dimension on the other (Dahl, 2004). According to Trompenaars and HampdenTurner, individualism versus communitarianism is the major dilemma for any culture, since we cannot easily separate individuals from a group or social context which seems to be identical to Hofstede’s individualism vs. collectivism dimension. In an individualistic culture, concepts including competition, self-reliance, self-interest, personal growth, and fulfillment prevail. In a communitarian culture, people are more in favor of cooperation, social concern, altruism, and societal legacy, believing that serving the society eventually satisfy the needs of individuals. Similar to Hofstede’s dimensions, Turkey and Belgium have opposite rankings on these dimensions since Belgium is highly individualistic whereas Turkey is a highly communitarian country (Trompenaars & Hampden-Turner, 2000). The third dimension concerns the contexts and ways in which cultures choose to express emotions. In neutral cultures like in Belgium, it is not appropriate to show feelings in public, whereas in affective cultures like in Turkey people show their feelings more naturally (Trompenaars & Hampden-Turner, 2000). In Trompenaars and Hampden-Turner’s cultural model, cultures vary considerably in how specific they are and to what extent they prefer diffuse (Trompenaars & Hampden-Turner, 2000). In specific countries like Belgium, work and private life are sharply separated and the interactions between people are very well-defined (Trompenaars & Hampden-Turner, 1998). In these cultures, company employees are hired in contractually

510

to be part of a system that performs efficiently. However, in diffusely-oriented countries like Turkey, all elements are related to one another and company employees are members of a group working together (Browaeys & Price, 2008). According to Trompenaars and HampdenTurner, cultures also differ based on how they accord status. In some cultures like Belgian, people derive their status based on their achievements, also referred to as “achieved status”. In some other cultures like Turkish, people derive status from age, class, gender, education or wealth – also known as “ascribed status”. While achieved status refers to doing, ascribed status refers to being. This achievement vs. ascription dimension appears to be linked to Hofstede’s power distance, since accepting status by nature rather than achievement would reflect a greater willingness to accept power distances. However, this dimension is not a complete match since the acceptable power distance is not considered by Trompenaars and Hampden-Turner (Dahl, 2004). In the time-related dimension, Trompenaars and Hampden-Turner make a distinction between cultures on their responses to time based on the importance they assign to past, present, and future, and their approach to structuring time. In a sequential culture such as Belgium’s, time is considered a series of events. People in these cultures tend to do one thing at a time, they view time as tangible and divisible, and plans cannot be changed easily once they have been made. In contrast, in synchronic cultures like in Turkey, past, present, and future are viewed as all interrelated so that ideas about the future and memories of the past both shape present action. In these cultures, time is flexible and intangible and the plans are easily changed (Trompenaars & Hampden-Turner, 1998). This dimension appears to be closely related to human-time relationship in both Hall’s and Kluckhohn and Strodtbeck’s model and long-term orientation in Hofstede’s model. The last dimension of culture in Trompenaars and Hampden-Turner’s model concerns the role

 A Case Study on Cross-Cultural Differences

people assign to their natural environment. Societies have two major orientations towards nature. They believe they can and should control nature, or they believe they should be part of nature and must adhere to its laws, directions, and forces. The first of the orientations is described as innerdirected in which people have a mechanistic view of nature like in Belgium. On the other hand, the second orientation is described as outer-directed in which people have a more organic view of nature believing that they should have a harmony with the environment like in Turkey (Trompenaars & Hampden-Turner, 1998). This dimension can also be considered identical to Kluckhohn and Strodebeck’s human-nature orientation. Trompenaars and Hampden-Turnes’s cultural dimensions have been widely used in variety of fields such as human resources, international business negotiations, leadership styles, entrepreneurial competences. Jansson et al. (2007) conducted research in western Europe, Russia, and China in order to compare the culture and its effect on business networks. They compared and measured the aspects of inner vs. outer direction and achieved vs. ascribed status in these cultures and their findings suggest that in the more innerdirected western European cultures, there is a rational relationship between the economic actors based on performance and efficiency. However, in outer-directed Chinese culture, behavior is guided by so-called “face saving”, and strategic orientations are based on harmony with others and respecting social values. They also discovered that in achieved-status Western cultures, relationships are developed based on the mutual profitable investments and interactions, whereas in China the relationships are result of family connections and personal favors. By using Hofstede and Trompenaars’ cultural dimensions, Lee and Peterson (2000) studied the impact of culture on entrepreneurial orientation. Based on the findings, they argue that cultures low on power distance and uncertainty avoidance, masculine in nature, individualistic,

achievement-oriented and universalistic will have a strong entrepreneurial orientation characterized by autonomy, proactiveness, competitive aggressiveness, innovativeness, and risk taking. Criticism of Trompenaars and HampdenTurner Trompenaars and Hampden-Turner’s model is based on data collected from managers in different countries where the respondents were asked to give their preferred behavior in a number of both work and leisure situations. In Trompenaars and Hampden-Turner’s definition of culture, national and organizational cultures are not distinguished from each other. There are similarities between Trompenaars and Hampden-Turner’s cultural elements and those presented by Kluckhohn and Strodtbeck and Hofstede; however, in contrast to Hofstede, Trompenaars and Hampden-Turner do not consider cultural dimensions linear and dichotomous. Even though the seven dimensions of this model correspond to major cultural values and appear comprehensive, the exclusiveness of the model is low. For example, the borders of the dimensions such as universalism/particularism, individualism/collectivism and defuse/specific are not clearly identified. This shortcoming decreases the applicability in cross-cultural research especially in the causal design that requires conceptually separated constructs. Trompenaars and Hampden-Turner’s model measures the intensity of cultural values; however, it is not appropriate to measure and compare the relative importance of every cultural value with respect to other values (Yeganeh et al., 2009). Although Trompenaars and Hampden-Turner’s work is essentially similar to Hofstede’s but offers some additional dimensions, Hofstede criticized this work which it is not supported by his database. He claims only two dimensions could be identified, both of which correlated with his individualism dimension. Trompenaars and Hampden-Turner’s

511

 A Case Study on Cross-Cultural Differences

response to this criticism was that he had contrasting assumptions and different point of view in his model (Hofstede, 1998). Trompenaars and Hampden-Turner’s framework has not received much attention and seems too complicated to be applied in empirical research. However, it is still considered a useful tool in explaining different attitudes to the cultural differences.

2.3.6 Gesteland’s Patterns of CrossCultural Business Behavior According to Gesteland, four key variables create serious differences among cultures. The first variable makes a distinction between “Deal-Focused” (DF) and “Relationship-Focused” (RF) cultures. In DF cultures, people are fundamentally task-oriented while RF cultures are more people-oriented. Conflicts arise when DF export marketers attempt to conduct business with RF markets. Many RF people find DF types pushy, aggressive, and offensively blunt. In return, DF types often consider their RF counterparts too slow, vague, and incomprehensible. The fundamental differences between these two cultures impact the business success throughout the global marketplace (Gesteland, 1996). Characteristics of this dimension show a great similarity to Trompenaars’ particularism vs. universalism dimension which uses rules, contracts vs. relations as a starting point. Similar to the vast majority of the world’s markets, Turkey has a RF culture where business is conducted through intricate networks of personal contacts. RF people prefer to deal with family, friends, and persons or groups well-known to them. They are uncomfortable doing business with strangers, especially strangers who also happen to be foreigners. Because of this key cultural value, RF firms typically want to know their prospective business partners very well before talking business with them. Because RF firms do not engage in business with strangers, the proper way to approach someone with whom one is not familiar is to arrange for the right person or

512

organization for an introduction. In RF markets, one must develop a personal relationship before starting business (Gesteland, 1996). Metcalf et al. (2006) confirms Gesteland’s findings for Turkey and they suggest it is important to establish personal relationships before starting business negotiations. In contrast, the DF approach is common in only a small part of the world including Belgium where the marketer can make initial contact with the prospective buyer without any previous relationship or connection. Having an introduction of referral is helpful, but not essential. In DF markets, one can usually conduct business after just a few minutes of small talk (Gesteland, 1996). In association with Hofstede’s power distance dimension, Gesteland makes a distinction between cultures depending whether they are “formal” or “informal”. Formal cultures tend to be organized in steep hierarchies reflecting major differences in status and power. In contrast, informal cultures value more egalitarian organizations with smaller differences in status and power. These differences matter when doing business abroad because contrasting values cause conflict at the conference table. On the one hand, business people from formal, hierarchical cultures may be offended by the over familiarity of counterparts from informal, relatively egalitarian societies. On the other hand, those from informal cultures may see their formal counterparts as too distant and arrogant. Such misunderstandings can be avoided if both parties are aware that different business behaviors are the result of different cultural values rather than taking them personally (Gesteland, 1996). It is important for the international marketers to know whether they are dealing with formal or informal cultures. Turkey is an informal culture compared to Belgium which possesses a formal culture (Gesteland, 1996). Gesteland in his study makes also a distinction between “Rigid-Time” and “Fluid-Time” cultures. In the former such as that which exists in Belgium, punctuality is critical, schedules are

 A Case Study on Cross-Cultural Differences

set in concrete, agendas are fixed, and business meetings are rarely interrupted. Turkey has a fluidtime culture where the agendas are flexible. His time element was based on “monochronic” and “polychronic” cultures which were developed by Edward T. Hall (Gesteland, 1996). According to Gesteland, societies also differ in the manner in which they communicate. He makes a distinction between “Expressive” and “Reserved” cultures. In expressive cultures like Turkey’s, people tend to be uncomfortable with more than a second or two of silence during a conversation. In direct contrast, people from reserved cultures like in Belgium feel at ease with much longer silences. Expressive people regard interrupting another speaker as a normal part of conversation whereas in reserved societies conversational overlap is considered extremely rude (Gesteland, 1996). As can be inferred from its definition, this dimension has its roots in Hall’s high-context vs. low-context distinction of communication style. Criticism of Gesteland Gesteland did not conduct specific research in order to create his cultural dimensions. Instead, he analyzed his 35 years of international experience and materials collected during several business trainings. Gesteland has a somewhat more practical approach compare to Hofstede and Trompenaarsand Hampden-Turner, and he incorporates his practical experience into his dimensions (Uudam, 2009). A major criticism to Gesteland’s work came from Professor Carey Mickalites from Michigan State University in the USA. Mickalites’ first criticism relates to the fact that Gesteland often refers to his own perception as an American within his own worldwide experiences. However, sometimes he fails to acknowledge this cultural perspective when recording his observations in other cultures, which makes his observations judgmental and culturally insensitive. Mickalites’ second argument is that Gesteland reduces the dynamics of

culture to predictable patterns of behavior, thus fails to consider intercultural unpredictability (Mickalites, 2002). Gesteland’s work is not based on scientific research; therefore, it does not possess any academic value. However, since his results overlap with Hofstede and Trompenaars and HampdenTurner’s findings, his practical work strengthens the work of these researchers (Uudam, 2009). Gesteland’s analysis will be used in this study to explain relationship building styles – an important aspect to differentiate societies.

3. METHODOLOGY This section presents the research methodology of this study. It consists of choice of method, choice of research design, collection and processing of the data, validity and reliability of the method, and the quality of the research.

3.1 Choice of Method The methodology used for the collection and analysis of data can be either qualitative or quantitative in nature when conducting a research project. Research methods can be associated with the research question or the research design. The quantitative research method is based on numerical measurements; therefore, the research design of the quantitative method mostly consists of statistical tests in order to prove a hypothesis rather than the discovery. On the other hand, the qualitative research method is constructed as a research strategy normally emphasizing words rather than quantification in the collection and analysis of data where the researcher conducts an inductive process to generate empirical findings based on grounded theories (Bryman & Bell, 2007). Considering the research question of this study regarding the cultural differences between Belgium and Turkey, the qualitative research method with a single company case study was chosen as it

513

 A Case Study on Cross-Cultural Differences

enabled us to gather an in-depth understanding of the business culture of the selected company. Since culture is a rather subtle and complex phenomenon, it requires much exploration and interpretation. Therefore, we used the hermeneutic approach when conducting this research since the purpose of this method is to provide a deeper understanding of human experience, which coincides with the purpose of this research. Based on the research question and the literature review, we developed the following hypothesis for testing: H: There are cultural differences between Belgium and Turkey that have a negative impact on the success of the company

3.2 Choice of Research Design Research design for qualitative research methods includes interview-based case studies, participant observation, content analysis, discourse analysis, focus groups, narrative interviews, and unobtrusive methods such as archival research (Marshcan-Piekkari & Welch, 2004). The research design chosen for this study is the semi-structure interview based on a single-case study. Researcher Robert K. Yin defines the case study as a method of choice when the phenomenon under study is not readily distinguishable from its context. This method of study is useful when testing theoretical models by using them with real world situations. Case study research can be based on single- or multiple-case studies depending on the purpose of the study, availability of relevant cases, and research time and budget. The multiple-case design allows the researchers to make generalizations based on the replications among the cases. The single-case research design is useful when there is an extreme, unique, representative or typical case (Yin, 2002). In this study, single-case design is used due to time constraint and limited availability of the relevant cases. When selecting the case, the typical case sampling approach is used since in this research we attempt to identify the differences between Belgium and Turkish culture.

514

In this study, we are not interested in finding an answer for companies that hold unique or extreme characteristics. Therefore, the firm White Windows BVBA was selected as a typical, single-case sample since the goal is to explore the typical characteristics of Turkish business culture experiencing difficulties operating in Belgium possibly due to cultural differences. The single-case study design has been criticized for its lack of generalizability (Myers, 2000). However, Prof. Flyvbjerg has argued that carefully chosen cases may greatly add to the generalizability of a case study. He also added that the lack of generalizability based on an individual case does not imply the case study cannot contribute to the scientific development as formal generalization is only one of many ways by which knowledge is gained and accumulated.

3.3 Collection and Processing of the Data There are mainly two kinds of data collected in order to gather the empirical findings when conducting a scientific research; primary and secondary data. Primary data is that which has not been previously published, is derived from a new research study, and is obtained directly from first-hand sources via surveys, interviews, observation, or experimentation. Secondary data can be defined as that which has already been collected by and readily available from other sources (Fisher, 2007). This research was conducted using both primary and secondary data. The primary data was acquired through a semi-structured interview. The semi-structured interview method is a flexible method allowing the respondent to produce a narrative based on real experience (Wengraf, 2001). The firm White Windows BVBA was selected as a sample company since the Turkish company founder decided to close the business in Belgium mainly due to adaptation problems to Belgian culture. The semi-structured interview enabled

 A Case Study on Cross-Cultural Differences

the researcher to obtain an in-depth understanding of the interviewees’ attitudes, behaviors, and perceptions, and to produce qualitative data in the form of interviewee’s detailed answers to the researcher’s questions. The interview was conducted with two of the most involved Turkish people in the business: Mr. Sunay who is the International Operations Manager at the Headquarters, and Mr. Fidan who is the General Manager of White Windows BVBA. The interview was conducted in Turkish which is the native language of both the researcher’s the respondents, and then translated into English by the researcher. The secondary data for this chapter was gathered from books, academic articles, and Internet-based data. The researcher followed an inductive approach when conducting this research, thus collecting much information through a semi-structured interview with open-ended questions. In order to analyze the interview data, interpretative research philosophy was used which enabled the researcher to understand in-depth the type of cultural difficulties the company was experiencing. The first group of the questions included the company’s general information and its internationalization process. The second group of questions included cultural factors and interpreted in light of the cultural models of Kluckhohn and Strodtbeck, Hall, Hofstede, Schwartz, and Trompenaars and Gesteland.

3.4 Quality of Research Historically, qualitative research methods have been used successfully to develop knowledge in social sciences, and qualitative approaches are presently gaining considerable momentum. The researcher must design qualitative research by striving for empirical ground, generalizability, and minimization of bias. Increasing reliability and validity of qualitative studies are two ways in which researchers can ensure the quality of qualitative studies. Reliability and validity depend

on the skills of the researchers and their abilities to design studies with appropriate methods from data collection to interpretation of the data. Using a research method providing accurate, empirical, logical, and replicable data increases reliability and validity in qualitative studies (Franklin & Ballan, 2001). Reliability is concerned with the replicability and consistency of findings. It refers to the degree to which other researchers performing similar observations in the field would generate similar interpretations and results (Bryman, 2007). The primary data for this research was collected through a semi-structured interview with openended questions enabling the researcher to collect trustworthy and valid data. The foundation of the interview is based on theoretical framework and the research question. In order to increase the reliability of the interview, the same individual was interviewed who was informed a lot about the content of the analysis before the interview. Another important characteristic of this interview increasing the reliability of the data is that the respondent who is also the founder of the company understood he could use the findings of this study for future internalization projects. Therefore, the subject was very willing to cooperate and to provide accurate information for the analysis of this research. The other quality element of the research is the validity determining the degree to which the researcher measures that which is supposed to be measured. The measuring must be valid to interpret the theoretical part of the research. According to Johnson (1997), one important aspect of validity is “researcher bias” which tends to result from selective observation and selective recording of information, and also from allowing the researcher’s own perspective and personal view to affect the interpretation of data and conduction of research. The key strategy used during this study is “reflexivity”, meaning the researchers became more self-aware in monitoring and controlling their biases.

515

 A Case Study on Cross-Cultural Differences

There are primarily three types of validity: descriptive, interpretive, and theoretical. These are important to qualitative research because description of what is observed, interpretation of participants’ thoughts, and developing a theoretical explanation of the behavior are the main qualitative research activities. Descriptive validity refers to accuracy in description of events, objects, behaviors, people, settings, time, and places. One effective strategy used to obtain descriptive validity is “investigator triangulation”, which means involving the use of multiple observers to record and describe the research participants’ behavior. In this study, the interview was recorded via a video recorder and the responses were returned to the interviewee for confirmation. In this manner, the credibility and defensibility of the research was increased. Interpretive validity refers to the degree to which the research participants’ views, thoughts, feelings, intentions, and experiences are accurately understood by the researcher and described in the research report. “Participant feedback” is an important strategy to achieve interpretive validity. By sharing the interpretation of the responses with the respondent, miscommunication and inaccuracies are avoided as was accomplished in this study. Additionally, using the semi-structured interview for data collection enabled the researcher to reformulate the questions during the interview when the respondent had difficulty to understand the questions. This also helped to reduce the inaccurate responses and increased the interpretive validity. The third type of the validity is “theoretical validity” which refers to discussions of how a phenomenon operates and why it operates as it does. A strategy for promoting theoretical validity is “theory triangulation” which means use of multiple theories and perspectives to help interpret and explain data. In order to increase the theoretical validity of this research, a wide range of cultural theories starting from very early works to recent studies was included in this research (Johnson, 1997).

516

4. FINDINGS AND ANALYSIS This section presents the findings of the case study based on the semi-structured interview and the analysis of the findings based on the theoretical framework. The quotes from the interviews are included throughout this section. The questions asked during the interview are located in the Appendix. The firm White Windows was established in Belgium in 2008 as the subsidiary of a Turkish company, Turfan, Ltd., a medium-sized company employing 75 people. Its subsidiary company, White Windows BVBA, is a small-sized company with eight employees (two Turkish and six Flemish) located in the Flemish region of Belgium. Its core business is the sales of windows and doors manufactured by the parent company, Turfan, Ltd. Although the company’s history is not long in Belgium, it has a long and well-established history in Turkey. The young entrepreneur, Mr. Fidan, founded his family company at 18 years of age in 1990 in Bursa, Turkey. In a very short time, his company became one of the largest window and door manufacturers in the country. After succeeding in Turkey, the firm began its internalization process in the mid-1990s primarily by exporting to the European countries like Germany, Switzerland, Belgium, France, and the Netherlands. The main motive of the company for international expansion was to earn better prestige in the domestic market, and then to increase the sales volume both in the domestic and foreign markets. From the success of export activities, Fidan decided to enter the Belgian market with a direct investment. He established a wholly-owned subsidiary in 2008 with the name White Windows. However, the financial and management performance of White Windows was not as successful as at its parent company in Turkey. Eventually, Fidan decided to cease operations in Belgium at the end of 2011. Considering the success factors for internationalization mentioned in the first section of this study,

 A Case Study on Cross-Cultural Differences

it can easily be seen the company followed the most well-known entry strategy, the “Uppsala Model”, where it started its activities by exporting and then gradually investing in a wholly-owned subsidiary. However, as inferred from the interview results, it was obvious the organization did not possess a solid understanding of the windows market in Belgium. Corporate management saw the Belgian market as a big opportunity since their relatively low prices would mean a very high level of sales; however, possessing only a price advantage was not adequate to permit the business to develop. As concluded from the interview, the reason for this failure was mainly due to adaptation difficulties to Belgian culture. The first cultural barrier Findan faced with was language especially during the start-up phase. As he knew English was widely spoken at the business level in Belgium, Fidan was not concerned about the official languages of Belgium (Dutch, French, German) since he spoke English as the second language. Although English is widely spoken in some areas of business, Fidan had difficulty when contacting with local construction companies, so it was necessary to employ different interpreters for the Dutch and French-speaking companies. This was not the most efficient solution as it was costly, time-consuming, and not satisfactory in terms of expressing his own ideas. During our interview, Fidan stated: I have never had the feeling that the interpreter could reflect accurately what I have been telling… stopping for the interpretation was cutting the fluency of the conversation. Turkish is a highly idiomatic language with numerous cultural expressions that are crucial for effective communication. Therefore, selecting interpreters who had a good command of both Turkish and the target language played an important role to increase the quality of communication between the parties. Another language

related issue arose during the recruitment process as stated by Fidan: The main criteria when hiring the employees was the knowledge of Turkish in order to avoid possible miscommunication between the Belgian subsidiary and the headquarter. But unfortunately, it was not easy to find Turkish speaking people with necessary technical and professional background to achieve the goals of the company. Eventually, we have changed the recruitment policy and hired Belgian people whose knowledge and skills fit the job requirements, but then the cultural differences resulted in inefficient communication between the subsidiary and the parent company. There is a common problem of international companies when hiring employees who fit both the host country’s business culture in general and the culture of the individual firm. This dilemma is not likely to have a visible effect when hiring of a single employee, but when there is a collective hiring, wrong selections of employees can contribute to the failure of the business as in the case of White Windows. The interview showed that one of the biggest cultural aspects having a negative impact on the business was the past-oriented attitude of the Turkish manager, Fidan. Prior to investing in Belgium, he had no strategic long-term business plan and possessed a fatalistic notion that prohibited him from considering all possible treats. This situation can be explained by Kluckhohn and Strodtbeck’s past-orientation cultural pattern, as in these cultures people believe they cannot control the future as witnessed in Findan’s business planning style. Since he did not have any in-depth analysis during the planning phase, numerous unforeseen difficulties were encountered with other factors that eventually led to the company’s failure. Although Fidan’s planning style was suitable in Turkey, it was a major disadvantage in Belgium where business rivals plan their operations based on long-term strategic analyses.

517

 A Case Study on Cross-Cultural Differences

Another cultural difficulty between the Belgian subsidiary and the Turkish headquarters were communication problems when exchanging information or processing transactions. Sunay explains the situation as below: I was receiving a lot of complaints from the headquarters in Turkey that the employees in Turkey had the impression their Flemish colleagues in Belgium were too bossy towards them when asking for information or for a transaction to be conducted. As a manager, I told them not to take this personally since in Belgium communication and business relations are much more formal than in Turkey. In Turkey, the word “abi” meaning “elder brother” is commonly used in the colloquial language in order to start a good relationship even in business life. This may look strange in another country. This communication problem can be explained by Edward Hall’s low- and high-context cultures. Turkey is a high-context culture with its indirect way of communication. In high-context cultures as in Turkey, there is high use of non-verbal communication in which the voice tone, facial expression, and gestures of the speaker play an important role during the conversation. Information exchange on workflow is perceived as a part of a long and well-established relationship, and work being completed depends highly on relationships with others in the company. However, in low-context cultures like Belgium’s Flemish culture, there is direct communication so that the message is provided mostly by words instead of via non-verbal elements. In these cultures, communication is viewed as a way of exchanging information and work is completed by following the procedures and focusing on the task rather than on relationships. The White Windows case showed that the formal and taskoriented manners of the Flemish colleagues were misunderstood by the Turkish employees. This situation is a natural outcome of working with

518

different cultures in an international company in which the business relationship is based primarily on written communications. High-context and low-context cultures also tend to be different when dealing with foreigners. As Gesteland explains, high-context cultures are more relationship-focused whereas low-context cultures are deal-focused. Fidan’s response below to the question related to the reason of country choice confirmed the deal-focused characteristic of his culture: …another reason of choosing Belgium to invest was due to having a few Turkish-Belgian family members and some friends who were running businesses there. I was expecting a lot of support to make business contacts, but I had a big disappointment at the end… In relationship-focused cultures like Turkey, it is very common to make initial contact through another person whose role is to introduce the buyer and the seller. In some cases, two parties start a business relationship only for the sake of the person providing the introduction, even if the business is not profitable compared to other options. However, in a country where people are deal-focused, this approach might be helpful to make the initial contact, but is not adequate for conducting business. In deal-focused cultures, people are open to conducting business with strangers as long as they fulfill the requirements of the business. Another difficulty for the Turkish company when operating in Belgium was experienced with business contracts. Fidan found the rules too strict when signing a contract; additionally, the time required to conclude an agreement was too long. As explained by Trompenaars and Hampden-Turner, in particularistic cultures like Turkey people often change the way they conduct business and even modify contracts easily. However, in Belgium companies prefer to have all pertinent data before signing a contract, and they believe “a deal

 A Case Study on Cross-Cultural Differences

is a deal”. This way of doing business was a real challenge for the Turkish manager and resulted in conflicts with some Belgian buyers. There are two cultural differences found which can be explained by Hofstede’s cultural dimensions. According to Hofstede’s analysis, Turkey and Belgium highly differ on individualism/collectivism and short-term/long-term orientations. As can be seen from Figure 3, Belgium is a highly individualistic country compared to Turkey. Differences in the level of individualism showed itself in different levels of employee commitment in the Belgian subsidiary and the Turkish headquarters. Fidan expressed his experiences in this context per below: I was really surprised when I realized some of the employees had a few days of absence in one month due to minor illnesses such as a cold or flu. This kind of excuse, even when the doctor report provided, would not be acceptable in the business life in Turkey and could be a reason for dismissal. Contrary to Belgium, Turkish employees especially come to work when they are sick in order to show their commitments to the organization and of course these type of sacrifices are really appreciated by the management and are considered during salary evaluation. As explained in the theoretical section, these different levels of employee commitments can be due to various factors. In this study, the driving forces behind the high level of commitments of the Turkish employees is not measured. However, the underlying factors seemed to be related either to the continuance or normative type of commitment as inferred from the responses of the interviewee. In this case, the commitment of the employees resulted in a salary increase thus motivating additional commitment. Therefore, the need to earn more money as a driving factor can be considered as a continuance commitment. However, Fidan claims that low employee commitment in the Belgian subsidiary is due primarily

to high unemployment benefits in Belgium. He also states that the high commitment of Turkish employees can be related to very low unemployment benefits and very high unemployment rate in Turkey that force the employees to maintain their existing jobs. The finding of this research on long-term orientation is in line with Hofstede’s analysis. Turkey has a low long-term orientation in which the organizations focus more on current achievements rather than on future success. As a respond to the question related to future orientation, Fidan responded by stating they made a decision to cease operations in Belgium only two years after commencing the business. As can be inferred from his response, Fidan had expected much higher profit in a much shorter period of time; therefore, he considered a 2-year period as too lengthy. In a country where future orientation is very high, business planning should include longer periods, and the companies should consider making long term investments for sustainability. As inferred from the interview, conflicts between the General Manager and the employees in the Belgian subsidiary arose due to Fidan’s management approach and decision-making style. He explained the situation as below: …It was one of my biggest mistakes following the same management approach as in Turkey. In Turkey, I am the one who sets the targets, without consulting others, and make it work. However, in a country where I have less knowledge and control, I realize now that I should have taken the advices of the Belgian employees… The situation above can be explained via Schwartz’s embeddedness and autonomy cultural dimensions. As he suggests, Turkey has an embedded culture and in these cultures managers see themselves as the only authority to make decisions without employee participation. They usually consider the company as their family and behave like the father of the company. Although

519

 A Case Study on Cross-Cultural Differences

Figure 3. Co-plot map of 76 national groups on seven cultural orientations (Schwartz, 2004)

this management style worked successfully in Turkey, it became a performance-decreasing factor for the Belgian employees since Belgium has an autonomy culture and people in this culture prefer to take responsibility and being able to generate ideas. In the end, not consulting the local staff did not only cause management-employee conflicts, more importantly it resulted in losing business opportunities.

5. DISCUSSION AND CONCLUSION In this research we sought to find the answer to the question: •

520

Are there cultural differences between Belgium and Turkey that can impact business success?

To answer this question, almost all well-known cultural works were introduced in the theoretical section and used in order to analyze the single-case. Based on the empirical data, we found that different language, time orientation, communication and relationship building styles, different levels of particularism, and individualism and embeddedness were causes of the failure. Therefore, we accept the hypothesis there are cultural differences between Belgium and Turkey that have a negative impact on the success of the company. Both the theoretical framework and the empirical findings of this single-case study showed that cultures vary between countries sometimes to a crucial level that can lead to an overall failure of the business. Therefore, before going abroad companies should analyze the culture of the host country to operate and manage the business successfully. In a multinational company, it is not the best solution to enforce the subsidiary into the parent

 A Case Study on Cross-Cultural Differences

Figure 4. Hofstede’s Cultural Dimensions - Turkey vs. Belgium (Hofstede, 2001; Patttyn, 2009). PDI: Power Distances Index ; IDV: Individuality; MAS: Masculinity; UAI: Uncertainty Avoidance Index; LTO: Long-term orientation.

company’s way of working, communication, or behaving. Since simply allowing the subsidiary company to work completely in their own manner can still create miscommunication and misunderstanding, the best approach is to reach a mutual understanding between two companies that depends on mutual learning and adaptation to the multicultural business environment. Such learning should not come only by reading theory, but also by spending time in the country or obtaining professional consultancy from cultural experts. Organizations should realize that capital investment is not enough for international success. In addition, they should consider intercultural trainings before investing overseas, or sending the personnel abroad in order to avoid cultural conflicts and to have more realistic expectations from

the host country. Ramalu et al. (2009) conducted a study to show the relationship between cultural intelligence (CQ) and cross-cultural adjustment in which they defined CQ as a person’s capability to adapt new cultural context effectively. The result of their study demonstrated that selecting and training highly motivated candidates with interest in engaging others and desire to adapt to the other culture play a critical role in the success of international assignments. Entrepreneurs should remember that regardless of the size of the company and the modes of entry, not studying the national culture of the host country can be a serious threat to success. Those organizations considering this subject can obtain a competitive advantage over their rivals as empirical findings have demonstrated a positive relationship between

521

 A Case Study on Cross-Cultural Differences

CQ and cultural effectiveness (Ang et. al., 2007), and other empirical research indicates motivational CQ has a definite ımpact on the corporate financial “bottom line” (Christiansen & Sezerel, 2013; Chen et. al., 2012). Although it is difficult to draw a general conclusion from a single case study, companies holding the same cultures with our case countries can apply the findings of this study to their business situations. Since there has been no research conducted comparing the business cultures of Belgium and Turkey, this study can contribute to support the theories on cultural differences, and it can also provide insight into international business practices. In this study, information about the Belgian culture was gathered from the secondary data, and by the perceptions of the interviewees. Therefore, further research can be conducted with a Belgian company having a business relationship with Turkish companies to support the theory and this study.

REFERENCES Ahmad, F. (1993). The Making of Modern Turkey. London: Routledge. doi:10.4324/9780203418048 Altintas, F. C. (2008). A comparative analysis of Turkish and German manager’s personal values. Ankara University Journal of the Faculty of Economics and Adminisrative Sciences, 63(4), 65–88. Ang, S., Van Dyne, L., Koh, C., Ng, K. Y., & Tay, C. et  al. (2007). Cultural intelligence: Its measurement and effects on cultural judgment and decision-making, cultural adaptation and task performance. Management and Organization Review, 3(3), 335–371. doi:10.1111/j.17408784.2007.00082.x Associated Press. (2006, July 28). Wal-Mart pulling out of Germany. Retrieved December 2, 2011, from: http://www.heraldextra.com/business/article_d40ef311-d51a-5a71-b4b2-16fcdb12d6f1. html

522

Aycan, Z., Kanungo, R. N., Mendonca, M., Yu, K., Deller, J., Stahl, G., & Kushid, A. (2000). Impact of culture on human resource management practices: A 10-country comparison. Applied Psychology, 49(1), 192–221. doi:10.1111/1464-0597.00010 Barkema, H. G., & Vermeulen, G. A. M. (1997). What differences in the cultural backgrounds of partners are detrimental for international joint ventures? Journal of International Business Studies, 28(4), 845–864. doi:10.1057/palgrave. jibs.8490122 Barlett, C. A., & Ghoshal, S. (2002). Managing across borders: The transnational solution. Boston: Harvard Business School Press. (Original work published 1989) Barlett, C. A., Ghoshal, S., & Beamish, P. (2008). Transnational management: Text, cases, and readings in cross-border management (5th ed.). Boston: Mc-Graw-Hill. Bisciari, P., & Piette, C. (2007). Direct investment and Belgium’s attractiveness. Economic Review (Federal Reserve Bank of Atlanta), 1, 29–46. Bondebjerg, I., & Golding, P. (2004). European culture and the media. Bristol, UK: Intellect Books. Brock, D. M., Shenkar, O., Shoham, A., & Siscovick, I. C. (2008). National culture and expatriate deployment. Journal of International Business Studies, 39(8), 1293–1309. doi:10.1057/palgrave. jibs.8400361 Browaeys, M., & Price, R. (2008). Understanding cross-cultural management. Harlow, UK: Prentice Hall – Financial Times. Bryman, A., & Bell, E. (2007). Business research methods (2nded.). Oxford, UK: Oxford University Press.

 A Case Study on Cross-Cultural Differences

Cardon, P. W. (2008). A critique of Hall’s contexting model: A meta-analysis of the intercultural business and technical communication literature. Journal of Business and Technical Communication, 22(4), 399–428. doi:10.1177/1050651908320361 Carter, R. T. (2000). Perspectives on addressing cultural issues in organizations. In R. T. Carter (Ed.), Addressing cultural issues in organizations: Beyond the corporate context. Thousand Oaks, CA: Sage Publications. doi:10.4135/9781452231297. n1 Chang P., & Huang F. (2010). Trade and divergence in education systems. Research Collection School of Economics, paper 1248. Chen, X. P., Liu, D., & Portnoy, R. (2012). A multilevel investigation of motivational cultural intelligence, organizational diversity climate, and cultural sales: Evidence from US real estate firms. The Journal of Applied Psychology, 97(1), 93–106. doi:10.1037/a0024697 PMID:21806296 Christiansen, B., & Sezerel, H. (2013). Diversity management in transcultural organizations. Global Business Perspectives. Doi: doi:10.1007/ s40196-013-0013-8 Dahl, S. (2004). Intercultural Research: The Current State of Knowledge (discussion paper 26). Middlesex University. De Mooij, M. (2004). Consumer behavior and culture: Consequences for global marketing and advertising. Thousand Oaks, CA: Sage Publications. Deloitte. (2012, January). Turkish outbound M&A. Retrieved February 5, 2012, from: http://www.deloitte.com/assets/DcomTurkey/Local%20Assets/ Documents/turkey_tr_mnaoutbound_27012012. pdf

DiStefano, J. J., & Maznevski, M. L. (2000). Creating value with diverse teams in global management. Organizational Dynamics, 29(1), 45–63. doi:10.1016/S0090-2616(00)00012-7 Dow, D., & Karunaratna, A. (2006). Developing a multidimensional instrument to measure psychic distance stimuli. Journal of International Business Studies, 37(5), 578–602. Drucker, P. F. (1995). Managing in a time of great change. Oxford, UK: Butterworth-Heinemann. Dunning, J. H. (1998). Location and the multinational enterprise: A neglected factor. Journal of International Business Studies, 29(1), 45–66. doi:10.1057/palgrave.jibs.8490024 Endrawes, M., & Matawie, K. (2005). The effect of Individualism/Collectivism on professional commitment. The International Scope Review, 7(12). European Coatings. (2011, October 11). Soudal makes a strategic acquisition in Turkey. Retrieved February 5, 2012, from: http://www.europeancoatings.com/layout/set/print/Markets-Companies/Soudal-makes-a-strategic-acquisition-inTurkey Fisher, C. (2007). Researching and writing a dissertation: A guidebook for business students (2nd edition). Harlow, UK: Prentice Hall - Financial Times. Flyvbjerg, B. (2006). Five misunderstandings about case study research. Qualitative Inquiry, 12(2), 219–245. doi:10.1177/1077800405284363 Frankel, J., & Rose, A. (2002). An estimate of the effect of currency unions on trade and growth. The Quarterly Journal of Economics, 117(469), 437–466. doi:10.1162/003355302753650292 Franklin, C., & Ballan, M. (2001). Reliability and validity in qualitative research in the handbook of social work research methods. Thousand Oaks, CA: Sage Publications.

523

 A Case Study on Cross-Cultural Differences

Gallagher, T. (2001). The Value Orientations Model: A Tool to Help Understand Cultural Difference. Journal of Extension, 39(6), 165–177. Gesteland, R. R. (1996). Cross-cultural business behavior marketing, negotiating, sourcing and managing across cultures. Copenhagen, Denmark: Copenhagen Business School Press. Ghemawat, P. (2001). Distance still matters: The hard reality of global expansion. Harvard Business Review, 79(8), 137–147. PMID:11550630 Gitelson, G., Bing, J. W., & Laroche, L. (2001). The impact of culture on mergers & acquisitions. CMA Management. Grant, R. M. (1991). The resource-based theory of competitive advantage: Implications for strategy formulation. California Management Review, 33(3), 114–135. doi:10.2307/41166664 Hall, E. T. (1989). Beyond culture. New York: Anchor Books/Doubleday. (Original work published 1976) Hall, E. T. (1990). The silent language. New York: Anchor Books. (Original work published 1959) Hall, E. T. (1990). The hidden dimension. New York: Anchor Books/Doubleday. (Original work published 1966) Hall, E. T., & Hall, M. R. (1990). Understanding cultural differences: German, French, and Americans. Yarmouth, ME: Intercultural Press, Inc. Hbmedia. (2000, March). Deceuninck: Acquisiton of Ege Profil. Retrieved February 5, 2012, from: https://www.hbmedia.info/plastruction/ deceuninck-acquisition-of-ege-profil Hill, C. W. L. (2009). International business – Competing in the global market place (7th ed.). Boston: McGraw-Hill.

524

Hills, M. D. (2002). Kluckhohn and Strodtbeck’s values orientation theory. Online Readings in Psychology and Culture, unit 4. Retrieved 10 July, 2011, from: http://scholarworks.gvsu.edu/ orpc/vol4/iss4/3 Hoecklin, L. (1995). Managing cultural differences: Strategies competitive advantage. Workingham, UK: Addison – Wesley. Hofstede, G. (1998). Identifying organizational subcultures: An empirical approach. Journal of Management Studies, 35(1), 1–12. doi:10.1111/1467-6486.00081 Hofstede, G. (2001). Culture’s consequences: Comparing values, behaviors, institutions, and organizations across nations (2nd ed.). Thousand Oaks, CA: Sage. Hofstede, G., & Hofstede, G. J. (2005). Cultures and organizations: Software of the mind. New York: McGraw-Hill. House, R. J., Hanges, P. J., Javidan, M., Dorfman, P. W., & Gupta, V. (Eds.). (2004). Culture, leadership and organizations: The GLOBE study of 62 societies. Thousand Oaks, CA: Sage. Hurriyet Daily News. (2010, July 18). Global investors acquire Ontex for 1.2 bln. Retrieved February 5, 2012, from: http://www.hurriyetdailynews.com/default.aspx?pageid=438&n=globalinvestors-acquire-ontex-for-1.2-bln-2010-07-18 Jansson, H., Johanson, M., & Ramstrom, J. (2007). Institutions and business networks: A comparative analysis of the Chinese, Russian, and West European markets. Industrial Marketing Management, 36(7), 955–957. doi:10.1016/j. indmarman.2007.05.013 Johnson, B. R. (1997). Examining the validity structure of qualitative research. Education, 118(3), 282–292.

 A Case Study on Cross-Cultural Differences

Johnson, J., & Tellis, G. J. (2008). Drivers of success for market entry into China and India. Journal of Marketing, 72(3), 1–13. doi:10.1509/ jmkg.72.3.1 Kang, H., & Fratianni, M. (2006). International trade, OECD membership, and religion. Open Economies Review, 17(4-5), 493–50. doi:10.1007/ s11079-006-0361-y Karacay-Aydin, G., Akben-Selcuk, E., & AydinAltinoklar, A. E. (2010). Cultural Variability in Web content: A comparative analysis of American and Turkish websites. International Business Research, 3(1), 97–103. Katsioloudes, M. I., & Hadjidakis, S. (2007). International business: A global perspective. Oxford, UK: Butterworth-Heinemann. Katz, L. (2008). Negotiating international business – Ireland (2nd ed.). Charleston, SC: Booksurge Publishing. Kirkman, B. L., Gibson, C. B., & Shapiro, D. L. (2001). “Exporting” teams: Enhancing the implementation and effectiveness of work teams in global affiliates. Organizational Dynamics, 30(1), 12–29. doi:10.1016/S0090-2616(01)00038-9 Kirkman, B. L., Lowe, B. K., & Gibson, C. B. (2006). A quarter century of culture’s consequences: A review of empirical research incorporating Hofstede’s cultural values framework. Journal of International Business Studies, 37(5), 285–320. doi:10.1057/palgrave.jibs.8400202 Knight, G., & Kim, D. (2009). International business competence and the contemporary firm. Journal of International Business Studies, 40(2), 255–273. doi:10.1057/palgrave.jibs.8400397 Lee, S. M., & Peterson, S. J. (2000). Culture, entrepreneurial orientation, and global competitiveness. Journal of World Business, 35(4), 401–416. doi:10.1016/S1090-9516(00)00045-6

Lohmann, J. (2011). Do language barriers affect trade? Economics Letters, 110(2), 159–162. doi:10.1016/j.econlet.2010.10.023 Manrai, L. A., & Manrai, A. K. (1995). Effects of cultural-context, gender, and acculturation on perceptions of work versus social/leisure time usage. Journal of Business Research, 32(2), 115–128. doi:10.1016/0148-2963(94)00034-C Marschan-Piekkari, R., & Welch, C. (2004). Handbook of qualitative research methods for international business. Cheltenham, UK: Edward Elgar Publishing. doi:10.4337/9781781954331 Maznevski, M. L., DiStefano, J. J., Gomez, C. B., Noorderhaven, N. G., & Wu, P. C. (2002). Cultural dimensions at the individual level of analysis: The cultural orientations framework. International Journal of Cross Cultural Management, 2(3), 275–295. doi:10.1177/147059580223001 McSweeney, B. (2002). Hofstede’s model of national cultural differences and consequences: A triumph of faith - a failure of analysis. Human Relations, 55(5), 89–118. doi:10.1177/0018726702055001602 Metcalf, L. E., Bird, A., Shankarmahesh, M., Aycan, Z., Dewar, D., & Larimo, J. (2006). Cultural tendencies in negotiation: A comparison of Finland, India, Mexico, Turkey, and the United States. Journal of World Business, 41(4), 382–394. doi:10.1016/j.jwb.2006.08.004 Mickalites, C. (2002). Review of Gesteland, Richard Cross-Cultural business behavior: Marketing, negotiating and managing across cultures. Retrieved July 16, 2011, from: http://www. freepatentsonline.com/article/ManagementInternational-Review/82804551.html Myers, M. (2000). Qualitative research and the generalizability question: Standing firm with proteus. Qualitative Report, 4(3-4).

525

 A Case Study on Cross-Cultural Differences

Nardon, L., & Steers, R. M. (2009). The culture theory jungle: Divergence and convergence inmodels of national culture. Cultural Foundations (part 1). In S. Bhagat & R. M. Steers (Eds.), Cambridge handbook of culture, organizations, and work by R (pp. 3–23). Cambridge University Press. doi:10.1017/CBO9780511581151.002 Newman, K. L., & Nollen, S. D. (1996). Culture and congruence: The fit between management practices and national culture. Journal of International Business Studies, 27(4), 753–779. doi:10.1057/palgrave.jibs.8490152 OECD (1997). Globalization and small and medium enterprises (SMEs). Paris: Organization for Economic Co-Operation and Development. Oh, C. H., Selmier, W. T., & Lien, D. (2011). International trade, foreign direct investment, and transaction costs in languages. Journal of Socio-Economics, 40(6), 732–735. doi:10.1016/j. socec.2011.08.003 Ostapik, E., & Yi, K. (2007). International trade: Why we don’t have more of it. Business Review (Federal Reserve Bank of Philadelphia), (Q3): 20–27. Parsons, A. J. (1996). Nestle: The visions local managers - An interview with Peter BrabeckLetmathe. The McKinsey Quarterly, 2, 5–29. Pattyn, F. L. J. (2009). Gates European Workforce [Report] / Human Resources; Gates Power Transmission Europe, BVBA (European Headquarters) ‐ Erembodegem. Pellegrini, E. K., & Scandura, E. A. (2006). Leader-member exchange (LMX), paternalism and delegation in the Turkish business culture: An empirical investigation. Journal of International Business Studies, 37(2), 264–279. doi:10.1057/ palgrave.jibs.8400185

526

Peng, M. W. (2001). The resource-based view and international business. Journal of Management, 27(6), 803–829. doi:10.1177/014920630102700611 Piepenburg, K. (2011). Critical analysis of Hofstede’s model of cultural dimensions: to what extent are his findings reliable, valid and applicable to organizations in the 21st century? Retrieved July 3, 2012, from: http://www.grin.com/ en/e-book/169716/critical-analysis-of-hofstede-smodel-of-cultural-dimensions Ramalu, S. S., Raduan, C. R., Kumar, N., & Uli, J. (2010). Doing business in global arena: An examination of the relationship between cultural intelligence and cross-cultural adjustment. Asian Academy of Management Journal, 15(1), 79–97. Ricks, D. A. (2006). Blunders in international business (4th ed.). Oxford, UK: Blackwell. Rugman, A. M., Collinson, S., & Hodgetts, R. M. (2006). International business (4th ed.). Harlow, UK: Prentice Hall - Financial Times. Schwab, K. (2011). The global competitiveness report 2011-2012. Geneva: World Economic Forum. Schwartz, S. H. (1992). Article. In M. Zanna (Ed.), Universals in the content and structure of values: Theory and empirical tests in 20 countries (Vol. 25, pp. 1–65). Advances in Experimental Social Psychology. Schwartz, S. H. (2004). Mapping and interpreting cultural differences around the world. In H. Vinken, J. Soeters, & P. Ester (Eds.), Comparing cultures: Dimensions of culture in a comparative perspective. Leiden, Netherlands: Brill. Schwartz, S. H. (2006). Basic human values: An overview basic human values: Theory, methods, and applications introduction to the values theory. Revue Francaise de Sociologie, 47(4), 249–288.

 A Case Study on Cross-Cultural Differences

Sivakumar, K., & Nakata, C. (2001). The stampede toward Hofstede’s framework: Avoiding the sample design pit in cross-cultural research. Journal of International Business Studies, 32(3), 555–574. doi:10.1057/palgrave.jibs.8490984 Søndergaard, M. (1994). Hofstede’s consequences: A study of reviews, citations and replications. Organization Studies, 15(5), 447–456. doi:10.1177/017084069401500307 Steensma, H. K., Marino, L., & Weaver, K. M. (2000). Attitudes toward cooperative strategies: A cross-cultural analysis of entrepreneurs. Journal of International Business Studies, 31(4), 591–609. doi:10.1057/palgrave.jibs.8490924 Trompenaars, F., & Hampden-Turner, C. (1998). Riding the waves of culture: Understanding cultural diversity in business (2nd ed.). New York: McGraw Hill.

KEY TERMS AND DEFINITIONS Cross-Culture: A business environment where people from different countries interact, bringing different values, business practices and communication styles. Cultural Dimension: Observable and measurable aspect of culture. Cultural Model: A tool to compare different cultures through cultural dimensions. Culture: Values, attitudes, and norms of workers. Home-Country: The country from which the investment originates. Host-Country: Destination of the foreign investment. Internationalization: The process of entering and expanding business in international markets.

Trompenaars, F., & Hampden-Turner, C. (2000). Building cross-cultural competence: How to create wealth from conflicting values. New Haven, CT: Yale University Press. Tsang, W. K., & Yip, S. L. (2007). Economic distance and the survival of foreign direct investment. Academy of Management Journal, 50(5), 1156–1168. doi:10.2307/20159917 Uudam, C. (2008). Portuguese cultural standards: From the Swedish perspective. (Master’s Thesis), ISCTE Lisbon University Institute. Wengraf, T. (2001). Qualitative research interviewing. London, UK: Sage Publications. doi:10.4135/9781849209717 Yeganeh, H., Su, Z., & Sauers, D. (2009). The applicability of widely employed frameworks in cross-cultural management research. Journal of Academic Research in Economics, 1(1), 1–24. Yin, R. K. (2002). Case study research, design and methods (3rd ed.). Newbury Park, CA: Sage Publications.

527

A Case Study on Cross-Cultural Differences

APPENDIX Interview questions asked to Mr.Fidan: Group 1: General Questions. 1. Please give me an overview about your company and its position in Turkey. 2. Can you give me information about your international operations? 3. What was the main reason for internationalization of your company? 4. What was your strategy for internationalization? 5. What was the reason to locate your first subsidiary in Belgium? 6. Can you describe the process of expansion to Belgium? 7. What was the mode of entry? 8. What was the amount of resources you committed in your foreign subsidiary in Belgium? 9. Do you believe that you gathered enough information about Belgium before entering? 10. How did you gather the market information? 11. Were you aware of your competitive advantages/distadvantages compared to the domestic companies in the host country? 12. What kind of difficulties have you experienced when doing business in Belgium? Could you give me an answer comparing Belgium with Turkey? Group 2: Culture Related Questions. 1. Have you experienced any cultural differences which had a negative impact on your business? 2. What kind of strategy have you followed to overcome the barriers? 3. What was your selection criteria when choosing personnel for White Windows? 4. What is the greatest difference between Flemish and Turkish employees concerning employee behaviors? 5. What is your company’s vision? 6. Did you have a long-term strategic business plan before you started the foreign operation? 7. Did you have in-depth analysis in your business plan? 8. Do you believe that your decisions should base on the past achievements or failures? 9. What is your decision-making style? Do you take advice from the people working in the Belgian subsidiary? 10. Do you believe that the employees should be involved in the goal setting of the company? 11. What is your approach when the employees do not agree with your ideas? 12. Do you believe that employees must be controlled and directed in order to make them work? 13. What was your approach to contact the companies in the Belgium? 14. Did you experience any difficulties when communication with Belgian companies? 15. Did you experience any difficulties with the way of doing business in Belgium? 16. Do you believe that business agreements can be modified after the contract is signed? 17. Do you think 2 years of period is enough to decide for disposal of business? Interview questions asked to Mr.Sunay: 1. Can you explain the employee culture in Turfan Ltd.?

528

A Case Study on Cross-Cultural Differences

2. Have you experienced any cultural differences with your Flemish colleagues which had a negative impact on business? 3. What is the main communication tool when contacting your Flemish colleagues? 4. What is your approach when contacting companies in Belgium?

529

530

Chapter 24

Do Nonperforming Assets Alone Determine Bank Performance? Rituparna Das National Law University Jodhpur, India

ABSTRACT The post-crisis period in India witnessed economic slowdown consequent upon economy wide loan default in the infrastructure, real estate, and construction sectors. The asset quality problem of the Indian commercial banks became so acute that many of the weak banks were to be merged with strong banks in the interest of the depositors in order to arrest any contagion effect. The old generation private sector banks in India do not have government patronage or continuing support of the founder communities. This chapter analyzes the key financial ratios of these banks and tries to find out whether nonperforming assets are the sole determinants of the performances of these banks.

INTRODUCTION On March 5, 2014 Asian News International reported that the Finance Minister of India warned the public sector banks about their growing problem of non performing assets. The problem of non performing assets is found to have been aggravating for public sector banks during the last quarter of 2013-14 relative to the private sector banks. A study reported by PTI in the beginning of 2014 on non performing assets conducted by the Associated Chambers of Commerce and Industry of India. The study mentioned (i) political interference at local levels and waiver of loans by government, (ii) lack of professionalism in the workforce, (iii) mis-utilisation of loans by borrower, (iv) faulty

credit management, (v) unscientific repayment schedule, (vi) lack of timely legal settlement of cases, and above all (vii) slippage of restructured accounts to non-performing assets to be the factors contributing to aforesaid growth of non performing assets. Against this background this chapter plans to investigate into the determinants of profitability of the following old generation private sector banks in India. 1. 2. 3. 4. 5. 6.

Catholic Syrian Bank, City Union Bank, Dhanlaxmi Bank, Federal Bank, ING Vysya Bank, Jammu and Kashmir Bank,

DOI: 10.4018/978-1-4666-6551-4.ch024

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Do Nonperforming Assets Alone Determine Bank Performance?

7. 8. 9. 10. 11. 12. 13.

Karnataka Bank, Karur Vysya Bank, Lakshmi Vilas Bank, Nainital Bank, Ratnakar Bank, South Indian Bank, Tamilnad Mercantile Bank.

BACKGROUND Choudhury (2012) succinctly described the background of the old generation private sector banks in India. These were in his opinion those banks existing at the time of nationalization, but not considered to be important in matter of nationalization in 1969. The banks were developed out of patronage from some specific community. He described them as those entities which on the one hand do not have state patronage unlike the nationalized banks and on the other hand do not have the loyalty any more of the founder community, from which they used to get major business. He is also of the view that these by and large localized banks have presence across the country, which are ornamental and not contributing to the development of these banks. He described that some of these banks like Centurion Bank of Punjab and Bank of Rajasthan were acquired by new generation private sector banks like HDFC Bank (Housing Development Finance Bank) and ICICI Bank (Industrial Credit and Investment Corporation of India Bank) respectively. He reported the struggle for surviving competition by some like DCBL (Development Credit Bank Limited) and ING Vysya Bank. Devrajappa (2012) subscribed to the academically accepted view that merger of two weaker banks or merger of one strong Bank with one weak bank can be treated as a faster and less costly way to improve profitability and spurring internal growth. As per Rangan (2013) the merger between HDFC Bank and Centurion Bank of Punjab (CBOP) was billed as one of the biggest mergers in the banking his-

tory of India in 2008 and the merger aimed, inter alia, at leveraging the strengths of HDFC bank and CBOP in terms of branches, serving different segments of the market and the general synergy brought about by mergers. Kuriakose, Raju and Kumar (2012) analyzed the merger between ICICI Bank and Bank of Rajasthan based on strategic similarities and relatedness. They reported that the management of the acquiring entity the ICICI Bank had to focus on the intrinsic issue of differences in key parameters between the banks in the post-merger period to boost the performance of the merged entity.

LITERATURE Ameur and Mhir (2013) using GMM Method (Generalized Method of Moments) assessed Tunisian banks’ performances. They considered (i) return on assets, (ii) return on equity and (iii) net interest margin as proxy measures of bank performance. The factors responsible were found to belong to three broad categories – (a) bank specific factors (b) industry specific factors and (c) macroeconomic factors. (i) Bank specific factors are asset size, capital adequacy ratio, nonperforming asset ratio, operational efficiency in terms of cost to income ratio, bank deposit growth and proportion of private ownership of the bank. (ii) Industry specific factors are concentration of banking assets with three largest banks and the ratio of total banking industry asset to GDP (gross domestic product). (iii) The macroeconomic factors are growth rate of GNP (gross national product) and annual inflation rate of the country. All these factors are ratios upon which, along with one-period lagged value of the regressor, the bank performance is regressed. Pastori and Mutaju (2013) found that the increase in capital ratios of the Tanzanian commercial banks sometimes reduced the asset quality productivity and in most cases the levels of non-performing loans and non-performing asset

531

 Do Nonperforming Assets Alone Determine Bank Performance?

have been increased with the increase in capital ratios. They also noted that that an increase in nonperforming loans tended to worsen capital ratio. Kumbirari and Webb (2010) investigated the performance of South Africa’s commercial banking sector for the period 2005- 2009 by employing financial ratios to measure the profitability, liquidity and credit quality performance of five large South African commercial banks because financial ratios enable identification of unique bank strengths and weaknesses, which in itself inform bank profitability, liquidity and credit quality. Based on their results they reported that (i) the overall bank performance in terms of profitability, liquidity, and credit quality has been improving since 2005 up to and including 2007, (ii) banks increased the size of their loan portfolios aggressively during the period as the country prepared for World Cup 2010 but kept credit risk management policies sound and effective, as reflected by the downward trend in nonperforming loans; (iii) bank performance deteriorated during 2008-2009 as the banks’ operating environment deteriorated due to the global financial crisis and a slowing economy, (iv) the illiquidity levels in the South African commercial banks has reached extreme levels, which were aggravated by the banks’ dependence on wholesale markets. Dietrich and Wanzenried (2009) analyzed the performances of commercial banks in Switzerland. In regression analysis they considered three categories of variables as regressors – (a) bank specific, (b) industry specific and (c) macroeconomic. Their results showed existence of significant differences in profitability between commercial banks in Switzerland and that these differences could mostly be explained by the regressor variables. They reported the findings of: 1. Bourke (1989), Demirguc-Kunt and Huizinga (1999), Mendes and Abreu (2003), Goddard et al. (2004), Naceur and Goaied (2001, 2005), and Pasiouras and Kosmidou

532

2.

3. 4. 5.

6.

(2007) demonstrating a positive relationship between performance and level of equity relative to their assets in a bank, Athanasoglou, Delis and staikouras (2006) demonstrating a negative relationship between profitability and overhead costs in relation to the assets in a bank, Pasiouras and Kosmidou (2007) demonstrating a positive relationship between asset size and the profitability of a bank, Berger et al. (1987) demonstrating a negative relationship between operation cost and asset size of a bank, Mendes and Abreu (2003) demonstrating a positive relationship between profitability and risk in the form loan to asset ratio while Bourke (1989) and Molyneux and Thornton (1992) demonstrating a negative relationship between the two, and Micco, Panizza and Yanez (2007) finding that state-owned banks operating in developing countries tend to have a lower profitability, lower margins and higher overhead costs than comparable privately owned banks and Nocera and Sironi (2007) having similar findings in developed countries.

Kosmidou and Zopounidis (2008) measured the performances of the Greek banks based on the ratios of (i) net income before taxes to equity, (ii) net income before taxes to total assets, (iii) net income before taxes to loans and securities, (iv) net interest revenue to total earning assets, (v) gross profit to total assets, (vi) administrative costs to total assets, (vii) loans to deposits, (viii) total earning assets to total assets, (ix) equity to total assets, (x) provisions to gross profit, and (xi) provisions to total assets. They used the PROMETHEE (Preference Ranking Organization Method for Enrichment Evaluation), an extension of the CAMELS (Capital Adequacy Asset Management Earnings Liquidity Sensitivity) method to evaluate the performances of the banks in Greece.

 Do Nonperforming Assets Alone Determine Bank Performance?

In Mishkin (2004) the three ratios – (i) return on assets, (ii) return on equity and (iii) net interest margin are found to play important roles. In the context of default of loans to infrastructure, real estate and construction sectors during the post crisis period, Das (2014) examined the characters of assets of six new generation private sector banks – HDFC Bank, ICICI Bank, Axis Bank, Kotak Mahindra Bank, Indusind Bank and Yes Bank. Based on annual reports of these banks he noted that (i) ICICI Bank faced credit concentration risk while HDFC Bank does not have, (ii) Axis Bank faced concentration risk in terms of excess exposure over the sanctioned limit to two housing loan institutions - HDFC (Housing Development Finance Corporation)1 and LICHF (Life Insurance Corporation Housing Finance), and (iii) IndusInd Bank faced name risk in terms of the maximum proportion of total advances having been lent to twenty largest borrowers relative all the six banks. He threw light on (i) measurement of the probability of default, loss given default and exposure at default, (iii) three different approaches to credit risk measurement - Standardized Approach, Internal Ratings-based (IRB) Approach and Advanced IRB Approach. He recommended (i) estimation of the asset value of every bank on everyday basis, and (ii) forecasting of marginal increment or reduction in the asset value attributable to every loan account is warranted here. Das (2013) found that the activities of stresstesting and scenario building under ICAAP (Internal Capital Adequacy Assessment Process) conducted by the banks as per Reserve Bank of India guidelines circulated way back in March 2008 could not take the Indian banking system beyond Basel II. He explained the finding of Nickell et al. (2000) mentioned in Bandyopadhyay (2010) with help of the negative outlook released by major credit rating agencies like CRISIL (Credit Rating Information Services of India Limited), ICRA (Investment Information and Credit Rating Agency of India) and Fitch Ratings. He examined the migration of credit rating of the entities who

borrowed from the debt market. He concluded that amidst of the gloomy post crisis macroeconomic scenario the banks reduced lending to business because of fear of default evidenced by increasing default probabilities of Indian corporate bonds in their first and second years of maturity.

OBJECTIVES To assess (i) the interrelationship among the key financial ratios of banks and (ii) the role of non performing assets in determining profitability of the banks.

THE MODEL As per Simpson (2014) the performance of a bank may be assessed by analyzing the key ratios like profitability ratios, liquidity ratios, credit quality ratios, efficiency ratios and capital ratios. Using on the data of the aforesaid banks in India available from Reserve Bank of India (2014) regarding (i) profitability ratios, i.e. net interest margin, return on equity, return on assets, (ii) efficiency ratio in the form of cost of funds ratio, (iii) capital ratio, i.e. capital to risk weighted asset ratio and (iv) credit quality ratio, i.e. net non-performing asset ratio, this chapter plans to conduct Principal Component Analysis of bank performance2. The aim of the Principal Component Analysis (PCA) is to decide the relative position of the banks in the performance map. The aforesaid ratios are the fundamental input variables. Their number is six. The PCA transforms the fundamental input variables to a less number of compound variables. This number is minimum two or maximum three, which explains the maximum proportion of variance in those ratios. A compound variable is called a ‘factor’ or an ‘eigenvector’ (Brown, 2001). The importance of a factor is measured by ‘eigenvalue’. The PCA reduces compresses the six dimensional plain into a two or three dimensional plain. The

533

 Do Nonperforming Assets Alone Determine Bank Performance?

Table 1. Descriptive statistics 2012-13 NIM

BASEL II

NNPA

ROE

ROA

COF

13

13

13

13

13

13

Mean

2.873846

13.73385

0.932308

14.14462

1.113077

7.49

Variance

0.303526

2.300892

1.000019

55.16716

0.320156

0.557967

Minimum

1.94

11.06

0

0.35

0.02

6.28

Maximum

3.91

17.11

3.36

24.08

2

8.89

Observations

Source: Reserve Bank of India (2013)

PCA also gives a view about correlation among the input variables3.

DEFINITIONS In this chapter return on assets is considered to be the proxy of bank performance. If there is multicollinearity between return on assets and return on equity, cost of funds or net interest margin, return on assets would be retained for modelling. Net non-performing asset ratio is considered to be the proxy of quality of assets. Cost of funds is the proxy of efficiency (Hughes and Mester, 2008). Non-performing assets may be considered to be the measure of asset quality (Pastori and Mutaju, 2013).

STATISTICS The sources of financial information including annual reports are available from the websites of the banks and the Reserve Bank of India (2014). Keeping in view the existing literature, the data of above mentioned thirteen old generation private sector banks on net interest margin (NIM), Basel II capital to risk weighted asset ratio (Basel II), net non-performing asset ratio (NNPAR), Return on Equity (ROE), Return on Assets (ROA) and Cost of Funds (COF) are collected from the Reserve Bank of India (2014). The descriptive Statistics

534

of these data is in Table 1 for the financial year 2012-13. The data on NIM and ROE are available from 2008-09 in Reserve Bank of India (2013), but the data on BASEL II, NNPA, ROE, ROA and COF are available from 2001-02 onward in Reserve Bank of India (2013), Reserve Bank of India (2009), Reserve Bank of India (2005).

RESULTS After churning the data in Table 1 via the software XLSTAT-Pro, the PCA produces following results in terms of Table 2, Table 3, Table 4, Table 5, Table 6, Table 7, Table 8, Table 9, Table 10, Table 11, Figure 1, Figure 2, Figure 3 and Figure 4. There is high negative correlation between NIM and NNPA and between ROA and NNPA. On the other hand there is high positive correlation between ROA and ROE, ROA and NIM. Again COF has very low correlation with all other variables irrespective of positive or negative. Eigenvalues are the sum of the squared factor loadings (UNESCO, 2014). As per Kaiser criterion the eigenvalues here above or equal to‘1’ are retained (Reyna, 2014). Hence only first two eigenvalues and hence factors F1 and F2 are retained. As already discussed, the PCA reduces the number of dimensions of a model. The number of pre-PCA dimensions is equal to the number of original fundamental ratios. The number of

 Do Nonperforming Assets Alone Determine Bank Performance?

Table 2. Correlation matrix (Pearson (n)) Variables

NIM

BASEL II

NNPA

ROE

ROA

COF

1

0.401

-0.710

0.754

0.852

-0.290

BASEL II

0.401

1

-0.671

0.312

0.592

-0.158

NNPA

-0.710

-0.671

1

-0.591

-0.743

0.446

ROE

0.754

0.312

-0.591

1

0.911

-0.067

ROA

0.852

0.592

-0.743

0.911

1

-0.254

COF

-0.290

-0.158

0.446

-0.067

-0.254

1

NIM

Note: Values in bold are different from 0 with a significance level alpha=0.05

Table 3. Eigenvalues F1 Eigenvalue

F2

F3

F4

F5

F6

3.767

1.025

0.772

0.233

0.188

0.014

Variability (%)

62.787

17.089

12.874

3.882

3.141

0.226

Cumulative %

62.787

79.876

92.750

96.632

99.774

100.000

Table 4. Eigenvectors F1

F2

F3

F4

F5

F6

0.456

0.117

-0.271

0.656

0.488

-0.192

BASEL II

0.342

-0.154

0.811

-0.182

0.303

-0.275

NNPA

-0.456

0.237

-0.167

-0.382

0.739

-0.127

ROE

0.428

0.422

-0.285

-0.452

-0.261

-0.533

ROA

0.495

0.184

-0.063

-0.326

0.194

0.757

COF

-0.197

0.834

0.394

0.284

-0.133

0.115

NIM

post-PCA dimensions is the number of compound variables. An eigenvalue is a measure of importance of a compound variable.

As per XLStat (2014a) factor loadings are measures of correlation between factors and original variables. As per Bioinformatics Research (2014)

Table 5. Factor loadings F1

F2

F3

F4

F5

F6

NIM

0.885

0.118

-0.238

0.316

0.212

-0.022

BASEL II

0.664

-0.156

0.713

-0.088

0.132

-0.032

NNPA

-0.885

0.240

-0.147

-0.184

0.321

-0.015

ROE

0.831

0.427

-0.251

-0.218

-0.113

-0.062

ROA

0.961

0.186

-0.055

-0.157

0.084

0.088

COF

-0.382

0.844

0.346

0.137

-0.058

0.013

535

 Do Nonperforming Assets Alone Determine Bank Performance?

Table 6. Contribution of the variables F1

F2

F3

F4

F5

F6

NIM

20.810

1.361

7.318

42.977

23.856

3.678

BASEL II

11.707

2.370

65.841

3.319

9.181

7.582

NNPA

20.803

5.618

2.804

14.563

54.594

1.619

ROE

18.320

17.807

8.147

20.443

6.823

28.460

ROA

24.493

3.370

0.393

10.641

3.775

57.327

COF

3.867

69.475

15.497

8.058

1.770

1.334

Table 7. Squared cosines of the variables F1

F2

F3

F4

F5

F6

NIM

0.784

0.014

0.057

0.100

0.045

0.000

BASEL II

0.441

0.024

0.509

0.008

0.017

0.001

NNPA

0.784

0.058

0.022

0.034

0.103

0.000

ROE

0.690

0.183

0.063

0.048

0.013

0.004

ROA

0.923

0.035

0.003

0.025

0.007

0.008

COF

0.146

0.712

0.120

0.019

0.003

0.000

a factor’s eigenvalue may be computed as the sum of its squared factor loadings for all the variables

and factor loading also may be called correlation coefficients between variables and factors.

Table 8. Factor scores F1

F2

F3

F4

F5

F6

CSB

Observation

-2.126

-0.015

0.069

1.147

-0.451

-0.088

CUB

1.060

1.351

0.101

-0.263

-0.303

0.087

DLB

-4.350

-0.753

-0.872

-0.340

0.603

-0.003

FDB

0.723

-0.860

0.059

-0.406

0.591

-0.010

IVB

0.794

-1.000

-0.646

0.194

-0.466

0.230

JKB

2.143

-0.610

-1.798

-0.212

-0.121

-0.036

KTB

-1.271

0.394

0.202

-0.467

-0.279

0.080

KVB

0.790

0.281

0.388

-0.413

-0.523

-0.021

LVB

-2.717

1.542

0.263

0.102

0.060

0.060

NTB

1.484

-0.921

-0.146

0.784

0.264

-0.035

RKB

0.504

-1.482

2.305

-0.129

0.086

0.014

SIB

0.438

0.325

-0.048

-0.351

-0.293

-0.307

TMB

2.528

1.750

0.124

0.355

0.832

0.028

536

 Do Nonperforming Assets Alone Determine Bank Performance?

Table 9. Contributions of the observations F1

F2

F3

F4

F5

F6

CSB

9.232

0.002

0.047

43.436

8.290

4.378

CUB

2.293

13.703

0.102

2.293

3.757

4.264

DLB

38.638

4.256

7.571

3.812

14.818

0.005

FDB

1.068

5.551

0.034

5.443

14.273

0.060

IVB

1.288

7.510

4.162

1.249

8.871

30.002

JKB

9.375

2.793

32.203

1.481

0.595

0.731

KTB

3.297

1.163

0.407

7.216

3.170

3.627

KVB

1.275

0.591

1.496

5.632

11.175

0.238

LVB

15.077

17.829

0.691

0.342

0.149

2.056

NTB

4.496

6.365

0.212

20.302

2.845

0.674

RKB

0.519

16.480

52.898

0.552

0.303

0.111

SIB

0.392

0.792

0.023

4.079

3.513

53.411

TMB

13.049

22.965

0.152

4.163

28.241

0.442

Table 6 gives a measure of contribution of a factor to building up the concerned axis, like the two axes in the Correlation Circle of Figure 2. Since factors F1 and F2 are retained, the respective two axes are relevant here. As per Bioinformatics Research Centre (2014) the principal components

are linear combinations of the original variables weighted by their contribution to explaining the variance in a particular orthogonal dimension and if a factor has a low eigenvalue, then it is contributing little to the explanation of variances

Table 10. Squared cosines of the observations F1

F2

F3

F4

F5

F6

CSB

0.747

0.000

0.001

0.217

0.034

0.001

CUB

0.359

0.584

0.003

0.022

0.029

0.002

DLB

0.913

0.027

0.037

0.006

0.018

0.000

FDB

0.294

0.415

0.002

0.093

0.196

0.000

IVB

0.268

0.424

0.177

0.016

0.092

0.022

JKB

0.556

0.045

0.392

0.005

0.002

0.000

KTB

0.764

0.073

0.019

0.103

0.037

0.003

KVB

0.481

0.061

0.116

0.131

0.211

0.000

LVB

0.750

0.241

0.007

0.001

0.000

0.000

NTB

0.586

0.226

0.006

0.164

0.019

0.000

RKB

0.033

0.282

0.682

0.002

0.001

0.000

SIB

0.318

0.175

0.004

0.204

0.143

0.156

TMB

0.621

0.298

0.001

0.012

0.067

0.000

Note: Values in bold correspond for each observation to the factor for which the squared cosine is the largest.

537

 Do Nonperforming Assets Alone Determine Bank Performance?

Table 11. Bank statistics of key financial ratios 2011-12 2011-12

Bank

NIM

COF

ROE

ROA

Basel II

NNPA

1

CSB

2.81

7.36

4.66

0.24

11.08

1.1

2

CUB

3.03

7.95

24.91

1.71

12.57

0.44

3

DLB

1.71

8.25

-14.7

-0.73

9.49

0.66

4

FDB

3.49

6.89

14.37

1.41

16.64

0.53

5

IVB

2.81

6.38

13.82

1.09

14

0.18

6

JKB

3.32

5.86

21.22

1.56

13.36

0.15

7

KTB

2.15

7.49

9.79

0.73

12.84

2.11

8

KVB

2.79

7.64

20.81

1.56

14.33

0.33

9

LVB

2.52

8.64

11.56

0.73

13.1

1.74

10

NTB

3.88

6.37

17.74

1.75

15.09

0

11

RKB

3.58

6.8

5.9

1.38

23.2

0.2

12

SIB

2.79

7.56

19.99

1.12

14

0.28

13

TMB

3.57

7.71

20.89

1.75

14.69

0.45

in the variables and may be ignored as redundant with more important factors. Squared Cosine is the measure of the link between a variable and an axis. Values in bold correspond for each variable to the factor for which the squared cosine is the largest. Table 7 is relevant to Figure 4. It implies that there is strong negative correlation between ROA and COF. As per Bioinformatics Research Centre (2014) Composite measure created for each observation on each factor extracted in the factor analysis. Factor scores place each variable in a plane of multivariate variability. As per Table 10, CSB, KTB and LVB have similar positions. Again FDB and IVB are in similar positions. JKB and NTB have similar positions with respect to at least two of the three variables ROA, NNPA and NIM. Out of these the two variables ROA and NNPA, one may be omitted from analysis if a major portion of ROA is explained by NNPA. This is revealed in Figure 3 and confirmed by Figure 7. In Figure 2, three variables NIM, ROA and ROE are far from the centre but on the same side. This means they are positively related. NNPA and COF

538

are also far from the centre but on the opposite side of NIM, ROA and ROE. So NNPA and COF are negatively related to these profitability ratios. In order to check the dynamics of the performance of the above banks in the previous year, data are collected from the Reserve Bank of India (2012). The descriptive statistics of these data is given below. The results of PCA are given below. But there are spectacular differences in comparison with the previous analysis. Those differences are laid down below: 1. Factor F1 in Table 12 alone explains 60% of the variance. 2. In Figure 5, there is close correlation between NNPA and COF. This relationship was prominent during the financial year 2011-12. This means during this period NPA problem was troubling the banks, the intensity of came down subsequently in 2012-13 as evidenced in the previous PCA of 2012-13 where along with NNPAR other ratios got some role to paly in deciding bank profitabilty.

 Do Nonperforming Assets Alone Determine Bank Performance?

Figure 1. Scree plot

3. As per Table 13 and Figure 6, there are similarities in performances between KTB and LVB, between CSB and FDB. These similarities are confirmed by Figure 8.

RESEARCH LIMITATION AND SCOPE OF FURTHER RESEARCH The volume of data for the PCA is limited to the extent the annual data is used. If the same study was conducted using quarterly data further insights could have been garnered. The annual data on most of the ratios are available from 2001-02 (Reserve Bank of India, 2005). If quarterly data

539

 Do Nonperforming Assets Alone Determine Bank Performance?

Figure 2. Correlation circle

were available from 2001-02, time series modelling for random walk and random walk with drift, and other time series modelling involving macroeconomic regressors like inflation and industrial output growth need to be performed in order to

540

have a wholesome view of determination of bank profitability. There is also need to run some time series multivariate regression analysis upon return on assets where non performing assets, net interest margins and cost of funds are explanatory variables

 Do Nonperforming Assets Alone Determine Bank Performance?

Figure 3. Observation of relative position of the banks

and also to run tests of multicollinearity. In the case of multicollinearity, some variables may be removed from the PCA.

CONCLUSION This chapter described how the key financial ratios of banks evolve in course of time. Here the data during 2011-12 and 2012-13 are compared with help of principal component analysis, where the prominent trends causing variance in the data are

analyzed and accordingly the relative positions of the banks are assessed. The data of the key financial ratios of the old generation private sector banks during 2012-13 reveal that non performing assets, along with return on assets and net interest margin plays a significant role in deciding profitability of the banks. Secondly with respect to return on assets and cost of funds (i) Catholic Serian Bank, Karnataka Bank and Laxmi Vilas Bank, (ii) Federal Bank and Ing Vysya Bank and (iii) Jammu Kashmir Bank and Nainital Bank have comparable positions. But the data during 2011-12 reveal that

541

 Do Nonperforming Assets Alone Determine Bank Performance?

Figure 4. Biplot of relative position of the banks

with respect to net non-performing assets and cost of funds Karnataka Bank and Laxmi Vilas Bank, and Catholic Syrian Bank and Federal Bank are in similar positions. The reader may explore the evolving dynamics of asset quality, profitability

and efficiency by examining the financial ratios of previous financial years.

Table 12. Eigenvalues F1 Eigenvalue

F2

F3

F4

F5

3.623

1.019

0.715

Variability (%)

60.375

16.978

11.924

7.498

2.891

0.334

Cumulative %

60.375

77.353

89.277

96.775

99.666

100.000

542

0.450

F6 0.173

0.020

 Do Nonperforming Assets Alone Determine Bank Performance?

Figure 5. Scree plot

REFERENCES

archive/vol2no1/vol2no1_13.pdf

Ameur, I., & Mhiri, S. (2013). Explanatory Factors of Bank Performance Evidence from Tunisia. International Journal of Economics, Finance and Management, 2(1), 143-152. Retrieved March 7, 2014 from http://www.ejournalofbusiness.org/

ANI. (2014). Non Performing Assets biggest challenge before PSU banks: Chidambaram. Retrieved March 5, 2014 from http://in.news.yahoo.com/ non-performing-assets-biggest-challenge-psubanks-chidambaram-124936377.html

543

 Do Nonperforming Assets Alone Determine Bank Performance?

Table 13. Squared cosines of the observations F1

F2

F3

CSB

0.739

0.036

0.029

CUB

0.096

0.688

0.053

DLB

0.827

0.123

0.017

FDB

0.771

0.053

0.116

IVB

0.160

0.283

0.345

JKB

0.568

0.019

0.273

KTB

0.564

0.081

0.064

KVB

0.167

0.364

0.021

LVB

0.596

0.239

0.157

NTB

0.862

0.032

0.040

RKB

0.338

0.284

0.365

SIB

0.040

0.171

0.131

TMB

0.508

0.267

0.015

Note: Values in bold correspond for each observation to the factor for which the squared cosine is the largest

Athanasoglou, P., Delis, M., & Staikouras, C. (2006). Determinants of Bank Profitability in the Southern Eastern European Region. Bank of Greece Working Paper. Retrieved March 8, 2014 from www.bankofgreece.gr/BogEkdoseis/ Paper200647.pdf Bandyopadhyay, A. (2010). Understanding the Effect of Concentration Risk in the Banks’ Credit Portfolio: Indian Cases. Federal Reserve Bank of St. Louis IDEAS MPRA MPRA Working Paper. Retrieved March 9, 2012 from http://mpra.ub.unimuenchen.de/24822/1/MPRA_paper_24822.pdf Belaid, F. (2014). Loan Quality Determinants: Evaluating the Contribution of Bank-Specific Variables, Macroeconomic Factors and Firm Level Information. Graduate Institute of International and Development Studies Working Paper. Retrieved March 13, 2012 from http:// repec.graduateinstitute.ch/pdfs/Working_papers/ HEIDWP04-2014.pdf

544

Berger, A. (1995). The Profit – Structure Relationship in Banking: Tests of Market-Power and Efficient-Structure Hypotheses. Journal of Money, Credit and Banking, 27(2), 404–431. doi:10.2307/2077876 Bioinformatics Research Centre. (2014). Introduction to Principal Components and Factor Analysis. Retrieved March 13, 2014 from ftp://statgen.ncsu. edu/pub/thorne/molevoclass/AtchleyOct19.pdf Bourke, P. (1989). Concentration and Other Determinants of Bank Profitability in Europe, North America and Australia. Journal of Banking & Finance, 13(1), 65–79. doi:10.1016/03784266(89)90020-4 Brown, J. D. (2001). What is an Eigenvalue? Retrieved March 12, 2014 from http://jalt.org/ test/bro_10.htm Catholic Syrian Bank. (2014). Annual Report. Retrieved March 6, 2014 from http://www.csb.co.in/ asp/0100text.asp?pageId=273&headId=234

 Do Nonperforming Assets Alone Determine Bank Performance?

Figure 6. Relative position of the banks

Choudhury, D. (2012). Views | The modernization of old private banks. Livemint. Retrieved March 8, 2014 from http://www.livemint.com/Opinion/ Hyqxh4RTCVRLxsDiKIZwEP/Views--Themodernization-of-old-private-banks.html City Union Bank. (2014). Annual Results. Retrieved March 6, 2014 from http://www.cityunionbank.com/english/annualresults.aspx

Das, R. (2013). Are the banks in India comfortable on the eve of Basel III? In A. Kouyuncugil & N. Ozgulbas (Eds.), Technology and Financial Crisis: Economical and Analytical Views. Hershey, PA: IGI-Global. doi:10.4018/978-1-4666-3006-2. ch014

545

 Do Nonperforming Assets Alone Determine Bank Performance?

Figure 8. NNPA and COF 2011-12. Series 1: NNPA; Series 2: COF.

Figure 7. NNPA, ROA and NIM 2012-13. Series 1: NNPA; Series 2: ROA, Series 3: NIM.

546

 Do Nonperforming Assets Alone Determine Bank Performance?

Das, R. (2014Forthcoming). Investigation into Loan Default Problems in Infrastructure, Real Estate and Constructions Sectors facing the New Generation Private Sector Banks. In K. India Chakrabarty & N. Ray (Eds.), Handbook of Research on Strategic Business Infrastructure Development and Contemporary Issues in Finance. Hershey, PA: IGI-Global. doi:10.4018/978-14666-5154-8.ch009 Devarajappa, P. (2012). Mergers in Indian Banks: A Study on Mergers of HDFC Bank Ltd and Centurion Bank of Punjab Ltd. International Journal of Marketing, Financial Services & Management Research, 1(9), 33-42. Retrieved March 8, 2014 from http://indianresearchjournals.com/pdf/ IJMFSMR/2012/September/3.pdf Dhanlaxmi Bank. (2014). Annual Reports. Retrieved March 6, 2014 from http://www.dhanbank. com/investor_relations/inv_financials.aspx Dietrich, A., & Wanzenried, G. (2009). What Determines the Profitability of Commercial Banks? New Evidence from Switzerland. Retrieved March 7, 2014 from http://www. efmaefm.org/0EFMAMEETINGS/EFMA%20 ANNUAL%20MEETINGS/2009-milan/ EFMA2009_0079_fullpaper.pdf Federal Bank. (2014). Annual Report. Retrieved March 6, 2014 from http://www.federalbank.co.in/ financial-result Hughes, J., & Mester, L. (2008). Efficiency in Banking: Theory, Practice, and Evidence. In The Oxford Handbook of Banking. Oxford University Press. Retrieved March 16, 2014 from http://www. philadelphiafed.org/research-and-data/publications/working-papers/2008/wp08-1.pdf ING Vysya Bank. (2014). Annual Report. Retrieved March 6, 2014 from http://www.ingvysyabank.com/personal-banking/products/about-us/ financial-results.aspx

Jammu and Kashmir Bank. (2014). Annual Report. Retrieved March 6, 2014 from http://www.jkbank. net/investoroverview.php Karnataka Bank. (2014). Annual Report. Retrieved March 6, 2014 from Annual Report. Retrieved March 6, 2014 from http://www.karnatakabank. com/ktk/InvestorsRelations.jsp?type=ar Karur Vysya Bank. (2014). Annual Report. Retrieved March 6, 2014 from http://www.kvb.co.in/ global/annual_report.html Kosmidou, K., & Zopounidis, C. (2008). Measurement of Bank Performance in Greece. SouthEastern Europe Journal of Economics, 1(2008), 79-95. Retrieved March 7, 2014 from http://www. asecu.gr/Seeje/issue10/kosmidou.pdf Kumbirari, M., & Webb, R. (2010). A financial Ratio Analysis of Commercial Bank Performance in South Africa. African Review of Economics and Finance, 2(1), 30–53. Retrieved from http://www.african-review.com/Vol.%202%20 (1)/Financial%20Ratio%20Analysis%20of%20 Bank%20Performance.pdf Kuriakose, S., Raju, M., & Kumar, G. (2012). ICICI Bank- Bank of Rajasthan Merger: An Analysis of Strategic Features and Valuation. International Journal of Marketing, Financial Services and Management Research. Retrieved March 8, 2014 from http://papers.ssrn.com/sol3/papers. cfm?abstract_id=2114332&download=yes Lakshmi Vilas Bank. (2014). Annual Report. Retrieved March 6, 2014 from http://www.lvbank. com/annualreports.aspx Mendes, V., & Abreu, M. (2003). Do MacroFinancial Variables Matter For European Bank Interest Margins and Profitability? Paper presented at 2nd CIEF Workshop European Integration and Banking Efficiency. Retrieved March 7, 2014 from http://pascal.iseg.utl.pt/~cief/uk/conf/ session2_CIEF2.pdf

547

 Do Nonperforming Assets Alone Determine Bank Performance?

Micco, A., Panizza, U., & Yanez, M. (2007). Bank ownership and performance. Does politics matter? Journal of Banking & Finance, 31(1), 219–241. doi:10.1016/j.jbankfin.2006.02.007

Reserve Bank of India. (2012). A Profile of Banks 2011-12. Retrieved March 9, 2014 from http:// www.rbi.org.in/scripts/AnnualPublications. aspx?head=A+Profile+of+Banks

Mishkin, F. (2004). The Economics of Money, Banking and Financial Markets. Pearson Addison Wesley. Retrieved March 7, 2014 from http:// wps.aw.com/wps/media/objects/744/761962/ appendixes/ch09appendix2.pdf

Reserve Bank of India. (2013). A Profile of Banks. Retrieved March 7, 2014 from http://www.rbi.org. in/scripts/AnnualPublications.aspx?head=A%20 Profile%20of%20Banks

Pastori, D., & Mutaju, M. (2013). The Influence of Capital Adequacy on Asset Quality Position of Banks in Tanzania. International Journal of Economics and Finance, 5(2), 179–194. Retrieved from http://ccsenet.org/journal/index.php/ijef/ article/download/23857/15202 PTI. (2014). Banks non-performing assets likely to rise further in 2014: Assocham. Retrieved March 5, 2014 from http://archive.indianexpress.com/ news/banks-nonperforming-assets-likely-to-risefurther-in-2014-assocham/1213825/ http://www. nainitalbank.co.in/finhighMar13.htm Rangan, S. (2013). Evaluation of Merger of HDFC Bank and Centurion Bank Of Punjab EVA Analysis. Researchers World Journal of Arts, Science & Commerce IV, 3(1), 160-164. Retrieved March 8, 2014 from http://www.researchersworld.com/ vol4/issue3/vol4_issue3_2/Paper_17.pdf Ratnakar Bank. (2014). Annual Report. Retrieved March 6, 2014 from http://www.rblbank.com/ FinancialInformation.aspx Reserve Bank of India. (2005). A Profile of Banks 2004-05. Retrieved March 10, 2014 from http:// www.rbi.org.in/scripts/AnnualPublications. aspx?head=A+Profile+of+Banks Reserve Bank of India. (2008). A Profile of Banks 2008-09. Retrieved March 10, 2014 from http:// www.rbi.org.in/scripts/AnnualPublications. aspx?head=A+Profile+of+Banks

548

Reserve Bank of India. (2013). A Profile of Banks 2012-13. Retrieved March 8, 2014 from http:// www.rbi.org.in/scripts/AnnualPublications. aspx?head=A+Profile+of+Banks Simpson, S. (2014). The Banking System: Commercial Banking - Key Ratios/Factors. Retrieved March 12 2014 from http://www.investopedia. com/university/banking-system/banking-system9.asp South Indian Bank. (2014). Annual Report. Retrieved March 6, 2014 from http://www.southindianbank.com/content/viewContentLvl1.aspx ?linkIdLvl2=5&LinkIdLvl3=566&linkId=566 Tamilnad Mercantile Bank. (2014). Retrieved March 6, 2014 from https://www.tmbbank.com/ ir/fin-info/annualreport-en.php XLStat. (2014a). Principal Component Analysis. Retrieved March 13, 2014 from http://www.xlstat. com/en/products-solutions/feature/principalcomponent-analysis-pca.html XLStat. (2014b). Running a Principal Component Analysis with XLStat. Retrieved March 13, 2014 from http://www.xlstat.com/en/learning-center/ tutorials/running-a-principal-component-analysis-pca-with-xlstat.html

 Do Nonperforming Assets Alone Determine Bank Performance?

ADDITIONAL READING Nickell, P., Parraudin, W., & Varotto, S. (2000). Stability of Rating Transitions. Retrieved March 9, 2014 from http://citeseerx.ist.psu.edu/viewdoc/ download?doi=10.1.1.194.3115&rep=rep1&typ e=pdf Reyna, O. T. (2014). Getting Started in Factor Analysis. Retrieved March 12, 2014 from http:// dss.princeton.edu/training/Factor.pdf Shlens, J. (2003). A Tutorial on Principal Component Analysis: Derivation, Discussion and Singular Value Decomposition. Retrieved March 12, 2012 from http://www.cs.princeton.edu/picasso/ mats/PCA-Tutorial-Intuition_jp.pdf UNESCO. (2014). Factor Analysis. Retrieved March 12, 2014 from http://www.unesco.org/ webworld/idams/advguide/Chapt6_3.htm

of the above number and a non-zero vector, the above number is called the eigenvalue. Eigenvector: In the above definition of ‘Eigenvalue’ the non-zero vector is called the eigenvector. Generalized Method of Moments (GMM): An econometric method for estimating parameters in statistical models where the maximum likelihood estimation is not applicable. Net Interest Margin: it is the spread between earning from loans and investments and costs of funds. Principal Component Analysis (PCA): A qualitative econometric method whereby the relatively more important one are selected out of many determinants of bank performance. Quality of Assets: Punctuality in repaying loans. Bad quality indicates a non-performing asset.

ENDNOTES KEY TERMS AND DEFINITIONS Capital to Risk Weighted Asset Ratio: It is also called Capital Adequacy Ratio is the ratio. It reflects a bank’s ability to face and survive various financial risks and protect its stakeholders like depositors. Cost of Funds: For banks, cost of funds means cost of deposit, cost of call money, cost of certificate of deposits and cost of repo. Credit Concentration Risk: The risk that loans will not perform during slowdown of some particular sector of the economy or some business group to which a bank has large exposure, if any. Eigenvalue: If the product of a non-zero real number and a square matrix equals the product



1



2



3

Reader should not confuse between HDFC Bank and HDFC. These are two different entities. Author is grateful to Ugam Raj Daga for lending insight on Financial Ratio Analysis. The mathematics behind the PCA is laid explained in Shlens (2003).

549

550

Chapter 25

Innovation Scope and the Performance of the Firm: Empirical Evidence from an Italian Wine Cluster Guido Bortoluzzi University of Trieste, Italy Patrizia de Luca University of Trieste, Italy Francesco Venier University of Trieste, Italy Bernardo Balboni University of Trieste, Italy

ABSTRACT Innovation is a key factor for surviving and competing in the global scenario. However, findings from existing studies provide conflicting evidence in this regard, and the relationship between company innovation and performance remains undetermined. This chapter aims to deepen our understanding of this subject by looking at a less studied topic: the relationship between the innovation scope of a firm and its performance. The study is based on empirical research carried out in a sample of 74 firms belonging to the Friuli Wine Cluster located in northeastern Italy. Empirical results support the view that the most successful winemakers are those who have a wider innovation scope and who, in the last years, have considerably revised their innovation-related processes in a more market- and experience-related way.

INTRODUCTION Innovation is undoubtedly one of the most studied topics in management. From Schumpeter’s (1942)

pioneering contributions onwards, innovation has been tackled as a multifaceted concept with meaning extending well beyond the narrow boundaries of technological innovation. The Oslo Manual

DOI: 10.4018/978-1-4666-6551-4.ch025

Copyright © 2015, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.

 Innovation Scope and the Performance of the Firm

(OECD, 2005: 46) shares the same vision and defines innovation as “the implementation of a new or significantly improved product (good or service), or process, a new marketing method, or a new organizational method in business practices, workplace organization or external relations”. Despite significant research, the relationship between innovation and performance remains an open issue. Findings from field research conducted at both the firm and the regional level suggest a need for further investigations (e.g., Garcia & Calantone, 2001). The majority of studies carried out at the firm level are grounded in the resource-based theory of the firm. They are mainly interested in finding meaningful correlations between performance and the possession of innovation-related resources, such as investments in R&D activities or innovation-related capabilities, such as the degree of innovativeness of the firm (Barney, 1991; Amit & Schoemaker, 1993; Hamel & Prahalad, 1994). One one hand, some of those studies highlight a positive effect exerted by innovation-dedicated resources and capabilities on performances (e.g., Hall & Mairesse, 1995; Adams & Jaffe, 1996; Chesbrough, 2007). However, other studies highlight that investing in innovation could be a necessary but non-sufficient condition to get better results at the economic and competitive level (Kafouros et al., 2008; Rosenbusch et al., 2011; Lazzeri & Piccaluga, 2011). Fewer studies that explore the innovation construct examine the various sides that comprise the innovation activity and connect them to the performance of the firm (Sawhney et al., 2006). However, studies carried out at the regional level are mainly focused on the so-called “agglomeration effect” and its impact on firms. The agglomeration effect is supposed to be positive for clusters according to the Marshallian view and the extant literature on Regional and National Innovation Systems (Cook et al., 2007; Camagni & Cappello, 1997). However, the validity and consistency of the agglomeration-effect have been heavily discussed in recent literature (Malmberg

& Power, 2005; Grandinetti & De Marchi, 2014). Within this puzzled framework, this chapter aims to deepen our understanding of this relationship in a particular sector— the wine sector. The results of our study refer to a homogeneous territorial area that is known as the Friuli Wine Cluster (Venier, 2013). The cluster takes its name from the Friuli Venezia Giulia region which is located in the northeast of Italy. Hence, despite being based on primary data direct from firms, our research put together two levels of analysis: the firm level and the cluster level. Empirical results support the view that the most successful wine makers are those who considerably revised their innovation-related processes in a more market and experience-related way in recent years. Furthermore, despite being more open to foreign markets, the most successful companies are also the ones that have more intimate relationships with other firms and public and private institutions inside the cluster.

BACKGROUND: INNOVATION AND PERFORMANCE IN THE WINE INDUSTRY The Evolution of the Wine Industry The wine industry has been completely turned around in the last three decades. From a low added value primary sector product, wine has become one of the most important items in the agriculture budget of many countries and regions. This is the result of a cultural and technological revolution that redefined wine as a product as well as its market (Zampi, 2003). The modern approach to wine production really developed in the 1980s (Filiputti, 1997), and it gave birth to a revolution that radically redefined the concept of wine, replacing the millenary concept of “wine as food,” (i.e., a source of calories during the day and of euphoria in the evening), with the

551

 Innovation Scope and the Performance of the Firm

modern idea of “wine as discovery,” i.e., a source of emotion, delight, and learning. According to Heijbroek (2003), we can distinguish between two main market segments using price criteria: basic wines are those wines whose retail price is below the US$5.00/liter threshold and premium wines which remain above US$5.00/ liter. Basic wines essentially compete with water, beer, and soft drinks for everyday consumption. Their value is deeply rooted in material aspects such as standardization of quality, and they compete essentially in terms of price and brand. Premium wines are those which satisfy the most sophisticated needs of the consumer. Their value is mainly emotional or experiential. This second segment, which in the Friuli Venezia Giulia region was almost negligible until the 1980s, has basically become the only one produced in the 11 DOC Guarantee of Origin areas in the region. Premium wine is the result of a process of diffusion of deep technical innovations in agronomic and eno-technical practices. These innovations enabled the evolution (and diffusion) of a different wine culture. Furthermore, they triggered a radical change in the definition of the production and service standards in the industry by raising the bar. The premium wines which consumers drink today have taste, fragrance, and complexity, but they also have production costs higher than the basic wine their fathers used to drink. From a marketing point of view, it is a completely different product that satisfies the social and cultural needs of a more sophisticated consumer. In terms of Product Life Cycle (Rink & Swan, 1979), premium wines started reaching the mass market in the 1980s. During the first 20 years, the market went through phases of introduction and development. In this period, two critical learning processes occurred: producers refined their technical skills and started to compete in technological innovation and product quality, and customers started refining their tastes. During this period, on the production side, the main capabilities were with agronomists and wine-makers and their

552

ability to improve the technology connected to wine production. But this success, which meant putting field and cellar technology and techniques at the center of the business model, gave rise to a conviction that if one produces excellent wine, it will almost automatically sell. Starting in the mid-2000s, the wine market entered a maturity phase and the rules of competition changed. The attention of wine producers had to shift from the supply side to the demand side. It is important to review the supply chain in order to fully understand this point. The wine supply chain consists of five main phases: viticulture, production, branding/ distribution, retail, and consumers (Figure 1). During the introduction and development phases, it was enough for companies to pursue excellence in managing viticulture and production. Distribution was not a problem; retail was highly fragmented and customers were highly influenced by opinion makers such as wine guides and magazines. Therefore, managing these kinds of relationships was the most important, and for many the only, marketing activity conducted by winemakers. Wine producers from Friuli Venezia Giulia were no exception. They have long benefited from high consumption in the regional market, which led to some inertia towards change and gave them more time to adapt to the new rules of the game. More recently, the regional and the national (Italian) market started to shrink and become more open to international competition. Therefore, local winemakers had to organize to export and deal with new competition rules. During the maturity phase, the wine industry experienced some major changes which made competition more difficult: •

•

A worldwide over-supply of wine that exceeded consumption by 10% or higher since the year 2000 (OIV, 2013) created pricing pressures. There was a consolidation of the wine producers, distributors, and retailers (Castaldi, Cholette, & Frederick, 2005). The wine

 Innovation Scope and the Performance of the Firm

Figure 1. The wine supply chain

•

industry is characterized by relevant economies of scale; in the last 15 years, this process has given birth to huge groups like Constellation which sells approximately 1,224,000,000 bottles of wine, or E&J Gallo which sells about 960,000,000 bottles of wine. Consumer behavior patterns shifted (Vlachvei, 2011). Today, consumers around the world can buy wine produced from every region of the globe. This has opened new markets, changed consumer behavior, and opened a wealth of new opportunities along with formidable challenges to wineries worldwide.

Given these situations, firms’ drivers for success changed course signficantly: consumers developed an independent ability to judge products, the retail system started concentrating, and small independent wine shops started to be replaced by bigger retailers that asked for higher rotation on the shelves and higher margins. Hence, the natural agricultural cycle placed non-negligible rigidities into the production processes and the product mix that wineries could offer, while distribution started to exert an increasing pressure on winemakers, thus forcing them to provide distributors with better logistics services and engage in continuous innovation in products, packaging, and branding. In other words, distribution pushed wine suppliers to develop fast moving consumer goods (FMCG) management competences. Under these circum-

stances, the aspect of the supply chain on which the two aspects clash is Branding/Distribution. In this way, branding and distribution became the new core competency that winemakers needed to create a sustainable competitive advantage in the industry (Figure 2).

On the Relationship between Innovation Scope and the Performance of the Firm In recent decades, the competitive landscape has changed consistently for firms in most, if not all, industries. The globalization of the world economy and the continuous evolution of technologies have been pushing firms to evolve continuously and considerably. Coupling strategic agility with the capability to innovate has become compulsory (Doz & Kosonen, 2008, 2010). But, unlike the past, it is now less a matter of innovating to maximize profits and more a matter of innovating to survive the competition (Brown & Eisenhard, 1995; Johnson et al., 1997; Dervitsiotis, 2010). But what exactly is innovation and how many types of innovations are there? Although the subject has risen in importance, some of the managerial literature still relies on an obsolete and narrow view of it. One of the most popular distinctions is the one introduced by Damanpour (1991) that distinguishes between technical and administrative innovation. While the former (technical) refers to the launch of new products in the market and to the

553

 Innovation Scope and the Performance of the Firm

Figure 2. Sources of pressure in the wine supply chain and strategic implications

adoption of new production processes to increase efficiency, the latter (administrative) refers to new procedures, policies, and organizational forms. An alternative proposal comes from Tidd and Bessant (2009) who refer to a “4Ps framework” of product, process, position, and paradigm. While product and process represent traditional aspects of innovation, position refers a change trigged in the consumers’ perception of a product, a brand, or a firm. With innovation at the paradigm level, the authors refer to changes occurring at the business model level. It goes without saying that pursuing such types of innovation is the most complex, since it involves different levels (strategic, operative) and functions (marketing, supply chain, operation management, finance, etc.) in the firm. Another suggestion comes from Sawhney, Wolcott, and Arroniz (2006) as an “innovation radar.” This radar refers to 12 possible dimensions along which companies can innovate and differentiate themselves from competitors. These dimensions include customer experience (“redesign customer interactions across all touch points and all moments of contact”), presence (“create

554

new distribution channels or innovative points of presence, including the places where offerings can be bought or used by customers”), value capture (“redefine how [a] company gets paid or create[s] innovative new revenue streams”) and networking (“create network-centric intelligent and integrated offerings”). These proposals have at least one thing in common: they recognize that innovating is an activity that now pertains less to the domain of technology and more to domains such as marketing, operation management, and supply chain management and their combination. Sharing the same belief, we decided to measure the scope of the innovation activity carried out by small- to medium-sized winemakers by looking beyond the domains of product and process innovation and including additional sides. We eventually developed a proposal comprised of the following 12 dimensions: 1. The company has introduced additional varieties of grapes. This dimension refers to the introduction, in the production process, of new-to-the-firm kinds of grapes and

 Innovation Scope and the Performance of the Firm

2.

3.

4.

5.

6.

7.

8.

9.

reflects a typical innovation at the product and process level. The company has introduced/created new types of wines. This dimension refers to the creation of new wines coming from new blends of grapes or different types of grapes (such as organic wines). Hence, it reflects a typical innovation occurring at the product and process level. The company has refined its production process. This dimension refers to modifications/improvements occurring at the production process level and thus with process innovation. The company has revised its way of organizing the work in order to increase its efficiency and/or effectiveness. This dimension relates to the revision of the organizational routines that a firm already has in place. The company has acquired new equipment and machineries. This dimension refers to the acquisition of new tangible assets aimed at replacing old ones. It relates to organizational and process innovation. The company has used alternative power sources. This dimension is related to green marketing initiatives, namely the use of alternative power sources, such as solar, photovoltaic, geothermic and Aeolian. The company has entered new foreign markets. This dimension relates to the international expansion of the firm in new markets and thus deals with market and organizational innovation. The company has increased the number of distributors in foreign markets. This dimension relates to additional investments at the sales and marketing side that winemakers make to increase their presence in already served foreign markets. The company has increased the number of distributors in the domestic market. This dimension relates to the additional efforts on the sales and marketing side that wine-

makers make to increase their presence in the domestic market. 10. The company has launched new marketing initiatives. This dimension relates to the launch of new initiatives at the sales and marketing levels, such as new market promotions, new strategic agreements, new merchandising, inbound marketing activities, etc. 11. The company has introduced new/additional product-related benefits. This dimension relates to changes occurring in non-core activities within the product domain. Examples include the obtainment of new quality certifications, the adoption of new packaging and/or new labels, the use of new types of bottles and/or corks, etc. These innovations are meant to enhance the consumption experience of consumers and to reinforce an emotional connection with them. 12. The company has diversified its revenues streams leveraging complementary services. This dimension relates to the diversification of entry sources coming from complementary services, such as tourist and restorative services. Together, the 12 dimensions are the “innovation scope” of the firm. The higher the number of the dimensions involved in the innovation effort of the firm, the wider the firm’s innovation scope. Most empirical studies dealing with the relationship between innovation and performance provide evidence that this relationship is positive and significant (e.g., Damanpour, 1991; Hansen et al., 1999; Thornhill, 2006; Weerawardenaa et al., 2006). However, both the literature (Wright et al., 2005; Simpson et al., 2006) and common sense suggest that innovation activity is risky and has no automatic returns. The changes that recently occurred in the wine sector (see Section 1) suggest that wine producers today should invest much more in innovating beyond the technological level than they have

555

 Innovation Scope and the Performance of the Firm

done in the past. Their performances should be increasingly linked to their ability to innovate at the marketing level, in managing distributors locally and abroad, in offering new services to the trade, and in innovating the organizational processes and products and processes. We expect the data to confirm what other authors have recently shown (Brannon, 2011; Burgstone & Murphy, 2012) investing in innovation on multiple aspects of the business model has a much higher return than investing on just product and process quality. Hence, following the above argumentations, our research hypothesis is: Small- to medium-sized winemakers with a wider innovation scope (i.e., focusing on more business model dimensions) have a significantly higher performance than winemakers with a narrow innovation scope, i.e., focusing only on the quality dimension of the traditional product.

FIELD RESEARCH ON A WINE CLUSTER: OBJECTIVE AND METHOD Our empirical research is based in a wine cluster with boundaries that perfectly match those of the Italian region Friuli Venezia Giulia (FVG). The FVG region is in the north east of the country and borders Slovenia and Austria. The cluster counts for 18,000 hectares dedicated to wine production, which are managed by approximately 9,000 winemakers. The majority of wineries are family-owned firms. The concentration of micro and small firms is extremely high; the average surface is two hectares per winemaker, and the presence of big firms is sporadic. Of the production area, 75% is reserved for the production of highquality wines that can hold the “DOC Guarantee of Origin” label. There are 11 DOC areas in the region (Venier, 2013). According to most recent official data (ISTAT, 2013), in 2012, a total of 178.3 million liters of

556

wine were produced in the cluster. Only 16% of this amount was exported, compared to an average of 52% on the national level. However, FVG ranked highest among the Italian regions in terms of the average price of exports. In order to test our research hypothesis, quantitative research was conducted starting with a population of the 150 biggest bottlers/wineries in the cluster. After obtaining data from 74 firms, we organized faceto-face interviews with entrepreneurs and managers and used a semi-structured questionnaire. Our aim was to understand whether and in which way the innovation scope of firms was related to the performance of the same firms during the period 2010–2012. The innovation scope construct basically refers to the innovative activities through which firms are able to convert their basic knowledge into routines, processes, products, and services. In order to operationalize this construct, we referred to several studies that paid particular attention to the ability to develop new products, process, and investments in organizational innovation (Lawson & Samson, 2001; Morales, 2010; Hii & Neely, 2012). For measuring the scope of innovation activities, we used 12 dichotomous items that reflected the effective innovative investment developed by winemakers during the last three years. The reliability indicators (α= .645) approximates 0.700, which meets Nunnaly’s (1981) recommendations for evaluating the internal consistency of the scale. The performance measure was operationalized by adapting existing multi-items scales (Murphy, 1996; Bergkvist & Rossiter, 2007). We employed a Likert scale (1–5) version of this measure, with higher scores reflecting better performance achieved by firms in last three years and lower scores reflecting worse results. The medium point-of-scale (3) represents substantial stability in terms of economic performance. The reliability of the scale is above the level of 0.700 (α= .685).

 Innovation Scope and the Performance of the Firm

Table 1. Variable measurement Construct

Items

Scale Reliability

1. New grapes 2. New wines 3. New product process 4. New organizational practice 5. New winery facilities Innovation Scope

6. New power sources

α= .645

7. New markets 8. New distribution in the foreign market 9. New distribution in the local market 10. New marketing activities 11. New product characteristics 12. New services 1. Sales 2. Profit

Performance

3. Cash-flow

α= .685

4. Technical training 5. Managerial training

FINDINGS AND DISCUSSION Starting from the twelve innovative dimensions above, a hierarchical cluster analysis (SPSS) was performed using the Ward method. Through the cluster analysis, we singled out two main clusters that reflect different combinations of innovative activities carried out by firms (Figure 3). The first cluster includes 34 firms (46% of the sample). These winemakers mainly concentrate their innovative efforts on product-oriented activities (production of new wines, refinement of the production process, new organizational practices) and on foreign market development. These firms are labeled product oriented winemakers. The second cluster includes 40 firms (54% of the sample) that extend their innovative activities to more marketing-oriented initiatives and are labeled marketing-oriented firms. These clusters differ significantly in terms of their innovation scope (Table 2). In particular, marketing-oriented

winemakers show a significantly higher innovation scope in relation to specific activities, such as new market efforts, new marketing initiatives, and new product features. To simplify the reading of the results we grouped the 12 innovation activities conducted by firms into four broader innovative dimensions, each consisting of three items as follows: •

•

Product innovation dimension (PRODUCT_INN) in which the company: ◦◦ Introduced additional varieties of grapes. ◦◦ Introduced/created new types of wines. ◦◦ Refined its production process. Process innovation dimension (PROCESS_ INN) in which the company: ◦◦ Revised the ways of organizing the work in order to increase its efficiency and/or effectiveness.

557

 Innovation Scope and the Performance of the Firm

Figure 3. The dimensions of innovation scope for the two clusters (% of firms per cluster)

◦◦ •

•

Acquired new equipment and machinery. ◦◦ Used alternative power sources. Market Innovation dimension (MARKET_ INN) in which the company: ◦◦ Entered new foreign markets. ◦◦ Increased the number of distributors in foreign markets. ◦◦ Increased the number of distributors in the domestic market. Marketing innovation dimension (MKTNG_INN) in which the company: ◦◦ Launched new marketing initiatives. ◦◦ Introduced new/additional productrelated benefits. ◦◦ Diversified its revenues streams leveraging complementary services.

The differences in terms of item frequency remain statistically significant when we analyze the innovative dimensions defined. Indeed, marketing-oriented firms show a higher attitude

558

toward innovation at the process (PROCESS_ INN), market (MARKET_INN) and marketing level (MKTNG_INN), while innovation at the product level (PRODUCT_INN) is substantially undifferentiated within the two clusters. In terms of structural characteristics (age and size of the firms), the two clusters show no substantial differences. In this vein, innovative activities carried out by firms are considered the result of a precise strategic orientation by the firms (Table 3). The two clusters were compared to the performances achieved by the firms in the last three years (Table 4). Results show that marketing-oriented winemakers achieved far better economic performances than product-oriented firms in terms of sales, profits, and cash flow. Furthermore, these firms showed a higher attitude toward investing in the skill development of their employees. In addition, while being more focused on foreign markets than product-oriented winemakers, marketing-oriented firms showed a high level of social interactions inside the local cluster (Table

 Innovation Scope and the Performance of the Firm

Table 2. The innovative efforts within two clusters Innovative Items

Cluster 1 Product Oriented

Innovative Dimensions

Cluster 2 Marketing Oriented

%

Sum

New grapes

44.1

1.79

New wines

70.6

85.0

New product process

64.7

72.5

New organizational practice

73.5

New winery facilities

67.6

95.0

New energy sources

38.2

65.0

New markets

82.4

New distributors in the foreign market

88.2

New distributors in the local market

44.1

New marketing activities

29.4

New product characteristics

58.8

90.0

New services

23.5

50.0

1.79*

2.14*

PRODUCT_INN

PROCESS_INN

Sum

%

1.90

32.5

2.53*

MARKET_INN

2.78*

92.5

95.0 90.0 92.5

1.12*

6.85*

MKTNG_INN

2.35*

INNOVATION_SCOPE

95.0

9.55*

*p