Theoretical background
Abstract:
In this chapter, we review literature on MNC development strategies, including the study of MNC strategic management theory, MNC growth and development strategy, and cross-country perspectives. We also review works on the strategy of MNC overseas subsidiaries, including strategy–structure theory, the studies on the relationship between the parent and subsidiary companies, and the studies on subsidiaries’ development.
The theory of MNCs originated in response to the rapid development of Western multinational corporations after the Second World War (Hymer, 1996; Dunning, 1977; Lin, 1984). The study of MNC subsidiaries has become an important field of study since the 1980s. The focus has been on MNC strategies and structure (Stopford and Wells, 1972), the relationship between the parent and subsidiary companies (Prahalad and Doz, 1987), the roles of the subsidiaries (Bartlett and Ghoshal, 1986), and the development of subsidiaries (Birkinshaw and Hood, 1998a, 1998b). Given the rapid growth of MNCs in China, there is a need to re-examine these theories and analyses in light of the experiences of the MNC subsidiaries in China.
Evolution of MNC theory
After the Second World War, Western MNCs developed rapidly. The classical international trade theory failed to explain these developments. Western scholars studying MNCs gradually developed different schools of explanations, starting with the monopoly theory of Stephen H. Hymer in the early 1960s. Three phases of development in theoretical schools are identifiable.
The first phase, from the early 1960s to the mid-1970s, offered explanations of the characteristics and the influencing factors of foreign direct investment of MNCs from different countries. Based on the analysis of US firms’ overseas expansion, the explanations focused on monopoly competitive advantages and product life cycle. Beginning at the end of the 1960s with the expansion of foreign direct investment development in Western Europe and Japan, scholars of those countries, such as Kojima in Japan, began making important theoretical contributions.
The second phase, from the mid-1970s through the early 1980s, produced a shift towards a general theory of MNCs, such as internalisation theory and eclectic theory. The research purpose was to show that different countries have different sectors of foreign direct investment activities.
The third phase, starting from the mid-1980s, was inspired by the rapid challenges of technological revolution. MNCs implemented new global business strategies and formed strategic alliances to adapt to the global competitive environment. The focus of the research shifted to the management of strategic alliances.
In general, MNC theories seek to explain three factors: first, MNC strategic management; second, MNC integrated growth and development strategy; and third, distinctive features of the Japanese MNC strategy.
MNC strategic management theory
Focus on MNC development strategy
MNC strategic management theory has its roots in the early 1970s. In the book entitled Managing Multinational Enterprises, American scholars Stopford and Wells (1972) explored the link between two strategic variables – export ratios and the diversification of export – and organisational structures, and thus expanded Chandler’s research on strategic organisation and organisational structure (Chandler, 1962) to the international arena. In the 1980s, Ghoshal and other scholars1 investigated dynamic adjustment and mutual accommodation among the three factors: environment, strategy and organisational structure. The MNC strategy was identified as choosing or creating an environment where MNCs can use their unique competitive advantages. The accomplishment of such a strategy was seen as a function of highly appropriate coordination among firm objectives, policies and various functional departments.
Michael Porter (1986, 1990)2 used the concept of value chain to describe the MNC’s strategic structure and source of competitive advantage. He identified MNC strategy in terms of two strategic variables: first, the integration of business activities and strategic positioning worldwide; and second, the coordination of activities in different countries along the MNC value chain. The scope of integration shows changes between centralisation and decentralisation. Coordination is a matter of aligning operations among strategic units. Strategy choices impact MNC competitive advantage and organisational structure. The MNC competitive advantages are classified as location-based vs. system-based (Porter, 1990), with the latter being an important interface to link strategy with environment.
Porter pointed out that researchers in the past focused only on the key success factors of the MNCs, on the specific skills and secrets that MNCs obtained successfully in one country, and how MNCs could transfer these skills and secrets with low costs to other countries to offset the additional costs inherent in operating abroad. The scholars of strategic management, on the other hand, are more concerned about the management of the existing multinational companies and the strategic impact of international competition on MNCs. Thus, with the infusion of strategic perspective, the focus has shifted from existence to development mechanism, and has inspired a new understanding of the theoretical aspects of MNCs.
Role of strategic alliances
International strategic alliance is an arrangement where two or more MNCs employ a cooperative approach to meet the entire global market targets, as well as their overall business objectives. With an explosion in various types of strategic alliances, MNCs are now perceived as alliance bodies consisting of a quasi-market with entangled relationships. Many scholars have analysed strategic alliances from various perspectives of transaction costs, technological innovation, competitive strategy and corporate structure. They all conclude that the development of MNC strategic alliances is a strategic response to the changes in international economy, technology and competitive environment. Strategic alliance is the product of changes in the global competitive environment.
The profound changes in the international competitive environment exerted tremendous pressure on MNC performance objectives. When multinational corporations analysed the competitive environment and evaluated their own competitive edge and resources, they often found a gap between the strategic performance goals expected by the competitive environment and the goal that they could achieve relying on their own resources and abilities. This gap is called the strategic gap. The strategic gap restricted MNCs who rely solely on their own resources and self-development. For this reason, strategic alliance became a rational choice for their growth. The strategic gap is an important motive that promotes strategic alliances in global competition. The larger the strategic gap for MNCs, the stronger the driving force to form strategic alliances.
Global strategic alliances or networks formed by firms and their associates from different countries constitute a long-term competitive advantage for MNCs. These alliances have had a noticeable impact on traditional MNC theory (Wu, 2000). Dunning (1993), for instance, expanded eclectic theory to analyse competitive advantages acquired from three sources: MNC operation process, increase in interdependence in intermediate markets and changes in resource distribution patterns among regions.
The importance of strategic options
Myers (1977) and other scholars identified investments as equivalent to purchasing the right to exercise the option to exit or expand in the future. The present investment may get payback from the future investment options, and is the platform for future investment. In the early 1990s, Bowman and Hurry (1993) and Kogut and Kulatilaka (1994) applied the option theory to MNC strategy formulation. They concluded that MNCs may decide to defer investments to ‘wait and see’ until more information becomes available, and thereby enjoy additional benefits.
Rivoli and Salorio (1996) combined the strategic option theory and Dunning’s eclectic theory to further explore the timing issues for MNC foreign investment. If foreign direct investment can be completely reversible, there is no reason for MNCs to postpone the foreign direct investment projects with positive net present value (NPV). The more powerful the MNC’s internal advantages, the more difficult it is for the MNC to exit after the investment and the greater the risk of the foreign direct investment being reversed. Therefore, strong internal advantages will increase the value of the option to delay foreign direct investment in an uncertain environment. Put another way, stronger internal advantages increase the possibility of using ‘waiting’ to replace immediate investment.
MNC growth and development strategy theory
International product life cycle theory
In 1966, Vernon, a Harvard Professor, published an article entitled ‘International investments and international trade in the product cycle’. He used the product life cycle theory to explain the motives and development process of MNCs’ investment strategy. Vernon constructed three stages of life cycle according to US MNCs’ international growth process.
In the new product phase, the need is for great R&D skills, enormous investment for R&D and the high income and high consumption market conditions. Vernon believed that only the US has these conditions. Thus, in the innovative stage of product life cycle, new products are usually manufactured first in US innovative enterprises to reduce costs and acquire a monopoly on technology. Because US firms monopolised new technology, there was a lack of strong competitors. As a result, US firms controlled almost all the market shares. In the markets of other developed countries, consumers had to rely on the supply from US manufacturers because there were no domestic manufacturers.
In the second, mature product stage, new technology became more and more mature and so did product manufacturing. Although manufacturers could use the heterogeneity of new products to avoid direct price competition, efforts for cutting down production costs, transportation costs and tariffs became more important and demanding. For this reason, US MNCs started to invest and set up factories in other developed countries that used their products so that they could supply the market directly. This was imperative to maintain the existing market share and prevent potential competitors.
In the third standardised product stage, products were standardised with mass production. The innovative manufacturers no longer enjoyed the monopoly advantages. Competition was on price. At this time, resource conditions and cheap labour costs became increasingly decisive factors in the competitive edge of a product. The comparative advantages of production shifted to developing countries or regions with low levels of technology, low wages and labour-intensive economies. As a result, MNCs in developed countries started to invest directly in developing countries, transfer technology and reduce or halt their mass production in their native countries. They imported products from the developing countries to meet their local market needs.
MNC growth was attributed to changes over the course of the three-stage model. As new products experienced the new product stage, the maturity stage and the standardised stage, MNCs’ choices of location for investments shifted from developed countries to more advanced developing countries and finally to less developing countries.
In 1974, Vernon published another article called ‘The location of economic activities’, which further advanced the product life cycle theory by introducing international monopoly behaviour to explain MNC direct overseas investment strategy. He defined all multinational corporations as monopolies and divided them into three categories – monopoly in technological innovation stage, monopoly in mature stage and monopoly in recession stage – corresponding with the three stages of the product life cycle.
In the technological innovation stage, MNCs had the monopoly on manufacturing new products and enjoyed profits resulting from the monopoly. US MNCs used a domestic production base to innovate new products for timely, quick coordination among R&D, production and marketing activities. To maintain a monopoly, MNCs invested heavily in the financial and technical fields for product heterogeneity. For example, US MNCs invested in competitive advantages to meet the needs of high-income groups and in saving labour costs for innovative products and product heterogeneity. European MNCs invested in competitive advantages to save land resources and raw materials for product innovation and heterogeneity. When the product standardisation stage and foreign competitors emerged, US MNCs moved their production base abroad to a country with lower cost of production and transportation for supplying merchandise to overseas markets. Due to the different levels of economic development, MNCs use different skill levels and locations for foreign direct investment. For example, the majority of US MNCs chose to build manufacturing facilities in Western Europe or in Japan to make innovative new products. MNCs in Western European countries and Japan would normally choose to invest in countries and regions with even lower levels of economic development for their innovative new products.
In the maturity stage, there was imitation and dispersion of technology for producing innovative products and diminishing MNC technological advantages. Trade barriers in the local countries increased costs for importing innovative products into these countries. MNCs used foreign direct investment to maintain the monopolistic advantages for monopolistic profits. MNCs lost their monopoly advantages based on product innovation and the economy of scale became the basis of monopolistic advantages. MNCs changed their business strategies by making the best use of their multiple core competences in R&D, manufacturing and sales to raise entry barriers for their competitors. To acquire a greater share in their competitors’ local market, MNCs invested directly in the major markets of their competitors to weaken the latter’s competitive capabilities. Such direct foreign investments were accompanied by transfer of technology. Enterprises with a technological edge acquired monopolistic profits through proliferation of their technology. When an MNC took the lead in opening up a new market, other MNCs followed suit and adopted follow-up strategies to protect their positions in the international markets.
In the recession stage, MNCs lost their competitive advantages in both technology innovations and technology diffusion. This resulted in the gradual disappearance of profits. As a large number of standardised products flooded markets, price competition was particularly intense. Innovative enterprises made great efforts to reduce costs in order to make some profit. In this stage, MNCs lost their monopoly advantages even in economy of scale. Cost and price became the key to successful competition. Firms that were unable to cut down costs and prices were forced to withdraw from the market. Therefore, low cost of production became a major factor for MNC choice of foreign direct investment. Developing countries with cheap labour and huge market potential were optimal choices for MNC investment.
MNC international direct capital withdrawal theory
International direct capital withdrawal is the antithesis of international direct investment. It means MNCs terminate all or part of their production activities in the host country or region. Taylor, Markides and Berg explained the various forms of investment withdrawal, with liquidation as the last resort. If there is no buyer for the existing production facility, liquidation occurs when the costs to close or sell the assets are lower than those to maintain the operation entities. Caves and Porter believed that if the investment revenue of a subsidiary continues to decline for some length of time and if the products of this subsidiary grow to maturity stage, divestment may occur – though the firms may be stopped from withdrawing because of various barriers to exit. Porter’s studies on divestment obstacles and Wilson’s classifications of international direct investment have had a great impact on the development of international direct divestment theories.
MNC localisation theory
Before the 1970s, many developing countries perceived MNCs as greedy and cruel. MNCs invited strong criticism and opposition. With the changes in world politics and expanding global economy, developing countries are becoming more mature not only in politics but also in their economic conditions. To gain a foothold in developing countries, MNCs implemented new localisation strategies and made efforts to change their image. MNCs gradually established new relationships with the host countries. The so-called localisation efforts inspired MNCs to find partner firms in the local region and make contributions to the local business community. MNCs hired the host country’s local talent for management positions and observed local traditional cultures thus creating transnational business models that adapted to the local business environment (Yang, 2000). The MNC localisation strategy included:
personnel localisation strategy:
– the parent company gradually gives local talent important management positions;
– local enterprises process the operation time;
– the steps for implementing personnel localisation strategy include: recruit outstanding students from host universities; participate in foreign talent recruitment activities by the host country; recruit employees using host intermediary services; establish research and development centres in the host country; set up employee training mechanisms in the host country;
investment management localisation strategy;
technology development localisation strategy;
Complex integration theory of MNC structure
Traditional MNC structure comprises independent subsidiaries. MNCs used ownership and technology provision to link the parent company with its subsidiaries. In a simple integration process, the relationship between MNC headquarters and foreign affiliates is loose. In a complex integration strategy, MNCs handle multiple connections and information communication between the parent company and its subsidiaries, among subsidiaries and among unrelated businesses. There is a tight relationship between MNCs’ organisation management structure and the current stage of the internationalisation of production and operations.
MNCs have adapted to situational needs and adopted appropriate organisational structures for the needs of different stages of development: foreign trade, early direct investment, global production specialisation, regional investment decentralisation and globalisation of production and sales. The most typical examples are the parent–subsidiary structure, international structure, global structure and the multidimensional matrix management structure. When MNCs work in a low and loosely coordinated policy-making international mode, the parent–subsidiary structure or international structure is appropriate. But if an MNC needs high and tight international policy coordination, global organisation structure or matrix structure will be appropriate.
An appropriate choice of organisational structure can help MNCs implement their strategy, but the structure can also become an obstacle. For example, after a strategy change, the required structural change would normally not follow immediately. This is especially so when MNC managers get used to their roles within particular structures. From time to time, the demand for new structure tends to cause internal conflict, which will lead to long-term inefficiency. Obviously, the relationship between strategy and organisational structure is a complicated issue for any MNC. Therefore, in recent years, in the face of faster technological progress, MNCs have been seeking an innovative organisational structure to facilitate the implementation of MNC globalisation strategy.
MNC parent–subsidiaries relationship evolution theory
Management of subsidiaries remains a challenge for MNCs. To implement the global strategic objectives of overall integration and network coordination, MNCs traditionally imposed their wishes on their subsidiaries. This practice limited the power and competence of subsidiaries and weakened their strategic independence, resulting in their stagnation. The system theory and cybernetics suggest that the MNC control of operational activities is a process of adjustment to maintain a stable operating system. Under the simple integration strategy, the evaluation of the subsidiary is based on firm growth and return on investment. Under the complex integration strategy, global companies focus on MNC overall performance rather than that of each subsidiary. Performance evaluation for subsidiary managers also includes their ability to complete the assigned tasks. Evaluation methods should address their responsibilities and the MNC should develop different appraisal systems accordingly.
As the MNC strategy evolves from simple functions and geographical links to more extensive, complex forms of integration, new trends are emerging.3 For example, flexible production systems allow MNCs to make better use of small batch production, thus providing a physical barrier to withstand the pressure of global competition. Small batch production requires only a low level of integration and thereby reduces the minimum size of the market for profitable operations. This approach allows MNCs to adopt multiple local strategies. Since small and medium enterprises can effectively carry out small batch production, this approach, in fact, works against the trend of integrated international production.
Table 3.1 summarises the three types of strategy that MNCs have adopted in the evolution process: stand-alone subsidiary, simple integration and complex integration. In the stand-alone subsidiary strategy, MNCs control and support many independent subsidiaries and each subsidiary provides independent service to each host country. In the simple integration or outsourcing strategy, MNCs use foreign partners for engaging in outsourced global production. Thus, some of the activities in the host country are moved to other countries and are linked primarily with the activities in the parent company. This indicates that the value-added activities have shifted to places or countries that are not the home or initial country, or the country for final sales. In the complex integration strategy, an MNC’s global production can occur at any point in the value chain with the premise that it has the ability to transfer its production or supply capacity to any place in the world that can provide more profitability. MNC subsidiaries in any part of the world can perform the functions on their own or work together with the parent company or other subsidiaries. Complex integration requires that the various functions and activities can be arranged in the optimal places to conduct a comprehensive strategy to achieve the company’s wishes.
MNC diversification theory
Hood and Yang (1990) studied MNC diversification strategy in their book called Multinational Company Economics. They divided the diversification strategy into three types: horizontal strategy, vertical strategy and mixed expansion strategy. They discovered that US MNCs tend to favour horizontal diversification, while a considerable number of Japanese and British MNCs prefer vertical diversification. Japan’s foreign investment strategy was a solution for those sectors with high labour costs, which led to a loss of comparative advantages at home. British MNCs originated from plantations and colonial companies in mining and ore extraction.
Distinctive features of the Japanese MNC strategy
Early theoretical studies of MNCs were inspired by case studies of US MNCs. Professor Kojima of Hitotsubashi University in Japan published the book On Foreign Direct Investment in 1977. In his book, Kojima used the principle of international division of labour to construct a theory of comparative advantage to explain Japanese MNC foreign direct investment strategies. He believed that the US MNC strategy was based on micro factors, emphasising the impact of firm internal monopoly advantages on direct investment. The US firms engaging in direct investment had comparative advantages in the industrial manufacturing sectors. According to the principles of the international division of labour, the US should keep these manufacturing firms in the US and enjoy more benefits from expanding exports to other countries. However, these US firms competed with one another by investing in foreign manufacturing facilities and moved their production bases to foreign countries. The US exports were replaced by direct investments in foreign countries. As a result, the US trade conditions deteriorated because exports were greatly reduced and the international trade deficit greatly increased. Japan’s foreign direct investment was different in that resource development accounted for major direct investments. Even in the manufacturing investment, Japan adopted trade manufacturing rather than a trade replacement policy. Firms that invested in foreign countries had comparative disadvantages in Japan’s domestic production. Japanese firms moved their factories to the countries that enjoyed comparative advantage. Simply put, the foreign investment of Japan in manufacturing in fact spurred the exports of related products. This aligned the foreign direct investment with export trade to generate greater benefits for Japan (Kong, 2001).
Caimei Lin (1984) of Taiwan’s Danjiang University identified the US MNC strategy in terms of the twin processes of product line expansion and geographical area expansion. These processes resulted in four stages: local-oriented enterprises (focus on expanding domestic geography), domestic-oriented enterprises (beginning with implementing product diversification in local market expansion and later in geographical expansion overseas), domestic-oriented enterprises overseas (product diversity, home market expansion and geographical expansion of the world market), and world-oriented enterprises (benchmark of product diversification and market expansion). As shown in Figures 3.2 and 3.3, traditionally, US MNCs focus on the domestic market for product diversification and leverage diverse products internationally through geographical diversification. They organise their operation based on international comparative advantage to benefit from the international division of labour. They use an integrated control policy to develop a product series and standardise different products in the series according to appropriate production advantage across different regions, such as the US, Europe and developing nations.
Japanese multinational corporations’ development strategies
Inspired by the work of Kansai University Professor Jianyi Jiangxia, Caimei Lin noted that Japanese MNCs strengthen comparative advantages in cost by not only focusing on production and labour costs, but also pursuing a balance between the domestic and the overseas market in order to learn, understand and incorporate technologies and techniques from other nations. They compete in advanced markets using sophisticated products made in Japan, and open up new international markets using simpler products made in third world nations. They also convert the product life cycle of technologies imported from advanced countries into a growth stage, through their transfer and direct investment in developing nations (see Figure 3.4).
Changsi Shijing4 at the Zhuyou National Institute of Life in Japan gathered data from Japanese manufacturing enterprises that engaged in global businesses. Shijing summarised the expansion strategy of Japanese enterprises overseas into three stages: first, exports of domestic products and overseas sales; second, in order to adapt to the local market, a part of the production activities of the largely domestic products is in foreign countries; third, the domestic and overseas markets are unified from a global perspective for research and development, purchase of materials and components, production, sales, finance and human resources. As the overseas operations are localised and offered more participation, Japanese MNCs focus on the company’s strengths to successfully connect various overseas operations. They also seek to involve foreign enterprises in globalisation. The centre of technology development and production remains in Japan. An emphasis is put on a quick and accurate response to customers’ requests through an information network of local product management to improve the relationship of production and marketing.
According to Shijing, Japanese MNC network globalisation is driven by the imperatives to manage the yen and tensions in the external environment. They develop a worldwide foundation base to select the best from the production base in the world, to produce accessories, products and low-priced software at the cheapest locations, and set up a common supply system to develop into a global network. They complement their globalisation strategy with a localisation strategy focused on acquiring business in host nations by providing employment opportunities. They adopt a quadruple system, where the world is divided into four areas: America, Europe, Asia and Japan (Asia along with Japan is sometimes referred to as the third pole). A fully integrated model is created for the maximised values coming from the advantages of these areas in their respective areas of product development, production, marketing, financial and other operational activities. The geographical omnibus company system transfers the firm-specific skills from local subsidiaries to a geographical omnibus headquarters, thereby helping to implement the strategy of maintaining a secure local contact.
It is worth noting that Shijing’s analysis of the globalisation strategy of Japanese enterprises places the localisation strategy in a favourable position that is equivalent to globalisation. The perception of ‘think globally, but act locally’ is a significant foundation.
Professor Ming Shangye5 at Shizuoka Prefecture University wrote the book Sans Frontiers Time’s Entrepreneurial Strategies analysing the Japanese MNC competitive strategy in the Sans Frontiers time (globalisation time). ‘Sans Frontières strategy’ focuses on the overseas production across borders and exports from Japan as two channels to satisfy customer demand. Overseas production can cannibalise the domestic production for exports, if the two channels are not appropriately and organically linked. Japanese MNCs believe that products made in Japan are more appealing in the export target country; while products made overseas are in conflict with their global corporate image and trademark, and may even cause resentment among their customers. Therefore, products not produced locally in a nation must be imported from Japanese local businesses. As the capabilities of the local firms improve, the production by those firms will also be accepted by local clients. Thus, the expansion of overseas production does not obstruct the expansion of domestic exports; indeed, it helps to promote national exports.
According to Shangye, Japanese MNCs seek to place ‘suitable products in the appropriate places’ in order to achieve maximum efficiency and lowest cost for the corporate network, and appropriate benefits for various production bases. To ensure the success of subsidiaries within the international division of labour, Japanese MNCs emphasise the following conditions:
1. Overseas made products are manufactured at the same level of production quality and features as those produced domestically.
2. The overseas subsidiaries are expected to match the competitive advantages of Japan’s domestic manufacturing industry in terms of the cost structures in order to maintain international competitiveness. Japanese MNCs therefore seek to transfer not only technology from domestic to overseas operations, but also the core competences in reducing costs and increasing labour productivity.
3. To fully engage overseas subsidiaries into their international division of labour as the global suppliers of parts and products, Japanese MNCs strive to build a very strong international marketing sales and global marketing network.
4. Japanese MNC headquarters play leading roles in external coordination and internal integration to cultivate the concept and understanding of the whole system, because the divisions cannot expand at the expense of the corporate agenda. While the independent control of a production base for day-to-day operations is valued, the headquarters seek to maintain the authority for strategic activities including production models for various production bases, facility investment plans, production plans according to global need, and timing of products in global markets and total sales for various production bases worldwide and net profit expectations.
Japanese MNCs are showing commitment to sell back the products made in overseas subsidiaries into Japan, under their ‘no frontier strategy’. ‘No frontiers’ refers to the highest form of international economic integration – while it has grown, it has not been achieved by Japanese MNCs. It is an adaptive business idea for the operations of Japanese enterprises in dealing with challenges from domestic and international business environments. It has the following features:
1. Increased imports help prevent trade tension and maintain the free trade system to bring maximum benefits to Japanese enterprises. The products sold back from overseas production are a favourable way to expand imports.
2. As the value of the Japanese yen has risen against the US dollar, production costs have been reduced in overseas enterprises, even when sold back to Japan.
3. With the transfer of better and more advanced technology and management knowledge from Japanese headquarters, overseas enterprises have been able to improve labour productivity and product quality, thereby meeting the expectations of domestic Japanese consumers.
4. Alongside the appreciation of the yen, per capita income and demand in Japan has continuously increased. Further, through an effective system of international division, domestic and foreign production bases have developed their own features and competitive advantages. Consequently, the products produced overseas and sold back to domestic enterprises do not have a serious conflict and in fact result in increased sales of various products.
Philip Kottler,6 a famous marketing professor at Northwestern University, has also examined the strategy of Japanese MNCs from the perspective of international marketing management. Accordingly to Kottler, the global market development strategy of Japanese MNCs comprises global market expansion and global marketing network development.
Global market expansion refers to the time sequence to access foreign target markets. Japanese firms expand into the global market in three time sequences:
1. Japan → developing countries → advanced countries. This is the main avenue through which Japanese firms entered the world market. For example, Japan’s iron and steel, automobiles, petrochemicals, household appliances, clocks, camera equipment, pursued this route to enter the world market successfully. This process includes four stages: using the domestic market as a base for development; using developing countries as a springboard; targeting the US market; entering the European market.
2. Japan → advanced countries → developing countries. This category includes firms in such industries as computers, semiconductors and other high-tech industries of Japan. Due to the time lag in demand for high-tech products in developing countries, the firms in Japan first occupy the domestic market before they aim at the markets of the United States and other developed countries. Then the Japanese wait for opportunities for growth and demand from the developing countries.
3. Advanced countries → Japan → developing countries. Although the majority of the overseas market for Japanese enterprises has followed the development of the first two examples, there are some exceptions. The original plans of certain products were aimed at developed countries outside of Japan, for example the video tape recorder and colour television. At that time, the demand for these products in Japan’s domestic market was still quite weak. In 1964, colour TV in the United States was already very popular. In order to get more shares from the US market, firms in Japan made colour TVs in quantities and exported them to the US. Five years later, colour televisions became generally accepted in the Japanese domestic market.
Global marketing network development refers to the planning and layout of the marketing network throughout the entire world market. Japanese MNCs took more than 30 years to develop a strong and efficient global marketing network through six stages, thus ensuring the stability of their advantages in the global market:
1. Use commerce association as a springboard: Most Japanese companies that were engaged in export businesses adopted this approach. Associations, especially comprehensive associations, were familiar with overseas markets. Through the portfolio of products and scale operations in different world regions, the comprehensive association could decentralise and absorb the price variances in the international market trade, thus lowering the risks of international exchange rates and tariffs. In addition, they provided a wide range of information on overseas markets, resulting in an efficient method for firm export services. The export service of comprehensive association accounted for more than half of the businesses as the manufacturers’ agents.
2. Select and choose optimised partners: After acquiring certain export sales experiences, some firms dismissed the commerce associations and located local distributors. Some Japanese businesses entered the US market through employing American manufacturers, which had superior sales channels and marketing capabilities.
3. Establish Japanese overseas marketing companies: aving got a foothold in the American market, many Japanese MNCs started to use their own distributing affiliates in the US to replace commerce associations and local dealers. In this way, they could use advertising, sales promotion and after-sales service to directly control and enhance marketing efforts and brand reputation in the target market.
4. Set up plants and manufacture products in developing countries: Towards the end of the 1960s, changes in the pattern of world politics and the economy had a far-reaching impact on Japanese companies. Under pressure from other countries in the world, Japan had to gradually open up its domestic market. With the appreciation of the yen, the Japanese currency, Japanese products lost their unique cost advantages. This spurred Japanese enterprises to seek new ways to maintain their competitive edge, particularly by setting up factories in developing countries to take advantage of the cheap labour and raw materials in production. Additionally, local production helped avoid the host country and third-country trade barriers.
5. Local production in developed countries: Direct investment in the United States and other developed countries helped Japanese MNCs cross the trade barrier to consolidate their positions in the market. The growth or acquisition of self-invested factories of Japanese manufactures in the United States escalated.
6. Gear to the global market: In a global context, a firm with global orientation needs to make tough decisions such as these: in which part of the world to set up what kind of manufacturing plant; what kind of products to produce; which market to serve; and how to minimise the production and distribution costs. Many Japanese MNCs are using the principle of maximising the efficiency of their production to determine which functions should remain in the country and what arrangements should go abroad. They are evolving four internal division of labour systems in Japan, the United States, Europe and Asia.
Evolution of MNC overseas subsidiaries strategy
The theoretical study of overseas subsidiaries of MNCs has a history of more than 20 years. During the 1970s, studies of overseas subsidiaries were sporadic, such as Youssef and Hulbert’s preliminary study on overseas subsidiaries issues. In the early 1980s, Hedlund (1980) and Otterbeck (1981) studied autonomy and formalised organisation for MNC overseas subsidiaries. After these two studies, a large number of research studies on MNC overseas subsidiaries ensued. These studies covered areas such as relationships between the parent company and their subsidiaries, and the role and the development of MNC overseas subsidiaries. These studies have gradually become an important branch of theoretical studies on multinational corporations.
Strategy–structure theory
Since the 1960s, inspired by Chandler’s idea that structure follows strategy, many scholars tried to discover appropriate organisational structures based on the changes in MNC strategy. Strategy–structure study began as the stage model advocated by Stopford and Wells (1972). In 1989, Bartlett and Ghoshal proposed transnational organisation, which became the earliest branch of theoretical study on MNC overseas subsidiaries.
International structure stage model
From a study of 187 of the largest multinational corporations in the United States in the late 1960s, Stopford and Wells (1972) suggested a stage model, a significant thread in the subsequent study of MNC subsidiaries. The stage model used the proportion of MNC foreign sales and the degree of product diversification as a yardstick in describing the evolutionary change process of MNC organisational structure in various stages of internationalisation. When foreign sales and product diversification were limited, the initial expansion abroad was structured through an international department. With the increased overseas expansion of foreign sales without significant increase in product diversity, MNCs usually employed a global regional structure. The MNCs that had increased sales through product diversity adopted the global products sector structure for their global expansion. Finally, when foreign sales and product diversity were both high, MNCs used the global matrix structure (Figure 3.5).
Figure 3.5 Stage model of Stopford and Wells (1972)
Typology of structures for MNCs by Bartlett and Ghoshal
Bartlett and Ghoshal (1986) used the two-dimension research framework (globalisation pressure vs. local pressure) to advance three types of MNC: global organisations, multinational organisations and transnational organisations. In 1989, Bartlett and Ghoshal further developed the threequadrant model by Stopford and Wells (Figure 3.5) and replaced the original three-quadrant model with the fourquadrant model (Figure 3.6).
Figure 3.6 Bartlett and Ghoshal’s (1989) chart of multinational organizations
The multinational organisation model is widely used by many European MNCs. In this model, the assets and management responsibilities are decentralised. The MNC maintains control over the subsidiaries using informal human coordination and the simple accounting system. The overseas operations are operated independently as decentralised federations (Figure 3.7).
Figure 3.7 Multinational organisation model Source: Bartlett and Ghoshal (2002). Cross-border management. (2nd edition). Translator: Yeging Ma, etc. Beijing. Demos Post and Telecommunications Publishing House.
The international organisation model is widely used for many American companies and is described as ‘coordinated federation’. Assets and responsibilities are still scattered, but the subsidiaries are more dependent on the parent company’s resources and under parent control. The parent company employs a formal management planning system for their subsidiaries and takes their overseas businesses as their affiliated units (Figure 3.8)
Figure 3.8 International organisation model Source: Bartlett and Ghoshal (2002). Cross-border management. (2nd edition). Translator: Yeging Ma, etc. Beijing People’s Post and Telecommunications Publishing House.
The global organisational model is widely used by many Japanese companies and is described as the ‘centralised hub’. The resource, responsibilities and decision-making power are highly centralised in the parent company; subsidiaries serve only as sales units. There is a tighter control of the subsidiary by the parent company. Products and knowledge flow in one direction only. An overseas business is looked upon as the global market unification transmission channel (Figure 3.9).
Figure 3.9 Global organisation model Source: Bartlett and Ghoshal (2002). Cross-border management. (2nd edition). Translator: Yeging Ma, etc. Beijing People’s Post and Telecommunications Publishing House.
A multinational organisation is highly sensitive and has a rapid response for the difference between markets and political demands of different countries. International organizations offer an effective track for transferring knowledge from a parent company in accordance with local needs as required. Global organisations promote the development of coordinated strategies to achieve global economies of scale and efficiency. However, none of these alone can accomplish the integrative strategic capabilities that each structure can offer. Hence, there is a need for a new learning structure or model that can distribute strategic assets for both decentralisation and specialisation that support different organisational roles and diversification. Transnational organisations were designed for such a purpose. In these, the assets and resources are scattered and the role and responsibilities of the subsidiaries are varied. A variety of innovative ways of sharing global knowledge are deployed (Figure 3.10).
Figure 3.10 Transnational organisation models Source: Bartlett and Ghoshal (2002). Cross-border management. (2nd edition). Translator: Yeging Ma, etc. Beijing People’s Post and Telecommunications Publishing House.
Table 3.2 summarises the comparison of the four MNC organisation models.
As the father of theoretical studies of MNC overseas subsidiaries, the strategy and structure school has not only explained a number of issues in global operations but also provided an effective way to understand the differences in MNC performance. Stronger performance is a function of the appropriate alignment between corporate strategy and environmental needs and the match between strategies and organisational structures.
However, there are many flaws of the strategy–structure school. Since the 1980s, the international competition environment has become increasingly complex, with both global integration pressure and local responsiveness pressure. In theory, the matrix structure can take care of the pressures from the two aspects at the same time, but thanks to its dual-control mechanism, the decision-making progress is lengthy and slow. The conflict from the dual leadership may ultimately lead to a strategic failure. Indeed, Bartlett (1983) reported that the MNCs which adopted the matrix structure did not enjoy more outstanding performance than those with a simple international structure. Moreover, the strategy–structure school takes the entire MNC as a unit of analysis and focuses on the overall differences among multinational corporations – rather than on the roles of the MNC overseas subsidiaries.
Parent–subsidiaries relationship school
During the 1980s, scholars began to shift attention from the overall structure to the internal relationships within MNCs. The parent–subsidiaries school focuses on the vertical relationship between the parent company and the subsidiaries, emphasising how the parent company effectively controls and coordinates its overseas subsidiaries.
Prahalad and Doz’s study
Prahalad and Doz pointed out in their 1987 study that the control of the parent company over subsidiaries was the core of the relationship between a parent company and subsidiaries, and studied the control model and tools.
Factors that enhance the control ability of the parent company include:
1. The dependence of subsidiaries on the parent company’s resources (e.g. technology, markets, financial or management resources) can help improve the control of the parent company over the subsidiaries. The dependence occurs when none of the affiliates has adequate skills or resources to replace all the functions of the parent company. The subsidiaries cannot survive in isolation from other entities of the group, no matter how big they are, how mature their technology is nor how complex the operations they can manage. In addition, if subsidiaries have to depend on the parent company for technical or management resources, the parent company is able to use this dependence to influence its subsidiaries’ behaviour.
2. If subsidiaries hold a common strategic intent and competitive strategies with the parent company, it is more conducive to the control of the parent company.
3. If subsidiaries’ contributions are measured against the global network rather than the performance in the local market, it is more beneficial to the control of the parent company.
4. The more loyal the subsidiaries to the parent company and the higher their sense of commitment, the easier the control of the parent company.
Table 3.3
Control of the parent company over subsidiaries’ operations
| Factor strengthening the control ability | Factor weakening the control ability |
| Dependence of subsidiaries on the parent company’s resources: technology, management, export markets, finance | Subsidiaries’ degree of autonomy: evolution of relationship between the parent company and subsidiaries |
| Shared strategic perception and competitive strategies | The host government control |
| Evaluation system for contribution to global strategy | Existence of joint venture partners |
| Loyalty to the parent firm | Loyalty to the host country |
Source: Prahalad and Doz (2001). The multinational mission. Translator: Wenbin Wang, etc. Beijing: Huaxia Publishing House.
Factors that hinder the control ability of the parent company include:
1. Evolution of the subsidiaries: with the development of their own resources and abilities, subsidiaries gradually reduce their dependence on the parent company.
2. Host government control: if the host government exerts strong strategic influence in its territory over the subsidiaries, the coordination and control of the parent company becomes difficult.
3. Influence of joint venture partners: as the motive of subsidiaries operating with local joint-venture partners may not be consistent with the parent company’s motives, the control of the parent companies becomes difficult.
4. The degree of loyalty of subsidiaries to the host country: the more loyal the subsidiaries and stronger the sense of belonging to the host country, the more difficult is the control of the parent company.
Doz and Prahalad identified three types of control tool (Table 3.4):
Table 3.4
| Data management tool | Manager incentive tool | Conflict management tool |
| 1 Information system | 1 Key managers’ choices | 1 Allocation of decision-making responsibilities |
| 2 Evaluation system | 2 Promotion channels | 2 Comprehensive balance staff |
| 3 Resource allocation procedures | 3 Reward and punishment system | 3 Business groups |
| 4 Strategic plan | 4 Career development | 4 Coordination committee |
| 5 Budget plan | 5 Socialisation model | 5 Taskforce |
| 6 Problem-solving procedures |
Source: Prahalad and Doz (2001). The multinational mission. Translator: Wenbin Wang. Beijing: Huaxia Publishing House.
Data management tools: databases that can be used for both key strategic decisions as well as global and local operations aid conversion of the raw data into useful information to expedite decision-making and strategic control.
Managers’ incentive tool: rules of the game enable managers to shape their understanding of their own benefits and expectations. The appointment and promotion procedures, personal assessment, reward and punishment, and career development planning are all the rules of the game conducive to a large number of senior and middle-level managers.
Conflict management tools: this tool provides a channel or framework for solutions to the disputed issues, especially for balancing the issue of globalisation and regional response.
Ghoshal and Nohria’s study
Ghoshal and Nohria showed in a study in 1989 that the parent company should adopt different modes of management control and coordination under varying structural situations.
Ghoshal and Nohria defined a typology of four structural situations using two dimensions: environmental complexity and resource level. Environmental complexity includes such host country factors as market, political, legal, regulatory, cultural and social, and natural and geographical forces. Resource level includes a subsidiary’s accumulated knowledge, experiences and capabilities in the process of local production. In accordance with the different situations of MNC subsidiaries, the parent company should adopt three different control and coordinated modes to manage and control their subsidiaries (Figure 3.11).
Figure 3.11 Control and coordinated model of Ghoshal and Nohria Source: Xi Youmin (2002).
Ghoshal and Nohria also identified three control and coordinated methods:
centralised management: a formal authority and hierarchical system of decision-making processes, where the subsidiaries lack autonomy in choices;
standardised control: decision-making through administrative mechanisms such as systematic rules and procedures;
regulating coordination: the managers together with the followers have a set of shared goals, values and beliefs for guiding their concepts and behaviours.
Martinez and Jarillo’s study
Martinez and Jarillo (1989) divided the control mechanisms into two types: formal control mechanisms and informal control mechanisms. Formal control mechanisms include a formal organisational structure, the distribution of decision-making power, standardised procedures, the budget plan, and the results and the control of behaviour as the major structure. Informal control mechanisms include cross-functional linkages, informal communication and the corporate culture with value assimilation as the major structure (Table 3.5).
The study of the control mechanism of MNCs emphasised a gradual transition between the 1920s and the 2000s from formal to informal control mechanisms. This, Martinez and Jarillo explained, was due to the rapid changes in the global business environment and competition rules. As the MNCs changed their business strategy, they needed to change organisational structure and control mechanisms also (see Table 3.6).
Bartlett and Ghoshal’s study
Bartlett and Ghoshal pointed out in 1989 that the management tradition of MNCs impacts the method of coordination of the parent company over their subsidiaries. The MNCs in Japan, the United States and Europe tend to use three different coordination approaches.7
Centralisation is the dominant approach for Japanese MNCs. The parent company issues direct commands and makes independent decisions for the subsidiaries. In Japanese corporate culture, decisions require the views and inputs from the majority of members for a thorough communication. The decision-making process takes a long time and is very slow. Centralised coordination helps make more rapid decisions to minimise the friction between the parent company and subsidiaries from fragmentation of power. However, the parent company often finds it difficult to respond quickly to local needs when the host environment changes rapidly.
Formalisation is the dominant approach for US MNCs. The parent company deploys formal systems, policies and standards to manage subsidiaries. The management power of both the parent company and its overseas subsidiaries is reduced through an independent and objective policy, thereby resulting in standardisation and efficiency. However, the MNC has to incur high costs to make any adjustments if the current system and procedures cannot fit environmental changes. In addition, in an environment shaped by routine-driven standardisation, managers’ initiatives for innovation are seriously suppressed.
Socialisation is the dominant approach for European MNCs, who use the parent company’s corporate culture and management philosophy to manage their subsidiaries. Since the social model depends on common values and goals, it represents a more dynamic and flexible system of coordination. However, the biggest challenge in the social model is the high operating costs, for example, costs incurred in training the entire management team and instilling culture values in them.
MNC subsidiary role school
Many scholars have tried to identify the roles of overseas subsidiaries using different perspectives (Bartlett and Ghoshal, 1986; Jarillo and Martinez, 1990; Gupta and Govindarajan, 1991; Taggart, 1996). As each of the subsidiaries is established by the MNCs, they all have a specific strategic task in the MNC network.
White and Poynter’s classification theory
White and Poynter (1984) identified five categories of the roles of MNC overseas subsidiaries using three aspects: (1) product scope: flexibility in product policy to increase the production line and expand facilities; (2) market scope: the geographical range between the local market and the global market; and (3) value-added areas: the rate of value realised through activities in development, manufacturing and/or marketing.
1. Micro copy of parent company: this type of overseas subsidiary is a microcosm of the parent company to produce and/or sell selected products in the parent company’s chain of products. MNCs adopt this approach when they suffer from many constraining factors, including local preference (such as food), trade barriers, local manufacturing subsidy, low degree of economies of scale in production or higher transportation costs. These factors force subsidiaries to copy their parent company and make it impossible for them to use an integrated production strategy. Subsidiary miniature replicas are sub-classified into three types: (1) exact copy: the product and marketing plan come from the parent company and is introduced to the local market without any changes; (2) modified copy: the product and marketing plan are changed to meet the local market needs and preferences, subject to a cost analysis of this adaptation; (3) reformed copy: to avoid excess capacity and to take the best use of the local distribution network to develop related new products, the tenure of operations is important in selecting a subsidiary’s strategies. For example, the newly established overseas subsidiaries are often discouraged to become a reformer or mini-replicas. MNC overseas subsidiaries usually need to go through a natural development process, which starts with an exact copy model and gradually evolves into development of its featured strategy.
2. Sales satellite: this role works well for overseas subsidiaries that are not involved in manufacturing and are only responsible for selling products made by the parent company or other subsidiaries. Occasionally they are engaged in simple packaging or processing operations. This type of overseas subsidiary might be a single company that functions as wholesaler or could be a vendor who has a broad distribution. The feature of this strategy is to service the local market while the scope of value is small. The strategy is practical for firms using low-cost strategy or global differentiation strategy.
3. Rational manufacturer: this type of overseas subsidiary produces parts or finished products for a multi-country market or global market. If it produces parts of a product, the product will be exported to other units of the multinational corporation for further processing. There is a limited range for products and value-added scope. Sales for the finished products are mainly done by the sales satellite subsidiaries of the MNC. Research and development are conducted inside the MNC. The parent company also retains the decision-making power in such areas as the creation and expansion of the variety of products and increase in production capacity. This type of model works better when the economies of scale and geographic factors become favourable for mass production to serve several markets. For example, in the semiconductor industry most parts are manufactured in one subsidiary to supply the products to other MNC units for assembly.
4. Product experts: these subsidiaries develop, produce and sell a limited range of products for a multi-country or global market and enjoy freedom in aspects of R&D, manufacturing and sales. Of course, subsidiaries need to have good communication so that the parent company can implement strategic control of these recognised products. The parent company grants the product expert subsidiaries the authority to operate independently in developing, manufacturing and selling their new products in regional or global markets.
5. Strategic independence: these overseas subsidiaries have their own resources and can provide new lines of products to a local market, a multi-country market or global market. The parent company does not restrict their access to the global market; nor does it restrict these subsidiaries to develop new businesses. This type of subsidiary bears features similar to capital investors. However, it keeps close ties with its parent company in structure and finance. There are only a small number of such strategic independent overseas subsidiaries.
Bartlett and Ghoshal’s theory
Bartlett and Ghoshal (1989) believed that the strategic position of overseas subsidiaries is not only determined by the organisational form of the parent company but also by the capabilities of overseas subsidiaries and the market resources they have. A subsidiary’s strategic position depends largely on how important its host environment is to the MNC global strategies.8 They classified four types of tasks of the overseas subsidiaries (Figure 3.12).
1. Strategic leader: overseas subsidiaries cooperate with the parent company to implement the strategy of the MNC. However, only those overseas subsidiaries that have strong competitive advantages in the market are in a strategic position to accomplish this task.
2. Contributor: the overseas subsidiaries that undertake this task are located in a market of a smaller scale or of insignificant strategic position. However, these subsidiaries have resources and competitive strengths and thus they are important to the parent company.
3. Local implementer: overseas subsidiaries doing this task have the ability to maintain local businesses, but usually operate in an insignificant market. It is difficult for these overseas subsidiaries to get important information because resources are limited and they do not have the conditions to become contributors or provide strategic leadership. However, the roles of these firms are significant because they help add values to the MNC and provide funds for the MNC’s routine operations and future development.
4. Black hole: in a larger market that has an important strategic position, the market shares and competitive edge of MNC overseas subsidiaries tend to be insignificant and thus a market of this nature is described as a black hole. MNCs must be able to manage in this environment so that their subsidiaries can gradually phase into the other three positions. MNCs wanting to establish powerful local control face intense competition in the host environment and find it both time- and cost-consuming. For this reason, many Korean and Taiwan computer manufacturers set up a small subsidiary in the black hole, such as in the American Silicon Valley, as a ‘window’ to observe American technology. Many MNCs from the US and Europe made similar efforts of building a small subsidiary in Japan to gather information and surveillance Japan’s technological development for their headquarters so as to make a pre-emptive attack in dealing with their competitors and sustain their competitive advantages in the global market. To serve as a keen observation window for technology development, these subsidiaries must be very sharp and sensitive to any strategic changes to take action before their competitors.
Dunning’s theory
In 1988, Dunning proposed the motive of property right as the decisive factor for overseas subsidiaries’ economic activities, business scope and strategic position in MNCs. Using the property motivation theory, Dunning classified the MNC overseas subsidiaries into:
1. market-expanding subsidiaries, seeking to overcome trade barriers to protect the MNC’s export markets;
2. resource-expanding subsidiaries, seeking to obtain natural resources, cheap labour and other low-cost production essentials;
3. efficiency-expanding subsidiaries, which are professional production enterprises;
4. strategic asset-expanding subsidiaries, which are a more recent development as a result of mergers and acquisitions (M&As). M&As not only transfer skills and abilities of MNCs to their subsidiaries, but also protect and make the best use of the skills and capabilities of the acquired subsidiaries to enhance the overall MNC competitiveness.
Jarillo and Martinez’s theory
In 1990, Jarillo and Martinez used Prahalad and Doz’s I-R framework, based on two dimensions – the degree of localisation in business activities and the degree of integration in operational activities – to define three types of overseas subsidiary (Figure 3.13):
Independent subsidiaries are independent of the parent company and other subsidiaries and engage in most of the value-chain activities and across multiple local industries.
Receptive subsidiaries engage in only a few business activities, such as marketing, sales or simple manufacturing or mining, while working closely with other MNC subsidiaries. They are common among centralised MNCs.
Active subsidiaries engage in a variety of business activities and work closely with other MNC activities. They enjoy high autonomy and maintain a close relationship with the parent company.
Gupta and Govindarajan’s theory
Gupta and Govindarajan (1991) used two dimensions – the degree of knowledge flow and the direction of knowledge flow – to construct four nodes in an MNC network (Figure 3.14):
Figure 3.14 Role of node in knowledge flow Source: Gupta and Govindarajan (1991).
Global innovator has low knowledge inflow and high knowledge outflow – it plays a major role in providing knowledge to other subsidiaries in the MNC network. Historically, especially in MNCs from the US and Japan, only the parent company played this role. However, increasingly the global innovator may be an overseas subsidiary. For example, in the Swedish MNC Ericsson, the Italian subsidiary serves as the research centre for transmission systems and the Finnish subsidiary for mobile communications.
Integrated player also has high knowledge inflow and high knowledge outflow – it also supports other nodes of the MNC network and plays an important role in creating and transmitting knowledge. However, instead of creating all the knowledge, it relies more on other nodes in the network for knowledge flow. It assimilates knowledge and creates new knowledge based on the absorption of the knowledge from other nodes and in turn transmits the knowledge back to other nodes in the network. The Japanese subsidiary of IBM is a case in point.
Implementer has high knowledge inflow and low knowledge outflow – it has hardly any knowledge-innovative activities of its own but relies on the parent company and other subsidiaries in the network for knowledge inflows. Historically, most overseas subsidiaries operated as the implementer and obtained the knowledge and technology from the parent MNC. The subsidiaries of the 3 M Corporation in small countries such as Finland are examples.
Local innovator has low knowledge inflow and low knowledge outflow – it relies on its own local resources for innovating knowledge and skills that are needed for all its functional areas. It seldom depends on other nodes in the network for its knowledge inflow and sends little knowledge to other nodes. Traditional multi-domestic MNCs were composed of subsidiaries that were in fact local innovators. For example, at the Kentucky Fried Chicken (KFC) subsidiaries in Japan, the architectural style, restaurant size, theme and menu choices are very different from other subsidiaries that imitated those from the headquarters in the US.
Taggart’s theory
In 1996, Taggart applied Porter’s ‘coordination–allocation’ framework to construct the C–C (coordination–configuration) strategy model for MNC overseas subsidiaries. The model consists of four types of strategy (Figure 3.15):
Confederate subsidiaries correspond to high decision-making autonomy, alongside extensive management coordination.
Auxiliary subsidiaries correspond to a global strategy and operate under high management coordination, lacking decision-making autonomy. However, they have access to higher technical skills from the parent MNC, which facilitates access to international markets.
Autarchic subsidiaries correspond to a country-centred strategy – the configuration of value chain activities is scattered across subsidiaries with significant decision-making autonomy. Each subsidiary has low management coordination and integration with the parent company.
Detached subsidiaries correspond to an export-based strategy – the configuration of value chain activities is concentrated in the home region of the parent company. The subsidiaries have low management coordination and integration with the parent company, and low decision-making autonomy.
Table 3.7 summarises the findings from various studies related to subsidiary roles. In summary, the school of scholars on the role of subsidiaries recognised that different subsidiaries possess different roles in the global strategy of MNCs. These scholars argued for making the subsidiaries’ role the main focus in MNC research and took the parent company as the external variable. They recognised the internal differences and diversity of the MNC networks and shifted the focus of study from taking the MNCs as a whole to the roles of subsidiaries. However, these scholars studied and analysed the status and roles of the MNC overseas subsidiaries from a static analysis perspective. Once the roles were identified for the subsidiaries, there was no continued research into change and development. Thus we do not see any in-depth studies on long-term progress and the role evolution path for these MNC subsidiaries.
Subsidiaries’ development school
The research on subsidiaries’ development focuses on the dynamic nature of how the roles and positions of overseas subsidiaries are constantly evolving over time. During the 1980s, in the process of studying the relationship between the parent company and its subsidiaries and subsidiary roles, some scholars started investigating MNC overseas strategy evolution from a development perspective (Prahalad and Doz, 1981; White and Poynter, 1984; Jarillo and Martinez, 1990). In recent years, as the global business environment has experienced rapid change, the development perspective has become an important branch of MNC research.
In 1998, Birkinshaw and Hood summarised the general patterns and influencing factors on subsidiary evolution.9 Birkinshaw believed that the process of overseas subsidiary evolution was closely related to two concepts: capabilities and charter.
Capabilities are abilities of MNC subsidiaries to achieve the desired objectives and goals via an organising process to utilise and integrate resources. Because each subsidiary has its own unique growth route and geographical location, the capability of each subsidiary is different from those of the parent company and other overseas subsidiaries. Subsidiary capabilities are accumulated in the course of its growth and have path dependency – making it hard to transfer and spread the capabilities to other subsidiaries.
Charter is the subsidiary’s functions and responsibilities granted by the parent. The scope of charter is very wide and may include market service, products, technology, functional areas or any combination. In most MNCs, through internal competition, one subsidiary may obtain the charter of another subsidiary. In some cases, two subsidiaries may compete with each other for a new charter.
Capability is the foundation for the status and roles of subsidiaries and is recessive, while charter is the external exhibition of subsidiary roles and functions and is the overt part. The evolution of subsidiaries is an interactive process of increase or decrease of subsidiary capabilities and of gains or losses of charter.
Using the two dimensions of change of capabilities and change of charter, Birkinshaw proposed the evolution model of MNC overseas subsidiaries. Each dimension includes three levels: recession, consolidation and increase. He thus identified five patterns, as shown in Figure 3.16:
Figure 3.16 Evolution models of overseas subsidiaries Source: Birkinshaw and Hood (1998b).
Pattern 1: parent-driven investment (PDI) is the subsidiary capacity increase thanks to the parent company charter grant. To increase investment in a project, the parent company conducts a comparative evaluation of subsidiaries at different locations and grants a charter to one suitable subsidiary. Having obtained the new charter, the capacity of this subsidiary is enhanced in the process of charter implementation.
Pattern 2: subsidiary-driven charter extension (SDE) is the gain of charters from the parent company thanks to capability increase of the subsidiaries. In their growth process, MNC subsidiaries use their entrepreneurial spirit and proactive initiative in seeking and utilising new business opportunities and enhance their capabilities in the process of long-term efforts. When the parent company recognises their potential, the subsidiaries are granted more charters.
Pattern 3: subsidiary-driven charter reinforcement (SDR) is the subsidiary capacity consolidation that helps consolidate the existing charter. In the continuous competitive process with other subsidiaries and with external competitors, subsidiaries consolidate their capabilities and reinforce the case for their existing charter status.
Pattern 4: parent-driven divestment (PDD) is the retraction of charter from a subsidiary by the parent company. To lower cost and centralise operations, parent companies may withdraw charters from some subsidiaries, which could lead to subsidiary capability decline. There are two ways to withdraw charters: one is to sell or close subsidiaries, which results in subsidiary capability loss; the other is to take away charters, while subsidiaries still exist. In this case, the associated capability developed for the withdrawn charter is lost, but the subsidiary can develop new capabilities for new charters. This is also known as charter renewal.
Pattern 5: atrophy through subsidiary neglect (ASN) is the pattern in which a subsidiary loses charters because of the decline of its capabilities. This pattern results from two causes: (1) decline in absolute subsidiary capabilities, due to lack of sufficient attention to, or sense of, competition; (2) decline in relative subsidiary capabilities, because other subsidiaries have significantly improved their capabilities. As a result, the parent company transfers the charter to other, more competitive subsidiaries.
Birkinshaw noted that as a semi-autonomous entity, the subsidiary is not in complete control of its growth and development process. Three factors influence the evolution of subsidiaries: control of parent company, host environment and subsidiary choice (Figure 3.17). The first two drive passive adjustments, while the third is the initiative cause of development.
Figure 3.17 Factors affecting overseas subsidiary evolution Source: Birkinshaw and Hood (1998b).
The control factors by the parent company include global strategy adjustment of the parent company, MNC global business reorganisation, subsidiary charter changes made by the parent company, and choices of centralisation or decentralisation by the parent company.
The choice factors of subsidiaries include subsidiary autonomy wishes, subsidiary entrepreneurial spirit and creative initiative, and subsidiary wishes to increase its significance in the MNC network.
The host environment factors include host culture environment, host country laws and regulations, host government intervention or support, market competition in the host country, and host country consumer demands.
In summary, subsidiary development scholars believe that the development of overseas subsidiaries is a dynamic process. Subsidiaries do not develop entirely in line with the parent company’s strategic intent. Nor do they play a specific role for the long term in a host country. In time, MNC overseas subsidiaries might accumulate valuable resources and develop capabilities that will significantly enhance their status in their relationship with the parent company, and they could become as important as the parent companies. Meanwhile the role played by foreign subsidiaries can also change (Birkinshaw and Hood, 1997). Most MNC subsidiaries in China have contributed positively to the success of MNCs; however, in some cases, strategic blunders have resulted in a failure in China. For instance, MNCs such as Mosuoni, Whirlpool, Peugeot Automobile and Xerox have been forced to withdraw from China because of the strategic blunders of their subsidiaries.
1Ghoshal and Nohria (1993); Bartlett and Ghoshal (1989).
2Porter, M.E. (2002) National Competitive Advantage. Translator: Mingxuan Li, etc. BeiJing: Huaxia Publishing House.
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