Understanding why some international firms thrive while others fail
Many managers understand the importance of international strategy, which refers to a firm’s international diversification. In my recent study, I found that for publicly listed firms in the United Kingdom, the proportion of firms with foreign assets grew from 4% in 1990 to 36% in 2016. Likewise, the proportion of publicly listed German firms with foreign assets grew from 2% to 42%.
International strategy is recognised as important and relevant to a firm’s success. However, empirical evidence remains inconclusive on whether corporate internationalisation (as measured by the ratio of foreign sales to total sales, the ratio of foreign assets to total assets, etc.) can indeed enhance firm performance (e.g., return on assets).
Why do firms engage in international activities? Some firms have a market-seeking motivation to initiate internationalisation. They face fierce competition or experience stagnation or slow growth in the domestic market and may look to foreign markets for new customers.
Other firms have a resource-seeking motivation; they are searching for cheaper resources and/or a more cost-effective production base to remain competitive. Some firms even venture aboard to seek new knowledge.
Not all firms, however, would successfully manage their internationalisation. Prior results have been mixed—some studies reported a positive effect of corporate internationalisation on firm performance while others found a negative effect.
Managers must ask themselves two important questions on international strategy. The first question is directed at domestically-oriented firms: will venturing abroad improve performance? Do international firms perform better than domestic firms?
The answer to this question is again mixed. I found that during 1990–2016, international firms (loosely defined as those with foreign sales) in a sample of publicly listed non-financial firms in 27 countries across Europe performed better in terms of profitability than domestic firms. International firms in Asia, however, performed poorer than domestic firms.
Other studies found that in the United States, international firms tend to have lower firm value (i.e. the worth of a firm in the market) than domestic firms. Yet the reverse is true in Japan. In Europe, international firms tend to have better operating performance but lower firm value than domestic firms.
One simple interpretation of these findings is that international strategy may help a firm increase its foreign market revenue and enhance its operating performance, but could potentially reduce the firm’s market value in the short-run (due to perceived issues of corporate governance).
The second question is directed at international firms: what is the optimal level of corporate internationalisation? Do firms with higher degrees of corporate internationalisation perform better than those with lower degrees of corporate internationalisation?
Prior studies had documented both positive and negative effects of corporate internationalisation on firm performance. I found that for firms in Europe, an increase in corporate internationalisation is not associated with lower firm value.
However, increases in corporate internationalisation reduced operating performance in both samples of publicly listed non-financial firms in Europe and in Asia.
Yet, this negative effect was not found at higher degrees of corporate internationalisation, suggesting that firms must build up their international base to a point where the benefits outweigh the costs if they want to benefit from internationalisation.
In my opinion, these mixed findings point to one thing: what matters is not so much whether firms venture abroad, but how they do it.
The liability of foreignness, or the cost of operating outside the home country, is recognised as the main reason many international investments fail. Generally, an international strategy is formulated in such a way to address two conflicting demands: local responsiveness and global integration.
Local responsiveness refers to the customisation of products and/or services to meet the specific needs or preferences of local markets in foreign countries. Global integration refers to how business activities across foreign operations are coordinated.
Prioritising global integration will improve firm efficiency, but at the expense of local responsiveness. However, if there is no difference in taste and preference across markets, then local responsiveness would not be of great concern.
In conclusion, whether firms perform well or poorly as a result of corporate internationalisation depends on their international strategy and execution. A successful strategy involves achieving an optimal trade-off between local responsiveness and global integration and coping with organisational complexity effectively.
Professor Chaiporn Vithessonthi
Sunway University Business School
This article appeared in Spotlight on Research (Volume 4).