Strategic Variables That Influence Entry Mode Choice in Service Firms

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firms' entry mode choices. On the basis of 174 entry decisions of service firms, this study's results support the necessity of including additional strategic variables ...

Strategic Variables That Influence Entry Mode Choice in Service Firms

This work investigates how a firm’s international strategy affects choice of entry mode in the service sector. The inherent complexity associated with studying a heterogeneous sector such as services requires researchers to investigate variables that go beyond those drawn from traditional empirical work on the manufacturing sector. The adoption of a broader theoretical perspective and the introduction of these new variables may well provide further evidence of the determinants of service firms’ entry mode choices. On the basis of 174 entry decisions of service firms, this study’s results support the necessity of including additional strategic variables that specifically address this complex phenomenon, a decision that is not always associated just with efficiency and value-based considerations but with strategic issues as well. In addition, some variables that are routinely used in studies of the manufacturing sector were not significant or exhibited different results in different groups of service activities. Despite the importance of the service sector in world markets and the growth of foreign investments in this area during the last decade, the research on services in an international context is still limited compared with research on the manufacturing sector (Clark, Rajaratnam, and Smith 1996; Grönroos 1999; Patterson and Cicic 1995; Samiee 1999). A critical issue in international market entry strategy is the selection of an appropriate entry mode. Although some important studies have analyzed entry mode choice in the service context (see, e.g., Agarwal and Ramaswami 1992; Bouquet, Hébert, and Delios 2004; Erramilli and Rao 1993; Li and Guisinger 1992), they analyze specific service sectors and thus fail to address the heterogeneity problem of the service sector as a whole. The existing literature has not reached an agreement on which theoretical framework should be used to explain a firm’s foreign market entry mode. Hill, Hwang, and Kim (1990) emphasize the need for a unifying theoretical framework within which different factors can be analyzed. We propose an integrative theoretical approach in which not only traditional variables from transaction cost analysis (TCA) and organizational capability perspective (OCP) are analyzed but also strategic variables that have yet to be considered in

ABSTRACT

Esther SanchezPeinado, Jose Pla-Barber, and Louis Hébert

Submitted July 2005 Accepted July 2006 Journal of International Marketing © 2007, American Marketing Association Vol. 15, No. 1, 2007, pp. 67–91 ISSN 1069-031X (print) 1547-7215 (electronic)

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conventional studies. In the current dynamic and competitive environment, entry mode choice is a decision based not only on efficiency (transaction cost minimization) and valuebased (development of capabilities) considerations but also on other aspects, such as strategic motives of internationalization or the firm’s competitive position in the global environment (Aulakh and Kotabe 1997; Harzing 2002; Hill, Hwang, and Kim 1990). In addition, the high costs of integration that economic theories stipulate may not be strictly true for many service firms. For example, professional services are characterized by low capital intensity (Erramilli and Rao 1993). For many service firms, the switching costs may be comparatively small because valuable assets rest more on human capital than on physical assets; thus, investment patterns observed in the manufacturing sector could be different in the service sector (Carman and Langeard 1980). The purpose of this study is to complement prior studies by introducing new considerations in the entry mode analysis that contribute to a better understanding of the internationalization processes within the service sector. In addition, in this article, we analyze the antecedent factors to manufacturing firms’ entry mode choice in the service sector context. We aim to provide evidence about which of the underlying principles observed in the manufacturing sector are directly applicable to the service sector and which may be modified to the specific characteristics of services. To achieve these objectives, we structure the article as follows: We provide a short overview of the conventional theories that explain entry mode choice and introduce the need to consider new influences on the internationalization process of service firms. Next, we present this study’s specific hypotheses, which we developed on the basis of our theoretical framework. Subsequently, we provide detailed information about our research design and methodology. Finally, we present the empirical results of the study and discuss the most relevant implications for further research.

BACKGROUND Traditional Frameworks for Analyzing Entry Mode Choice

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Several studies have attempted to identify firm-level and country-level determinants of foreign market entry decisions (Hill, Hwang, and Kim 1990). Frequently, TCA is used to explain how companies enter foreign markets (Davis, Desai, and Francis 2000). Various entry modes are available to firms, from full-control modes, such as greenfield or acquired wholly owned subsidiaries, to shared-control modes, such as partial acquisitions and joint ventures. Within a TCA framework, firms that possess a rent-yielding specific advantage are motivated to enter foreign markets to exploit this benefit most efficiently. Full-control modes increase the degree of control that a firm can exercise over its foreign subsidiaries and reduce its exposure to opportunism

Esther Sanchez-Peinado, Jose Pla-Barber, and Louis Hébert

and expropriation risks (Anderson and Gatignon 1986; Hennart 1991). Shared-control modes enable foreign firms to access locally based complementary assets and to reduce the uncertainty they face, particularly when they enter culturally distant and high-country-risk markets (Inkpen and Beamish 1997). In recent years, the OCP has also received attention. This perspective broadens the focus from minimizing transaction costs to incorporating the management of value that is inherent in a firm’s capability and knowledge base (Kogut and Zander 1993). The key issue in entry mode choice is the compatibility between the firm’s existing capabilities and those it needs to be successful in a particular market (Johanson and Vahlne 1977). As Madhok (1997) proposes, an operation seeking the development of capabilities to create future value will result in a greater proclivity toward collaborative ventures. Firm-specific capabilities, such as firm size, international experience, and tacit know-how, may also play a role. Larger and more experienced firms typically favor fullcontrol modes. Furthermore, the tacitness of know-how that is involved in the market entry may limit its transferability to another firm without loss of value (Kogut and Zander 1993). These circumstances increase the efficiency of resource utilization and the effectiveness of its in-house transfer (Madhok 1997). Although empirical research has shown that TCA- and OCPrelated variables affect entry mode choice, there is evidence that other factors may also play a role. The strategic motivations and competitive pressures underlying market entry and the particular nature of services may be relevant for the entry decision. Firms tend to use higher control modes to coordinate more effectively strategies in a multinational network (Hill, Hwang, and Kim 1990), to extend market power by entering new markets, and to exploit market knowledge when following domestic clients or competitors to foreign countries (Li and Guisinger 1992). Strategic motivations, such as setting up a strategic outpost for future expansion, setting up a global sourcing site, and achieving economies of scale by concentrating the important activities in a limited number of locations, may also lead firms to rely on fullcontrol entry modes (Harzing 2002). Consistent with the work of Dunning (1993), we argue that the introduction of strategic dimensions into the analysis of entry mode choice is essential in a world characterized by increasing globalization and the proliferation of cross-border collaborative alliances. Firms are increasingly competing in global rather than national markets. With growing global competitive interdependence, the actions taken in one market often have repercussions in other national markets (Kim and Hwang 1992). Such strategic and competitive factors may gain even

Strategic Variables That Influence Entry Mode Choice

New Considerations for Service Firms

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more importance with the increasing globalization of services and with the different internationalization patterns observed in various service industries (Bouquet, Hébert, and Delios 2004). We believe that an attempt to provide further understanding of the entry mode decisions in service industries needs to account for the influence of these strategic factors. These variables should be integrated with others that are drawn from conventional theories to build a research model that reflects current competitive conditions. Moreover, because manufacturing and service firms face a multiplicity of pressures, these variables may also provide insight for managers into how to handle interfirm relationships. Furthermore, researchers have claimed that entry mode options for manufactured goods cannot be transferred to services because of service firms’ idiosyncrasies (Erramilli 1990). First, services are largely intangible and cannot be touched, transported, or stored. Second, services tend to be inseparable, so production usually cannot be separated from consumption. Third, services are perishable and thus must usually be consumed at the time of production. Finally, services are heterogeneous, so each service encounter is unique and highly customized (Zeithaml, Parasuraman, and Berry 1985). However, it is important not only to ask the key question of whether manufacturing and service sectors differ but also to emphasize the differences within the service sector. To cope with service sector heterogeneity, a distinction among services is necessary to understand different patterns among different service firms. The traditional separation between services and products may be too simplistic because economic activity ranges from pure goods to pure services; most goods embody some intermediate services, and most services embody some intermediate goods. Even pure services require people to supply them. Therefore, highly tangible goods could be placed at one end of the continuum, and highly intangible services could be placed at the opposite end of the continuum; the goods–service bundle is located somewhere in between these two extremes. As a result, classifying services can become a perilous task. Still, several classifications of services have been proposed. For example, Boddewyn, Halbrich, and Perry (1986) distinguish services according to the degree to which they are internationally tradable. Vandermerwe and Chadwick (1989) develop a matrix of services based on the relative involvement of goods and the degree of consumer–producer interaction. Erramilli (1990) divides internationally traded services into two groups: hard services and soft services. In hard services, consumption can be separated from production and thus can be exported. Services for which production and

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consumption occur simultaneously are labeled soft services because they cannot be exported and require a major local presence. In this article, we focus on two groups of services according to their level of capital and knowledge intensity, as Contractor, Kundu, and Hsu (2003), Hertog (2000), and Windrum and Tomlinson (1999), among others, propose. The level of capital intensity represents a magnitude relative to the volume of investment in fixed assets that are necessary to begin production and carry out operations in a given industry (Erramilli and Rao 1993). The presence of these services abroad demands sizable investments in installations and equipment that may result in internationalization patterns similar to those of manufacturing firms. For knowledge-intensive firms, direct foreign investment does not imply a large investment of resources in the host country, because it does not require sizable investments in plants, machinery, buildings, and other physical assets; a firm’s presence may be a single office (Erramilli and D’Souza 1995). As such, traditional variables could be less important for these firms, and thus their entry mode choices may be influenced more by strategic reasons than by traditional variables (especially those derived from an economic perspective). In this article, we explore how differences between services and manufacturing and within the actual service sectors may influence entry mode decisions. In the following section, we develop specific hypotheses that examine (1) TCA- and OCPrelated variables and (2) the aforementioned strategic variables. We empirically investigate the relationships for capital- and knowledge-intensive services. Cultural Distance and Host-Country Risk. When entering new markets, foreign investors must cope with the unpredictability of an investment in a politically, economically, and culturally different environment. To mitigate this uncertainty within a TCA framework, firms have been advised to retain flexibility and avoid high levels of ownership (Williamson 1975). Firms should reduce their ownership levels, seek locally based assets, and solicit the participation of local partners (Anderson and Gatignon 1986; Hennart 1991; Hill, Hwang, and Kim 1990). One major source of uncertainty is cultural distance. Perceptions of significant cultural distance between the country of origin and the target country in terms of culture, economic systems, and business practices have been found to support the use of modes that involve smaller resource commitment (Johanson and Vahlne 1977). Setting up in an environment with a culture that is different and unfamiliar to the investor increases the diffi-

Strategic Variables That Influence Entry Mode Choice

HYPOTHESES DEVELOPMENT The Impact of TCA and OCP Factors

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culty of arriving at a judgment about how staff should behave, how to quantify the necessary inputs, and what results to expect. The cost of acquiring information about the new environment increases integration costs considerably. Consequently, cultural distance should lead firms to adopt shared-control modes or collaboration with local companies for market entry rather than full-control modes. Thus: H1: The greater the cultural distance between the country of origin and the target country, the lesser is the likelihood that the firm will choose a full-control mode. Another factor of uncertainty is host-country risk. Hostcountry risk reflects uncertainty about the continuation of current economic and political conditions and government policies that are deemed to be critical to the survival and profitability of a firm’s operations in that country (Agarwal and Ramaswami 1992). A highly volatile environment will result in firms that want to minimize exposure to risk through entry methods that offer the necessary flexibility in the face of environmental variability (Erramilli and D’Souza 1995; Kim and Hwang 1992). By reducing resource commitment in risky environments, firms minimize their financial exposure in cases in which they can be adversely affected or forced to cease their activity by unforeseen events (Hill, Hwang, and Kim 1990). Therefore, in countries with unstable political and economical conditions, firms should avoid full-control modes and seek shared-control modes. H2: The greater the host-country risk, the lesser is the likelihood that the firm will choose a full-control mode. Marketing Intensity. Under TCA assumptions, the risk of undesired dissemination of a firm’s specific advantage or proprietary asset is an important transaction cost. These expropriation hazards can limit the potential rent an investor may obtain for the exploitation of its specific assets in a foreign investment (Lu and Hebert 2005). Brand name, reputation, marketing skills, and the firm’s strength in sales are key specific assets for international firms. These assets are especially vulnerable to problems related to divulging information to or the misuse of information by third parties. Brand development and sales strength are established over many years and are rooted in a firm’s culture, systems, and routines. The less control the firm exercises, the more exposed it will be to its partner’s possible hostile or opportunistic actions. Given that the process of creation and maintenance of product differentiation requires time, the undesired dissemination of commercial capabilities to third parties could become the subject of possible misuse and could damage a

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firm’s reputation and prestige. In such conditions, we expect that firms will prefer full-control modes to shared-control ones. H3: The greater the marketing intensity, the greater is the likelihood that the firm will choose a full-control mode. Tacit Know-How. Within an OCP framework, the nature of the know-how being transferred, which is often tacit in nature, is a major determinant of foreign entry decisions. It may be embodied not only in technological blueprints but also in the human capital of the firm and in informal operating procedures or routines. When the know-how necessary to sell or manufacture new products is tacit, it is more likely to be transferred within the firm than in the market because firms are more efficient mechanisms for know-how transfer (Hill, Hwang, and Kim 1990; Kogut and Zander 1992). The difficulties and costs involved in transferring tacit knowhow provide incentives for firms to use high-control modes of foreign entry to facilitate the intraorganizational transfer of tacit know-how by relying on human capital, drawing on organizational memory, and using existing organizational routines to structure the transfer problem (Hill, Hwang, and Kim 1990). Therefore, in the presence of tacit know-how, firms should rely on full-control modes rather than on shared-control ones. H4: The greater the tacitness of know-how, the greater is the likelihood that the firm will choose a fullcontrol mode. Size. The establishment of wholly owned subsidiaries abroad entails significantly higher resource commitments and carries greater risk than other options. Consequently, larger firms have a greater ability to expend resources and absorb risks than small and medium-sized ones and thus are more likely to select high-control and resource commitment modes (Agarwal and Ramaswami 1992). Firms can obtain the necessary resources for investments internally through their own cash flow or externally from financial markets. International activities are time consuming and demanding of managers, and small firms are not always able to sustain the high information costs that are required. Thus, consistent with OCP logic, limits on the availability of financial, managerial, and political resources implies the need for small and medium-sized firms to engage in entry modes on the basis of risk and commitment minimization. Therefore, we expect the following relationship: H5: The greater the firm size, the greater is the likelihood that the firm will choose a full-control mode.

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International Experience. A positive relationship between international experience and the use of full-control entry modes is well documented in the literature (Chang and Rosenzweig 2001; Madhok 1998). International strategies consist of entering into complex environments in which firms must overcome market-specific factors, among others. According to OCP assumptions, the lack of knowledge about host-country conditions could be considered an important obstacle in the development of international activities (Johanson and Vahlne 1977). The novice investor may make inappropriate decisions about matters such as the location, adaptation of services to local requirements, management of the workforce, and customers or banking relationships. Consequently, firms initially begin the international expansion through low resource commitments. As they increase their international involvement, they acquire knowledge of foreign markets and become more confident about taking part in high-control and resource commitment modes. Therefore, we propose the following relationship: H6: The greater the international experience, the greater is the likelihood that the firm will choose a fullcontrol mode.

The Impact of Strategic Factors

Type of International Strategy. Regarding the pursuit of international opportunities, we can distinguish between two broad types of strategies: a global strategy and a multidomestic strategy. In a global strategy, firms typically attempt to take advantage of the homogeneity of tastes and preferences of customers across countries through a standardized product or service offering. Interconnections among markets also enable these firms to seek substantial integration and economies of scale on a global level. In general, these characteristics reflect a firm’s ethnocentric orientation (Pelmutter 1969), which implies (1) the development of international operations in the same way as in the market of origin, (2) the transmission of information and knowledge from the parent company to affiliated companies, and (3) the maintenance of a national identity by having people from the country of origin fill management posts in international operations. Thus, service firms that employ a global strategy prefer full-control entry modes to achieve a high level of coordination, synergy, and asset transfer among units. In turn, firms that adopt a multidomestic international strategy compete mainly at the local level, adapting products and business policies to local markets. Local subsidiaries typically enjoy considerable autonomy with their own commercial and production infrastructures. Such firms are comfortable with shared-control modes, such as joint ventures, which allow greater flexibility (Hill, Hwang, and Kim 1990; Tallman and Shenkar 1994). Their organization is often poly-

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centric (Pelmutter 1969). Because international operations are viewed as a group of independent companies, control and evaluation methods are determined at a local level, and communications between the parent company and the subsidiaries are limited. In conclusion, service firms with a multidomestic strategy are more likely to rely on shared-control modes than firms with a global strategy. Therefore, we propose the following hypothesis: H7: The greater the global nature of a strategy, the greater is the likelihood that the firm will choose a fullcontrol mode. Trend-Following Motives Versus Market-Seeking Motives of Entry. To explain the internationalization of the firm, some authors distinguish between defensive motives, which are based on the protection of current markets, and offensive motives, which are based on the exploitation of new markets (Dunning 1995). Among defensive motives, trend-following motives are commonly cited in the literature as involving “following the national client” and “following the competitors or leaders” (Dunning 1995; Li and Guisinger 1992). Many service firms follow internationalizing manufacturing companies abroad to offer their services to these companies in overseas markets. Client followers can be expected to select high-control modes to protect their competitive advantage based on the knowledge of specific customer needs. Banking, insurance, consulting, legal services, accounting, and other professional service industries are examples of this type of internationalization motive (Bouquet, Hébert, and Delios 2004). In oligopolistic markets, internationalization may also take a defensive dimension. Firms may react to overseas expansion of competing service firms to achieve a global market power position and head off potential competitors proactively. Wholly owned subsidiaries enable firms to respond to competitors’ actions more quickly than collaborative modes, so service firms are more likely to select a full-control mode (Erramilli and Rao 1990; Li and Guisinger 1992). Market-seeking motives are offensive in nature and are related to servicing new foreign clients, seeking countries with a growing market potential, or locating in specific geographical areas. Under such circumstances, pioneering service firms lack the knowledge of the local market and its needs. Thus, it is necessary to balance the risks and benefits of being the “first mover.” These firms are more likely to seek collaborative agreements to access external resources and local customers, in addition to overcoming their liability of foreignness (Dunning 1993; Erramilli and Rao 1990). In summary, we expect that a firm’s motivations underlying its market entry will influence entry mode selection as follows:

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H8a: The greater the trend-following motives of market entry, the greater is the likelihood that a firm will choose a full-control mode. H8b: The greater the market-seeking motives of market entry, the lesser is the likelihood that a firm will choose a full-control mode. Exploitation Versus Exploration Motives of Entry. Researchers have suggested a necessary dynamic balance between the exploitation of existing capabilities (or asset exploitation) and the development of new capabilities (or asset seeking) for the continued success of the firm (Chang 1995; Makino, Lau, and Yeh 2002; March 1991). Traditionally, foreign investment has been associated with the exploitation of existing assets because it could involve the transfer of a firm’s proprietary assets across borders. However, from the asset-seeking perspective, firms also engage in international markets to acquire strategic assets, such as technology, marketing, and management expertise, that may be available in host markets. Asset-seeking motivations include experimentation with new options that can enable firms to enhance competitive advantages through complementary assets (Vermeulen and Barkema 2001). Some resources, such as capital and labor resources, can easily be obtained through markets. However, other resources, such as host-market knowledge, local contacts, and technology, would be costly to obtain through replication or acquisition. Thus, firms are more likely to collaborate with local firms through alliances to obtain them (Hennart 1991). In short, exploration motives for entry may result in firms using shared-control modes to a greater extent than full-control modes. In contrast, asset exploitation motivations involve transferring existing capabilities to foreign markets. To protect these capabilities and to ensure their proper transfer, firms are likely to prefer the use of full-control modes to shared-control ones. H9a: The greater the asset exploitation entry motive, the greater is the likelihood that the firm will choose a full-control mode. H9b: The greater the asset-seeking entry motive, the lesser is the likelihood that the firm will choose a full-control mode. Types of Services. Services can be classified according to their level of capital and knowledge intensity (Contractor, Kundu, and Hsu 2003; Hertog 2000; Windrum and Tomlinson 1999). Capital intensity is related to the level of investment in fixed assets that is necessary to begin production and carry out operations in a given industry (Erramilli and

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Rao 1993). In turn, in knowledge-intensive services, knowledge has more importance than other inputs, and thus human capital dominates instead of physical or financial capital, as is the case in capital-intensive services. The key resource in knowledge-intensive firms is often referred to as human capital or intellectual property (knowledge, information, and experience), which can be put to use to create wealth. We expect that this difference among services affects the type of variables that explain entry mode selection. For example, in capital-intensive services, TCA- and OCPrelated variables are likely to play a greater role in explaining entry mode decision than in knowledge-intensive services. In turn, strategic variables may be of greater importance in knowledge-intensive services. Capital-intensive services, such as energy, telecommunications, electricity, and hotels, require sizable investments in installations and equipment. Consequently, they are expected to show internationalization patterns similar to those of manufacturing firms. In addition to their costs, the investments required for the provision of these services in foreign countries may create significant exit barriers in situations in which the cessation of the activity is advisable (Anand and Delios 1997). Firms are likely to be reluctant to commit a high amount of resources to enter into countries under uncertainty conditions. Moreover, their most valuable assets are often linked to their brand and reputation in such a way that when firms expand internationally, they tend to protect these assets from being wrongfully used by third parties. They also want to avoid damages to their international image. As a result, it could be expected that TCA- and OCPrelated variables have a great impact on entry mode choice. For knowledge-intensive services, such as accounting, management consultancy, engineering and architecture, marketing and advertising, and research-and-development consultancy, foreign direct investment does not imply a large investment of physical assets in the host country. A single office may represent a firm’s presence in another country (Erramilli and D’Souza 1995). The provision of knowledgeintensive services mainly requires investments in human resources, given that such services depend on the skills, talent, and knowledge necessary to satisfy consumers’ needs and expectations (Erramilli and Rao 1993). Moreover, the intangible nature of knowledge-intensive services makes it difficult for clients to appreciate the performance of the service rendered. Consequently, personalized service and treatment are the best forms of innovating and differentiating the firm’s service. This can be achieved by gathering information about clients and adapting the service to the nature of the demand and needs. Therefore, it would be expected that knowledge-intensive service firms exhibit internationaliza-

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tion patterns different from manufacturing firms and, as we suggested previously, from capital-intensive services (Bouquet, Hébert, and Delios 2004). If these patterns are indeed different (Anand and Delios 1997; Bouquet, Hébert, and Delios 2004), factors explaining entry mode choice may also be different. In particular, strategic motivations may play a more important role in knowledge-intensive services than in capital-intensive ones. Thus: H10a: TCA- and OCP-related variables have a greater influence on entry mode choice in capitalintensive services than in knowledge-intensive services. H10b: Strategic variables have a greater influence on entry mode choice in knowledge-intensive services than in capital-intensive services.

METHODS Sample

Dun & Bradstreet (2002) compiled an international database of Spanish companies with subsidiaries outside Spain in 2002. This amounted to 660 Spanish-based multinational service companies. Several academics who specialize in international management and the service sector pretested the survey (an extensive mail questionnaire) to ensure face validity of the instrument. Moreover, to confirm the convergent and discriminant validity of the measures, a pretest was conducted through personal interviews with executives who were responsible for international operations of service firms (not included in the sample). The questionnaire was mailed to senior-level managers who were most likely to be involved in the market entry decision process in their firms, including chief executive officers and directors in charge of international operations. Two weeks later, each firm was contacted by telephone to encourage managers to participate in the study. Finally, a reminder letter was sent to nonrespondents with a copy of the questionnaire. From October 2002 to February 2003, we received 113 questionnaires, and firms provided data on 174 entry decisions that were deemed to be usable for our analyses, representing a wide variety of service industries (see Table 1). The response rate of 17% compares favorably with rates reported in other surveys that involve chief executive officers (Chang and Taylor 1999; Samiee and Walters 1991). We designed the questionnaire to gather information on the initial entry mode to two foreign countries that are important to the firm (in terms of sales volumes, strategic aims, or resource commitments) and about which the manager had sufficient information to be able to respond (the most recent entries or cases in which the manager intervened in the decision). Consequently, in the majority of cases, a single respon-

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dent per firm provided us with information on two entry decisions. Thus, the final number of observations we obtained for the study was 174 entries. We did not provide a list of markets, so respondents chose countries in which they were operating. Their perceptions about some variables and the entry modes their firms used were different in each country, and thus some questions had two columns to answer depending on the country analyzed. This practice has been used in other research on entry decisions carried out with postal questionnaires (see Agarwal and Ramaswami 1992; Erramilli and Rao 1990, 1993). Some of the main characteristics of the sample we used for this study appear in Table 2. We analyzed questionnaires using the time-trend procedure that Armstrong and Overton (1977) propose. First, we sampled nonrespondents and asked them ten questions contained in the original questionnaire. We found no significant differences between the respondent and the nonrespondent samples on these questions. Second, we used the midpoint of the data collection period (October 2002–February 2003) as the cutoff point for distinguishing between early and late respondents: 62% of the responses (70 of 113) were from early respondents, and the remaining 38% were from late respondents (43 of 113). To ensure that the early respondents and the late respondents did not sys-

Sectors

Percentage

Capital-Intensive Services Transport

17.24

Distribution

23.56

Public services

12.06

Table 1. Service Sectors

Knowledge-Intensive Services Financial services

12.06

Commercial services (standardized)

25.28

Professional services (customized)

9.80

Total

100

Firm Characteristics (N = 113)

M

Foreign salesa

1.92

.98

2

Foreign assetsa

1.27

.64

1

871.32

2,478.41

14.31

17.26

8

Number of foreign countries (investments)

3.50

4.14

2

Export experience (number of years)

9.20

14.43

Investment experience (number of years)

4.98

9.54

Number of employees Number of foreign countries (exports)

aIntervals:

SD

Mdn

Table 2. Sample Characteristics

105.00

2.50 0

Value 1 (75%).

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tematically differ, we compared these two groups of respondents on their demographic data, including foreign sales, foreign assets, number of employees, number of countries in terms of exports, number of countries in terms of subsidiaries, international experience in exports, and international experience in investments. We used independent sample t-tests to check for equality of means. Analysis indicated no significant differences in the variables of interest between late and early respondents. In addition, we compared responding firms with a random sample of 20 nonrespondents regarding size (sales volume) and experience (years since foundation). We found no significant differences (p < .05), providing no evidence for nonresponse bias. Finally, when possible, we cross-checked variables from the survey responses against company reports and published data. We found a high degree of correspondence between published data and survey responses, in support of the veracity of the survey responses.

Dependent Variable Measure

Independent Variables Measures

We tested the hypothesized relationships using logistic regression. We measured the dependent variable (i.e., entry mode) with a dichotomous variable coded as 1 for fullcontrol modes (greenfield investments and full acquisitions) and as 0 for shared-control modes (contractual agreements, partial acquisitions, and joint ventures). Entries consisted of 67 shared-control modes (38.5%) and 107 full-ownership modes (61.5%). The TCA-related variables included cultural distance, hostcountry risk, and marketing asset intensity. First, we derived country risk from the host-country-risk index published in Euromoney the year before each entry. This publication presents annual ratings of countries based on composite measures of both political and economic risks. This measure has been used in previous studies (e.g., Delios and Beamish 1999). Second, we computed cultural distance according to the composite index that Kogut and Singh (1988) use. This index measures the deviation along each of Hofstede’s (1980) four cultural dimensions (i.e., uncertainty avoidance, individuality, power distance, and masculinity–femininity) from the score of a given focal country for each country. We corrected the deviations for differences in the variances of each dimension and averaged them. We calculated cultural distance between the country of origin (Spain) and the host country (j) as follows: CDSpain/j = 1/4 Σ[(IiSpain – Iij)2/Vi], where Iij is the index value for the cultural dimension i of country j, IiSpain is the index value for the cultural dimension of Spain, Vi is the variance of the index dimension i, and

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CDSpain/j is the cultural difference of country j from Spain. Finally, we assessed marketing intensity using a three-item scale based on Kim and Hwang’s (1992) measure. The OCP variables included tacit know-how, firm size, and international experience. First, we measured firm size as the firm’s sales volume the year before entry. Second, we represented international experience as the number of years from the firm’s first investment abroad. Finally, we measured tacit know-how with a four-item scale that we derived from the work of Kim and Hwang (1992) and Madhok (1998). Strategic variables included the type of international strategy, trend-following versus market seeking-motives of the entry, and asset exploitation versus asset-seeking motives. First, we measured international strategy as a four-item scale that we derived from the work of Harzing (2002). Second, we measured strategic motives related to trend-following motives and market-seeking motives using a multiple-item scale based on the work of Weinstein (1977). Finally, for asset-seeking and asset exploitation motives, we drew from the work of Chang (1995) and Makino, Lau, and Yeh (2002). In addition, we used an alternative measure to capture such motivations. In line with the work of Lu (2002), the greater the need of a firm to access complementary resources, the higher is its propensity to decide to enter by a shared-control entry mode. Large investments, diversified entries, and entries made into resource-intensive industries motivate the use of shared-control modes as a way to gain access to required resources and to share the risk under such conditions (Delios and Beamish 1999; Lu 2002). We used the variable “previous experience with the entry mode” as a proxy of asset exploitation motivations and asset-seeking motivations. We measured this with dichotomous variables coded as 1 for prior entries made using full-control modes and as 0 for prior entries made using shared-control modes. We assume that prior experience in shared-control modes is linked to asset-seeking motivation and that prior experience in full-control modes is linked to asset exploitation motivation. To test how variables of a different nature influence the firm’s entry mode choice depending on the type of service, we divided the sample into two groups, capital-intensive services and knowledge-intensive services, according to Contractor, Kundu, and Hsu’s (2003) classification of services. We used a dummy variable coded as 1 for the capitalintensive services group (e.g., energy, telecommunications, electricity) and as 0 for the knowledge-intensive services group (e.g., consulting, engineering, financial, and architecture services).

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We centered all variables before we conducted data analysis. Table 3 contains our measurement of the independent variables. We measured multi-item scales with the same constructs used in other studies of entry modes in an inter-

Table 3. Measurement of Independent Variables

Measurement of Variables Country risk

Country risk index of the journal Euromoney, which measures the country risk for the year before the entry year (value of 1–100; 1 = “high country risk,” and 100 = “low country risk”). Delios and Beamish (1999) and Lu and Hebert (2005), among others, use this measure.

Cultural distance

Kogut and Singh’s (1988) index, based on Hofstede’s (1983) index.

Intensity of marketing

Value of (1) the firm’s reputation, (2) the international recognition of the brand, and (3) the quantity of investment in marketing (1 = “very low,” and 5 = “very high”). Cronbach’s α = .7486. We based these items on the work of Kim and Hwang (1992).

Tacit knowhow

Managers’ perception about (1) the difficulty in transferring skills and knowledge, (2) the difficulty in valuing a priori the exact price of the service, (3) the difficulty in copying skills and knowledge, and (4) the difficulty in understanding the know-how (1 = “very low,” and 5 = “very high”). Cronbach’s α = .8396. We based these items on the work of Kim and Hwang (1992) and Madhok (1998).

Size

Sales volume the year before the time of entry. Agarwal and Ramaswami (1992) use this measure.

International experience

International strategy

Number of years abroad (having subsidiaries). Fladmoe-Lindquist and Jacque (1995) and Harzing (2002) use this measure. Respondents were asked to assess the following statements (1 = “strongly disagree,” and 5 = “strongly agree”): (1) Firm desires to achieve economies of scale by concentrating the important activities in a limited number of locations. (2) Competitive position is defined in worldwide terms, and markets are closely linked and interconnected. (3) Each subsidiary competes on a domestic level as markets are too different (reverse coded). (4) Firm responds to national differences by adapting products to the local market (reverse coded). We constructed a composite index with these items (Cronbach’s α = .6959). High values indicate global strategic approaches. We derived the items from the work of Harzing (2002).

Marketseeking motives

Managers’ perceptions about the importance (1 = “very low,” and 5 = “very high”): (1) of taking advantage of a market with a large and growing potential, (2) of establishing the company name in markets that will be important in the future, and (3) of capturing new clients. Cronbach’s α = .8539. We derived the items from the work of Weinstein (1977).

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Measurement of Variables Trendfollowing motives

Managers’ perceptions about the importance of the following motives (1 = “very low,” and 5 = “very high”): (1) overcoming the rapid overseas expansion of other service firms, (2) following the clients, and (3) following the competitors. Cronbach’s α = .7537.

Table 3. Continued

We derived the items from the work of Weinstein (1977). Exploration motives

Managers’ perceptions about the firm’s orientation toward asset and capability seeking in the entry decision (1 = “very low,” and 5 = “very high”).

Exploitation motives

Managers’ perceptions about the firm’s orientation toward asset exploitation in the entry decision (1 = “very low,” and 5 = “very high”).

Previous experience in the entry mode

We measured this with dichotomous variables, coded as 1 for prior entries made by full-control modes and as 0 for prior entries made by shared-control modes. We based this item on the work of Lu (2002).

Type of service

This is a dummy variable, which we coded as 1 for capitalintensive services group (energy, telecommunications, electricity, and hotels) and as 0 for knowledge-intensive services group (consulting, engineering, financial, and architecture services). We based this item on the work of Contractor, Kundu, and Hsu (2003).

national context; thus, we used Cronbach’s alpha as an indicator of the reliability of the construct. As Table 3 shows, the coefficient alphas for all constructs exceeded or came close to Nunnally’s (1978) .7 criterion for basic research. Thus, we deemed the reliabilities of these constructs to be sufficient for our study. Before running the statistical analyses, we examined the correlation matrix. Most of the correlations among the variables were small. Furthermore, the variance inflation factor reveals that most of these were close to 1. The largest variance inflation factor value is 3.058, which is well below the cutoff of 10 (Hair et al. 1999). This evidence reduces concerns about multicollinearity problems.

RESULTS

We carried out logistic regressions to analyze the influence of the independent variables in each of the groups defined by the dependent variable (full-ownership control versus shared control). We analyzed the sign of the coefficients that were significant. A positive coefficient indicates that the independent variable increases the probability of choosing full-ownership control, whereas a negative sign suggests a preference for shared-control modes. We used one-tailed tests because they are more appropriate to assess directionality. To test differences between services, we conducted logistic regressions for the two groups of services, in accordance with Contractor, Kundu, and Hsu’s (2003) classification of

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services (i.e., capital-intensive services and knowledgeintensive services). We observe different results depending on the services group (see Table 4). The logistic regression for the capital-intensive services group shows the importance of TCA and OCP variables over strategic factors. Full-control modes are preferred to enter into stable countries (p < .01) and in situations in which marketing assets are an important competitive advantage (p < .05). However, firms prefer to share control to operate in high-cultural-distance (p < .10) and high-countryrisk (p < .01) markets. These results indicate that firms in this service group seek greater control and make greater resource commitments in countries that are both politically and economically stable. This result coincides with those found in the majority of studies carried out on manufacturing firm samples (Gatignon and Anderson 1988; Kim and Hwang 1992; Luo 2001). However, firms in this group prefer to limit the risks to which they are exposed by minimizing their resource commitment in countries that are culturally distant from the country of origin. Moreover, the group of capitalintensive service firms includes firms that belong to sectors that offer more homogeneous services, such as telecommuni-

Table 4. Logistic Regression for Groups of Services

Variables Constant Country risk Cultural distance Marketing intensity Tacit know-how Size International experience International strategy Trend-following motives

CapitalIntensive Services –13.952*** (4.691) .041**

KnowledgeIntensive Services –8.164

(19.639)

(.017)

–.011

(.035)

–1.029†

(.763)

–.281

(1.513)

.804*

(.496)

.173

(1.234)

–.269

(.487)

.171*** (1.067)

.955

(.760)

.134

(1.075)

–.050*

(.050)

.143

(.106)

.665

(.427)

3.948** (2.002)

(.562)

1.240

1.550***

(1.509)

Market-seeking motives

.584

(.424)

Exploitation motives

.523

(.536)

1.649*

Exploration motives

.308

(.407)

–.777*** (.595)

–.525

(.389)

1.240*

Experience in the entry mode

–2.273** (1.884)

Chi-square

60.674***

89.873***

–2 log-likelihood

43.178

20.992

Overall classification rate (%)

86.7

94.7

(1.355)

(.657)

*p < .05. **p < .01. ***p < .001. †p < .10 (one-tailed). Notes: Standard errors are in parentheses. Dependent variable: shared control (0) and full control (1).

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cations, energy, hotels, and airlines, among others. In these sectors, the most valuable assets are typically linked to brand, reputation, or business skills in such a way that when these firms expand internationally, they tend to protect these assets from being wrongfully used by third parties to avoid damaging their international image. This could explain the positive relationship between marketing intensity and the use of full-control methods in capital-intensive service firms. With regard to OCP variables, contrary to traditional arguments, the international experience variable presents a negative sign (p < .05). Thus, firms with international experience tend to use shared-control modes to enter new markets, probably because they are more able to negotiate with local firms than are firms in the beginning of their international expansion. Finally, we observed that only the trend-following motive is statistically significant in the capital-intensive services group (p < .001). The positive sign indicates that firms prefer full-control modes when defensive reasons motivate entry. In knowledge-intensive services, entry mode decisions are influenced to a greater extent by strategic variables than by traditional variables. Specifically, the results show that global approaches (p < .01), asset exploitation motives (p < .05), and previous experience in full-control modes (p < .05) determine the preference of full-control modes, whereas firms prefer to share control with local firms when their entry is motivated by offensive considerations (p < .01) and asset exploration (p < .001) and when they have prior experience in shared-control modes (p < .05). With regard to traditional variables, the results show a positive relationship between tacit know-how and the preference for full-control modes (p < .001). For knowledge-intensive service firms, competitive advantages lie in employees’ knowledge and firm know-how. Typically, such knowledge cannot be easily articulated, and thus it is difficult to transfer to local partners without it suffering a significant loss in value. Because this knowledge is also difficult to patent, there is a greater risk of it being wrongfully disseminated and appropriated, thus weakening the firm’s competitive advantage. In such a situation, service firms show a greater tendency to adopt fullcontrol entry modes to protect their competitive advantage. This work attempts to cast some light on how a firm’s international strategy affects choice of entry mode in the service sector. Because of the inherent complexity associated with studying a sector as heterogeneous as services, it is critical for researchers to investigate variables that go beyond those that are drawn from conventional theories and adapted to the manufacturing sectors. Introducing these new variables may

Strategic Variables That Influence Entry Mode Choice

DISCUSSION

85

well provide further evidence of the determinants of the entry decision into foreign markets in services. Our study suggests that determinants of entry mode choice that are traditionally analyzed in manufacturing firms cannot be directly transferred to all types of service firms. Some variables often used in manufacturing studies are not significant or exhibit different results, depending on the specific groups of service activities. In particular, we observed that TCA variables were key determinants of entry mode choice for capital-intensive service firms. These firms prefer to hold a flexible position in countries with high levels of political and economic instability and high cultural distance or to protect their commercial assets from undesired dissemination by entering with full-control modes. These results support the contention that capital-intensive service firms follow entry mode patterns similar to those observed by other studies in the manufacturing sector. Entry mode choice patterns in knowledge-intensive service firms are determined mainly by the protection of tacit knowhow and strategic considerations. For these service firms, exit costs are comparatively lower given that their valuable assets lie in employees’ knowledge and not in physical assets. This type of knowledge is difficult to codify and patent, and therefore it is more difficult to transfer through contractual processes. As a result, hierarchical coordination through full-ownership control modes appears to be a more efficient option. Furthermore, strategic variables significantly influence entry mode choice for the knowledgeintensive group. Firms are more likely to use full-control modes when they pursue global strategies and when they are driven by asset exploitation motives. However, sharedcontrol modes are preferable when firms enter into markets to search complementary assets and new clients. Our results provide some evidence for researchers about the importance of adopting an integrative approach to obtain a more robust perspective of a firm’s internationalization. Such an approach appears to be essential, considering the complexity and variety of competitive pressures that confront manufacturing and service firms in international business. In this article, we draw from the entry mode literature based on TCA and the OCP and incorporate new determinants derived from a more strategic approach. Collectively, these approaches provide greater explanatory power and new insights into the complex phenomenon of entry mode choice. This study also provides guidelines for management about how to match control and resource requirements not only with host-country conditions and firms’ existing capabilities

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but also with strategic objectives, firms’ international approaches, and the specific characteristics of the sector in which they operate. Specifically, managers of service firms should evaluate the characteristics of the service that will be offered in international markets and assess the international potential that they present. Therefore, industrial characteristics should be viewed as facilitators or restrictions to international commerce. In addition, managers should take into account that for many service firms, the switching costs may be comparatively small because valuable assets rest more on human capital than on physical assets (Erramilli and Rao 1993). Therefore, their entry mode decisions should be guided by considerations other than only cost minimization reasons. This study has several limitations. The empirical analysis is based on data collected from a single respondent, though several decision makers may make entry mode decisions. The use of multiple respondents could have increased the validity of the data and reduced concerns about potential response bias. To address this potential problem, we selected well-informed respondents and mailed the questionnaire to senior managers who had been involved in the entry mode decision. Caution should also be exercised in the generalization of results because this study focused on Spanish service firms. Therefore, further research could provide insight into the applicability of our results in different settings. In addition, although the effective response rate to the survey (17%) is comparable to other similar surveys, it must be acknowledged as a limitation.

LIMITATIONS AND FUTURE RESEARCH AVENUES

Consistent with other studies that focus on entry mode choice, the unit of study is an individual foreign market entry decision made by the firm. To obtain a more representative sample, it would be necessary to identify all foreign market entry decisions made by target firms. However, this approach would also entail limitations because respondents may not be in the position to remember details of all those entries. We conducted this study post hoc, so some responses are likely to be exposed to the ex post or retrospective rationalizations of managers. Case studies could add more in-depth evidence about the reliability of our measurements and the necessity to assess the impact of some other factors. In this study, we did not consider some factors that have been identified in the literature as determinants of entry mode choice. The appeal of large countries with growth potential in terms of profitability and future potential for growth may lead firms to prefer high resource commitment modes to enter into these countries. Legislative and fiscal barriers could also influence the openness of the host coun-

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try to foreign direct investments and may force firms to choose certain entry modes because of host-government regulations, an eventuality that other entry mode studies should consider. However, we believe that this variable does not significantly affect entry mode choice in our study, because many entries have been located in European and Latin American countries in which legal restrictions to foreign investment are not important barriers. Finally, determinant factors and entry mode choice should be linked to firm performance to provide insights into whether the proper alignment of entry modes with such factors actually leads to better results.

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THE AUTHORS

Dun & Bradstreet (2002), Duns 850.000 Principales Empresas Españolas. Madrid: Dun & Bradstreet España.

Esther Sanchez-Peinado is an assistant professor (e-mail: [email protected]), and Jose Pla-Barber is an associate professor (e-mail: [email protected]), Faculty of Economics, University of Valencia.

Dunning, J.H. (1993), “The Internationalization of the Production of Services: Some General and Specific Explanations,” in Coalitions and Competition: The Globalization of Professional Services, Y. Aharoni, ed. London: Routledge, 78–101.

Louis Hébert is an associate professor, HEC Montréal (e-mail: [email protected]).

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ACKNOWLEDGMENTS The authors acknowledge the financial support from the Ministry of Education and Science of Spain (Research Project No. SEC 2003/06466).

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