A comprehensive framework proposed by Dunning (1977) stipulated that the choice of a market entry mode is influenced by three types of factors: the concept of ownership-specific advantages (O) of firms is perceived to take explicit account of the costs and benefits derived from inter-firm relationships. The concept of locational advantages (L) of countries is perceived to give more weight to the factors of geographical areas, changing economic activities and influence of national and regional authorities. The concept holds that a firm can internalize (I) intermediate markets, allowing it to reduce the transaction costs of using such markets. The patterns of investment are determined by the configuration of these three sets of advantages as perceived by firms.
The OLI model has broadened understanding of the relationship between partner firms’ investments and their corporate governance in two main respects. It identifies and evaluates the significance of the factors that influence both the initial act of ownership contribution by the partner firms and their respective resource leverage on the growth of such investments. The relevance of each factor in determining the ownership advantage of firms will vary according to the initial ownership contributions to a strategic alliance. It is in the best interests of participat- ing firms that possess ownership-specific advantages to transfer them across national boundaries as this can provide them with advantages within an international strategic alliance.
The growth of ownership investment can be constrained by the attractiveness of a market as characterized by its market potential and investment risk. Buckley (1988) suggests that the assessment of inter- nalization advantage is based on the relative costs or risks of sharing the assets and skills with a host country’s firm versus integrating them within the firm. Three main kinds of market failure are identified by Dunning (1988:3) as:
(1) those that arise from risk and uncertainty; (2) those that stem from the ability of firms to exploit the economics of large-scale pro- duction, but only in an imperfect market situation; (3) those that occur where the transaction of particular products or services yield costs and benefits external to that transaction.
Dunning and Rugman (1985) make a distinction between structural and transactional market imperfections. They define structural market imperfections as those arising from some kind of government intervention that encourages or discourages a particular investment, whereas trans- actional market imperfections are identified as country-specific and embedded in location factors.
The OLI analysis perspective on partner firms’ investments and their corporate governance as applied to an international strategic alliance has received mixed support. Agarwal and Ramaswami (1992) provide broad support for the hypothesized effects of the interrelationships among ownership, localization and internalization advantages. The results of their study suggest that the long-term success of any foreign investment requires significant managerial and financial resources even in markets that do not have high risks. The contribution which OLI analysis can make lies in an understanding of how the three core theoretical factors of ownership, localization and internalization provide a link between the foreign and local partners. The partners’ ownership advantages, derived from the initial investment and the growth of ownership investment, and constrained by market attractiveness, are particularly significant contributions to the modification of the relationship between ownership and control of a strategic alliance. Location-related resources may include distribution channels, local brands, political influence, human resource management skills, or any other capabilities that are idiosyncratic to a specific locality.
When a host country, where firms may not be allowed an equal chance to access the market, controls local resources an international strategic alliance may offer an effective means for a foreign firm to expand into a new market area. The capacity within a host country for local firms to supply resources to a strategic alliance is one of the basic reasons for the existence of any form of international strategy as without contributions of local resources a strategy of this type cannot be expected to offer advantages over foreign trade or bring about significant economic change. Traditional notions of comparative advantage may help to explain why foreign firms pursue a position in a given host country. The ability of a local firm to supply the necessary complementary resources may be critical if a foreign firm is to exploit the advantages of supplying its irreversible assets.
Forming an international strategic alliance facilitates various types of resource transfers from partner firms to the strategic alliance that may affect its performance. However, if resource dependence is limited to
local partner firms only, ownership resources may represent an inefficient solution to the strategic alliance’s needs and reduce its overall performance.
Establishment of a strategic alliance’s investments including resource commitments, management systems and decision making can be expected to exert a critical impact on its strategic presence vis-à-vis competitors in the foreign market. Successful formation of an international strategic alliance in China may enable the achievement of a synergistic benefit from the investment, because such investment is perceived by the host government as a way to obtain a good return from both the participat- ing partners and associated supply network. The objective of forming a strategic alliance to dominate or share strategic control of the relevant parties may provide the opportunity to access a new supply chain in other parts of the world. Table 6.1 provides the summary on ownership advantages for strategic alliances.
Table 6.1 Ownership advantages for forming an international strategic alliance
Theories Primary theoretical perspectives Ownership determinants
for resource-based theory
(1) The resource-based view of the firm argues that determinants of a firm’s ownership resources may contain certain distinctive market characteristics.
(2) The resource-based view considers that a firm’s differential endowments of ownership are important determinants of its economic performance.
Ownership leverage for resource dependence theory
(1) Dependence on key ownership resources gives rise to control of the organizational focus by external resource providers. (2) Resource dependence analysis concentrates on resource scarcity. It illustrates a basic question as to why the resources provided by certain organizational members are more important than the resources provided by other members.
Ownership, localization and internalization
(1) The concept of ownership-specific advantages of firms is perceived to take explicit account of the costs and benefits derived from inter-firm relationships. (2) The concept of locational advantages of countries is perceived to give more weight to the following factors: geographical areas, changing economic activities and the influence of national and regional authorities. (3) The idea that firms internalize intermediate markets, primarily to reduce the transaction costs of using them.