Exam in International Management,
Question 1 (33 %)
Raff, Ryan and Stähler (2012) find in their paper that the more productive a firm is, the more likely it is to choose foreign direct investment (FDI) rather than to export and greenfield investment won over merger and acquisition (M&A). They also state that recent studies indicate that firms whose productivity surpass a certain threshold have a tendency to become exporters and the most productive firms within an industry engage in FDI. The authors argue that one of the reasons of high productive firms choosing FDI is due to the fact that only the most productive firms are capable of affording the fixed costs associated with FDI and in addition, FDI is the more beneficial alternative when the foreign market is an attractive enough location relative to production at home because of a large market, low wages and high transport costs. A firm can also choose between M&A and greenfield investment and if it chooses the first one, it has the opportunity to combine its own productive assets (such as technological know-how) with those of the acquired firm, but this is obviously less tempting to a firm that already is very productive on its own. Therefore, Raff et. al (2012) suggest that less productive firms will favor the choice of a M&A. They continue to explain that due to the merger paradox (the increased price associated with an horizontal merger allows competitors to enhance their output and as a result of this, the merged firm's response is to cut its own output and thus the rivals reap its market share) the highly productive firms are less probable to select M&A. A firms' productivity and sunk cost for the global activities highly influences the selection mechanics of a firms' global activities (Greenaway & Kneller, 2007). A cost like this one including the ones involved in the process of potential investors' need to investigate the investment climate in countries/markets that they consider to invest in, is causing the discouragement of less productive firms from making their activities and operations global and commence trading. Hayakawa, Machikita and Kimura (2012) draw upon the Melitz model which is a benchmark work on the selection mechanics in firm's exporting which has been applied in the context of firms' outward investing by Helpman et. al. (2004). This benchmark work has theoretically shown that exporting firms have relatively high productivity since they can achieve non-negative gross profit even if they incur costs for export, and as a result, get hold of high operating profit. The authors state that a lot of studies by e.g. Greenaway and Keller (2007) and Wagner (2007), find that the more productive producers self-select into the export market. With regards to outward investing, Helpman et. al. (2004) theoretically showed in their paper that investing firms also have a relatively high degree of productivity. This finding is also supported by Greenaway and Kneller's survey paper (2007) which demonstrate that abroad-investing firms have a higher productivity than non-investors. Raff et. Al. (2012) find in their survey paper that firms with greater total factor productivity are systematically more likely to prefer FDI to exporting and greenfield investment to M&A. According to them and the empirical literature they refer to, only comprehensively productive firms posses the necessary assets to afford the fixed costs related to exporting and even the possibly higher fixed costs associated with FDI. As an outcome of this, a firm's ownership of its productive assets downright affects the choice between FDI and exporting. A significant finding and conclusion from their paper is that, controlling for industry- and country-specific factors, when a firm's total factor productivity is higher it is more likely to choose FDI rather than exporting and greenfield...
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