Companies investing abroad must weigh geographic, cultural distances

Credit: University
Credit: University

A key decision companies face when expanding overseas is where to set up shop. Although businesses generally refrain from expanding to geographically and culturally distant countries, the importance of such considerations varies based on a company’s size and adaptability.

New research focused on Chinese companies conducted by Rice strategic management expert Yan "Anthea” Zhang and colleagues shows foreign countries that seem to be good fits in terms of geographic distance may be cultural misfits, and vice versa.

Larger, older and state-owned companies are better positioned to absorb additional operating costs such as travel and transportation, but they’re less adaptable to foreign countries’ local environments than smaller, younger and non-state-owned companies. The researchers found the former are less deterred by geographic distance than the latter.

"We propose that size, age and ownership play paradoxical roles in how firms evaluate locations in their foreign direct investments location choices,” wrote Zhang and co-authors Yu Li of the University of International Business and Economics in Beijing and Wei Shi of the University of Miami’s Herbert Business School. "We test these arguments in the context of Chinese firms’ international expansion. Chinese firms, supported by a large home market, have recently become an important source of foreign direct investments.”

The study will be published in the Strategic Management Journal.

Using a large sample of Chinese companies’ foreign direct investment location choices between 2001 and 2013, the researchers found strong support for their theoretical arguments.

Far away locations may be less of an issue for larger, older and state-owned companies, but high organizational inertia can make them less adaptable to "culturally distant” hosts, the researchers said. Accordingly, cultural distance would be less concerning for smaller, younger and non-state-owned companies making foreign direct investment location decisions.

"Our study shows that firm size, firm age and state ownership can affect foreign direct investment location choices because these firm attributes are associated with distinct capabilities to cope with geographic and cultural distances,” the authors wrote.

"In addition, our findings have important practical implications for managers of firms that are new to international expansion yet aspire to go global,” they wrote. "Our findings can improve their understanding of how geographic distance and cultural distance may differentially affect their foreign direct investment location choices, so that they can better assess their firms’ relative advantages and disadvantages in dealing with various challenges in international expansion.”

Zhang is professor and the Fayez Sarofim Vanguard Chair of Strategic Management at Rice’s Jones Graduate School of Business.