Internationalization from a small domestic base: an empirical analysis of foreign direct investments of Icelandic firms.
| Verfasser | Oladottir, Asta Dis |
| Posten | RESEARCH ARTICLE |
Abstract and Key Results:
* Iceland is like a black hole in the study of FDI from the Nordic countries; there is a gap in the literature about FDI from Iceland. This paper is the first empirical study that addresses the outward foreign direct investment of Icelandic firms. The purpose is to demonstrate how Icelandic companies have invested abroad through foreign direct investments.
* The overall objective of this paper is to describe the key characteristics of Icelandic multinational corporations (MNCs) and to gain a deeper understanding of the internationalization processes of firms with a small domestic base.
* Many Icelandic companies have been investing heavily abroad over the last six years. Some have acquired companies that are relatively larger than themselves, at least in terms of the number of employees. The main motive for this increase in foreign direct investments is access to a new market. The Icelandic market is simply not large enough for companies to be categorized as medium or large companies in the global environment. What also supports this is that, as mentioned above, the outflow of FDI from Iceland was very low in the last century.
Keywords: Internationalization Process- Stage Models * Born Globals * FDI * Small Economies * Iceland
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If a metaphor were used to describe the process of the internationalization of Icelandic firms, it would be appropriate to liken Icelandic FDI to the volcanic activity for which the island nation is famous. Much like the run-up to a volcanic eruption, the Icelandic business environment bubbled in pre-investment seismic activity from around 1946 to 1999. Businesses knew of this seismic activity but it was not until 2000, when the Icelandic investment volcano exploded, that the outside world knew of the activities. One can assert that the volcanic activity changed the business environment in Iceland for good; its lava has cooled to form a new landscape which will shape the economy for years to come.
Introduction and Background
The internationalization process has traditionally been understood as an incremental and gradual process. More recent international business (IB) research has shown, however, that the internationalization of firms is often a swift process--one in which firms skip several entry modes and enter remote markets soon after their establishment. This paper aims to discuss the internationalization of firms from a small domestic base, with special emphasis on the experience of the internationalization of Icelandic firms, an almost unknown phenomenon until the late 1990s. The internationalization of Icelandic firms is an interesting subject to study because Iceland is one of the smallest economies in the world. Despite its relatively small GDP--in fact, Iceland has the smallest economy of the OECD nations--Iceland has made proportionately significant foreign direct investments since 2000. Iceland invests almost 60 percent of its GDP in foreign direct investments (FDI), a higher proportion than any other OECD nation (OECD, 2006). According to the Central Bank of Iceland (2006), the flow of foreign direct investment between 1998 and 2005 increased from 55.2 million euros to 4,669.2 million euros. This is nearly an 85-fold increase in just seven years and a remarkable annual outward FDI flow in 2005: Over 43 percent of GDP, accounting for 6,783.7 million euros. (1) The increasing advance of Icelandic firms into foreign markets is attributable to several factors. It is safe to say that the economy has undergone more changes in past decades than ever before in the country's history. In addition to internal structural changes and financial liberalization, a favourable global and domestic business environment has led Icelandic companies toward a broadminded global perspective rather than a myopic, inward-looking one. In 2005, approximately 75 percent of the revenue of companies listed on the Iceland Stock Exchange was generated abroad. This development has left many quite puzzled outside Iceland, especially since it was not until quite recently that any outsiders took an active interest in the affairs of this tiny economy, which had based its growth mainly on its export of fish and fish products.
This paper is the first systematic empirical study on the outflow of FDI by Icelandic multinational corporations (MNCs). To shed light on the scope and the pattern of the internationalization of Icelandic firms, an empirical study of 21 Icelandic firms is presented. Those firms represent more than 89 percent of the total Icelandic outward FDI. In order to understand the internationalization pattern of Icelandic MNCs, it is appropriate to ask the following two research questions (RQ). RQ1: What is the degree of internationalization of Icelandic MNCs? RQ2: Which model of internationalization explains the internationalization process of Icelandic firms? The rest of the paper is organized as follows: In section 2, the theoretical framework is analyzed based on the theories of internationalization, including the literature on internationalization that takes place incrementally, also known as the stages models and the opposing theories of international new ventures, known as the theories of the "born global". Section 3 describes the research focus and approach. In section 4, the empirical findings follow, and in the last section we conclude and raise issues for further discussion.
Theoretical Framework
There are two traditional approaches to internationalization: the innovation model (Cavusgil 1980) and the Uppsala model (Johanson/Vahlne 1977, Johanson/Wiedersheim-Paul 1975). Both models are referred to as "stages models" because they propose that the internationalization occurs in incremental steps. Earlier studies concerning the internationalization from a Nordic perspective are mainly based on the stage models or the Uppsala internationalization model. According to the Uppsala model, firm internationalization has long been regarded as an incremental process, wherein firms gradually internationalize through a series of evolutionary stages. They enter "psychically close markets" and increase their commitment to international markets step by step. The learning and commitment stages that a firm gradually progresses through as it internationalizes are as follows: no regular export; export through agents; grounding of an overseas sales subsidiary or overseas production (Johanson/Wiedersheim-Paul 1975). In this traditional view, firms make their export debut when they have a strong domestic market base. The choice of market also occurs in stages: firms begin to export to a market that has a close psychic distance. Then they expand the export sales into markets that have increasingly greater psychic distances.
The concept of psychic distance relates to differences from the home country in terms of language, culture, political systems, information flow, business practice, industrial development and educational systems (Johanson/Vahlne 1977, 1990). The firm chooses an incremental approach to internationalization because it lacks experiential knowledge and because the decision to internationalize is risky. Johanson and Vahlne's (1977) central argument is that, as the firm gains more knowledge about a market, it will commit more resources to that market. Newly established firms tend to start their internationalization on nearby markets, and with increasing commitment and better understanding of markets abroad, firms enter into markets that are increasingly dissimilar to their home market. It has been argued that if firms have surplus resources, they can be expected to take larger steps toward internationalization (Johanson/Vahlne 1990).
Once market conditions are stable and homogeneous, important market knowledge can be acquired by the firms in other ways than through their own experience. A firm may have considerable experience from markets that have similar characteristics and in a situation like this it may be possible to generalize this experience to the specific market (Johanson/Vahlne 1990). Another important aspect is the claim by several authors (Porter 1980, Levitt 1983) that the world generally has moved towards homogenization. Levitt (1983) claims that technology especially is the contributing factor to a more homogenous business world since development within the field of information technology has "made" the distances between countries smaller, and thus the communication flows faster.
An underlying assumption of stage models, including the Uppsala model, is that firms are well established in the domestic market before venturing abroad. Criticisms that such conceptualizations wrongly assume step-wise progression and forward motion, pay insufficient attention to industry, company or people contexts and are generally too deterministic emanated as long ago as the late 1970s (Cannon/Willis 1981, Rosson 1984). Buckley, Newbould, and Thurwell (1979) argued that firms do not neccessarily adopt consistent organizational approaches to internationalization. Turnbull (1987) also found little empirical support for incremental internationalization as firms often omitted stages in the process. Firms may choose different entry modes and internationalization patterns in different countries. Entry modes and internationalization processes also tend to differ by industry. Despite criticism of the Uppsala model, there is empirical evidence that many firms have internationalized in incremental stages and that others continue to do so. Several streams of research in the 1990s have served to challenge seriously stage process models. Although challenged, the importance of the stage model is that it makes clear the importance of cautious and incremental steps in the internationalization process. The model is valid for any firm size and it analyzes the whole internationalization process. The model's limitations, however, are that it overemphasizes the role of...
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