Learning from others: the impact of vicarious experience on the psychic distance and FDI relationship.

Author:Jimenez, Alfredo
Position:RESEARCH PAPER - Foreign direct investment - Report - Abstract
 
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Abstract This study analyzes the potential moderating effect of vicarious experience on the negative influence of psychic distance stimuli on foreign direct investment. Multinational enterprises can learn from the experience of other firms and benefit from higher opportunities to identify best practices and mistakes, acquire knowledge and develop capabilities, establish interactions and collaborations with suitable partners and gain legitimacy to overcome points of resistance. We analyze a sample of 164 Spanish multinational enterprises and show that a larger number of companies from the same home country in the host country positively moderate the negative influence of a greater psychic distance in the education, industrial development, democracy and social system stimuli. However, this moderating effect does not take place in the case of the language and religion stimuli, highlighting the importance of a fine-grain individual analysis of all distance dimensions, instead of relying on a single aggregated measure. Finally, our results show that total but also same- and different-sector vicarious experience exercise this moderating effect and that, contrary to previous empirical studies, no evidence of a substitution effect is found.

Keywords Vicarious experience * Psychic distance * Foreign direct investment * Multinational enterprise

1 Introduction

The concept of vicarious experience refers to the knowledge that multinational enterprises (MNEs) obtain from the actions of other companies that share a common characteristic (Jiang et al. 2014). Although direct experience is one of the most important mechanisms by which organizations develop capabilities (Zollo and Winter 2002), decisions made by other companies may also provide relevant information for MNEs when they are formulating strategy (Argote et al. 1990; Lieberman and Asaba 2006). As Terlaak and Gong (2008) underscore, companies may also learn by observing the behavior of other companies that share similar traits. One such trait may be the same home country, since such companies will face the same or similar difficulties investing in a host country. In turn, this will make it easier for the investing MNE to draw inferences and to learn from the experiences of compatriot firms (Cohen and Levinthal 1990).

In this article, we seek to investigate the moderating role of vicarious experience on the impact of psychic distance on the location of foreign direct investments (FDIs). Psychic distance refers to the sum of those factors that prevent the flow of information to and from the market (Johanson and Vahlne 1977). This definition allows for the existence of several factors or stimuli at the macro level that will shape managerial subjective perceptions by increasing the ease of information flows and the level of familiarity (Brewer 2007). The direct impact of psychic distance on EDI is generally expected to be negative because, as Hakanson and Ambos (2010, p. 195) point out "...the more different a foreign environment is as compared to that of a firm's (or an individual's) country of origin, the more difficult it will be to collect, analyze and correctly interpret information about it, and the higher are therefore the uncertainties and difficulties--both expected and actual--of doing business there". Numerous studies have analyzed the direct relationship between psychic distance and International Business (IB)--related phenomena, such as the entry modes into foreign markets (Dow and Larimo 2009; Dow and Ferencikova 2010), FDI flows (Dow and Karunaratna 2006; Hakanson and Ambos 2010), or the location of FDI (Barkema et al. 1996; Blomkvist and Drogendijk 2013). However, there have been relatively few studies on the impacts of the potential moderating factors on these relationships (Azar and Drogendijk 2014). In particular, to date the role of vicarious experience on the effects of psychic distance on the location of FDI has generally been overlooked.

Vicarious experience has been found to have a positive impact on investment flows (Henisz and Delios 2001; Guillen 2002; Bastos and Greve 2003) due to the many advantages derived from knowledge spillovers and the process of interorganizational learning. However, to the best of our knowledge, the indirect effect of vicarious experience on FDI through its moderating impact on psychic distance has not been analyzed in the literature. Drawing on organizational learning theory (Cyert and March 1963; Levitt and March 1988; Huber 1991), MNEs can learn from the experience of other firms, thus benefiting from greater opportunities to identify best practices and mistakes, acquire knowledge and develop capabilities, establish interactions and collaborations with suitable partners, and gain legitimacy to overcome points of resistance. As a consequence, we expect that the negative impact of psychic distance will be minimized by the vicarious experience in the host country.

To fill this gap in the literature, we analyze the choices of location in the internationalization strategy of a sample of 164 Spanish MNEs. Although the internationalization of most Spanish MNEs has been a relatively recent phenomenon, within a short period time several of these companies have become major players in global markets and they now play a prominent role in various industries (Guillen 2005), thus allowing a cautious extrapolation of the results to other contexts where rapid and successful internationalization processes are taking place. Aware of the criticism of attempts to employ aggregate measures of distance, a procedure that may lead to mistaken thinking that all measures are equally significant (Shenkar 2001; Kirkman et al. 2006; Tung and Verbeke 2010), we individually analyze the six psychic distance stimuli proposed by Dow and Karunaratna (2006). This procedure allows us to obtain fine-grained results that show that vicarious experience positively moderates the negative influence of a greater psychic distance for several but not all of the stimuli. In particular, vicarious experience moderates the negative influence of psychic distance in terms of education, industrial development, democracy, and social system, but not in the case of language or religion.

We therefore contribute both to the literature on FDI location and to the literature on organizational learning by showing that MNEs can take advantage of the actions and experiences of compatriot firms, which will serve as valuable sources of information to reduce and overcome internationalization barriers. We also contribute to the literature on psychic distance by revealing which psychic distance stimuli are moderated and which psychic distance stimuli are not moderated by vicarious experience. In addition, we extend the scope of our analysis by differentiating between the vicarious experience that MNEs derive from companies operating in the same sector and the vicarious experience they derive from companies operating in a different sector. Our results show that in both cases the negative influence of psychic distance on FDI is moderated and that, contrary to previous empirical evidence on the location strategy of Japanese MNEs (Jiang et al. 2014), there is no substitution effect between them.

The remainder of this paper is structured as follows: Sect. 2 reviews the literature on vicarious experience and psychic distance and sets out our hypotheses. Section 3 details the sample, the dependent, independent, and control variables, the collinearity diagnosis, and the model. Section 4 describes the results and the robustness tests. Finally, Sect. 5 presents the main conclusions, limitations, and possible future research directions.

2 Review of the Literature and Hypotheses

The concept of psychic distance was originally introduced by Beckerman (1956) and thereafter was popularized by the Uppsala School (Johanson and Vahlne 1977, 1990; Johanson and Wiedersheim-Paul 1975), which defined the concept as "the sum of factors preventing the flow of information from and to the market. Examples are differences in language, education, business practices, culture, and industrial development" (Johanson and Vahlne 1977, p. 24). Hakanson and Ambos (2010), taking an approach that is more consistent with the semantic origins of the term, consider psychic distance to be the subjectively perceived distance to a given foreign country, reflecting the perceiver's knowledge, familiarity, and sense of understanding of the said foreign country.

Although a precise definition of the term is still controversial (see Prime et al. 2009 for a review of the various definitions), psychic distance is a multifaceted concept that embraces differences in language, education, business practices, culture, and industrial development (Johanson and Vahlne 1977). However, even though most studies exclusively analyze cultural distance, psychic distance is a much broader concept that includes other sources of distance (Dow and Karunaratna 2006; Dow and Ferencikova 2010; Hakanson and Ambos 2010). As Tung and Verbeke (2010, p. 1265) emphasize: "... cultural dimensions and measures do not fully capture psychic distance, which is really the key parameter affecting many managerial choices in an IB context". Additional factors, such as education, industrial development, and political systems, must also be considered to correctly assess the impact of psychic distance (Shenkar 2001; Evans and Mavondo 2002; Dow and Karunaratna 2006).

Assessing psychic distance is a complicated and controversial task (Obadia 2013). Unfortunately, measuring a manager's perceptions just prior to making a decision is usually not possible. Moreover, ex-post perceptions will result in a causality problem due to the difficulties in differentiating between whether such perceptions led to the chosen action or whether the final outcome was influenced by the answers during the survey. To overcome these limitations, most empirical studies rely on...

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