The decision making process

With one exception, all market entries have been made through greenfield investments.

All companies considered several locations when they entered the MENA region for the first time, although several companies were able to narrow down the list of location options quickly. In each case, a formal business case document was prepared and presented to the company‘s highest decision making body, typically the Managing Board. The business case development process, the decision making process and its implementation are standardised to a high degree for the larger companies in the sample. Typically, the business case document itself is not completely standardised, even for the larger companies, but there is a clear expectation of the topics that should be covered in the document. At the same time, the informal involvement of the company‘s senior management is seen as critical in obtaining subsequent approval of a business case. Such involvement typically consisted of visits of senior management from company headquarters to proposed investment destinations in the MENA region.

The duration of the formal part of the decision making project varied between 6 months and several years. Among interviewees, this duration depends on whether existing clients are served in the country to be entered and on changes in the regulatory framework (particularly in Saudi Arabia). In fact, interviewees were typically unable to say exactly when the decision making process started, since companies in the services sector often start by serving one or several customers from a distance and then start to consider opening an operation in the country as a gradual process. For all companies interviewed, once a decision has been made it is not easily reversed but incremental decisions can reduce some of the drawbacks experienced with the initial decision on location and operation mode. For example, a company not satisfied with its initial decision on its hub location for the MENA region, can progressively grow activities in other countries in the region. Similarly, a company not satisfied with a local partner can set up an additional company in a free zone and offer newly developed services from the free zone based company. Such actions are typically preferred over abrupt reversals of decisions that were made earlier, primarily due to the perceived switching costs between locations or operation modes. As a result, all companies interviewed have maintained their initial entry location and mode decision.

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Results from the interviews are in line with the internationalisation process model of Johanson & Vahlne (1977). Several companies spend time in a market serving customers before actually establishing themselves (for example Hay Group, SEI, Credit Suisse). In this way knowledge and experience of a market are built, thereby facilitating the subsequent entry decision. Also, companies spent more time on the initial decision to enter the MENA region than on subsequent, incremental country entry decisions. After the initial entry, the company builds up experience and familiarity with the region and potentially starts serving customers in adjacent markets, thereby facilitating

subsequent entry decisions. Quotes from interviewees:

―Deciding on an office location is an iterative process. First we serve customers from the country, we build up tacit knowledge and then prepare a business case.‖

―We have a business case document that contains the main headings that are to be considered when entering a new country. Each concerned department in the company needs to provide sign-off before the business case is presented to the Managing Board.‖

―Getting people from head office to visit the region helped a great deal in getting decisions made. Their perception of the risk changed markedly after their visit to the region.‖

―We have to persuade senior management at head office for each office opening. There is a reluctance to open too many offices in what from a distance may appear to be small markets.‖ ―Given the reputational cost of closing offices, we prefer to invest only in a country if we are really committed.‖

7.6 Discussion

This section relates the findings of the interviews to the specific research questions of the case study in terms of location factors and transaction cost considerations.

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Given that all interviewees are in the MENA region primarily for market seeking purposes, it is not surprising that each of the companies interviewed mentioned market attractiveness as the major factor driving location decisions.

The importance of market attractiveness as a major factor in determining location and operation mode decisions has been established clearly, thereby validating the result of the econometric model (Chapter 5) that established the relationship between market attractiveness variables and FDI flows into the MENA region.

Although in service industries it is to some extent possible to serve large markets (for example Saudi Arabia) from adjacent hubs (for example UAE, Bahrain), ultimately the requirement to have a local presence in key markets is a major driver for international investment decisions among the

companies interviewed.

(ii) The role of environmental risk factors

The findings from the interviews are largely consistent with the results from the econometric model in that overall environmental or political risk is not a major factor influencing location decisions, provided a threshold level of security risk is not reached.

Also consistent with the econometric model results are the findings that regulatory risk, including the quality of a country‘s institutions and bureaucracy quality, are the main specific environmental risks taken into account in company decision making. Other risks types that were not found significant in the econometric model, such as various types of Economic and Financial risk in a country, were not mentioned by interviewees as important risk factors either.

(iii) Additional location factors

The main additional location factor that surfaced throughout the interview process can best be summarised by the term ‗infrastructure‘. In this context, the term infrastructure encompasses a country‘s hard and soft infrastructure. Hard infrastructure items of importance include international air transport links, quality of available office space and road networks. Soft infrastructure elements mainly relate to the country‘s quality of life, including entertainment opportunities, the quality of available schools and safety aspects. As mentioned, infrastructure is included as a variable in certain econometric models (Mina 2007) on FDI determinants. However, there is no adequate set of

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measures available that captures infrastructure components. Traditional measures of number of telephone lines per 1000 inhabitants, education levels or the length of the national road network don‘t really capture the concept expressed by the interviewees. This is particularly true for the GCC countries where mobile telephone penetration is well above 100%. This is due to the dominance of prepaid mobile lines in the market, whereby an individual may easily have five or more telephone numbers, and does not necessarily indicate a superior infrastructure. Education levels are also difficult to measure for GCC countries, given the large numbers of highly mobile low skilled foreign workers and highly skilled professionals residing in the GCC.

As potential measures for infrastructure in future econometric studies, a measure of international air connections may be considered, as well as potentially a measure of the availability of international schools.

Despite these measurement issues, the various components that are classified as infrastructure items clearly play an important role in the companies‘ location decision making. Dubai‘s success in

attracting a large number of international companies outside the energy sector, which serve not only the UAE but the whole MENA region (and beyond), is testament to the importance of these infrastructure elements.

(iv) Transaction costs and operation modes

In terms of transaction costs that play a role in operation mode decisions, various types of potential opportunism on the side of partners play a major role in leading companies to prefer full ownership. The following factors can all be classified as transaction cost considerations of multinational

enterprises for choosing to internalise transactions in foreign markets:

 Divergent goals between the multinational company and its local partner, demonstrated either by a preference for optimisation of local rather than global profitability on the side of the local partner or a lack of interest in profitability per se by the local partner. Companies that are unable to formulate contracts in a clear enough manner to align these interests, show a preference for full ownership.

 Protection of intellectual property, especially given the relative difficulty with which companies can protect their intellectual property through local institutions.

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 The need to maintain relations with host country governments in-house, especially in light of the requirement to comply with international corruption legislation, which is particularly relevant for companies with operations in the United States.

 Concerns over brand and reputation, which result in companies preferring to keep control over operations that carry the company‘s name.

The fact that interviewees interviewed expressed a strong preference against joint ventures, preferring to have maximum control over core activities (if not licensed) and engaging in more flexible contractual arrangements for non-core activities, represents a major finding. This result is in contrast to Slangen & van Tulder (2009) who conclude that ―MNEs prefer to enter countries with a low governance quality through JVs in order to reduce external uncertainty‖. In fact, none of the companies interviewed as part of this research found joint ventures an appropriate way to reduce or manage external uncertainty. Instead, respondents expressed various concerns over possibilities for opportunism as manifested by potentially diverging interests between partners, even in a joint venture arrangement. The lock-in provided by a joint venture agreement was seen more as a factor constraining the foreign investor than the local partner. Interviewees generally found hiring local staff in a wholly owned subsidiary a more effective way of dealing with cultural distance issues than joint ventures. The differences between the findings of the case study and those of Slangen & van Tulder (2009) may be explained by the fact that the companies interviewed are all large and experienced MNEs who are investing in the MENA region inside their core business. These sophisticated investors therefore have little need for complementary capabilities to be shared through joint ventures.

In summary, the findings from the interviews result in a revised model of location and operation mode decisions, as shown in Figure 8.

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Figure 8: Location and operation mode decisions – revised model

In this revised model, the MENA region operations of all companies that are part of the case study can be placed. Multinational companies employ the same ownership strategy at home and abroad for markets with high attractiveness and low environmental risk. For most companies this means a preference for full ownership in all markets in which they operate. Only for Yum Brands, a company facing low transaction costs in the fast food restaurant industry, licensing is used as the dominant business model both in the home market and internationally.

If environmental risk is high and the market attractiveness is medium, companies facing high transaction costs prefer no entry over a local partnership (i.e. licensing or joint ventures). This is a result of the concern over opportunism, especially in countries where the regulatory framework is unclear or unstable and intellectual property protection is poor. Companies who judge that they are able to license their operations while managing the risk of opportunism (Yum Brands, FedEx) operate in these markets through licensing arrangements. Joint ventures no longer feature in the

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model as they are seen as having potential for opportunism and suffer from the added disadvantage over licensing of reduced flexibility in case the partnership fails. Investors want to have the flexibility to change partners or change the operation mode if circumstances change.

If market attractiveness falls below a certain level, then entry is not considered under any operation mode by any company since the market is simply unattractive.

As an illustration of how the MENA countries can be mapped in terms of the parameters in the model, the operations of FedEx are displayed in Figure 9. The operations of other companies have been mapped in a similar manner during and after the interviews and the results show that this model has internal validity, in the sense that all the operations of the companies interviewed can be mapped into one of the zones in the model and the actual presence and operation mode of the company corresponds to the ones predicted by the model. This exercise is the application of pattern mapping referred to by Yin (2003) in his description of potential strategies for the analysis of case study results.

Figure 9: Application of location and operation mode decisions model4

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Since the interview with FedEx, the company has suspended operations to Libya and Syria due to international sanctions

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One issue of the model is that it is not possible to determine precisely where each company draws the boundaries that differentiate the different sections of the model. The companies that are part of the case study could not give clear indications for how these dimensions are quantified. In particular, market attractiveness may not only be assessed from a local profit maximisation perspective but also from a global perspective, where it may be necessary or helpful to have a regional footprint for corporate level strategic considerations. Companies themselves recognised that the parameters on the two axes are not always quantified or quantifiable, but there was a consistent recognition that these are the factors that are taken into account and that changes in the parameters (i.e. a change in either the market attractiveness or environmental factors for a country) has the impact on location and operation mode choices as predicted by the model.

The revised model is in line with the transactions costs literature reviewed in Chapter 3, which stresses that firms prefer to use the market rather than internalise transactions only when the risk of opportunism is low (Williamson 1979, 1985).

General support was also found for the Uppsala model of internationalisation (Johansen and Vahlne, 1977, 1990) in that companies first enter markets where business operating conditions are favorable and not too dissimilar from markets in which the company has experience. This first investment is then considered as a base from which to explore adjacent markets in the region. The role of asset specificity, as discussed in Chapter 2 (Anderson & Gatignon, 1986), did not feature prominently in the interview results. The term may be less relevant in service industries than in manufacturing industries, since the companies in the case study do not appear to invest in assets that are limited to very specific uses.

7.7 Conclusions

The case study has added significant new insights into the process and criteria used in making location and operation mode decisions of multinational companies in the MENA region, which would have been difficult to obtain in another way. The interview format provided the opportunity for rich discussions, leading to insights that would have been difficult to achieve through a survey based questionnaire.

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In terms of the overall research objectives, the interviews confirm the importance of market attractiveness and specific types of environmental risk when making location decisions, especially regulatory risk. Operation mode decisions are made on the basis of location and transaction cost factors.

The interviews have resulted in a revision of the decision making model drawn up prior to the interviews. Environmental risk appears to have no impact on ownership mode choice when transaction costs are high; companies will choose to enter markets with the maximum control permitted or they will choose not to enter. Significantly, joint ventures are seen by companies as adding to uncertainty rather than serving as a vehicle to manage risk. When transaction costs are relatively low, multinational companies prefer licensing agreements over joint ventures.

Several of the main findings from the quantitative analysis are supported by the interview results. Specifically, the market seeking motivation is shown to be a key driver for investment decision making. Overall environmental risk and political risk played only a minor role in location decision making. Regulatory risk and institutional quality were seen as more important considerations, especially for the choice of location for regional headquarters.

Regarding the importance of energy reserves, clearly it cannot be realistically argued that investors have a preference for countries without a large energy endowment. However, it can be concluded from the interviews that countries with few energy resources (for example Bahrain, Emirate of Dubai5_{) have been more encouraging to foreign investors than countries with large energy reserves}

(for example Kuwait, Algeria, Libya and, until recently, Saudi Arabia and Qatar).

With respect to the overall conceptual model, the revised model discussed in Chapter 5 has been confirmed to the extent possible and can be extended to include the specification of Transaction Costs factors, as displayed in Figure 10.

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Dubai is an Emirate within the United Arab Emirates. It can no longer be considered as an oil rich entity since its oil reserves are virtually depleted and oil resources in the U.A.E. are controlled at the level of the individual Emirate rather than the Federal level.

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Figure 10. Conceptual model, including transaction cost factors

In this model, the transaction cost factors identified in the case study have been added to the model. Accordingly, the ways in which location factors and transaction cost factors impact location choices and operation mode choices are shown. These choices at the company level in turn determine the FDI inflows at the country level.

With respect to the existing literature, the case study does find support for the internationalisation process model (Johanson & Vahlne, 1977) in the sense that companies tend to enter markets with low perceived hurdles first and then apply their learning to other markets over time. The results of Agarwal & Ramaswami (1992) are also consistent with the finding that large companies with significant international experience prefer high equity modes of entry. The findings of Slangen & van Tulder (2009) on the preference of joint ventures in the case of high environmental uncertainty are not supported. In fact, companies in the case study have no preference for joint ventures. When environmental risk is low, full ownership is preferred and when environmental risk is high either

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market entry is avoided or licensing is used as a risk mitigation mechanism. Placing this finding in the context of the transaction costs framework, it can be concluded that for the subjects of the case study, transaction costs are higher in the case of joint ventures than for licensing arrangements. The interview and case study format have several limitations. First, the total sample size is too low to enable the drawing of general or statistically valid conclusions. It is more appropriate to say that the