Location and Performance of US-Based Multinationals

Subject: Economics
Pages: 20
Words: 6087
Reading time:
21 min
Study level: PhD

Abstract

The purpose of this paper is to analyze the impact that geographic scope has in influencing the values of multinational companies (MNCs) based in the US; it does this by retrospectively examining the data for US-based multinational companies for one year in 2006. The intention is to explore the extent that geographic location decisions have on the performance of foreign-based MNCs operating from the US by analyzing their financial performance. Based on the findings for this paper, the results indicate that MNCs are inclined to experience diversification premium when operating in foreign countries that are both politically unstable and categorized as developing countries. Consequently, the same results indicate that MNCs also tend to benefit from diversification discounts when operating in developed countries that have no political risks. Finally, this study fails to ascertain the impact that legal factors of foreign host countries have on the value ratings of MNCs based in the US.

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Keywords: Geographic locations, MNCs.

Introduction

For multinational companies the choice of business location is always a critical decision that always requires serious consideration since it will directly determine the rate of returns on investment made by the company; it is for this reason that geographic locations are critical to MNC’s. As a rule of thumb, MNCs will tend to choose a geographic location that has business potential and which they can effectively maximize their investment. MNCs do this best by diversifying across borders into international markets; unfortunately, this does not always guarantee a positive return on investment.

Indeed, current literature on the benefit that diversification across borders offers to business ventures is currently undivided with sections of the studies indicating diversification to be costly such as by Christophe and Pfeiffer (2002) and Denis et al (2002) while other studies indicate diversification to be beneficial such as by Ramirez-Aleson and Espitia-Escuer (2001), and Morck and Yeung (1991). In almost all these studies valuation of MNCs understudy was done using the degree of multinationality in calculating the change in value attributed to geographic diversification. But in doing so, this method is limited in that it fails to factor in the unique institutional characteristics of the host countries such as legal systems, political factors, and their level of development.

Indeed, few if any studies have investigated the relationship between MNCs and value impact; one such study by Pantzalis (2001) has hypothesized two theories i.e. internalization theory and Multinational network hypothesis (MNH) to explain the phenomena of international diversification. Based on this study the findings indicates that diversification of MNCs in developed countries enhances their value and vice versa when diversification is in developing countries; in the latter case the study singles out intangible assets as critical in enhancing a firm’s value.

The purpose of this paper is to investigate the relationship between the change in the value of an MNC and its choice of geographic location in the context of international business models. For purposes of this study the geographic scope should be taken to comprise two aspects; a country’s ecological diversity and the international asset dispersion. By integrating both of these aspects in our study, this paper is better positioned to investigate the phenomena of MNCs and change in value, unlike other studies since in our case various other variables that are key in influencing these phenomena can also be factored in. More specifically this paper is concerned with the investigation of the differences in valuations of MNCs operating in advanced economies versus those operating in developing economies.

Additionally, this paper will also investigate the impact that other variables have in influencing the value of MNCs operating in the two different environments. To do this, this study cross-references the performance of MNCs in each category against other variables that exist in the same country environment such as level of political risk and type of legal code used. In general, the data analysis for this study which was based on 226 samples of MNCs based in the US indicates that firms “investing in developing countries increases their own value while MNCs investing in advanced countries have no value to gain but instead lose value overall”. Nevertheless, the study fails to conclusively attribute the host country legal system to the enhancement of MNCs value or their lack of it, but there is evidence that investors as a matter of principle are more inclined to invest in host countries with high levels of political risk compared to countries with low political risks.

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This is consistent with our earlier literature findings which is also proven by this study that indicates diversification of MNCs in high political and developing countries more often results in diversification premium while diversification discount is the case when diversification is undertaken in developed countries. Based on the study objectives of this paper, the findings of this research paper are crucial in that it is one of the very few studies that comprehensively investigates the impact that diversification of MNCs in different host countries have on their valuation from a multisectoral approach that also incorporates factors such as political and legal systems. In addition, this paper utilizes advanced concepts in measuring the performance of a range of MNCs operating in foreign countries and documents a clear trend that supports the hypothesis for this study. Having discussed the introduction, chapter 2 of this study will be on literature review, chapter 3 on methodology and data analysis, chapter 4 discussions of study results, and finally, chapter 5 which is the conclusion.

The geographic location effect and valuation of MNCs

Sources of value for MNCs

Current literature indicates that multinational and domestic companies are fundamentally different in more than one way and mainly in terms of their financial performance; ordinarily, MNCs have much capital base compared to their domestic counterparts. Consequently, the systematic risk and average total risk tends to be high in domestic corporation compared to MNCs; this is probably because of the low cost of doing business in foreign countries in terms of raw materials and labor which is the main reason that Olsen and Elango (2005) identifies to be the determining factor for MNCs to opt to diversify abroad. But this claim is refuted in other literature sources, notably by Denliset al (2002) and Christophe and Pfeiffer (2002) who assert that MNCs diversification in foreign countries actually results in diversification discount. With such different claims on the subject of MNC’s foreign diversification, we must concur that a broad literature review and subsequent research studies are necessary.

Two theories have been posited to explain the phenomena of international diversification; the multinational network hypothesis (MNH) and the internalization theory (Doukas and Travlos, 1988). In MNH, the underlying concept is based on the observation that the market, in essence, is imperfect; thus, in this regard, this theory holds that MNCs should ideally benefit from foreign operations because this will lead to arbitrage between markets in which the firm operates by transferring production across borders (Doukas and Travlos, 1988). This is assuming that taxes and other business regulatory requirements turn out to be favorable; besides, MNCs by design are more insulated against risk and will thus incur fewer costs in running a business. Thus, Doukas and Travlos (1988) conclude that “foreign acquisitions are value-enhancing if the target firm is located in a developing country, and if this is the first exposure of the firm in that country” which is consistent with our earlier discussion.

The other theory advanced which is internalization theory asserts that “MNC could easily create an internal market given the failure of the external market to reduce transaction costs” (Berry, 2002). In the case where foreign diversification is involved, one study by Pantzalis (2001) asserts that the major determinant of the firm’s foreign investment is dependent on its intangible assets which are largely skills and knowledge type of assets. This is because of the fact that international transactions exhibit characteristics of market imperfections; consequently, Pantzalis (2001) also concludes that diversifying in developing countries does indeed enhance MNC’s value since location is a determining factor.

Influence of Geographic Location on MNCs Value

The way in which several of these studies discussed here have been able to attribute diversification of business activities in developing countries to enhanced value in MNCs is because of their approach in measuring valuation which involves several variables such as % of foreign operations and the ratio of sales in foreign locations vs total sales among others (Berry, 2002). One study by Berry, (2002) highlights the limitations of most research studies in measuring the effect of locations on MNC’s financial performance because they rely on aggregate measurement methods that fail to capture the uniqueness of the host countries as well as the firms involved in the study.

There is only one study by Pantzalis (2001) that employs the use of disaggregate measurement which this paper intends to build on by investigating the location effect.

In this paper, we hypothesize that diversification premium/discount in MNCs is correlated with their choice of geographic location in which they diversify. Unlike, Pantzalis (2001), we go a step further and posit that there exist other arrays of factors beyond location that influence MNC’s valuations operating in foreign locations such as political factors and legal systems.

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Host country economic development

Various theories support the need for MNCs countries to invest in either developed countries or in developing countries. In the case of developed countries, Berry (2002) argues that MNCs will benefit from a ready market with high-income consumers which have low market risk because they have numerous institutional protections. But in the same way, MNCs can also benefit by investing in developing countries through reduced costs of doing business because of the cheap labor and low cost of raw materials. Pantzalis (2001) for instance supports the later claim since developing countries provide the highest potential to MNCs valuation because market failure is most likely to happen in them. Consequently, the first hypothesis for this study is based on this observation by Pantzalis (2001) in which we, therefore, state that developing countries provide the most value-enhancing to MNCs investing there.

HI: Investing in developing countries creates more value to the stockholders of MNCs than investing in the developed countries.

Host Country Legal Origin

One of the studies that have comprehensively studied the topic of legal origin in countries and their implications is by La Porta et al, (1997) which observes that countries that are governed by French civil law have almost nonexistent investor protection policies compared to those with common laws; consequently, they have the least debt and equity markets. Even from a more general perspective, La Porta et al. (1997) study finds that firms operating in jurisdictions that are governed by common law are usually highly valued when compared to firms operating in countries governed by civil law. It is based on this assertion by Porta et al. (1997) that we develop our next hypothesis for this paper in which we posit that countries governed by common law have a business environment that is conducive towards MNCs unlike countries governed by other laws.

H2: Investing in common law countries creates more value to stockholders of MNCs than investing in host countries governed by civil law.

Host country level of political risk

The level of political risk in the host country is critical in influencing diversification decisions for MNCs; indeed, Bekaert et al (1998) findings indicate that developing countries offer high potential for value creation in MNCs by virtue of their high-risk political environment. Other ways in which value is enhanced in MNCs is documented in several studies, first by Fatemi (1984), and then by Adler and Dumas (1983) in which they claim that investors in MNCs opt to invest in developing countries since individual efforts are less able to hedge risk in such environments. Consequently, we posit in this section in our third hypothesis that high political risks will positively contribute to the financial performance of MNCs.

H3: Investing in high political risk countries creates more value to stockholders of MNCs than investing in the low political risk countries

Research design

A sample total of 226 US-based public MNCs operating in 2006 were selected for purposes of this study using the COMPUSTAT database; three types of MNCs were not included in the study i.e. regulated, financial, and utility firms.

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The other method utilized in collecting the required data was Lexis Nexus’s Directory of Corporate Affiliation that enabled selection and filtering of the study sample of the firms based on geographic location and number of subsidiaries. To control against the financial impact that was experienced by firms as a result of the 2007 financial crisis, the year 2006 was chosen for this study. The inclusion criterion for this study was MNC based in the US but which had subsidiaries outside the US, either fully owned or as joint ventures but which must be more than 50% owned if it’s a joint venture. It is through this selection criterion that this study ended up with a sample size of 226 US-based MNCs which had a combined total of 3,248 subsidiaries spread across 96 countries. Of these 96 countries in which these MNCs operated, their geographic distribution was as follows.

Geographic region with MNCs presence Africa Asia Pacific Region Caribbean Countries Central America Eastern Europe North America South America Western Europe
Number of countries with MNCs per region 12 25 8 6 13 3 10 19

A more detailed summary of this analysis is indicated in Appendix 1 which disaggregates country-specific profiles in the regions indicated above based on their economic level, legal environment, level of political risks, and so forth. It is based on the same factors that this study subgroups the various sampled MNCs to highlight the causal effect attributed to these factors i.e. level of political risk, economic development, and legal environment. We now look at each of them.

Economic development: The IMF World Economic Outlook database is the tool that is used in categorizing the MNCs into two groups based on the level of economic development in which they operate; either as a developed economy or developing economy.

Legal origin: Of the 96 countries worldwide in which the sampled MNCs have operations, 2 of them cannot be determined to be having either common or civil law and are treated as a missing value in this variable while the rest are categorized either as having one of the two. The criteria used in identifying a country’s legal system for purposes of categorization is based on the definition given by La Porta et al. (1998) as well as the Central Intelligence Agency (CIA) for countries not covered by La Porta, et al.

Political Risk: The level of political risk in host countries is determined using the International Country Risk Guide (ICRG) indicator; using this measure the MNCs host countries are grouped as either high risk, low risk, or moderate risk political environments. In determining this, the top third of countries listed in the ICRG are described as having low political risk while the bottom third as having high political risk; those in-between are taken to have moderate political risk.

Methodology

Since our aim in this study is to determine if any causal-effect relationship exist between geographic location and MNC financial performance, the research was designed to regress MNCs performance against a number of variables. The actual model used for this study is as indicated below.

Insert performance equation (1)

Performance measure: For this study we utilized revised methods to measure MNC’s performance that went beyond the current statistical approaches that are used to measure the same; there are several reasons for doing this. One, because current statistical approaches such as Excess value, Tobin’s Q, and Market-to-book ratio among others were limited in measuring the performance of foreign subsidiary operations independent of their parent companies. Secondly, tests such as Tobin’s Q for instance are not applicable for the task at hand since this test doesn’t control against the degree of multinationality for the specific MNC. Thus, MNC’s performance is measured in general for all the firms regardless of their degree of multinationality or the extent of their foreign diversification. Normally, such differences across the samples should be controlled to obtain more accurate results despite the limitations of these tests in measuring the effect of multinationality (Olsen and Elango, 2005; Pantzalis, 2001).

For our purposes in this study we overcome these limitations by using Foreign Q measure which is a factor of Tobin’s Q and sales ratio; this way we are able to accurately measure the change in performance occurring in foreign operations based on their degree of multinationality. Besides foreign Q, other measures that are incorporated to effectively control the results are Excess Foreign Q which is obtained from the difference between the imputed Foreign Q and the pure-play Foreign Q. Imputed Foreign Q, in this case, is the weighted average that results from pure-play Foreign Qs that are obtained from all the regions of the study.

These are the two measures, Foreign Q and Excess Foreign Q that we utilize in this study to determine the MNC’s performance in each country of operation. By utilizing these customized measures, we are able to accurately determine the effect that the host country has on specific MNCs when cross-referenced with other variables. Additionally, by substituting these two measures with Tobin’s Q and Excess Tobin’s Q we are able to measure separately the MNC’s performance both at the local level and foreign level, and thereby determine the change that is attributable to a single foreign operation for each MNC for instance. Appendix 2 of this paper summarizes the above calculations and related measures.

In measuring the location effect on the MNC’s performance, the study compares the firm’s extent of involvement in host countries against its operation performance; this is the LocationEff. LocationEff is a measure that is dependent on the grouping criterion of paired variables which in this case are three; level of economic development, legal origin, and level of political risk. Thus, for each of these variables the LocationEff for this study was advanced (ADV) vs. developing (DEV) economies, civil (CIVIL) vs. common (COMMON) law countries, and low political risk (LPR) vs. high political risk (HPR) countries respectively. By using the LocationEff as the base variable, it becomes possible to do regression on the impact of location on a firm’s performance while controlling the results of the study using Foreign Q and Excess Foreign Q. In a similar manner, LocationEff (pair of variables) is also used to determine the degree of multinationality for each MNC by using two other variables; the number of MNCs subsidiaries and the number of countries in which the MNCs are operational.

Because there are other conditions to control in the results, this study makes use of two other measures; the Long-term debt ratio (DR) which in this case is used to control against the effect of the MNC capital structure and SIZE, a natural logarithm that controls against the different sizes and scales of MNCs being studied.

Finally, as espoused by Morck and Yound (1991) two other different variables are customized to control for a firm’s intangible assets; these are R&D expenses and advertising expenses which respectively represent technical expertise and consumer goodwill. The importance of controlling against these characteristics in MNCs makes it possible to fine-tune the results of the study to be more consistent with literature sources which for instance posits that high-level information asymmetry is more often experienced by firms with a high asset base of intangible assets and increased R&D spending. Indeed, as Johnson and Pazderka (1993) assert, a correlation does exist between a firm’s R&D spending and the impression of its valuation that it creates in the marketplace. Another study by Chan et al. (1990) also concludes the same and generally observes that increased R&D spending directly translates to positive results in terms of returns.

The variable of Focus used in the study is used to compare the direction in which the diversification occurs among the MNCs similar to Pantzalis (2001); that is whether it is in a related industry or a different industry since a positive correlation has been found to exist between Focus and firm’s performance. In Olsen and Elango (2005), findings indicate that market risk ideally should reduce whenever MNCs set out to diversify in foreign locations since the market risk associated with operations in a single economy tends to reduce. Thus, in line with this BETA variable is used as the proxy measure for the level of risk experienced by MNCs. To control against the percentage of ownership across the sampled MNCs, the variable INSIDE is used together with its variables which are INSIDE2 and INSTI; INSIDE2 is the square of INSIDE and INSTI is the “% of institutional ownership” (Pantzalis, 2001).

The necessity to control against firm ownership is informed by Pantzalis (2001) findings which indicate that ownership in MNC differs from domestic firms in that “MNCs tend to have large institutional holdings” with a wide base of investors. Additionally, the variable INDj which is a dummy variable that utilizes SIC code is introduced to control for differences in the data that are a result of industrial differences. Finally, this study controls against the perceived firm valuation that emanates from its utilization of intangible assets as we previously discussed by introducing an interaction term in model equation 1 that factors two characteristics of the MNC, the international involvement, and the firm intangibles which are then used in another model.

Insert performance equation (2)

In the above-indicated equation, the variable INTAN is a summation of RD and AD and represents a firm’s usage of its intangible assets; other variables remain constant as in equation 1.

Now, using these two equations it is possible to formulate regression tests on our data across all the three key variables; legal origin, political risk, and level of economic development. The regression test is repeated using both Foreign Q and Excess Foreign Q generated earlier in measuring MNC’s performance.

Empirical results

The summary of the results generated from the data are as indicated in table 1 as descriptive statistics. As indicated on the table in panel A, Foreign Q and Excess Foreign Qs figures are calculated across the three categories discussed earlier. Based on the results we can see that all the coefficients calculated from the Excess Foreign Q are negative numbers which would mean that the associated MNCs actually have diversification discounts. Though rare, this is not uncommon as Berger and Ofek (1995) have previously documented that the portfolios of diversified firms are generally traded at discounts up to an extent (15%) compared to other undiversified firms. Besides, Olsen and Elango (2005) also affirms this trend by observing that US-based MNCs are also generally inclined to encounter diversification discount whenever they diversify in foreign location while other MNCs located elsewhere tend to experience diversification premium. Lastly the results indicate that institutional holdings in MNCs are exceptionally high at an average of 70%; this is consistent with Pantzalis (2001) findings that observe ownership in MNCs to be drastically different than those that exist in domestic firms.

Insert table 1: Descriptive statistics

In panel B, the descriptive results are again summarized across the three different categories. Notable results in this section are indicated in the developing vs. advanced countries variable; according to the figures, the Excess Foreign Q for the advanced host country is given as -0.015 but add up to 0.059 for the developing host countries. That much, the results are consistent with our hypothesis as well as the literature review since we have earlier on surmised that MNCs investing in developing countries should expect high value returns compared to those investing in advanced countries. Consequently, results on the other variables of law origin and political risk asserts the same as we had earlier predicted since again in this case we find negative figures for Excess Foreign Qs in both low risk political countries and civil law countries.

Thus, based on these results some of the MNCs actually have diversification premium even though majority of these firms have diversification discount as we had previously seen and we can therefore conclude that where all the three conditions are met by the MNCs; high political risk, developing country and common law, it is almost guaranteed that diversification premium will be the result. In fact, this observation is further affirmed by subsequent regression tests in this study as we shall see.

In table 2, the summary of regression results that compares MNC’s performance across two variables of advanced and developing countries are listed. In this case, two dependent variables are used; no. of foreign subsidiaries and no. of foreign countries where MNC have operations. The independent variables are several and include R&D ratio, Long-Term Debt Ratio, Involvement in Advanced Locations, Advertising Ratio, Firm Size, Insider Percentage Holdings, Insider Percentage Holdings Squared, Beta, Corporate Focus, Institution Percentage Holdings, Involvement in Developing Locations, and Industry Dummy. The significance level of the study is given by the signs, *, ** and *** which denotes 10%, 5% and 1% respectively while standard error is denoted by () sign.

By using these variables as our parameters, the results indicate that MNC’s performance becomes negative in advanced countries where the only other variable of consideration is no. of foreign subsidiaries. But this result reverses and becomes positive when MNC performance is measured using two variables instead of one; the number of foreign locations and the earlier variable of no. of foreign subsidiaries. Again, these results are consistent with our earlier results in table 1. Additionally, results in this table also indicate that leverage ratio is negatively associated with MNC performance while R&D impacts positively on the MNC performance. But not consistent with our expectations, we find that in table 2 advertising actually negatively impacts MNC performance; however, Beta is positively correlated with MNCs performance while FOCUS and Size have minimal if any impact at all on MNCs performance.

Insert table 2: Advanced vs. Developing locations

Table 3 is a summary of equation 2 which has two variables as its component; LocationEff and intangible asset of the firm. Based on the results in this section, Pantzalis (2001) observation is upheld which finds that to control for the location effect on MNCs, then what is needed is to control the interaction of a firm’s intangible assets. Surprisingly, and not consistent with our expectations we find that a negative correlation exists between advanced economies and the interaction term of intangible assets when measured in terms of the Foreign Q and the no. of foreign countries. This is despite the fact that the values for both of these variables are positive; what this means, therefore, is that factors that make up intangible assets such as skills and knowledge do not in fact enhance the MNC performance when they are located in advanced countries. And because the negative correlation is actually significant, then it implies that such intangible assets might actually reduce the MNC performance in developed countries. So for the first time, our study results are inconsistent with other literature sources such as by Pantzalis (2001), for instance, who asserts that intangible assets generally tend to enhance MNC’s performance in advanced economies.

Insert table 3: Advanced vs. Developing locations with interaction of intangible assets

The probable reason for this inconsistency could be as a result of the difference in the study period in which these two studies focused on; Pantzalis (2001) utilizes data from 1990 while our data source is more recent in 2006. Thus, this trend could be a result of changing trends in the business world occasioned by the rapid globalization development; for instance, the FDI and portfolio equity in 1992 was pegged at just about 3% GDP but has over the years rapidly increased to more than 12% by 2002 in emerging markets.

Perhaps, this unexpected result can best be understood by looking at the similarities that exist between advanced economies and developing economies; in developing countries, the economy is very different from what is observed in advanced countries. Thus, economies between developed countries are more or less the same and generally appear to be integrated. It is therefore not surprising that transfer of intangible assets across developed countries will lead to lack of or loss of enhanced value as indicated by the results since value creation is a factor of the imperfect market which in this case is nonexistent. Further analysis of the data was necessary to highlight the differences between MNCs performances in different locations; towards this end, it was necessary to compare the means of all variables of the study based on these two categories, advanced economy and developing economy as summarized in table 4.

Insert table 4: Mean comparison of advanced economies vs. developing economies

When we compare MNCs from the two categories based on the variables indicated we realize the general trend is that Foreign Q and Excess Foreign Q for MNCs in developing countries is usually higher than in advanced economies. This is consistent with our earlier tests and literature review which is also supported by the figures from the same table which indicates that Excess Foreign Q for MNCs operating in advanced countries is negative. The implications for these results are what we have earlier surmised to be the case i.e. firms operating in developing countries experience diversification premium and vice versa. Most importantly, these results confirm the importance of the choice of location among the MNCs intending to diversify as we have originally hypothesized in our study since the results predict that diversification premium will always result whenever firms opt to diversify in developing countries and vice versa.

Because this is now a sort of rule of thumb obtained from these results, the study findings for this paper can be relied on to resolve the conflict of earlier literary sources. Generally, we realize there is no particular pattern among the MNCs opting to invest in developing countries and those investing in advanced economies except in terms of the asset base between the two categories of MNCs. As a matter of fact, MNCs investing in developing countries have a large capital base, comprising of extensive public and institutional holding compared to those diversifying in advanced countries.

In table 5, the results indicated are generated from analyzing the variable data of legal origin and its impact on the MNC’s performance; for the purposes of this study two types of law are used, which are common and civil law. Different from what we might have expected, the trend indicated by the results in this section indicates there is no correlation between legal origin and the resulting MNC performance. Nevertheless, there is a weak association between common law and negative impact on MNC performance which is not consistent with our earlier hypothesis although the correlation is not significant. However, other variables analyzed in this section indicate significant associations such as insider holdings and leverage ratio which negatively impacts MNC performance while beta and R&D variables indicate a positive association on MNC valuation.

Insert table 5

Table 5 is a summary of regression results generated from political risk data for country-specific regions. Consistent with our hypothesis and literature findings, the results in this section indicate that MNC’s diversification in high political locations generally enhances their valuation and consequently performance while investment in low-risk countries might either impact negatively or positively on the MNC performance. In addition, the results also indicate that when the variable insider holding is squared the result would be reduced MNC performance similar to the effect of the leverage variable. But beta and R&D expenses are seen to enhance the MNC valuation since they are positive correlations.

Insert table 6

Table 7 is a summary of related results that complement the results in table 6; in this section, the mean values of several variables are directly compared based on their level of political risk between the two groups of MNCs investing in developed economies and developing economies. The results show that in MNCs that operate in a high political risk environment, both the Excess Foreign Q and Foreign Q remain high and vice versa in political risks environment that is low. Moreover, there is evidence from the results that political risk in host countries is correlated with MNC’s performance. Based on the results, only 47 of the 226 MNCs samples are indicated to have invested in high political environments, and therefore benefits from diversification premium as we determined earlier.

Again based on earlier observations we also realize that these few MNCs investing in high political countries are generally larger in size which will suggest an extensive capital base compared to MNCs operating in low political countries. Consequently, the same few MNCs investing in high political environment have on average more subsidiaries and therefore better positioned to benefit optimally from the valuation that emanates from diversification initiatives; all these observations are consistent with our earlier findings.

Insert table 7

Throughout this paper, an interesting trend has emerged that shows a correlation exists between the level of political risk and a country’s level of economic development. Thus, most advanced economies often have medium to low political risk scores while developing countries generally have high political risk levels and this makes sense. Because of this strong correlation, we realize that the findings generated from these two groupings of political risk and level of economic development are essentially the same. Thus, in conclusion, we can state that as a general observation MNCs that benefit from diversification premium must satisfy two conditions; one, they must invest in high political risk countries, and secondly, they must have a large asset base with many subsidiaries. This observation is well supported by Berry (2002) findings that state “MNCs with higher levels of multinational networks investing in advanced countries are not rewarded by shareholders,.. but expansion into developing countries is rewarded by shareholders”.

Conclusion

As stated earlier theories of international business posits that geographic diversification is a function of two related components; the country environment diversity and international asset dispersion. The existing literature on this phenomenon has largely been concerned with determining whether MNCs benefit from international diversification and the determinant factors. Few if any studies have attempted to investigate this relationship comprehensively by examining all the range of variables involved such as host country economic level and geographic location which we have seen to be most critical. It was thus an attempt of addressing the existing gaps in the current literature on this subject that this study was designed to investigate the correlation between geographic diversification and their resulting performance by focusing on the three other determinant factors. The implications of this study though not groundbreaking provide the further insight needed to understand the intricacies of international diversification and provide evidence to challenge earlier theories.

The factor of origin of law that exists in the host country for instance, in this case, has been demystified since no significant correlation has been determined to exist between MNC performance and origin of law in the host country. Most importantly, the findings of this result are critical to policymakers, researchers and CEOs of MNCs among other stakeholders as it provides a framework upon which informed decisions can be based. Among the notable findings of this study indicates that intangible assets in MNCs are negatively correlated with firms’ performance in developed economies essentially because the phenomenon of market imperfection does not exist. This means that MNCs diversifying across similar developed economies will actually curtail their own performance. Additionally, our findings also indicate that MNCs diversifying in high political countries tend to benefit and firm valuation is enhanced while MNCs investing in countries with low risk are inclined to experience negative performance. When comparing the performance of MNCs groupings across several variables we find that MNCs diversifying in countries that are both developing and which experience high political risk benefit from an enhanced performance which translates to diversification premium while the reverse holds.

This observation is one of the most critical findings of this paper which is also supported by several other studies; indeed, both Pantzalis (2001) and Olsen and Elango (2005) have previously concluded that “geographic location is a critical element in MNCs decisions on where to invest”. Thus, with all its limitation especially on scope and depth since the focus was on US-based MNCs diversifying internationally, the findings for this study are relevant in that they offer more insight on the subject than was previously the case and has helped bridge the gap between conflicting theories.