MNE Subsidiaries’ Outsourcing and InSourcing of R&D: The Role of Local Institutions

• DOI: http://doi.org/10.1002/gsj.1137
• Date: 01 November 2016
• Author: Klaus E. Meyer,Grazia D. Santangelo,Bjoern Jindra
• Published date: 01 November 2016

MNE SUBSIDIARIES’OUTSOURCING AND

INSOURCING OF R&D: THE ROLE OF

LOCAL INSTITUTIONS

GRAZIA D. SANTANGELO,

1

KLAUS E. MEYER,

2

*and BJOERN JINDRA

3,4

1

Dipartimento di Scienze Politiche e Sociali, Universityof Catania, Catania, Italy

2

China Europe International BusinessSchool, Shanghai, China

3

Department of International Economics and Management, Copenhagen Business

School, Frederiksberg, Denmark

4

Institute for Institutional and InnovationEconomics, University of Bremen,

Bremen, Germany

Plain language summary: The rules for business vary not only between countries, but

within countries.Subsidiaries of multinationalenterprises (MNEs), thus, have to consider

both the national level and the local context when designing their business practices. To

examine this impact, we study R&D outsourcing in four Eastern member states of the

EuropeanUnion and find that local R&D outsourcing isused more frequentlywhere local

institutions are strong. However, this local impact depends on the MNE’s overall knowl-

edge sourcing practice and is weaker when MNE subsidiaries’knowledge management

prioritizes external sources of knowledge.

Technical summary:Multinational enterprises(MNEs) face multiple institutional contexts

across and within countries. We analyzesubnational institutions in the local environment

of MNE subsidiaries to investigate their impact on subsidiaries’knowledge sourcing-

strategies.Drawing on institutional and transactioncost economics, we arguethat the de-

greeof local R&D outsourcing is greaterin high quality subnationalinstitutional contexts.

However, the quality of local institutions has less impact on the degree of R&D

outsourcingby subsidiaries that are moreopen to external knowledge. Thesesubsidiaries

are more experienced in collaborating with external partners and, thus, have developed

internal mechanisms to protect theirintellectual property evenin low quality institutional

contexts. We test our arguments on a survey of MNE subsidiaries in four Eastern member

states of the European Union. Copyright © 2016 Strategic ManagementSociety.

INTRODUCTION

Subsidiaries of multinational enterprises (MNEs) play

an increasingly active role in the processes of

knowledge creation and acquisition in the MNE

(Bartlett and Ghoshal, 1986, 1989; Yang, Mudambi,

and Meyer, 2008). They can draw not only on the

knowledge base of the MNE network, but also access

external sources of knowledge (Phene and Almeida,

2008) through,for instance, R&D outsourcingto local

contractors.However, the extent to which subsidiaries

work with such external partners is substantially

constrained by transaction costs because R&D

projects involve complex transactions and, in conse-

quence, extensive contractual hazards (Mayer and

Salomon, 2006; Oxley, 1999; Ulset, 1996). These

transaction costs are shaped by the quality of

institutions governing each transaction (Henisz,

2000; Williamson, 1991).

Keywords: contractual hazards; MNE subsidiaries; R&D

outsourcing; subnational institutions; openness to external

knowledge

*Correspondenceto: Klaus E. Meyer, ChinaEurope International

Business School, 699 Hongfeng Road, Pudong, Shanghai,

201206, China.E-mail: kmeyer@ceibs.edu

Global Strategy Journal

Global StrategyJournal, 6:247–268 (2016)

Published onlinein Wiley Online Library (wileyonlinelibrary.com). DOI: 10.1002/gsj.1137

Copyright © 2016 Strategic Management Society

Better quality i nstitutions, defined as imp artial,

effective, and non-corrupt (Rothstein and Teorell,

2008), reduce transaction costs and enhance the

efficiency of markets relative to alternative organiza-

tional arrangements (Henisz, 2000; Holmström,

1979; Mayerand Salomon, 2006; Oxley, 1999; Teece,

1986l Williamson, 1985, 1991). Each transaction is

shaped by the relevant micro-level institutions, as

institutions governing the business relationship(s) not

only cause cross-national variations in business prac-

tices, but also explain variations across geographies

within nations (Dheer, Lenartowicz, and Peterson,

2015; Goerzen, Asmussen, and Nielsen, 2013; Li,

Eden, and Beamish, 2013; Meyer and Nguyen,

2005; Peng et al., 2009). For example, intellectual

property rights (IPR) law is usually defined at a na-

tional level, yet its impact depends critically on issues

such as practices of law enforcement and cultural

norms that vary withincountries. Therefore, we inves-

tigate whether and (if so) how host country subna-

tional institutions influence the extent to which MNE

subsidiaries outsource R&D activities locally.

Earlier studies have investigated the influence of

the subnational institutional environment on firm

performance (Chan, Makino, and Isobe, 2010) and

foreign entry decisions (e.g., Ma, Delios, and Lau,

2013; Meyer and Nguyen, 2005); yet, we know little

about how the operations of MNE subsidiaries after

their initialestablishment are influencedby local insti-

tutions. We argue that the extent to which foreign

subsidiaries source R&D activities from host country

partners or from within the MNE (i.e., the degree of

local R&D outsourcing) critically depends on the

quality of subnational institutions in the hostlocation,

which enable the mitigation of transactional risks.

However, MNE sub sidiaries vary in the ex tent to

which they value external knowledge (von Zedtwitz,

Gassmann, and Boutellier, 2004), and this variation

affects their ability to manage within imperfect local

institutions. Specifically, openness to outside ideas

favors external knowledge search involving a wide

range of external actors (Chesbrough, 2003; Frey

and Birkinshaw, 2005). The more subsidiaries are

open to external knowledge and, hence, have built

experience collaborating with external knowledge

sources, the more they have developed internal

appropriability mechanisms to protect their intellec-

tual property (Laursen and Salter, 2014; von Zedtwitz

et al., 2004),even in low quality institutionalcontexts.

However, less open subsidiaries, being less experi-

enced in externa l collaborations, are l ess likely to have

such mechanisms and, hence, the quality of local

institutional conditions has a greater impact on the

degree of their local R&D outsourcing. Therefore,

we predict that a s ubsidiary’sopennesstoexternal

knowledge negatively moderates the (positive) rela-

tionship between the quality of subnational institu-

tions and the subsidiary’s degree of local R&D

outsourcing.

We empirically investigate hypotheses derived

from these theoretical arguments using survey data

from MNE subsidiaries in four countries: the Czech

Republic, Hungary, Poland, and Romania. We chose

these countries for three reasons. First, the four coun-

tries represent the largest economies among the new

European Union (EU) members. Second, they share

many economicand institutional characteristics,while

offering substantive between- and within-country

variations. Theyhave all adopted the legal framework

of the EU, for example withrespect to IPR protection.

Yet, market-supporting institutions, especially infor-

mal institution s such as the effectiveness of IPR

protection vary markedly across and within each of

these countries (European Union, 2013; Javorcik,

2004; Marie, 2012; van Eechoud et al., 2012). In

addition, business practices are affected by variations

in local culturedue, for example, to regionallyconcen-

trated ethnic minorities. Third, MNEs increasingly

view Central and Eastern Europe (CEE) as a strategi-

cally important location for R&D (Manea and Pearce,

2006; Pavlinek,2012). Hence, the four countriesoffer

a suitable laboratory to investigate how variations at

the subnational level influence R&D sourcing prac-

tices of MNE subsidiaries.

Our study contribu tes to global strategy research by

responding to the call to disentangle the influence of

institutions at multiple levels (e.g., Meyer and Peng,

2015). We conceptually explain the relevance of the

subnational levelin shaping transaction costs and em-

pirically show their impact on subsidiary activities.

Hence, knowledge-sourcing strategies are shaped not

only by national institutions, but also by variations

within countries. This contribution also advances re-

search on geography in international business, which

has been concernedmainly with MNE entry in subna-

tional locations (Beugelsdijk and Mudambi, 2013;

Meyer and Nguyen, 2005), but overlooked the role

of subnational heterogeneity in post-establishment

operational strategies.

We also contribute to the emergent literature on

innovationand IP regimes in global strategy(Chittoor,

Aulakh, and Ray,2015; Khoury, Cuervo-Cazurra,and

Dau, 2014; Monteiro and Zylbersztajn, 2015) by

showing that institutions affect not only firms’own

248 G. D. Santangelo, K. E. Meyer, and B. Jindra

Copyright©2016 Strategic ManagementSociety Global StrategyJournal, 6:247–268 (2016)

DOI: 10.1002/gsj.1137