Does Location Matter?

An Empirical Analysis of Geographic Scope and MNC Market

Valuation
Author(s): Christos Pantzalis
Source: Journal of International Business Studies, Vol. 32, No. 1 (1st Qtr., 2001), pp. 133-
155
Published by: Palgrave Macmillan Journals
Stable URL: https://www.jstor.org/stable/3069514
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 Does Location Matter? An Empirical
Analysis of Geographic Scope and MNC
Market Valuation

Christos Pantzalis
DEPARTMENT OF FINANCE, UNIVERSITY OF SOUTH FLORIDA

This study examines the relation- ing economies have significantly

ship between market valuation and higher market values than MNCs
the geographic scope of U.S. multi- that operate only in countries with
national corporations' (MNCs) for- advanced economies. Furthermore,
eign operations by focusing on the the market value impact of intangi-
importance of the location of MNC ble assets increases with the degree
operations. The location factors uti- of an MNC's expansion into devel-
lized here capture the degree of seg- oping locations only; this result is
mentation/integration between the consistent with the notion that in-
United States and the foreign re- ternalizing markets for the cross-
gions where the MNC operates. The border transfer of intangibles leads
results indicate that MNCs with to competitive advantages.
presence in countries with develop-

INTRODUCTION ternalization theory and the multina-

This article revisits the issue of the
tional network hypothesis, which are the
predominant theories of MNC interna-
determinants of MNC market valuation,
tional involvement.2 Internalization the-
and specifically addresses the impor-
ory asserts that in the event of market
tance of the geographic scope of MNC failure, a firm will create intra-firm mar-
operations by investigating whether lo- kets thereby lowering the costs of orga-
cation factors have an impact on MNC nizing and transacting business. The in-
market valuation. In particular, the focus ternal markets that firms create are for
here is on whether multinationality ad- intermediate products, such as propri-
vantages are derived from location fac- etary technological know-how, manage-
tors, such as the advanced or developing rial skills, marketing skills etc., i.e. in-
nature of the foreign economies where tangible assets which behave as public
the MNC operates (see Dunning [1998]).1 goods in the sense that their value is
The issue of how investors value mul- increased in direct proportion to the
scale of the firm's markets. Since these
tinationality has been linked to both in-

Christos Pantzalis is an Assistant Professor of Finance. His current research interests are
international corporate finance, market efficiency and risk management.

JOURNAL OF INTERNATIONAL BUSINESS STUDIES, 32, 1 (FIRST QUARTER 2001): 133-15

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LOCATION AND MNC MARKET VALUATION

intangibles are based on proprietary in- deciding where to source for certain in-
formation and are specific to the firm, puts or where to declare profits or losses,
their exchange at arms length is difficult. etc. Kogut [1983] states that "in effect,
A firm can bypass transaction difficulties the operation of an international system
and choose to transfer intangibles across has provided the multinational with a
borders by internalizing the markets for string of options written on contingent
such assets. The extent to which this outcomes". Buckley and Casson [1998]
process (i.e., the replacement of outside point out that "flexibility is not just an
markets with internal ones) will be con- element of corporate strategy, but a com-
tinued, depends on the relative benefits ponent of location advantage too". Ac-
and costs of the internalization process. cording to the MNH the valuation effects
If the benefits from employing intangi- of international involvement arise from
bles overseas are large enough to cover MNCs' ownership of a portfolio of valu-
the costs of foreign operations, direct able
in- real options. As Doukas and Travlos
vestment takes place. The implications
(1988) argue, "to the extent that these
of the internalization theory are that
options can be exercised by the MNC
MNCs possess intangible assets and that
and cannot be traded and acquired by
the MNCs' market value is proportional
investors, the value of the firm should
to their degree of foreign involvement.
increase to reflect the incremental value
The multinational network hypothesisof these options". Thus MNC value
(hereafter, MNH), just like the internal-
should increase with higher levels of
ization theory, is based on the premise of
multinationality, because the number of
market failure. Furthermore the MNH
real options available to and exercisable
draws from more recent work that em-
only by the MNC increases.
phasizes dynamic issues of multina- There has been evidence in support of
tional enterprises, such as uncertainty,
both the internalization theory (Morck
market volatility, flexibility and theand Yeung [1991] and [1992]) and the
value of real options.3 While the inter-
MNH (Doukas and Travlos [1988], Dou-
nalization theory and Dunning's eclectic
kas [1995], Allen and Pantzalis [1996],
theory of international production (seeDoukas et al [1999]). This is not surpris-
Dunning [1973], [1977], and [1980])4 ac-
ing given the overlapping nature of the
count for the unique ability of MNCs totwo theories. Both rely on market imper-
reduce costs of operating in uncertain fections to arrive at similar conclusions
international environments, they place regarding MNC performance: market im-
much emphasis on the cost aspect of perfections provide systematic advan-
transactions and less on the profit oppor-tages to MNCs over domestic firms. If
tunities generated by a global network of such advantages exist they must be re-
operations. The MNH stresses that MNCsflected in the market value of MNCs.
derive their advantages over domesticWhereas the internalization theory fo-
cuses on the absence of forward markets,
firms from a transnational network of op-
erations that provides them with operat-the presence of monopolistic buyers, in-
ing flexibility, i.e., with the ability toformational impactedness, the impossi-
arbitrage across segmented and/or in- bility to arrange contracts and govern-
complete national markets by shiftingment intervention (see Buckley and
factors of production across borders, byCasson [1976]), the MNH stresses insti-

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 CHRISTOS PANTZALIS

tutional restrictions, information exter- lizes both a Tobin's Q proxy and an ex

nalities captured by MNCs in the con- cess value measure similar to those de-
duct of international business and the
veloped in Berger and Ofek [1995] and
Lang and Stulz [1994], and it provides
cost savings gained by joint production
in marketing and manufacturing (see evidence that location factors exert sig-
nificant influence on MNC market valu-
Kogut [1984]). The list of the market im-
perfections mentioned in the two theo-ation.

ries obviously overlaps, e.g. informa-The paper is organized as follows: the

tional impactedness and informational next section provides a discussion of the
externalities are the same (for a detailed
relationship between MNC performance
description of transaction cost econom- and location factors, followed by a de-
ics-based internalization see Hennart scription of the effects of product diver-
[1982, 1984]). Kogut [1983, footnote sification,
4] and ownership structure of
concedes that the two theories are based
common equity on MNC market valua-
on the same premise of market failure. tion. The subsequent sections provide a
However, prior empirical studies thatdescription of the sample and the data
have tested the MNH and internalization sources, the empirical methodology, and
theory have not addressed the issue the
of results.
geographic scope of MNC operations and
LOCATION AND OTHER FACTORS OF
how it relates to firm performance. This
MNC PERFORMANCE
study fills this gap by examining the ef-
fect of type of location factors on MNC A plethora of studies has examined the
market valuation. The location factors benefits from international diversifica-
tion for MNCs' shareholders.6 The cur-
are here broadly defined as the MNC's
involvement in geographic regionsrent state of beliefs is that international
con-
sisting of advanced and developing
diversification adds to firm value when it

is pursued in a way that allows for the

economies, respectively. This classifica-
tion considers the fact that US markets
benefits from an international expansion
to overcome the costs of doing business
are more integrated with advanced econ-
omies' markets and more segmentedabroad.
from developing economies markets.5 The use of unidimensional measures
Since market imperfections are more of international involvement (such as th
prevalent when MNCs' operations span foreign sales ratio, the foreign assets ra
segmented national markets, advantages tio, the number of foreign countries, or
derived from internal markets and/or the the number of foreign subsidiaries) i
MNC network are more likely to be ex- studies of the relationship between mul-
ploited when MNCs operate in develop- tinationality and performance has pro
duced inconsistent results.7 The theoret-
ing countries. That is, differences in the
ical focus of these studies is to account
degree of integration between the US
market and the markets in countriesfor the fact that MNCs possess unique
where the US MNCs operate may advantages
create that domestic firms do not
opportunities for US MNCs to bypasshave. For example, Dunning and Rug-
segmentation, transfer their intangible
man [1985] argue that MNCs have more
advantages overseas, and ultimatelydegrees
in- of freedom than comparable
firms
crease their market value. This paper uti- whose operations are limited

VOL. 32, NO. 1, FIRST QUARTER, 2001 135

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LOCATION AND MNC MARKET VALUATION

within the national boundaries of one factors (such as the degree of segmenta-
country. Therefore, one would expect a between the MNC parent country's
tion
firm's market value to increase with the market and the local markets where the
degree of its international involvement. MNC operates), the deployment of intan-
However, since international operationsgible assets in foreign countries may
are associated with additional adminis- have differential effects on market valu-
trative and agency costs, there are
ation. Since the intra-firm transfer of firm
thresholds beyond which the costs of specific
in- skills leads to savings (and thus
ternational expansion may outweigh the
higher profits) when imperfections deem
benefits. As shown in Allen and Pantza- external markets too costly, intangibles'
lis [1996], these thresholds are deter- advantages are expected to result in
mined by the structure of the MNC net-higher market valuation when exploited
work of operations. Allen and Pantzalisacross segmented markets where market
[1996] focus on the value of the operat-failure is more likely. Alternatively, ac-
ing flexibility that a firm derives from its cording to the MNH, when the MNC net-
multinational network.8 Their empirical work spans geographic areas that encom-
findings indicate that MNCs' excess val-pass segmented markets the value of the
uation over domestic competitors is real options available to and exercisable
maximized when MNC operations aresolely by the MNC rises (see Doukas and
spread out over many foreign countries. Travlos [1988]).
This evidence is consistent with the Another possible reason for location
findings of Doukas and Travlos [1988],
factors to have an impact on MNCs' mar-
where foreign acquisitions were found
ket to
values, is that MNCs may provide a
be value enhancing for US MNCs if the
safer vehicle for investing in foreign, par-
target firm is located in a country where
ticularly emerging, countries. Investing
the MNC did not operate before, and in MNCs,
if that are able to utilize their
the target firm is located in a developing
transnational networks to devise opera-
economy.9 The above studies' findingstional hedges across many geographic ar-
seem to imply that location-specificeas
fac-
so as to reduce their foreign exchange
tors may provide the MNC with low-cost
exposures, may provide a safer means of
alternatives to organizing economicbuying
ac- a stake in these fast growing
tivity, thus effectively increasingeconomies.10
the In the past 20 years, emerg-
MNC network's operating flexibility. In
ing markets indices have shown a greater
particular, location factors related to growth, compared with devel-
annual
market segmentation may provideoped the countries' indices.11 Even so,
MNC with an additional competitive
higher returns come at the price of
edge. higher volatility, a by-product of inves-
Internalization theory implies that the tors' encounters with foreign (particu-
ownership of intangible assets and the larly with emerging) market risks, that
ability to create internal markets for or- include asymmetric information, differ-
ganizing cross-border economic activity ent and inconsistent accounting prac-
related to the transfer of intangibles are tices, lack of regulation and potential po-
sufficient conditions for MNCs' market litical risk. In addition, there are capital
value to increase as they expand over-
flow restrictions and institutional re-
seas. However, depending on locationstrictions that may discourage investors

136 JOURNAL OF INTERNATIONAL BUSINESS STUDIES

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 CHRISTOS PANTZALIS

from optimally diversifying their portfo- comes imperative for two reasons.
lios through direct purchase of foreign Firstly, MNCs, in addition to being geo-
securities. Agmon and Lessard [1977] graphically diversified, are typically also
suggested that the international portfolio diversified across industries. Secondly,
diversification objectives of investors their equity ownership structure is quite
can be met indirectly by holding a port- different than purely domestic firms, in
that MNCs are more widely held and
folio of MNC stocks. Some studies (e.g.
Rugman [1979], Brewer [1981], Adler characterized by sizable institutional
and Dumas [1983], and Fatemi [1984], holdings.
among others) have argued that since I utilize two measures of market valu-
ation: Tobin's Q and an excess market
MNCs offer this additional diversifica-
value measure similar to the ones used
tion opportunity, their market values
in Berger and Ofek [1995], and Lang and
should be higher than domestic firms.12
Stulz [1994] in the context of industrial
This reasoning also implies that since
diversification. The latter measure,
financial market imperfections are more
which is labeled Excess Q, is measured
common across segmented capital mar-
kets, the diversification benefits from by
in- the difference between a firm's To-
vesting in stocks of MNCs should bin's
be Q and the firm's imputed Q value.
The imputed Q is computed as the
higher when the MNC network of oper-
ations spans geographic areas whoseweighted average of the "pure-play" Qs
markets are segmented. Thus, MNCs of the different geographic regions in
which the MNC operates. The "pure
with operations in locations were mar-
play" Q of a particular geographic region
kets are segmented should trade at a mar-
ket value premium. is the average Q of all firms that operate
The empirical tests in this study con- only in that region. The geographic re-
trol for two important determinants of gions' weights are constructed by divid-
market valuation, the degree of product/ ing the number of subsidiaries a firm has
industrial diversification and the owner- in a particular region by the firm's total
ship structure of common equity. Recent number of foreign subsidiaries. In the
studies in finance have consistently re- next section I describe the sample selec-
ported a negative relationship betweention process and the data used in the
industrial diversification and perfor-empirical tests.
mance, while there is also plenty of an-
DATA
ecdotal evidence of firms striving for
more focused operations by shedding The sample contains a cross-section of
unrelated lines of business and concen- NYSE- and AMEX-listed, U.S.-based
trating in core activities.13 In addition,mining
a and manufacturing MNCs (i.e.,
large body of evidence on product diver- firms with primary SIC industry codes of
sification strategy and performance 3999, or less). The study period is the
comes from the strategic managementend lit-of the year 1990. The financial data
erature.14 required for the study are from the Com-
The inclusion of industrial diversifica- pustat tapes. The SIC codes reported by
tion and ownership structure measures each firm are taken from Compustat's
as control in our tests of the market value PC-Plus CD-Rom. The common equity
and location factors relationship be- ownership variables are from the Disclo-

VOL. 32, No. 1, FIRST QUARTER, 2001 137

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LOCATION AND MNC MARKET VALUATION

sure CD-Rom. The information related to U.S.-based MNCs, for which there exists
the number of subsidiaries and their geo-a complete set of financial, ownership,
graphic location was extracted from Na- and subsidiary location data. The sam-
tional Register's Directory of Corporateple's composition is described in Tables
Affiliations and Directory of Interna-1 and 2.
tional Affiliations. These publications Table 1 categorizes the MNCs in-
provide a list of each firm's domestic andcluded in the sample into 15 major in-
foreign affiliates, their location, and thedustrial sectors. Reported are the mean
percent ownership by the parent com-values of the market value measures (To-
pany. A firm is included in the sample ifbin's Q and Excess Q), the number of
it owns at least one foreign subsidiary.geographic regions the MNCs operate in,
Only affiliates with at least 50% owner- the corporate focus and the common eq-
ship by the parent are counted as subsid-uity ownership structure variables by in-
iaries. The subsidiaries were assigned todustrial sector. Overall the mean values
eight major geographic regions, depend- of these variables exhibit significant vari-
ing on the location of each subsidiary'sation among the different industry sec-
host country. The eight geographic re-tors. For example, average Tobin's Q val-
gions are: the NAFTA area that includesues hover around 1.4 with a range from
the U.S.A., Canada, and Mexico; the Eu- 1.0789 (Electric Equipment) to 2.1663
ropean Union area, that as of 1990 in- (Food/Tobacco), while the average num-
cluded 12 country members (Belgium, ber of geographic regions ranges from
Denmark, France, Germany, Greece, Ire- 1.8889 (Textiles) to 4.3966 (Chemicals).
land, Italy, Netherlands, Luxembourg, Large variations in average values across
Portugal, Spain, and the U.K.); the re- industrial sectors are observed for all
maining western European countries are other variables as well. Based on the

assigned to the Western Europe area; the variables' wide range of values acr
Advanced Asia area, consisting of Aus- industries, it becomes apparent that it
tralia, New Zealand, Hong Kong, Japan, imperative to control for industry-wid
Singapore and Taiwan; the remaining effects when examining the impact
Asian countries are assigned to the Other location factors on MNC market valua-
Asia area; the Eastern Europe area con- tion.

sists of all countries belonging to the ex- Table 2 - Panel A includes descriptive
Soviet block and the other independent statistics for the market value, the con-
socialist countries (e.g., Yugoslavia); the trol variables, and the multinationality
Central and South America area; and fi- variables. The mean value of Tobin's Q is
nally, the Africa area. The first four re- 1.3954, while the mean Excess Q value is
gions (NAFTA, European Union, West- 0.1348. The average MNC in the sample
ern Europe, and Advanced Asia) are has a 26.32% long-term debt ratio, a beta
regions that consist of advanced econo- (systematic risk) of about 0.89, and it
mies, while the remaining four (Other spends about 3.4% and 2.0% of its sales
Asia, Eastern Europe, Central and South revenues on R&D and advertising, re-
America, and Africa) are categorized as spectively. The average degree of corpo-
developing regions.15 The intersection of rate focus is 51.7%, with a range from
the data sets from the above-mentioned 7.1% to 100%. The ownership structure
sources resulted in a final sample of 420variables reveal that the average MNC in

138 JOURNAL OF INTERNATIONAL BUSINESS STUDIES

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 TABLE 1
N cMEAN VALUES OF TOBIN'S Q, THE NUMBER OF GEOGRAPHIC REGION
z OWNERSHIP VARIABLES, BY INDUSTRIAL SECTOR
Number of Insi
Inusr TbnsQ EcsQ Geographic Corporate (%-Share Blo
t3 Industry Tobin's Q Excess Q Regions Focus Hold
t0
a Mining 1.6197 0.3668 2.3846 0.5624 12
Construction 1.3615 0.1264 4 0.4301 15.
? Food & tobacco products 2.1663 0.8949 3.6842 0.747
O Textile & apparel prod. 1.202 0 1.8889 0.7022
o Lumber, furniture, paper 1.379 0.067 3 0.5585
Printing & publishing 1.4072 0.1756 2 0.4682
Chemicals & allied prod. 1.9572 0.6991 4.3966 0.594
Petroleum & plastic prod. 1.4152 0.1659 3.8065 0.23
Leather, stone, clay, glass 1.313 0.018 2.2 0.4479
Primary metal industries 1.0888 -0.194 2.2727 0.57
Fabricated metal prod. 1.3345 0.068 3.1667 0.437
Industrial machinery 1.1362 -0.122 3.5342 0.5633
Electronic equipment 1.0789 -0.157 2.5111 0.588
Transportation equipm. 1.0805 -0.227 2.9286 0.333
Instruments & miscell. 1.3781 0.1274 3.2778 0.486

The sample consists of 420 U.S.-based MNCs for the yea

value + Long term debt - (Short term assets - Short term
Q and the firm's imputed Q. The imputed Q is compute
particular geographic region is the average Q of all firms th
the number of subsidiaries a firm has in a particular region
of geographic regions the MNC operates in. The geog
Eastern Europe, Central and South America, and Africa. C
Unrelated diversification). Related diversification is measu
, Unrelated diversification is measured by the number of 2
co
CDO5

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LOCATION AND MNC MARKET VALUATION

TABLE 2
DESCRIPTIVE STATISTICS
Panel A:
Descriptive statistics for the market value, focus, ownership structure, multinationality
and the other control variables.

Standard Minimum Maximum

Variable Mean Deviation Value Value

Tobin's Q 1.3954 0.7525 0.47 6.482

Excess Q 0.1348 0.7535 -0.7883 5.2205
Long term debt ratio 0.2632 0.217 0 0.9971
R&D intensity 0.0339 0.0363 0 0.2392
Advertising intensity 0.0203 0.0352 0 0.2346
Total Assets 4758.74 16541.11 22.48 180236
Corporate focus 0.5171 0.2352 0.0714 1
Systematic risk (Beta) 0.8894 0.4448 -0.593 2.573
Insider holdings (%) 12.72 18 0 99.99
Blockholdings (%) 26.41 24.29 0 99.99
Institutional holdings (%) 46.6 18.75 0 79.99
Number of geographic regions 3.2667 1.9627 1 8
Number of foreign countries 8.5238 9.3914 1 56
Number of foreign Subsidiaries 14.3905 22.1279 1 193

discovered.17
the sample is a firm with fairly low in-A closer look at the MNCs'
involvement
sider holdings (12.72% of total share- in the eight broad geo-
holdings) and moderate ownership
graphic con-
regions is provided in Table 2 -
centration levels (26.41%), while the
Panel B. in-

stitutional holdings are quite high

Table 2 - Panel B provides information
(46.60%). The sample includes MNCs
on the distribution of the MNC opera-
tions
with a wide range of degrees of by location as well as on the im-
interna-
tional involvement. On average,
putedMNCs
market value associated with op-
erations
operate in little more than three in each geographic region. Re-
different
geographic regions and over ported
8 foreignis the average number of
countries, while they maintain over 14
subsidiaries in each region, the percent-
foreign subsidiaries. The firmsage
withof MNCs
ex- with presence of at least
treme values (e.g. firms with oneveryforeign
high subsidiary in a region, and
number of subsidiaries, and extreme
the "purein-play" Tobin's Q values associ-
sider ownership) were identifiedatedand
with each geographic region. The
an-
alyzed. However, they were not most
foundcommonto locations served by U.S.
be driving the results that are MNCs (measured by the percent of
presented
in this study.16 Furthermore, I MNCs with foreign subsidiaries in the
performed
an examination of the correlations be- region) are the NAFTA and the European
tween variables as part of a multicol-
Union regions, with 76.9% and 81.7%,
linearity check prior to running therespectively.
re- These are followed by the
Advanced Asia region (with 55.7%), and
gressions that follow in the next section.
No unusually large correlations were the Western Europe and the Central and

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 CHRISTOS PANTZALIS

TABLE 2
Panel B:
Number of foreign subsidiaries per geographic region, proportion of MNCs with at leas
one foreign subsidiary, and "pure play" Tobin's Qs, by geographic region. Reported are
mean values and standard deviations (in parentheses).

Number of Proportion of MNCs

Foreign with at Least One "Pure Play"
Subsidiaries in Foreign Subsidiary Tobin's Q
Geographic Region the Region in the Region per Region'
Advanced countries regions:
NAFTA 2.06 0.769 1.4745
(2.91) (0.422) (0.8731)
European Union 6.24 0.817 1.1903
(10.25) (0.387) (0.4588)
Western Europe 1.12 0.338 1.4626
(2.55) (0.474) (0.7821)
Advanced Asia 2.27 0.557 0.9563
(3.95) (0.497) (0.2046)
Total Advanced Regions 11.79 0.986
(17.88) (0.119)
Developing countries regions:
Other Asian 0.68 0.557 1.2794
(1.76) (0.497) (0.5029)
Eastern Europe 0.08 0.050 0.8842
(0.39) (0.218) (1.1032)
Central and South America 1.38 0.336 1.3236
(3.12) (0.473) (0.8682)
Africa 0.38 0.143 1.3040
(1.57) (0.350) (0.7920)
Total Developing Regions 2.52 0.431
(5.80) (0.496)

The "pure play" Tobin's Q of an advanced region

in that region only. The pure play Q of a develo
Qs with operations in that developing region al

The "pure
South America regions (eachplay" with
Tobin's Q reported
aboutin
the last
33%). The region with the column of Table 2-PanelMNC
smallest B are
computed
presence is the Eastern as the mean Tobin's
European Q values
region
with about 5% of all of all
MNCsMNCs with operations concen-
maintaining
at least one foreigntrated in the particular
subsidiary geographic
there. A re-
gion.18 The "pure
look at the average number of play" Qs range from
subsidiar-
1.47 sample
ies per region for the (NAFTA region) to 0.88 (Eastern
reveals that Eu-
on the average US MNCs
rope). Thesemaintain about
values represent the average
market European
six subsidiaries in the value associated with geographi-
Union
region, followed by about
cally two in
focused operations foreign
a region. The
subsidiaries in the NAFTA and the Ad- rationale behind the use of geographic
vanced Asia regions. regions' "pure play" Qs is to create a

VOL. 32, No. 1, FIRST QUARTER, 2001 141

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LOCATION AND MNC MARKET VALUATION

benchmark (imputed) value for any some common equity ownership struc-
given level of geographic diversification. ture variables. Thus, initially, the MNC
This benchmark can be designed as the market value relationship is modeled as
weighted sum of a firm's "pure play" Qs follows:
from the different regions where it oper-
ates. In this study, I test whether the market value = f(leverage,
difference (Excess Q) between actual and intangibles, size, focus, risk,
imputed valuation, as well as the tradi- ownership structure, location
tional measure of market value (Tobin's factors, industry effects) (1)
Q), are related to location factors.
The following section includes a de- The functional relationship in equa-
scription of the empirical methodology tion (1) can be transformed into the fol-
and the variables used in the empirical lowing equation form model to be esti-
models. mated:

METHODOLOGY
V= ao + alLTD + a2RD + a3AD
The MNC market value is modeled as a
+ a4SIZE + a5FOCUS + a6BETA
function of commonly used control fac-
tors (see Morck and Yeung [1991], Allen + a7INSIDE + asINSIDE_SQ
and Pantzalis [1996], and Christophe
+ acBLOCK + a10INSTIT
[1997], among others), such as leverage,
level of intangibles, size, risk, and the + a11ADVA + a12DEVE
firm's involvement in different geo-
+ SajINDj + E. (2)
graphic locations. Leverage is included
to control for any cross-sectional varia-
tion in firm valuations due to differences where, V is the market value of the
in capital structure. Intangibles control MNC, measured either by Tobin's Q or
for firm-specific advantages (such as by the Excess Q measure. The Tobin's Q
technical expertise and consumer good- proxy used here is the one introduced by
will) that are associated with enhanced Chung and Pruitt [1994], measured as
market values. Size is included to cap- [Market Value of Common Equity + Pre-
ture the value of intangibles related to ferred Stock Liquidating Value + Long-
firm size. Risk is included to control for Term Debt - (Short Term Assets-Short
the possibility that market values varyTerm Liabilities)]/(Total Assets). Excess
cross-sectionally with risk levels. The lo-Q is measured by the difference between
cation factors that I examine are thosea firm's Tobin's Q and the firm's imputed
indicating MNC operations in advanced-Q value, as described before. LTD is a
and/or developing economic regions. Inmeasure of financial leverage, measured
addition to the above, the model in- as (Long Term Debt)/(Market Value of
cludes two factors that have been shown Equity + Book Value of Debt). The
to yield significant influence on market MNCs' investments in intangible assets
values, but have not been jointly used in are captured by RD and AD. RD is a
studies of MNC valuation. These are the measure of R&D intensity measured by
degree of corporate focus (an inverse cor-the ratio of R&D Expenditures to Sales.
porate diversification measure) andAD is a measure of advertising intensity,

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 CHRISTOS PANTZALIS

measured by the ratio of Advertising Ex- (intangibles) and higher market valua-
penditures to Sales. SIZE is measured by tion associated with multinationality.
the natural log of the Book Value of Total Therefore, following past studies (Morck
Assets. The corporate focus measure, and Yeung [1991], Christophe [1997],
FOCUS, is measured as the ratio of re- Doukas et al [1999]), the model should
lated diversification to the sum of related contain interaction terms of the firm's
and unrelated diversification. Related di- international involvement and it's level
versification is measured by the numberof intangibles. Thus, the resulting modi-
fied model to be estimated is specified as
of 4-digit SIC industries within the firm's
primary 2-digit SIC industry. Unrelated
diversification is measured by the num-
V= ao + a,LTD + a2RD + a3AD
ber of 2-digit SIC industries outside the
firm's primary 2-digit SIC industry.19 + a4SIZE + a5FOCUS+ a6BETA
BETA is the systematic risk measure, + a7INSIDE + a8INSIDE_SQ
computed from the market (single-index)
model using a value-weighted market + agBLOCK + aloINSTIT
portfolio and monthly returns over a 60- + aclADVA + a12DEVE + a,3ADVA
month period prior to the year of the
X INTA + a,4DEVE X INTA
study. INSIDE is the percent of total
common-shares outstanding that is + ajINDj + e (3)
owned by insiders. A squared term (IN-
SIDE_SQ) is added to control for the ex-
where, INTA is the firm's intangibles'
istence of a curvilinear relationship be-
intensity measured as the sum of RD and
tween managerial shareholdings and V,
as was shown, among others, in McCon-
AD. The results from estimating equa-
nell and Servaes ([1990], and [1995]). tions (2) and (3) are presented in the next
section.
BLOCK is the percent of shares owned by
blockholders. INSTIT is the percent of
EMPIRICAL RESULTS
shares owned by institutions. ADVA
captures the degree of MNC involvement The analysis using the regression mod-
in advanced geographic locations (i.e., in els presented in the previous sections is
geographic areas with advanced econo- aimed at a stepwise exploration of the
mies), and DEVE describes MNC in- link between location specific factors
volvement in developing locations. and market value. In the first stage,
ADVA (DEVE) will be measured either model (2) is estimated, in which market
by the number of advanced (developing)value (V) is related to broad measures of
regions or by the number of foreign sub-international operations' locations in ad-
sidiaries located in countries assigned todition to the control variables that in-
the advanced (developing) regions. Fi- clude the corporate focus and the own-
nally, the model includes a series of ership structure variables. These results
2-digit SIC industry dummy variables are included in Table 3.
(INDj) in order to account for industry Reported in Table 3 are the coefficients
effects. of the regressions of V on two measures
MNC theory predicts that there is a of location (ADVA and DEVE). Four vari-
correlation between firm-specific skills ants of the model are estimated corre-

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LOCATION AND MNC MARKET VALUATION

TABLE 3
MARKFT VALUE AND ILOCATIONFACTORS
V =ao+a,LTD + a2RD + a3AD + a4SIZE + a5FOCUS + a6BETA + a7INSIDE +ar8INSIDE SQ

+ a9BLOCK + ajoINSTIT + ajjADVA + a,DEVE + 1a1V\D1 + E

Market value, V, is measured by Tobin's Q in regressions (I) and (RI) and by Excess Q in
regressions (II) and (IV). SIZE is measured by the log of Total Assets. Location factors ADVA
(DEVE) are measured by the number of advanced (developing regions) the firm operates in
(regressions (I) and (II)), or by the number of the firm's foreign subsidiaries in advanced
(developing) countries (regressions (IIll) and (IV)). Reported are the coefficients for each of the
variables and their corresponding t-values in parentheses. The coefficients of the 2-digit SIC
industry dummies (IND,) included in the regression are not reported.

Int'l Involvement Measured by the Int'l Involvement Measured by the

Number of Foreign Regions Number of Foreign Subsidiaries

(I) Dep. (II) Dep. (III) Dep. (IV) Dep.

Variable V: Variable V: Variable V: Variable V:
Variable Tobin 's Q Excess Q Tobin 's Q Excess Q

Intercept 0.9011*** -0.3666* 0.8049** * -0.4713**

(4.08) (-1.67) (3.65) (-2.13)
Long term -0.9221***
debt -0.9001*** -0.9441*** -0.9273***
ratio (LTD) (-5.68) (-5.58) (-5.81) (-5.71)
R&D intensity 1.6156 1. 7292* 1.6636 1.7788*
(RD) (1.57) (1.69) (1.62) (1.73)
Adver-tising 1. 7104* 1.5803 1.8735* 1.7959*
intensity (AD) (1.70) (1.58) (1.87) (1.79)
Size (SIZE) -0.0604* * -0.0715*** -0.0245 -0.0277
(-2.24) (-2.67) (-0.93) (-1.05)
Corporate Focus 0.3932*** 0.4331*** 0.3996** 0.4423***
(FOCUS) (2.59) (2.88) (2.64) (2.92)
Systematic Risk 0.0117 0.0056 0.0333 0.0258
(BETA) (0.16) (0.08) (0.45) (0.35)
Insiders-% 0.0087* 0.0063 0.0094* 0.0070
(INSIDE) (1.88) (1.37) (2.02) (1.52)
(Insiders-%)' -0.000086 -0.000063 -0.000092* -0.000069
(INSIDE~SQJ (-1.55) (-1.14) (-1.67) (-1.26)
Blockholders-% -0.0042* ** -0.0035*** -0.0041*** -0.0034* *
(BLOCK) (-2.91) (-2.46) (-2.87) (-2.38)
Institutions-% 0.0091** 0.0090** 0.0092** * 0.0092**
(INS TIT) (4.45) (4.43) (4.48) (4.49)
Involvement in 0.0318 0.0454 -0.0045* -0.0040*
ADVA locations (0.95) (1.36) (-1.94) (-1.71)

Involvement in 0.0475 0.0755* * 0.0126* 0.0148* *

DEVE locations (1.36) (2.18) (1.86) (2.17)

Industry dummies
(INDh) Yes Yes Yes Yes

N = 420
Adjusted-I?2 0.3814 0.3907 0.3828 0.3842
F-value 8.598 8.901 8.643 8.688

and * denote significance a

144 144 ~~~~~~~~~JOURNA

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 CHRISTOS PANTZALIS

sponding to different measures of loca- ship concentration reduces firm value

tion factors and market valuation. The On the other hand, institutional holding
location factors, ADVA and DEVE, are (INSTIT) have a positive impact on firm
measured either by the number of ad- value, consistent with the notion that
vanced and developing geographic re- institutions are effective monitors of
gions (models (I) and (II)) or by the num- managerial actions.
ber of foreign subsidiaries (models (III) The results of Table 3 show that the
and (IV)) in advanced and developing impact of international involvement on
regions, respectively. The dependentfirm valuation varies depending on the
variable, V, is measured either by To- type of location of the MNC's operations.
bin's Q (models (I) and (III)) or by theInvolvement in advanced economies' lo-
Excess Q measure (models (II) and (IV)). cations (ADVA) has a negative effect on
The control variables' impact on V isfirm value, in two out of the four regres-
mostly significant and consistent with sions, while involvement in developing
prior studies: LTD is negatively related economic regions (DEVE) has a strong
to V, while the RD and AD coefficients positive impact on V in three out of the
are positive. SIZE is negatively related to four regressions. This result is consistent
V at conventional significance levels in with the notion that location does mat-
two out of the four regressions. The co- ter. In particular, it indicates that MNCs
efficient of FOCUS is positive (and sig- can increase their market values by ex-
nificant at the 1%-level), indicating that panding into developing economies.
firms that are focused in few lines of As further evidence of the importance
business are associated with higher mar-
of MNC involvement in developing loca-
ket valuation, consistent with results tions,
re- I provide a comparison of MNCs
ported in Lang and Stulz [1994], Com-
that operate in developing areas and
ment and Jarrell [1995], and Berger andMNCs that operate only in advanced eco-
Ofek [1995], among others. BETA's coef-nomic areas.

ficient is not significant, which indicates

Table 4 reports the mean and standard
deviations for the different variables
that systematic risk does not impact mar-
ket value. This is consistent with the used in this study for both groups of
findings of Shin and Stulz [2000] who MNCs, as well as the t-statistic for the
reported that although Tobin's qmeans in- difference significance test. The
creases with systematic risk, this resultmean Tobin's Q (Excess Q) of the MNC
does not hold for the largest firms, suchgroup with operations in developing lo-
as the MNCs in this study's sample.cationsThe is 1.4834 (0.2595), which is sig-
sign of the insider shareholdings vari- nificantly larger (at the 5%-level) than
ables' coefficients are in line with the that of the MNC group without opera-
curvlinear relationship found in prior tions in developing locations (mean To-
studies (e.g., McConnell and Servaes bin's Q and Excess Q values of 1.3287
[1990 and 1995]). It should be noted and 0.0403, respectively). This finding is
though, that the coefficients of INSIDE
consistent with the regression results
and INSIDE_SQ are not always signifi-from Table 3. Furthermore, Table 4
cant at the conventional 10%-level. shows that the average MNC with devel-
Blockholdings (BLOCK) have a negative
oping locations operations is larger, has
effect on V, indicating that high owner-
presence in more foreign countries, op-

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LOCATION AND MNC MARKET VALUATION

TABLE 4
COMPARISON OF FIRM CHARACTERISTICS OF MNCs WITH AND WITHOUT
OPERATIONS IN DEVELOPING REGIONS
Reported are the mean and standard deviation for each variable, as well as the t-statistic
for the means difference test between the samples of MNCs with- and without operations
in developing regions.

MNCs With MNCs Without

Operations in Operations in Means Difference
Developing Regions Developing Regions Test t-Statistic
Variable (N = 239) (N = 181) (p-value)
Tobin's Q 1.4834 1.3287 2.05**
(0.8095) (0.7006) (0.041)
Excess Q 0.2595 0.0403 2.92***
(0.8091) (0.6954) (0.004)
Total assets 9058 1502 4.19***
(24017) (3933) (0.000)
R&D intensity 0.0359 0.0323 1.02

(0.0333) (0.0384) (0.306)

Advertising intensity 0.0215 0.0194 0.61

(0.0337) (0.0364) (0.544)

Growth of sales 0.0858 0.0728 0.93
(0.1556) (0.1218) (0.356)
Long term debt ratio 0.2600 0.2656 -0.26

(0.2096) (0.2229) (0.792)

Corporate focus 0.5209 0.5142 0.29

(0.2273) (0.2415) (0.770)

Systematic risk (BETA) 0.8944 0.8827 0.27
(0.4801) (0.3947) (0.784)
Insider-% holdings 10.71 14.25 -2.03**
(17.08) (18.54) (0.043)
Blockholder-% holdings 22.03 29.74 -3.29***
(22.96) (24.79) (0.001)
Institutions-% holdings 50.86 43.38 4.21***
(16.71) (19.59) (0.000)
Number of foreign 15.01 3.62 13.73***
countries (10.77) (3.39) (0.000)
Number of foreign 26.40 5.30 9.70***
subsidiaries (28.63) (7.02) (0.000)

***, **, and * denote significance at the 1%-, 5%- and 10%-level, respectively.

erates more foreign subsidiaries, has

sider holdings which is significant at the
lower insider shareholdings and owner- 5%-level. Interestingly, there is no sig-
ship concentration, and larger institu-nificant difference between the two
tional shareholdings than the average groups' means in terms of capital struc-
MNC without developing locations oper- ture, degree of corporate focus, system-
ations. All these mean differences are atic risk, growth of sales, and intangi-
significant at the 1%-level, except for bles'
in- intensity.

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 CHRISTOS PANTZALIS

There are several possible explana- theory that stresses international diver-
tions for the results from the previous sification opportunities predicts that for-
two tables. First, one can argue that the eign involvement should increase value
results imply that MNCs are more likely regardless of whether the firm owns such
to be successful in exploiting structural intangibles or not. In that case one or
market imperfections in smaller, less de- both location factors' coefficients should
veloped and less competitive markets, be positive and the interaction variables
such as the developing economic re- coefficients should be insignificant. Re-
gions. Second, one can argue that the sults obtained from estimating equation
benefits from indirect international di- (3) are presented in Table 5.
versification are higher in the case of The relationship between the control
MNCs expanding in developing loca-variables and V is similar to that in Table
tions where investor portfolio diversifi- 3. The location variables' coefficients are
cation is harder to achieve via direct pur-not significant at conventional levels,
chase of foreign securities. Alternatively,implying that after controlling for its in-
this finding is consistent with the notionteraction with firm intangibles, the loca-
that market failure is more common in tion of MNC international involvement
does not affect MNC market valuation.
the market for the transfer of intangible-
based, firm-specific advantages acrossThe coefficient of ADVAXINTA is not
developing economic locations, wheresignificant at conventional levels which
indicates that intangibles' advantages
external markets for such transfers may
be incomplete or non-existent. Thus, deployed in advanced economic regions
do not impact firm valuation. The coef-
the segmented nature of developing mar-
kets allows MNCs to exploit market fail-
ficient of the interaction of the intangi-
ure with their ability to utilize theirbles with developing regions' locations
network of operations to span markets (DEVEXINTA) is positive and significant
across developing economic regions. at the 1%-level, or better, throughout.
I turn to these issues next, by examin-These results imply that companies with
ing the interaction of location factorsfirm-specific skills can enhance their
and MNC intangibles as modeled in market values by expanding their inter-
equation (3). national operations into developing eco-
According to the internalization the- nomic locations only. The results are
ory, foreign involvement increases value also in line with the argument that by-
because it allows firms to use intangibles passing external markets for the transfer
on a larger scale. Thus, the internaliza- of firm-specific advantages (such as tech-
tion theory predicts that the coefficients nological know-how and marketing and
of the interaction terms of location fac- managerial skills) and creating internal
tors with intangibles in equation (3) ones, is profitable when external markets
should be positive. Also, according to are incomplete or imperfect. This is pri-
the internalization theory, if a firm does marily the case for segmented markets
not have such intangibles, foreign in- across developing economic regions.
volvement should not add to the firm's Overall the results of the univariate
market valuation, i.e., the coefficients of
tests and the regression tests indicate
the location factors should be zero (in- that MNC market valuation is positively
significant). On the other hand, the MNC associated with involvement in develop-

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 TABLE 5
MARKET VALUE, LOCATION FACTORS AND INTERACTION OF LOCATION FACTORS
WITH INTANGIBLES
V = ao + a1LTD + e2RD + a3AD + a4SIZE + asFOCUS + a6BETA + a7INSIDE
+a8INSIDE_SQ + aeBLOCK + aloINSTIT + a11ADVA + a12DEVE + a13ADVA
x INTA + aX14DEVE X INTA + aotINDj + e

Market value, V, is measured by Tobin's Q in regressions (I) and (III) and by Excess Q in
regressions (II) and (IV). The intangibles variable, INTA, is measured as the sum of the R&D
and advertising intensities, i.e. as RD + AD. Location factors ADVA (DEVE) are measured by
the number of advanced (developing regions) the firm operates in (regressions (I) and (II))or
by the number of the firm's foreign subsidiaries in advanced (developing) countries
(regressions (III) and (IV)). Reported are the coefficients for each of the variables and their
corresponding t-values in parentheses. The coefficients of the 2-digit SIC industry dummies
(IND,) included in the regression are not reported.

Int'l Involvement Measured by the Int'l Involvement Measured by the

Number of Foreign Regions Number of Foreign Subsidiaries
(I) Dep. (II) Dep. (III) Dep. (IV) Dep.
Variable V: Variable V: Variable V: Variable V:
Variable Tobin's Q Excess Q Tobin's Q Excess Q

Intercept 0.9791*** -0.3006 0.0834*** -0.4760**

(4.16) (-1.28) (3.66) (-2.17)
Long term debt -0.9030*** -0.8821*** -0.9499*** -0.9351***
ratio (LTD) (-5.64) (-5.53) (-5.88) (-5.79)
R&D intensity 0.9251 1.2071 1.5613 1.7700
(RD) (0.52) (0.68) (1.41) (1.60)
Advertising 0.3524 0.4234 1.3924 1.4088
intensity (AD) (0.20) (0.24) (1.31) (1.33)
Size (SIZE) -0.0602** -0.0712*** -0.0162 -0.0202
(-2.26) (-2.68) (-0.61) (-0.76)
Corporate Focus 0.3781** 0.4199*** 0.4008*** 0.4449***
(FOCUS) (2.52) (2.82) (2.67) (2.96)
Systematic risk 0.0052 -0.0011 0.0262 0.0187
(BETA) (0.07) (-0.02) (0.36) (0.25)
Insiders-% 0.0080* 0.0057 0.0092** 0.0070
(INSIDE) (1.74) (1.25) (1.99) (1.51)
(Insiders-%)2 -0.000078 -0.000056 -0.000091* -0.000070
(INSIDE_SQ) (-1.43) (-1.03) (-1.65) (-1.27)
Blockholders-% -0.0037*** -0.0030** -0.0038*** -0.0032**
(BLOCK) (-2.57) (-2.13) (-2.69) (-2.24)
Institutions-% 0.0088*** 0.0088*** 0.0088*** 0.0089***
(INSTIT) (4.37) (4.37) (4.31) (4.33)
Involvement in 0.0397 0.0560 -0.0020 -0.0009
ADVA locations (0.84) (1.19) (-0.47) (-0.20)
Involvement in -0.0632 -0.0310 -0.0122 -0.0094
DEVE locations (-1.30) (-0.64) (-1.09) (-0.84)
ADVA X -0.1836 -0.2348 -0.0489 -0.0556
Intangibles (-0.28) (-0.36) (-1.03) (-1.17)
(INTA)
DEVEX 1.8036*** 1.7415*** 0.3733*** 0.3644***
Intangibles (3.03) (2.94) (2.73) (2.66)
(INTA)
Industry dummies
(INDj) Yes Yes Yes Yes
N = 420
Adjusted-R2 0.3992 0.4064 0.3932 0.3932
F-value 8.734 8.967 8.542 8.543

***, **, and * denote significan

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 CHRISTOS PANTZALIS

ing economic regions, provided that the markets where market failure is more
MNC possesses firm-specific skills that likely.
can be transferred across borders. These The results of this study are consistent
with
findings confirm the internalization hy- both the internalization theory and
pothesis (in line with Morck and Yeung Multinational Network Hypothesis. On
one hand the evidence indicates that in-
[1991]), with the additional insight that
internalization leads to increased market
ternalization advantages from ownership
valuation only when carried out acrossof intangibles increases market value. On
segmented markets, such as developing the other hand, the results are also con-
economic locations. This is also consis- sistent with the notion that MNC advan-
tages increase market value when the
tent with the MNH, in that it highlights
the importance of MNC operations' net- network includes developing econ-
MNC
work structure in capturing the value omies'
im- locations, implying that the value
pact of multinationality. The value ofof the real options portfolio that MNCs
the
possess
real options portfolio that the MNC pos- increases when they operate
sesses increases when the MNC network across segmented markets.
encompasses locations whose marketsThe main limitation of this study is that
are segmented, such as the developing it is performed on a sample for a single
economic regions. year. A simple extension of this study
would be to test for the stability of the
CONCLUSION results by repeating the tests for different
years. Especially interesting would be an
The average market value of MNCs examination of the relationship outlined
with operations in developing areas is
here during a period of extreme uncer-
significantly higher than that of MNCs
tainty (e.g., during the 1997 Asian cur-
whose network of subsidiaries does not
rency crisis) when market segmentation
include operations in developing re- and market failure issues become more
gions. MNC involvement in emerging important. Another possible extension is
(developing) markets is associated with
to examine the wealth effects of foreign
higher market valuation, while MNC in-
acquisitions by US MNCs in different re-
volvement in economically advanced re-
gions to test whether the market rewards
gions generally does not add to value.
MNC expansion in developing economies
Furthermore, the findings provide evi-
regions. This can be performed using a
dence that the interaction of location fac-
standard event study methodology where
tors with firm-specific intangibles is as-the abnormal stock returns around suc-
sociated with higher market valuation incessful acquisitions announcements are
the case of developing locations and not
related to the location factors described
in the case of advanced locations. This here.
implies that MNCs may derive internal-
NOTES
ization advantages primarily from oper-
ations in developing economies' regions, 1. The location advantages are a func-
consistent with the notion that internal- tion of geographic and/or economic area-
izing markets for the transfer of propri- specific factors such as capital controls,
etary know-how is more valuable when transfer pricing policies, anti-trust poli-
the transfer occurs across segmented cies, labor market policies, intellectual

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LOCATION AND MNC MARKET VALUATION

property laws, size of the local market, [1992], Dunning [1980], Siddhartan and
distance from the headquarters, political Lall [1982], Kim and Lyn [1986], and
stability, tax policy, local culture etc. For Geringer, Beamish and Da Costa [1989],
a detailed discussion of the location fac- among others.
tor's impact on MNCs see Dunning 7. The effect of international involve-
[1998]. ment on MNC performance in previous
2. The theory of internalization was empirical studies has varied from posi-
formulated by Buckley and Casson tive, to negative to insignificant. Grant
[1976], Casson [1979], Rugman [1980. [1987], Morck and Yeung [1992], Kim
1981] and Hennart [1984] among others, and Lyn [1986], and Errunza and Senbet
and its arguments are based on transac- [1981] find a positive relationship be-
tions costs-related market imperfections tween MNC performance and degree of
described in Williamson [1975]. The international involvement. Errunza and
Senbet [1984], Dunning [1980], and Ku-
multinational network hypothesis can be
traced to Kogut [1983]. mar [1984] find an insignificant effect,
3. For example see Buckley and Cas-while the reported relationship in Sidd-
son [1998], Kogut and Zander [1993], hartan and Lall [1982] is negative. Morck
Kogut and Kulatilaka [1994], Rugman, and Yeung [1991] utilize pre-specified
D'Cruz and Verbeke [1995] among inflection points to account for different
others. degrees of international involvement.
4. The eclectic theory attempted to ex-They find that the value of MNCs in-
plain the "why", "where", and "how" of creases only if the firm has intangible
international production. The eclecticassets such as R&D. On the other hand
theory of FDI asserts that at any given they find that the effect of multination-
point in time the amount of foreign as- ality itself on market valuation is nega-
sets owned by an MNC would be a func- tive and insignificant, especially for
tion of the following factors. a) owner- large MNCs. Geringer, Beamish, and Da-
ship specific advantages vis-a-vis domes-Costa [1989] report that the relationship
tic firms, b) location or country-specificis positive for low levels of international
advantages, and c) the extent to whichinvolvement and negative beyond a
these advantages could be internalizedthreshold level of internationalization.
Allen and Pantzalis [1996] show the im-
by the firms themselves, rather than mar-
portance of the MNC subsidiary network
keted to foreign firms via outside market
contracts. structure in that the relationship be-
5. Market segmentation is caused tween
by: internationalization and market
valuation changes from positive to nega-
government intervention and controls,
tive depending on the "Breadth" (i.e.
political risk, tax differences, tariffs and
quotas, transportation costs and the non-how spread out) and "Depth" (i.e. how
tradeable nature of some goods that concentrated)
in- the MNC subsidiary net-
hibits international arbitrage activity. work.
All
of these are consistent with high trans-8. By operating flexibility one means
actions' costs that cause international the ability of MNCs to engage in arbitrage
parity conditions to fail. in both the real and the financial mar-
6. See Errunza and Senbet [1981] and kets, by internalizing markets within
[1984], Morck and Yeung [1991] and their subsidiaries network across na-

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 CHRISTOS PANTZALIS

tional borders. Kogut [1983], and Kogut earn excess returns, while Brewer [1981]
and Kulatilaka [1995] have addressed found no difference between MNCs and
this issue in a theoretical context. Allen purely domestic firms. Michel and
and Pantzalis [1996] showed that the Shaked [1986] found that domestic firms
have better risk-adjusted performance
value of the MNCs' operating flexibility
is a function of the multinational subsid- than MNCs. MNCs however were found
to have lower levels of both systematic
iary network structure. In particular they
and total risk.
showed that certain networks (i.e., these
that expand in many countries, with few 13. Lang and Stulz [1994] showed that
market value (Tobin's Q) declines with
subsidiaries per country) maximize the
the number of business segments re-
value of operating flexibility, and conse-
quently, the value of the firm. ported by firms. This value loss from
diversification is known as the "diversi-
9. Doukas [1995] provides similar evi-
fication discount". Berger and Ofek
dence showing that investors tend to re-
ward more the initial than the subse- [1995] found that the sum of the imputed
quent foreign investments of US MNCs. values for the individual business seg-
10. For example, Rugman [1976] ments
pro-of a diversified firm is about 13 to
vides evidence that MNCs enjoy more
15 percent higher than the value of the
stable earnings than purely domestic firm. Comment and Jarrell [1995] exam-
ined asset sales transactions that re-
firms because of the geographic diversi-
sulted in an increase of firm focus and
fication of their real asset portfolios.
11. See Butler [2000, p. 572], Bekaert
found a positive effect on shareholder
value.
et al [1998], Bekaert and Harvey [1997],
and Rouwenhorst [1998]for evidence 14. The strategic management stream
of the diversification literature focuses
that investments in emerging markets of-
fer higher expected returns, but alsoon economies of scope and synergies in
higher risk than investments in majorbusiness operations rather than on mar-
markets like the US. For example, Rou-ket power. It therefore distinguishes dif-
wenhorst [1998] shows that emergingferent types of diversification strategies
markets' dollar monthly returns over the(see among others, Palepu [1985], Mont-
1982-1997 period exceed 2 percent in gomery [1982], Rumelt [1974, 1982]).
more than half of the 20 countries in his The overwhelming evidence of strategic
sample. The corresponding standard de-management studies is that related di-
viation is much higher than in devel- versifiers (those expanding into similar
oped markets (more than 10 percent for lines of business) exhibit higher perfor-
about half of the countries). mance levels than unrelated diversifiers
12. The empirical evidence on this is-(see, for example, Rumelt [1974], Chris-
sue is largely inconclusive. Jacquilat and tensen and Montgomery [1981], Bettis
Solnik [1978] provide evidence that sug-and Hall [1982], and Palepu [1985].
gested that MNCs are a poor substitute to 15. Note that the inclusion of Mexico
investments in an international portfo-in the NAFTA region (which is an ad-
lio. Hughes et al [1975] showed that most vanced economic region) is not intended
results in such studies are sensitive to to label Mexico's economy as "ad-
the choice of the market index. Mikhail vanced". Indeed, Mexico was an LDC in
and Shawky [1979] found that MNCs
1990, but this paper's classification of

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LOCATION AND MNC MARKET VALUATION

Mexico in NAFTA accounts for the fact sure avoids some of the problems inher-
that Mexican real and financial markets - ent in broader measures such as the
because of the NAFTA agreement - were number of business segments reporte
considerably more integrated with USby the firm.
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