Emerging Markets Finance and Trade

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Determinants of Entry Mode Choice of MNCs in

Emerging Markets : Evidence from South Africa
and Egypt

SUMON KUMAR BHAUMIK & STEPHEN GELB

To cite this article: SUMON KUMAR BHAUMIK & STEPHEN GELB (2005) Determinants of Entry
Mode Choice of MNCs in Emerging Markets : Evidence from South Africa and Egypt, Emerging
Markets Finance and Trade, 41:2, 5-24, DOI: 10.1080/1540496X.2005.11052603

To link to this article: https://doi.org/10.1080/1540496X.2005.11052603

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Emerging Markets Finance and Trade, vol. 41, no. 2,
March–April 2005, pp. 5–24.
© 2005 M.E. Sharpe, Inc. All rights reserved.
ISSN 1540–496X/2005 $9.50 + 0.00.

SUMON KUMAR BHAUMIK AND STEPHEN GELB

Determinants of Entry Mode Choice of

MNCs in Emerging Markets
Evidence from South Africa and Egypt

Abstract: It is now stylized that the importance of foreign direct investment for developing
countries and emerging markets arises from the impact of the presence of multinational
corporations (MNCs) in the host country on the productivity of local firms, by way of tech-
nology diffusion and competition. There is also general agreement that the extent of tech-
nology transfer by an MNC to a developing country affiliate depends on the extent of its
control on the local affiliate and that, in turn, the extent of this control depends on the mode
of entry of the MNC into the host country. However, the existing literature is based on the
experience of developed countries and as such does not contribute to the literature on
development economics. This article addresses this lacuna using unique firm-level data
from South Africa and Egypt. Our results indicate that the determinants of entry mode
choice not only differ between developed and developing countries, but also among devel-
oping countries. They also bring into question the role of MNCs in fostering productivity
growth in developing countries.

Key words: entry mode choice, local institutions, local knowledge, multinational corpora-
tions (MNC), technology transfer.

Sumon Kumar Bhaumik (s.bhaumik@qub.ac.uk) is lecturer at the School of Manage-

ment and Economics, Queen’s University Economics, Belfast, UK; research associate at
the Centre for New and Emerging Markets, London Business School, UK; and research
fellow at William Davidson Institute, Ann Arbor, Michigan. Stephen Gelb (sgelb@the-
edge.org.za) is director of the EDGE Institute, Johannesburg, South Africa. The authors are
grateful to the Economic Research Forum, Cairo, for firm-level data from Egypt and back-
ground information about the Egyptian economy; Paul Cousins, Saul Estrin, Klaus Meyer,
Simon Commander, Jeffrey Nugent, and seminar participants at the 2003 annual meeting of
the Allied Social Science Association for valuable comments; and to Caitlin Frost, Maria
Bytchkova, and Gherardo Girardi for research assistance. The authors remain responsible
for all remaining errors. The research was made possible by a grant from the Department
for International Development of the British government.

5
6 EMERGING MARKETS FINANCE AND TRADE

By the end of the twentieth century, foreign direct investment (FDI) had effec-
tively replaced trade as a driver of economic growth in less developed and emerg-
ing economies. In 2002, there were an estimated 65,000 multinational corporations
(MNCs) with about 850,000 worldwide affiliates employing about 54 million
employees, a rise of 141 percent over the 1990 employment figure for MNCs
(UNCTAD 2002). Over the same period, the stock of outward FDI increased from
$1 trillion to $6.6 trillion, and MNCs accounted for about 10 percent of the world’s
GDP and about 33 percent of the world’s exports.
The developing world continues to receive a minuscule proportion of global
FDI flows. In 2001, for example, developing countries received a paltry $205 bil-
lion in FDI, or less than 5 percent of the global FDI, with China alone accounting
for more than a quarter of the developing world’s FDI flows. In other words, it is
difficult to conceive of FDI as a major future source of financial resource for de-
veloping countries and emerging markets, with the possible exception of large
countries like Russia and India. The importance of FDI, however, stems from the
proposition that MNCs are instrumental in transferring technology from devel-
oped to developing countries.
It has been pointed out that the presence of MNCs in a country does not by any
means guarantee the transfer of technology. MNCs may be reluctant to transfer
technology to developing country affiliates if they do not have complete control
over the operations of these affiliates (Blomstrom and Zejan 1989; Ramachandran
1993). Further, even if the MNCs do transfer advanced technology to their devel-
oping-country affiliates, and even if this technology subsequently becomes avail-
able to other firms operating in the industry, the domestic firms may not be able to
adapt to this technology on account of technology gaps between the MNCs and
the domestic firms (Lapan and Bardhan 1973; Glass and Saggi 1998).
However, there is some evidence to suggest that the presence of MNCs in de-
veloping-country industries has spillover effects that add to the productivity of the
domestic firms operating in these industries (Patibandla and Petersen 2002). There
is also counterevidence to suggest that the presence of MNCs can sometimes af-
fect the productivity of domestic firms adversely (Aitken and Harrison 1999). But
there is a fair degree of unanimity that MNC affiliates in developing countries
usually have more technology-intensive production means (Vishwasrao and
Bosshardt 2001) and higher labor productivity (Blomstrom and Sjoholm 1999).
Hence, it is not unreasonable to believe that, in the presence of appropriate policies
that both liberalize the economy and build institutions that can sustain free-market
competition, MNC affiliates in developing countries would provide domestic firms
with a benchmark that would eventually lead to enhanced productivity over time.
The plausible causal chain of events is as follows: MNC affiliates will adopt
relatively technology-intensive production practices in developing countries, aided
by technology transfer from the parent MNC. This technology can be passed on to
domestic firms in the developing country directly by way of, for example, inter-
firm migration of labor. Alternatively (or in addition to this), in the presence of
 MARCH–APRIL 2005 7

appropriate policies and institutions, domestic firms can experience productivity

growth by way of competition with MNC affiliates. Clearly, the productivity of the
developing-country MNC affiliate, and, through direct or indirect linkage, that of
the domestic firms, depends on the extent of technology transferred by the parent
MNCs to their affiliates.
As mentioned, the extent of technology transfer depends significantly on the
extent of control that a parent MNC has on the activities of its affiliate. It has been
argued, for example, that, contrary to popular wisdom in the policy circles of many
developing countries, joint ventures (JVs) do not encourage transfer of technology
from MNCs to their developing-country partners. MNCs typically use the JVs as
vehicles toward gaining knowledge about the business environment in the devel-
oping economy, and once they have absorbed this knowledge, they usually initiate
their own business operations by opting out of the JVs (Sinha 2001). In other
words, the “form” in which an MNC affiliate exists in a developing country or an
emerging market may significantly determine the extent of technology transfer
and productivity spillover.
Arguably, this form is captured by the mode of entry of MNCs into developing
countries and other new countries of operation. Greenfield entry provides an MNC
with complete control over its affiliate’s operations, and hence the possibility of
technology transfer is the highest with this mode of entry. Correspondingly, if an
MNC has only partial control of its affiliate, as in the case of a JV, the probability
of such a transfer is low. Finally, if an MNC enters a country by way of an acqui-
sition, the extent of technology transfer would depend on the extent of control the
MNC has on the incumbent management and on the expected rate of technology
diffusion by way of the interfirm mobility of incumbent managers and techno-
crats. An important empirical question, therefore, is what determines the entry
mode choice of an MNC when it enters a developing country.
The entry mode choice of an MNC while entering a new country has received
significant attention in the literature (see, e.g., Agarwal and Ramaswami 1992;
Caves and Mehra 1986; Cho and Padmanabhan 1995; Erramilli and Rao 1993;
Gorg 2000; Hennart and Park 1993; Kogut and Singh 1988; Luo 2001; Zejan
1990). A major shortcoming of the literature on entry mode choice is that it has
largely explored the strategic decisions of developed-country MNCs entering other
developed countries. Indeed, research that has taken into account developing coun-
tries too has limited itself mostly to China (Gleason et al. 2002; Tse et al. 1997)
and the transition economies of Central and Eastern Europe (Meyer 2001). Fur-
ther, the literature has focused itself almost entirely on testing hypotheses gener-
ated from transactions-cost and resource-based theories of international business,
thereby limiting the analyses to the implications of empirical results for the busi-
ness strategies of MNCs. The implications of the results for the development eco-
nomics literature have been almost completely ignored.
Our paper addresses this lacuna in the literature using unique firm-level data
collected from MNC affiliates in South Africa and Egypt, two major African countries
8 EMERGING MARKETS FINANCE AND TRADE

for neither of whom oil is a major resource or export product. As we shall see, these
two countries are sufficiently different in terms of their political and economic legacy,
as well as in terms of their stages of development. They therefore provide us with a
quasi-controlled experiment that highlights the differences in the determinants of
choice of entry mode in different developing-country or emerging market contexts.
Our results suggest that perceptions of MNCs about local institutions have an im-
pact on their entry mode choice in both South Africa and Egypt. However, there are
also some noticeable differences. In South Africa, factors like the resource needs of
the MNC and the extent of competition that they are likely to face play an important
role in determining the choice of the mode of entry. In Egypt, on the other hand, a
major determinant of the entry mode decision is the familiarity of the MNC with
local conditions and the business environment in developing countries and emerg-
ing markets in general.
Importantly, our results indicate that factors such as the technology intensive-
ness of an MNC’s product, the extent of income risk it is exposed to by way of
competition, and the size of the developing-country affiliate relative to the MNC’s
global operations are not significant determinants of entry mode choice. They are
consistent with the conventional wisdom. Empirical evidence suggests that devel-
oping-country operations usually represent a very small fraction of MNCs’ global
operations and that they usually do not produce technology-intensive products in
developing countries, usually opting for products that are either in the low-tech-
nology downstream segments of their supply chain or are nearing the end of their
product cycles (Estrin and Meyer 2004). The estimated impact of local competi-
tion on entry mode choice is also weak, and this is consistent with evidence that
suggests that MNCs’ affiliates in developing countries can operate in niche mar-
kets (Kokko 1994) and thereby avoid competition. These results bring into ques-
tion the role of MNCs in generating productivity growth in a developing country
or emerging market.

Determinants of Entry Mode Choice in a

Developing Country

By definition, an MNC is a firm that has ownership of a technology (which in-

cludes business practice) that gives it a competitive edge in a product market (Ethier
1986). An MNC spreads it operations around the world either to access resources
in other countries, whether petroleum in Nigeria or software professionals in In-
dia, say, so as to add to its competitive edge, or to use its competitive/technological
advantage to sell its product in the local/host country market. Given its technologi-
cal advantage over competing firms in the local market, the biggest challenge fac-
ing an MNC is informational asymmetry with respect to potential business partners
and the business environment in the host country.
Entering a new country in partnership with a local firm alleviates this problem,
as partnership allows the MNC ready access to a local firm’s private information
 MARCH–APRIL 2005 9

about the local business environment, and to the partner’s contacts with other local
firms and the host country’s government and regulatory authorities. In other words,
entry into a country in the form of a JV or an acquisition reduces the MNC’s
transaction cost of doing business. The benefit accruing to the MNC from the
reduction of transactions cost is greater if the MNC has significant need for local
resources, whether tangible or intangible (Gomes-Casseres 1989). The benefits
will also be large if the official procedures and institutions supporting local busi-
ness doings are underdeveloped, and if the government is potentially a hindrance
to profitable economic activity. Hence, if an MNC has significant need for local
resources, or if the local institutions, business regulations, and governance are not
conducive to carrying on business efficiently (Agarwal and Ramaswami 1992;
Gatignon and Anderson 1988), an MNC is more likely to opt for a local partner,
either by way of a JV or by acquiring a local firm that can give the MNC quick
access to the required resources (Asiedu and Esfahani 2001; Teece 1986). An ac-
quisition, and perhaps also a JV, is even more likely if the MNC feels that the
quality of the local managerial labor is high, such that dependence on a local part-
ner would not compromise the quality of the MNC’s organizational integrity and
quality of products and services.
This alleviation of transactions cost, however, comes at a price. If the MNC
enters the new country with a local JV partner, it faces a stylized agency problem;
while the MNC’s main objective is to learn more about the local firms and busi-
ness conditions, its JV partner’s objective is usually to access the proprietary tech-
nology that gives the MNC its competitive edge. As we mentioned above, this
agency conflict usually results in dissolution of JVs after a few years of operation.
If, on the other hand, the MNC enters the host country by way of an acquisition, it
has to deal with the problem of restructuring the acquired organization (such that
its business culture is similar to that of the parent MNC) and the cost associated
with such restructuring.
Given the cost associated with JVs and acquisitions, an MNC would prefer to
enter a new country on its own, by way of a greenfield project, if the technology
intensiveness of its products, and hence the potential cost of losing a technological
edge over its rivals, is high (Cho and Padmanabhan 1995; Hennart 1991), and if
the extent of its informational problem is not significant. Hence, a greenfield entry
would be more likely if the MNC has prior operating experience in the host coun-
try, or in similar developing countries or emerging markets (Barbosa et al. 2004).
It is also less likely to opt for a JV or the acquisition mode of entry if the rules
governing FDI and industry-specific regulations have been significantly liberal-
ized, such that business operations in the host country do not involve licenses and
repeated interaction with the domestic government and domestic regulatory agen-
cies.1 Greenfield entry is also more likely if the “cultural” distance between the
MNC’s home country and the host country of operations is minor, such that it is
relatively easy for the MNC to understand and accurately interpret local norms,
governance structure, and business practices (Yip 1982).
10 EMERGING MARKETS FINANCE AND TRADE

Even though economic logic suggests that the size of an MNC’s developing-
country operations, relative to its global operations, would affect its choice of entry
mode, it is difficult to predict exactly how the relative size of the local operations
would affect the choice of entry mode. On the one hand, a greenfield entry is also
more likely if the host country–based operations constitute a significant proportion
of an MNC’s assets and turnover because the MNC would want tight control over an
affiliate whose performance would have a significant impact on its global perfor-
mance. On the other hand, if the host country–based project is large on account of
factors like economies of scale, the MNC might want to minimize its risk by sharing
it with a local firm, a move that might also reduce transactional uncertainties for the
local affiliate (Caves and Mehra 1986). Risk-averse behavior might also lead to an
abandonment of the greenfield mode of entry if the local market is very competitive,
such that, despite the technological/competitive edge, the magnitude of returns on
the investment made in the host country is uncertain (Hennart and Park 1993).
Finally, the choice of the entry mode would depend on the rate of growth of the
local industry, and on whether, broadly speaking, the MNC operates in a manufac-
turing or a services-sector industry. As with the relative size of the local affiliate,
the impact of the rate of growth of the industry on the entry mode choice is uncer-
tain (Agarwal and Ramaswami 1992; Barbosa and Louri 2002; Horstman and
Markusen 1996). On one hand, if an industry is fast growing, and therefore fast
changing, it may be essential for an MNC to quickly have a stake in it, so as not to
lose its first-mover advantage to other MNCs or local firms. In such an event, an
entry by way of acquisition, for example, may be more suitable. On the other
hand, if a rapidly growing industry also promises high rates of return on invest-
ment well into the future, it may be reasonable for the MNC to minimize its agency
and restructuring costs by opting for a greenfield project, even though such a move
would increase the transactions cost in the short run. The importance of the sector
of operation of the MNC lies in the possibility that the manufacturing sector is
more intensive in investment in tangible resources than the services sector, such
that a manufacturing MNC is likely to be more responsive to factors that affect the
transactions cost of operations in a host country than a service-sector MNC
(Brouthers and Brouthers 2003)
In other words, the specification underlying any econometric analysis of the
choice of entry mode would be as follows:
Entry mode = f (Growth of local industry, Technology-intensiveness of
product, Competition in the local market, Resource needs of
the MNC, Local institutions, governance, and business
regulations, Prior operating experience in developing-country
environments, Cultural distance between MNC’s home
country and host country, Extent of liberalization of FDI
regulations and industry-specific regulations, Perceptions
about quality of host country’s managerial labor, Sector of
operation of the MNC) (1)
 MARCH–APRIL 2005 11

In addition, given that developing economies and emerging markets experience

significant and different systemic shocks during different time periods, the speci-
fication has to include controls for the year of entry of an MNC into a host country.
The entry mode choices facing the MNC are greenfield, acquisition of a host country
firm, or a JV with a local firm. The measurement of the variables is discussed in
the next section.

Choice of Countries, Data, and Variable Measurement

Choice of Countries

We estimate specification (1) using firm-level data collected from South Africa
and Egypt. Although both these countries are of the same continent, they have few
similarities. Egypt has enjoyed significant political stability since the 1970s, in the
form of the same administration. However, the country has experienced a struc-
tural break in its economic policy paradigm because of the government’s move
away from central planning toward market-based allocation of resources, since the
early 1990s. Unlike Egypt, South Africa has had a fairly long history of private
enterprise and export orientation. However, during the late 1980s and early 1990s,
the South African economy had to endure a period of economic flux when major
world economies imposed sanctions in protest against apartheid. Almost simulta-
neously, the country underwent profound political change. Since the early 1990s,
South Africa has retraced its steps toward private enterprise and export orientation
amid profound social and economic change. The policy environments of these two
countries, as witnessed during the 1990s, are discussed in detail in Gelb (2003)
and Louis and Handoussa (2003).
In other words, during the 1990s, an MNC contemplating investment in Egypt
was unlikely to have experienced major surprises with respect to its political
economy and corresponding institutions. Indeed, the relevant issue was more likely
to be whether the policy and institutional changes that accompanied the move
from central planning to a market-oriented economy were actually significant. In
the context of South Africa, on the other hand, the changes to the political economy
and the corresponding institutions were expected to be significant, and the main
issue was the extent to which the new political regime would preserve the country’s
legacy of private enterprise, given the past concentration of productive resources
in the hands of a small minority, and maintain its links with the European and
North American economies.
The differences in legacy are also reflected in economic facts and figures. South
Africa is a quasi-industrialized country with reasonably good infrastructure in
comparison with other emerging markets, and which has played host to firms from
advanced industrialized nations for decades. Despite the sharp depreciation of its
currency toward the end of the 1990s, its per capita GDP in terms of nominal
dollars stood at $2,685 at the turn of the century. At the same time, the income and
12 EMERGING MARKETS FINANCE AND TRADE

wealth distribution in the country remains skewed, resulting in a Gini coefficient

of 0.59. Egypt, by contrast, has a moribund industrial sector and lower average
levels of infrastructure. The per capita GDP of the country has increased continu-
ally over time, but in 2000, at $1,425, it was still about half that of South Africa.
On the other hand, the socialist legacy of Egypt’s economic policy has led to a
much lower level of inequality, as indicated by the Gini coefficient of 0.29.
There are, of course, points of similarity between the countries. For example, in
both the countries, about a fifth of the people have had tertiary education, indicat-
ing a similar proportion of high-skilled laborers in both populations. Further, as of
2000, both countries had similar levels of net FDI inflow, whether measured as a
percentage of GDP or in terms of FDI per capita. However, the political and eco-
nomic legacies of the two countries are sufficiently different to provide a sharp
contrast in terms of the knowledge and the expectations that MNCs may have had
about the two countries. Because choice of entry mode depends significantly on
such knowledge and on the perceptions of the MNCs of the resource availability,
business environment, and so on, in host countries, we believe that it is instructive
to undertake a comparative study of the entry mode choice of MNCs entering
South Africa and Egypt.

Data and Variable Measurement

The data were gathered with the help of a common questionnaire that was admin-
istered to foreign investment companies in the two countries between November
2000 and April 2001. Prior to administration of the survey instrument, it was pi-
loted and refined during the summer of 2000. The base population for the survey
study was defined as all registered FDI projects that have been started in the coun-
tries between 1990 and 2000, have a minimum employment of 10 persons, and a
have minimum foreign equity stake of 10 percent. The time limit ensures that
information concerning relevant establishments was still within their organiza-
tional memory and, therefore, available at the time of the survey.
The MNC affiliates responding to the survey instrument categorized themselves
as belonging to one of four categories: greenfield project, JV, acquisition with
complete control, and acquisition with less than complete control. The incidence
of acquisition with less than complete control accounted for less than 5 percent of
the total number of responses, net of the observations dropped on account of miss-
ing values. Arguably, there is little difference between an acquisition with less
than complete control and a JV; the agency conflict in the former involves an
MNC and its local partner, while the conflict in the latter involves an MNC as a
new strategic shareholder and local incumbent shareholders. Hence, for our pur-
poses, we consider acquisitions with less than complete control as JVs. Our de-
pendent variable, therefore, takes the value 1 if the entry mode is greenfield, the
value 2 if the entry mode is acquisition, and the value 3 if the entry mode is JV.
The measurement of the explanatory variables is reported in Table 1.
Table 1

Description and Measurement of Determinants of Entry-Mode Choice

Variable name Description

R&D intensity of the product

R&D Each MNC affiliate indicated in its response to the survey whether the parent firm’s R&D expenditure as a percentage of global
turnover fell into one of the following categories: 0–0.5, 0.5–1, 1–2, 2–4, 4–8, 8–15, and 15+, i.e., our measure of R&D
expenditure is a categorical measure with 1 as the lowest value and 6 as the highest. This measure is consistent with those
used earlier in the literature (Caves and Mehra 1986).
GDPPC We make the reasonable assumption that, by and large, the R&D intensity of an MNC’s product increases with the degree of
development of its home country. Therefore, we use GDP per capita (GDPPC) of the MNCs’ home countries, the stylized
measure of economic development, as the supplementary measure for the R&D intensity of the MNCs’ products
Risk exposure
COMPETITION We measure the extent of local competition using a categorical variable that has the minimum value of 1 and the maximum value
of 5. These categories are based on the responses of the MNC affiliates to a query about the number of competitors in the
relevant industry in the host country at the time of entry. The values 1 through 5 of the variable correspond to 0, 1–2, 3–5, 5–10,
and 10+ competitors, respectively.
SIZE In response to our survey, the MNC affiliates indicated their turnover as a percentage of the global turnover of the MNC. Their
responses were categorized as follows: 0–0.1, 0.1–0.5, 0.5–2, 2–5, 5–10, and 20+, i.e., our measure of the relative size of the
affiliate is a categorical measure with 1 as the lowest value and 6 as the highest. Once again, our measure is consistent with
those used earlier in the literature (Caves and Mehra 1986; Erramilli and Rao 1993; Hennart and Park 1993).
Resource needs
TANGIBLE and An unique aspect of the survey is that it asked the MNCs two different questions about their resource needs. First, the MNCs
INTANGIBLE were asked to identify three resources (out of sixteen) that they think are crucial for successful performance. Of these,
some were tangible resources, like machinery and equipment, while others were intangible resources, like distribution network. It
is evident that an MNC could identify 0, 1, 2, or 3 tangible assets as being crucial for its business success, and, correspondingly,
it would have identified, 3, 2, 1, or 0 intangible assets. Next, the MNCs were asked what percentage of each of these three most
important resources they sourced from five different sources, namely, local firm (i.e., JV partner or acquired firm), other local
sources (i.e., local market), parent MNC, other foreign sources, and “other.” As expected, there were a negligible number of
entries for the “other” category. The share of key resources sourced from the host country was then the sum of the shares
sourced from the local partner and other local sources. Let the percentage of a resource j sourced from the host country be xj.
As explained above, j can take the value 0, 1, 2, or 3 for both tangible resources (TANGIBLE) and intangible resources
MARCH–APRIL 2005

(INTANGIBLE). For both of these types of resources, therefore, the index is given by Sixj/j, when j is 1, 2, or 3, and 0 otherwise.
(continues)
13
Table 1 (continued)

Variable name Description

Institutions, governance,
and business environment
OFFICIALPROC One other strength of the survey instrument is that it elicited from the MNC affiliates their perceptions about the states of eight
and different aspects of the business/institutional environment in the host country at the time of entry. Each of these responses was
INSTITUTIONS measured on a five-point Likert scale, with 1 indicating that the relevant aspect of business/institutional environment was “very
and conducive” to profitable business operations, and 5 indicating that the environment was “not conducive at all.” Values of the
GOVERNMENT Cronbach’s alpha indicated that the aforementioned eight aspects can be grouped into three distinct categories, namely, official
procedures (OFFICIALPROC), general institutional environment (INSTITUTIONS), and government policy (GOVERNMENT). The
value of the index measuring the perception of a MNC about a category is the average of the perceptions about all the aspects
of business/institutional environment included in that category.
Developing country experience
INCOUNTRY The MNC affiliates captured in the sample responded to two different questions about their operating experience in the host
14 EMERGING MARKETS FINANCE AND TRADE

and countries in which they operated, as well as about their operating experience in similar countries. Each affiliate provided a yes/no
EMERGINGMKT response to a query about whether it was the parent MNC’s first affiliate in the host country. This provided us with a dummy
variable that takes the value 1 for a “yes” response and the value 0 for a “no” response (INCOUNTRY). We also know whether
the parent MNCs have affiliates operating in other emerging markets in Africa, Eastern Europe, Asia (other than Japan), and
Latin America. In other words, each MNC takes the minimum value of 0 (if a parent MNC has no affiliates in any other emerging
markets) and the maximum value of 4 (if the parent MNC has affiliates in other emerging markets in all the aforementioned four
regions) (EMERGINGMKT).
Cultural distance
CULDISTANCE The relation between the distance of the home and the host economy and the preferred entry mode has been of special interest
to academics. Many studies have incorporated the Kogut–Singh (1988) index to analyze JV versus wholly owned, or acquisition
versus greenfield decision. However, the results of this empirical literature are overall inconclusive, which can be attributed to a
variety of methodological problems with measuring the concept of “psychic” distance. Given the methodological concerns, and
the lack of Hofstede data for all five indices for the two host countries in our empirical work, we use the conceptually simpler
measure of geographic distance instead.
Perceptions about quality of local managerial labor
LOCALMGMT The perceptions of the MNC affiliates about the quality of local executive management are also measured on a five-point Likert
scale, with 1 indicating that suitable executive managers are never available at the acceptable level of cost, and with 5
indicating that such people are readily available. The growth rate of the relevant industry in the host country is the average
growth rate of the industry in the five years prior to the entry of the MNC.
Economic liberalization in host country
FDIREG The extent of liberalization of the industry-specific FDI regulations and of the industry itself are measured by the response of the
and country teams––ERF in Egypt and EDGE in South Africa––to these queries. The minimum value of 1 on the five-point Likert
LOCALIND scale indicates no changes to the pre-1990 policies, and the maximum value of 5 indicates major policy changes.
Sector of operation
MANUFACTURING Finally, each MNC is categorized as belonging to the manufacturing or services sector based on the ISIC codes of the
three-digit industry categories to which they belong. We therefore have a dummy variable that takes the value 1 if a MNC
affiliate belongs to the manufacturing sector, and 0 otherwise.
Control for year of entry
Year of entry A total of n dummy variables with value Dj = 1 for the j th year, and 0 otherwise.
MARCH–APRIL 2005
15
16 EMERGING MARKETS FINANCE AND TRADE

Table 2

Descriptive Statistics

South Africa Egypt

Mean Std. Dev. Mean Std. Dev.

R&D 3.85 2.02 2.37 1.82

GDPPC (USD) 22,841 9,817 18,795 11,358
INDGROWTH 13.64 11.64 15.42 28.02
COMPETITION 3.50 1.30 3.22 1.45
SIZE 3.00 1.61 3.29 1.96
TANGIBLE 19.83 35.99 23.25 37.82
INTANGIBLE 50.61 35.74 44.74 34.81
OFFICIALPROC 2.45 0.71 2.77 0.82
INSTITUTIONS 2.42 0.78 3.15 0.99
GOVERNMENT 2.68 0.89 3.08 1.08
INCOUNTRY 0.72 0.44 0.63 0.48
EMERGINGMKT 0.87 0.32 0.88 0.32
LOCALMGMT 3.42 1.17 3.60 1.42
CULDISTANCE (KMS) 10,182 1,962 3,856 3,324
FDIREG 1.96 0.95 3.19 1.29
LOCALIND 1.96 1.03 3.24 1.23
MANUFACTURING 0.53 0.50 0.43 0.49

Descriptive Statistics

The South African sample includes forty cases of greenfield entry, forty-seven
cases of acquisition and twenty-seven cases of JV. The corresponding figures for
Egypt are fifty-one, nineteen, and forty, respectively. The relatively high propor-
tion of acquisition in the South African context is consistent with the pattern ob-
served in the context of FDI among developed countries. The relatively high
proportion of JV in the Egyptian context, on the other hand, is consistent with the
usual experiences of developing countries.
The descriptive statistics for the explanatory variables for the choice of entry
mode for the two countries are presented in Table 2. The descriptive statistics
suggest the following:
1. South Africa attracts more sophisticated MNCs, that spend a greater share of
their sales revenues on research and development (R&D), as compared with
the MNCs that enter Egypt. The former are also from more developed coun-
tries, as indicated by the per capita GDP of these countries. This is consis-
tent with the fact that, as suggested by the variable capturing cultural distance
 MARCH–APRIL 2005 17

between the home and host countries, MNCs operating in South Africa
came largely from North America and north/west Europe, while a signifi-
cant proportion of the investors in Egypt are from the Middle East/North
Africa region.
2. Neither the affiliates in South Africa nor those in Egypt constitute a significant
part of the worldwide operations of the parent MNCs; an average local affili-
ate contributing to 2 percent or less of the parent MNC’s global turnover.
3. The MNCs entering both countries source a small fraction of their required
tangible resources from the hosts, but they do source a significant part of
their intangible assets therein. This is consistent with the prior theory that an
MNC’s success in an emerging market depends more on its ability to de-
velop business networks involving firms in the supply chain as well as the
government machinery than on acquisitions of resources like labor and raw
materials.
The business and institutional environments of South Africa are not dissimilar.
However, local FDI-specific and industry-specific regulations are rated more in-
vestor friendly by MNCs operating in Egypt than by those operating in South
Africa.

Regression Results

As mentioned earlier, the MNCs in our sample made one of three different choices,
namely, greenfield entry, acquisition of a local firm, or JV with a local firm. We
therefore estimate specification (1) using a multinomial logit regression model.
The appropriate Hausman test did not reject the null hypothesis of IIA (indepen-
dence of irrelevant alternatives) at the 10 percent level of significance, thereby
supporting our prior theory that the aforementioned three modes of entry are inde-
pendent of each other. The marginal effects generated from the multinomial logit
estimates are presented in Tables 3 and 4 for South Africa and Egypt, respectively.
The pseudo R-square values for the regressions––0.34 for South Africa and 0.32
for Egypt––indicate a fairly good fit for the specification, given the cross-sectional
nature of the data and the sample size.
The regression results highlight some important aspects of the entry mode deci-
sion of MNCs into developing countries or emerging markets. First, the R&D
intensity of an MNC’s product, which lies at the heart of the literature that has
developed around experiences and strategies of MNCs in developed markets, does
not play an important role in determining the mode of entry. It does not matter at
all in South Africa, and it matters only marginally in Egypt. However, in the Egyp-
tian context, the coefficient estimate for the R&D variable is consistent with the
prior idea presented that high R&D intensity of an MNC’s product would reduce
the probability of a JV.
Contrary to expectations, a higher value of the GDP per capita of the MNCs’
home countries (GDPPC) is associated with a higher probability for acquisition of
18 EMERGING MARKETS FINANCE AND TRADE

Table 3

Determinants of Entry Mode Choice in South Africa (marginal effects of

multinomial logit model)

Greenfield Acquisition JV

R&D –0.013 0.004 0.009

(0.036) (0.025) (0.028)
GDPPC –0.000019* 0.000016* 2.5e-06
(0.00001) (0.00001) (0.00001)
INDGROWTH 0.012 –0.004 –0.007
(0.008) (0.005) (0.006)
COMPETITION 0.079 0.029 –0.108**
(0.057) (0.043) (0.057)
SIZE 0.006 0.025 –0.032
(0.047) (0.031) (0.042)
TANGIBLE –0.006** 0.001 0.004**
(0.002) (0.001) (0.001)
INTANGIBLE –0.002 0.004* –0.001
(0.002) (0.001) (0.001)
OFFICIALPROC 0.065 –0.041 –0.024
(0.009) (0.082) (0.090)
INSTITUTIONS 0.009 –0.145*** 0.136***
(0.104) (0.088) (0.082)
GOVERNMENT –0.107 0.140** –0.032
(0.094) (0.070) (0.079)
INCOUNTRY –0.149 –0.029 0.179
(0.145) (0.121) (0.123)
EMERGINGMKT –0.231 –0.037 0.269**
(0.229) (0.198) (0.124)
LOCALMGMT –0.118*** –0.009 0.128**
(0.063) (0.047) (0.064)
CULDISTANCE –0.00002 –0.00001 0.00004
(0.00003) (0.00003) (0.00003)
FDIREG 0.011 0.005 –0.017
(0.101) (0.073) (0.074)
LOCALIND 0.055 0.016 –0.071
(0.091) (0.067) (0.078)
MANUFACTURING –0.336** 0.122 0.213***
(0.150) (0.122) (0.124)
Year of entry Yes** Yes** Yes**
Regression statistics
Number of observations 114
Wald chi-square 10,614.41
(Prob > chi-square) (0.00)
Pseudo R-square 0.3486

Notes: The values within parentheses are standard errors; *, **, and *** indicate significance
at the 1 percent, 5 percent, and 10 percent levels.
 MARCH–APRIL 2005 19

Table 4

Determinants of Entry Mode Choice in Egypt (marginal effects of multinomial logit

model)

Greenfield Acquisition JV

R&D 0.012 0.007 –0.019***

(0.016) (0.011) (0.011)
GDPPC –3.3e-06 4.9e-06*** –1.5e-06
(0.000) (0.0000) (0.000)
INDGROWTH 0.001 –0.0005 –0.0007
(0.002) (0.001) (0.002)
COMPETITION –0.004 0.018 –0.013
(0.022) (0.013) (0.015)
SIZE –0.021 0.016 0.004
(0.015) (0.011) (0.009)
TANGIBLE –0.0004 0.0004 –0.00003
(0.001) (0.0008) (0.0005)
INTANGIBLE 0.0007 –0.001*** 0.0004
(0.0009) (0.0006) (0.0005)
OFFICIALPROC 0.0013 –0.020 0.019
(0.044) (0.032) (0.022)
INSTITUTIONS 0.047 0.013 –0.060**
(0.039) (0.025) (0.028)
GOVERNMENT 0.027 –0.021 –0.006
(0.040) (0.032) (0.021)
INCOUNTRY 0.068 –0.046 –0.021
(0.080) (0.074) (0.039)
EMERGINGMKT –0.123** 0.033 0.089
(0.059) (0.051) (0.025)
LOCALMGMT –0.061** 0.044*** 0.017
(0.027) (0.023) (0.012)
CULDISTANCE 0.000027*** –0.00002** –4.7e-06
(0.00002) (0.00001) (0.00001)
FDIREG 0.104 0.015 –0.120
(0.100) (0.064) (0.076)
LOCALIND –0.151 0.025 0.012
(0.097) (0.059) (0.081)
MANUFACTURING –0.011 –0.007 0.018
(0.065) (0.043) (0.039)
Year of entry Yes*** Yes*** Yes***
Regression statistics
Number of observations 106
Wald chi-square 8,389.66
(Prob > chi-square) (0.00)
Pseudo R-square 0.3208

Notes: The values within parentheses are standard errors; *, **, and *** indicate significance
at the 1 percent, 5 percent, and 10 percent levels, respectively.
20 EMERGING MARKETS FINANCE AND TRADE

a local firm, both in South Africa and Egypt, and with a lower probability for
greenfield projects in South Africa. This indicates that GDPPC captures the home
country effect, rather than the R&D intensity of an MNC’s product. MNCs from
richer countries have deep pockets, and also a higher propensity to invest in for-
eign countries by way of cross-border acquisitions (UNCTAD 2002).
Second, the South African data find support in favor of the prior hypothesis that
MNCs that have relatively high need for tangible and intangible resources from
the host country are less likely to opt for greenfield projects and are more likely to
opt for JV and acquisitions of local firms. However, in Egypt, an MNC’s need for
tangible resources does not have any impact on its choice of entry mode, and its
need for intangible resources makes an acquisition less likely, albeit only at the 10
percent level of significance. This counterintuitive result, which implies that the
restructuring cost associated with an acquisition is perceived to be higher than the
reduction in the resource-seeking MNC’s transactions cost on account of the ac-
quisition, is difficult to explain. But it does raise questions about the perceptions of
the MNCs regarding the organizational structures and business cultures of Egyp-
tian firms.
Third, in both South Africa and Egypt, perceptions of the MNCs about the
quality of the local institutions and governance, as well as about the business pro-
cedures, play a significant role in determining the choice of entry mode. However,
the nature of the impact in the two countries is noticeably different, In South Af-
rica, a low perceived quality of the institutions, as manifested by a high value of
institutions (see Table 1), is associated with a lower probability for acquisitions
and with a higher probability for JV relationships. In Egypt, on the other hand, a
high value of institutions is associated with a lower probability for JV and a higher
(though not statistically significant) probability for acquisitions. The results sug-
gest that, ceteris paribus, a low quality of institutions increases restructuring cost
in South Africa and agency costs in Egypt. This is consistent with the perception
about the complex political economy of restructuring a firm in South Africa, given
the high rates of unemployment, and so on, and raises questions about the percep-
tion of the MNCs regarding the reliability of Egyptian firms as partners in an
environment where contract enforcement may be both difficult and costly.
The question about the perception of MNCs regarding Egyptian firms is once
again brought to the fore by the result that an increase in the cultural (or geo-
graphical) distance between an MNC’s home country and Egypt increases the
probability of a greenfield project and reduces the probability of acquisitions. Once
again, this result is counterintuitive in light of the evidence accumulated from
developed-country experiences. It suggests that if an MNC’s parent management
feels that it would find it difficult to understand the local norms (or be able to
effectively monitor the local partner), it would prefer to opt for a greenfield project,
even though this would increase the MNC’s transactions cost of doing business.
Finally, the regression results confirm, in the Egyptian context, the prior theory
about the relationship between the choice of entry mode and the perception of the
 MARCH–APRIL 2005 21

MNCs about the quality of the local management. The probability of an acquisi-
tion in Egypt increases with improvement in the perception about the quality of
the local managerial labor, and, correspondingly, the probability of a greenfield
entry decreases.

Concluding Remarks

In this study, we extend the existing literature involving the strategic decision of an
MNC concerning the mode of entering an emerging market to two relatively large,
yet different, African countries. The importance of the choice of the entry mode,
from a policy-making perspective, is a consequence of the stylized result that the
extent of technology transfer by an MNC to a developing or emerging country
affiliate depends significantly on the extent to which the parent can exert control
over the affiliate, which, in turn, is determined by the mode of entry of the MNC
into that country. Our results indicate that the nature of impact of the perceived
determinants of entry mode choice may be very different between developed and
developing countries, leading to counterintuitive results in the latter when viewed
in light of the literature that is based on the experiences of the former. The results
also indicate that the determinants of entry mode choice vary significantly across
developing countries, with local knowledge playing a more significant role in rela-
tively less-developed countries (e.g., Egypt) than in relatively more developed ones
(e.g., South Africa).
From a policy-making perspective, however, an important result is that factors
such as the technology intensiveness of an MNC’s product, the extent of income
risk it is exposed to by way of competition, and the size of the developing-country
affiliate relative to the MNC’s global operations are not significant determinants
of entry mode choice. They are consistent with the conventional wisdom, as also is
the empirical evidence, which suggests that developing-country operations usu-
ally represent a very small fraction of the MNCs’ global operations, and that they
usually do not produce technology-intensive products in developing countries, but
rather products that are either in the low-technology downstream segments of their
supply chain or are nearing the end of their product cycle (Estrin and Meyer 2004).
The weak impact of local competition on entry mode choice is consistent with
evidence that suggests that MNCs’ affiliates in developing countries can operate in
niche markets (Kokko 1994) and thereby avoid competition. These results bring
into question the ability of FDI to raise productivity in developing countries, both
directly by way of technology transfer and indirectly by way of competition from
MNC affiliates.
Ironically, the data, which are one of the strengths of this paper, are also the
source of its shortcomings. While it is unique in its coverage and scope, and pro-
vides an insight into the strategic decision-making process of MNCs entering emerg-
ing markets, it has a significant missing value problem that has led to a loss of
nearly 25 percent of the observations. Also, we were forced to adopt the qualita-
22 EMERGING MARKETS FINANCE AND TRADE

tive/categorical measures of some of the variables (e.g., competition) when, ide-

ally, we should have used measures like industry-level Herfindahl indices. How-
ever, the cost of obtaining data of this quality is prohibitively high at present. This
endeavor should, therefore, be left for the future.

Note

1. As argued by Gomes-Casseres (1990), FDI-related regulations may also play a role

in determining entry mode choice by restricting the options of an MNC.

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