JAPAN MNE Insights
Volume 3, Issue 2
February 2017

Academy of Multinational Enterprises (Japan)

TABLE OF CONTENTS

1. Special Essay:
Have JapaneseCompanies Lost Sight of
the Paradigm Shift inCompetitive Advantage?
2. Special Essay:
The Switching Model ofInternational Competitive
and Cooperative Entry
Modes: Highlighting the
Validity of a Revised
Transaction Cost
Approach to the Theoryof MNE

www.mne-jp.org

Special Essay:
Have Japanese Companies Lost Sight of the
Paradigm Shift in Competitive Advantage?
Masaaki Kotabe, PhD
President, Academy of International Business
The Washburn Chair Professor of International Business andMarketing
The Fox School of BusinessTemple University
Philadelphia, PA 19122
U.S.A.

My essay that follows reflects my own research development stylethat has served me in the last 30 years. First, I always ask a layman’squestion of a big kind and speculate loudly about what could be
happening before seeking to develop either a new theory or use existing
theories to explain my own layman’s question. I write this essay in thehope that I can encourage Japanese IB researchers to tackle this bigquestion with various issues I have observed of late. The big question isabout what appears to be a negative, rather than positive, link between
investment in technology and market performance.
Apple is known for its technological capabilities. Since the dawnof the 21st century, why has Apple, a U.S. company, been able to introduce
more innovative products one after another to the world and so
profitable than has Sony, a Japanese company? Apple developed various
groundbreaking products such as iPod (2001), iPhone (2007), and iPad(2010). However, it is still fresh in our memory that in the last quarterof the 20th century, it was Sony that had been instrumental in
introducing many innovative products globally, including cassette
players, Walkman, CD players, DVD players, Blu‐ray discs, and
PlayStation. Just like Apple today, Sony used to be known for its
technological capabilities.
Currently, however, Apple generally appears to have much higher
technological capabilities than Sony. Since the U.S. market is the largest
single market in the world, companies from around the world apply forpatents for their technologies under the U.S. patent system. While I am

1

Vol.3 Issue 2"Japanese technology
stock is extremely high,and even potentiallyranks No. 1 in the world.
However, the market
performance of many of
those Japanesecompanies has been far
from beingcommensurate with theirenormous technology
stock"

JAPAN MNE Insights

aware of my broad‐brush argument, let me play devil’s advocate by using
U.S. patent ownership as an indicator of a firm’s technology stock (withan intention of encouraging future research on various implications
coming out of my argument). Let’s take a look at the top 20 U.S. patent
holders in the year 2010 when Apple introduced the iPad to the world(see Table 1).
The first thing you notice from the table is that Japan boasted thelargest number of top 20 U.S. patent holders with nine companies,
followed by eight from the United States, two from South Korea, and one
from Germany in 2010. Although not shown in this table, once you lookat the past U.S. patent data, six to nine Japanese companies have always
been listed on the top 20 U.S. patent holders list since 1990. Clearly, you
can recognize that Japanese technology stock is extremely high, and evenpotentially ranks No. 1 in the world. However, the market performanceof many of those Japanese companies has been far from beingcommensurate with their enormous technology stock. This point will be
discussed later.
Table 1: Top 20 U.S. Patent Holders (2010)
Rank
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
*
55

CompanyIBM
Samsung Electronics
Microsoft
HitachiCanon
Panasonic
ToshibaSony
SiemensIntel
Fujitsu
Hewlett‐Packard
General Electric
LG Electronics
Seiko Epson
NEC
OracleRicoh
Cisco Technology
HoneywellInternational*
Apple

Nationality
United States
S. Korea
United States
Japan
Japan
Japan
Japan
Japan
Germany
United States
Japan
United States
United States
S. Korea
Japan
Japan
United States
Japan
United States
United States*
United States

Source: Intellectual Property Owners Association, www.ipo.org, 2011.

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Vol.3 Issue 2JAPAN MNE Insights

Next, let's compare Sony and Apple. In 2010 when iPad wasintroduced to the world, Sony was ranked 8th in U.S. patent ownership,
and Apple, not even ranked in the top 20, placed 55th. Although thepatent ownership ranking is based strictly on the number of U.S. patents
and could not say anything about patent quality or significance, Apple did
not appear to own as much technology stock as Sony. The changes inSony and Apple's R&D spending and ranking in U.S. patent ownership
between 2000 and 2015 are presented in Table 2.
Table 2: R&D Spending and U.S. Patent Ownership Ranking
for Sony and Apple (2000 ‐ 2015)
Sony

Apple

R&D spending(in US$billion)
U.S.
PatentRanking
R&D spending(in US$billion)
U.S.
PatentRanking

2000
$4.0

2003
$4.1

2005
$4.0

2008
$5.7

2010
$4.7

2013
$4.7

2015
$3.8

6th

11th

11th

10th

8th

4th

10th

$0.4

$0.5

$0.6

$1.2

$1.8

$4.5

$8.1

187th

218th

184th

106th

55th

15th

12th

Sources: Intellectual Property Owners Association, www.ipo.org, various
years for patent ranking; various sources for R&D spending.

Let's compare Apple's and Sony's technology stocks in terms ofthe number of U.S. patents owned by each company. During the first
decade of the 21st century when Apple had released some of the mostinnovative products in the world, including iPod (2001), iPhone (2007),and iPad (2010), the company’s U.S. patent ownership ranked from
218th in 2003 to 55th in 2010. Compared to Sony's technology stock
represented by its U.S. patent ownership that kept its ranking between
6th and 11th during the same period, Apple's technology stock evenappeared to have been much lower. On the other hand, we could safely
say that Sony has maintained its technology stock at a high level over theyears. Although we can list PlayStation and Cyber‐shot digital cameras asits globally successful products during the same period, Sony simply has
not measured up to Apple in terms of their innovations, global sales andprofitability.

"Sony has maintained its
technology stock at a highlevel over the years...
(but) Sony simply has notmeasured up to Apple interms of their innovations,
global sales andprofitability"

Now I would like to compare the number of U.S. patents held bySony and Apple since 2010. Compared to Sony, Apple significantly
increased investment in R&D from a meager $0.4 billion in 2010 to a
whopping $8.1 billion in 2015, and accumulated its own technology stockat an astonishing speed. In 2015, while Sony just about maintained its
status quo in both R&D spending (although it fluctuated somewhat due
to changes in exchange rates) and U.S. patent ownership in the 10thplace, Apple's patent ownership ranking moved up significantly to the3Vol.3 Issue 2"even if companies
invested heavily in R&D
and built their own
technology stock, suchcorporate efforts would
not necessarily result inhigh market
performance"

JAPAN MNE Insights

12th place. However, Apple’s new product development results havenot been as rosy since 2010 as its R&D spending increase would havesuggested. Although iWatch was introduced in 2015, it has not beennearly as successful and epoch‐making as iPod, iPhone, and iPad. It isindeed more like a failed product. Since Apple started its R&D
spending spree in earnest in 2010, however, it even appears to havestarted experiencing a technological paralysis of the kind that has
been plaguing Sony in the last twenty years.
What can we see from the stories of Sony and Apple? Of course,
although it is not a result of a rigorous academic investigation, a casual
observation would lead us to speculate that even if companies
invested heavily in R&D and built their own technology stock, suchcorporate efforts would not necessarily result in high market
performance. Or more bluntly stated, it even appears that the less
R&D efforts would result in more new and innovative products andhence better market performance. Alas, this speculation would
amount to an antithesis to the conventional wisdom.
Competitive Advantage: The Past and the Present
The word "competitive advantage" has been used in thebusiness field to describe a situation that economists would call a“monopoly power” (i.e., a unique status in the minds of customers)that a company seeks vis‐à‐vis competitors so that it can enjoy ahigher than normal profit. As soon as its competitors have imitated
and/or improved on the unique status enjoyed by the innovator
company, the innovator company loses its competitive advantage. In
other words, the more difficult it is for competitors to imitate oroutmaneuver the innovator company’s competitive advantage, themore valuable it will be to the innovator company. In most IB
research, such advantage is considered to come from R&D efforts. This
R&D‐driven competitive advantage argument could explain U.S.
companies’ technology‐driven market dominance in the 1960s‐80s. It
also explains Japanese corporate juggernaut, including Sony’s, driven
by heavy R&D investment that was once considered almost invincible
in the 1980s‐90s.
However, a persistent structural recession caused by the burstof the “bubble” economy in Japan in mid‐1990s has since caused theJapanese economy to stay economically stagnant and deflationary.
Even in such a recessionary environment, Japanese companies havecontinued to emphasize R&D investment, and as a result, they havecontinued to accumulate and maintain world‐class technology stock.
The same can be said at the national level. Looking at the ratio of R&D
investment to GDP (see Figure 1), Japan has invested about 3.4% of
GDP in R&D since 2000, which was the highest in the world until South
Korea surpassed Japan in 2010 (which is often referred to as theSamsung effect). In the United States, the ratio has been about 2.6%,

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Vol.3 Issue 2JAPAN MNE Insights

and it seems to have even begun to fall. Although I will not discuss theSamsung effect in South Korea here, the increase in Korea’s R&D
expenditure relative to its GDP is remarkable, nevertheless.
Figure 1: R&D Spending Relative to GDP by Country (2000‐2014)"the conventional
wisdom that investment
in R&D should lead tocompetitive advantage
in the market no longer
appears to be true"

Source: OECD, https://data.oecd.org/rd/gross‐domestic‐spending‐on‐
r‐d.htm, 2016.
At the national level, Japanese companies appear to have been
putting consistent emphasis on R&D investment as a primary source of
their competitive advantage. However, looking at the data in the UnitedStates, you can observe that U.S. companies do not appear to have been
as much intent on R&D investment as have Japanese companies andindeed even appear to have begun to reduce R&D investment relative tothe size of the U.S. economy in recent years. Nevertheless, over the past
15 years, the U.S. economy has experienced a higher GDP growth rate
than the Japanese economy both at a macro level and on a per‐capita
basis. It is a testament that the U.S. economy has been more competitive
than the Japanese economy. My speculation leads me to think that thechange in competitive advantage “story” about Sony and Apple has been
happening even at the national level. In other words, the conventional
wisdom that investment in R&D should lead to competitive advantage inthe market no longer appears to be true.
Changes in the Technological Environment
In the past, when a company developed innovative products, itenjoyed a monopolistic profit at least for a few years until its competitors
successfully imitated or surpassed the performance of the original
innovator’s products on the market. However, in recent years,
competing products get introduced to the market so quickly either bycompetitors that have instantly imitated the original innovative
products or by companies that have been working essentially on thesame products at the same time as the original innovator.

5Vol.3 Issue 2"Today, whether
companies are fromdeveloped or fromdeveloping countries,
many of them are all
engaged in similar
technologicaldevelopment as well as
sharing technologies
with much technologicalknowledge in common"

JAPAN MNE Insights

For example, in 1999, NTT DoCoMo of Japan announced theworld's first internet phone, i‐Mode, using its own proprietary mobileinternet in the Japanese market. i‐Mode instantly became thedominant internet phone in Japan, which indeed heralded the dawn of
the smartphones around the world. In the U.S. market, Research in
Motion from Canada introduced a BlackBerry line of smartphones
almost at the same time in the same year. Similarly, as soon as Apple
introduced its own iPhone under its iOS operating system on themarket in 2007, Google introduced its own smartphones underAndroid operating system (which is partially open standard) called T‐
Mobile G1. In the same year, Samsung Electronics began emphasizing
smartphone development in earnest, and in a matter of 1‐2 years by
2009, the Korean company had grown to become the dominant player
in the global smartphone market with the Galaxy brand with Android
specification. Understandably, NTT DoCoMo that was busy developing
the Japanese market had little or no time to launch its smartphones
with its own i‐Mode specification in the large U.S. market.
While there are many reasons for today’s rapid technologicaldevelopment, let me highlight two major ones. First, technology‐
based competition has become extremely intense in the last 20 years,
compared to the previous era. Today, whether companies are fromdeveloped or from developing countries, many of them are all engaged
in similar technological development as well as sharing technologies
with much technological knowledge in common. As technology‐based
competition has intensified, the life cycle of technological innovation
has become so short that innovating companies have little or no timeto enjoy any measurable monopoly period to gain profits by using
their technology as their predecessors used to in the 1960s and 1970s.
Second, although it is not widely known, the current intellectual
protection laws around the world are actually designed to encourage
dissemination of knowledge (say, through learning from others, ormore bluntly stated, through imitation). These two reasons areclearly inter‐related. In the next section, let me elaborate on thesecond reason.
Limits to the Intellectual Property Protection Laws
Let's talk about patent laws around the world, and their lesswell‐known implications here. Depending on the country and the typeof technology, the patent generally gives the developer and owner of
the technology a legal monopoly status for 15 years to 21 years. As
explained earlier, if a company owns a technology that generates huge
profits, competitors will always try to imitate it or outsmart it. The
competitive advantage, or monopoly power, enjoyed by the innovator
company does not last long because of this competitive reaction.
Therefore, the most important thing for the innovator company to do
is to lengthen its competitive advantage by offering products that are6Vol.3 Issue 2JAPAN MNE Insights

difficult for competitors to imitate and that customers continue toappreciate. In a way, the concept of "inimitability" in resource‐based
view becomes important.
A patent legalizes the inimitability of technological knowledge
for 15‐21 years. Two patent systems exist in the world: “First‐to‐Invent” and “First‐to‐File”.1 The United States is the only country in
the world whose patent system is based on the "First‐to‐Invent"principle, and the rest of the world, including Japan, is based on the“First‐to‐File” principle. Briefly speaking, the U.S. "First‐to‐Invent"principle is based on the logic that the person (or company) who
developed the technology first is the real owner of the patent.
Although it seems obvious, it has profound implications. Suppose thatsomeone else already got a patent on a technology in the United States.
Under the U.S. “First‐to‐Invent” principle, if you could later prove thatyou had indeed developed it first, you could successfully challenge thecurrent patent holder for patent infringement in a damage lawsuit fora huge sum of compensation and have the patent reverted to you. In
other words, a legal concept, “prior use,” or the fact that you invented
it first becomes vitally important as a means of protection against
imitation. However, under the "First‐to‐File" principle in all countries
other than the United States, you must apply for a patent forprotection against imitation. Of course, if you did not apply for apatent, you would never receive a patent, thus no protection against
imitation. As a result, under the “First‐to‐File” patent system, patentapplications become more important than patent grants forintellectual property protection.
Although these two principles are not widely known to begin
with, there is another fundamental difference between the twosystems. Under the U.S. "First‐to‐Invent" system, there is a non‐disclosure principle (Secrecy Requirement) when applying for apatent in the United States. The patent application will stay sealed andwill never be made available to the public. Without having a
possibility of being imitated, the patent‐pending technology remains
secret. However, under the world‐wide "First‐to‐File" principle, thepatent application will be “laid open” (i.e. published and released)
and made available to the public within 15 to 18 months ofapplication, depending on a country. It usually takes several years fora patent applicant to receive a patent. In the past, if you were to keeptabs on your competitors’ technological development, you would
have to physically register yourself at your local patent office and page
through their published patent applications. Knowledge on yourcompetitors could be acquired, but it was a time‐consuming (andprobably expensive) endeavor. Now thanks to the development of the"As a result, under the“First‐to‐File” patent
system, patentapplications become
more important thanpatent grants forintellectual property
protection"

1 For example, Masaaki Kotabe and Kristiian Helsen (2017), Global Marketing

Management,7th ed., Hoboken, NJ: Wiley, Chapter 5.

7Vol.3 Issue 2"What I would like tostress here is that
applying for a patent is
now a sure way to getyour patent‐pendingknowledge disseminated(i.e., learned andimitated) rather quickly,
whether you like it ornot, and wherever you
are located"

JAPAN MNE Insights

internet, you can simply sign up on to a local patent office’s website,browse and even download the pdf files of various patent applications
filed by your competitors that have not yet obtained a patent, and then"learn" from them, whether intentionally or accidentally. Since most
U.S. companies also have to apply for patents in various countries
around the world in which to do business (to say the least, within the
North American Free Trade Area, which is treated as domestic
market, i.e., Canada and Mexico), their patent applications that are
kept secret in the United States will be subject to the world’s “First‐to‐File” system in which their patent applications will get “laid open” inless than a year and a half after application. What I would like to stresshere is that applying for a patent is now a sure way to get your patent‐
pending knowledge disseminated (i.e., learned and imitated) rather
quickly, whether you like it or not, and wherever you are located.
In fact, the Obama administration switched the U.S. patent
system in principle to the world’s “first‐to‐file" system as of March 18,
2013. Although its actual adoption may take some time, the UnitedStates has officially joined the system of patent protection used by therest of the world. In other words, we now live in the world where
patent applications will be officially published in the public domain
within less than a year and a half of application. In other words, any
company can fairly easily acquire competitors’ technologicalknowledge. Consequently, lawsuits for patent infringement may occur
frequently, but it is to be reminded that such lawsuits andcountersuits occur both ways, as amply illustrated by the recent
Apple‐Samsung lawsuits / countersuits against each other over some
smartphone‐related technologies. In many cases, however, bothparties usually decide not to sue each other as such lawsuits are not
only expensive but also counter‐productive as they detract fromproduct development activities. Just learning, either intentional or
accidental, from published patent applications continues unabatedand unchallenged. Under the “First‐to‐File” system, the patent thatwas originally designed to give legal monopoly on technology has justabout lost its effect today.
In such a world, how could companies obtain and maintaincompetitive advantage? The answer seems to be lurking in the factthat relative to the size of their respective economy, U.S. (andEuropean) companies as well as companies of emerging economies
like China are not investing as heavily in R&D as Japanese companies.
Speculation on A New Competitive Advantage Paradigm
Over the past 30 or more years, Japanese companies havecontinued to believe that technological strengths will lead tocompetitive advantage (monopoly power), and have continued toaccumulate technology stock by investing heavily in R&D activities.
This Japanese business model has been patterned after the old U.S.

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Vol.3 Issue 2JAPAN MNE Insights

business model that had allowed U.S. companies to achieve
remarkable market success based on technological superiority in thepost‐WWII era. As indicated earlier, this business model had worked
fine during the period when technological change had been relatively
slow. However, in recent years when technology changes extremely
fast, companies that do not have an organizational structure thatallows them to utilize their own technologies immediately would end
up seeing their technologies becoming obsolete or imitated(intentionally or unintentionally) by their competitors. In otherwords, self‐developed technologies, if left unused, would become auseless possession. In my mind, Japanese companies, including Sony,
NEC, Fujitsu, and Ricoh, that have continued to invest heavily in R&D
in developing new technologies and be recognized as some of themost patent‐holding companies in the United States, are experiencing
this problem. It seems to be heralding the end of the conventional
competitive advantage paradigm based on in‐house technology
development.

"It seems to be heralding
the end of theconventional
competitive advantage
paradigm based on in‐house technology
development"

Although I do not speculate whether U.S. and other companies haveanticipated this transition, Fortune 500 industrial companies, whilestill investing at a reduced rate in R&D on their own, seem to haveadopted a new business model of acquiring new technologies throughlicensing, acquisitions of high‐tech startups, and “learning” from othercompanies’ patent applications published in the public domain,
among others. You can observe this trend if you look at the U.S. R&D
investment relative to the country’s GDP in Figure 1. Of course,
companies from emerging economies such as China have been using
this new model of technological acquisitions from the beginning.2
Let's go back to Apple's technological strategy discussed
earlier. As you can see from the ranking of U.S. patent ownership,
Apple did not use to invest heavily in self‐technology development but
instead relied heavily on state‐of‐the art technologies owned byothers through licensing and acquisition of high‐tech startups. And,of course, Apple has been good at “learning” from other companies’
published patent applications on a global basis. According to somepundits, a majority of Apple’s iPhone technologies came from manylarge and small Japanese companies with various special
technological applications. However, as shown in Table 2, Apple has
recently started to increase its R&D investment significantly, resulting
in the U.S. patent ranking rising rapidly to the 12th place in 2015 andalmost equal to Sony’s 10th place. Given its lackluster technologicaland market performance in the past 5‐6 years, I can even speculatethat just like Sony, Apple may have invested too much in self‐
2 Kotabe, Masaaki and Tanvi Kothari (2016), “Emerging Market Multinational

Companies’ Evolutionary Paths to Building a Competitive Advantage from
Emerging Markets to Developed Countries," Journal of World Business, 51(September), 729-743.

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Vol.3 Issue 2JAPAN MNE Insights

technology development and lost its ability to use its in‐house
technologies fast enough on its own.
If my speculation is correct, wouldn’t it be possible to imagine a
new competitive advantage paradigm? In other words, rather thantrying to build competitive advantage by investing in heavy R&D, it
might be more important for companies to build a corporate structurethat can allow them to use new technologies fast, regardless of theirown or someone else’s. This line of argument can be broadly explained
under the concept, “dynamic capabilities,” which is defined as “thefirm’s ability to integrate, build, and reconfigure internal and external
competences to address rapidly changing environments.”3 While it is anice academic concept, it is devoid of the actual process of how
companies build such capabilities. My observation adds more realism
to the concept.

3 David J. Teece, Gary Pisano, and Amy Shuen (1997), “Dynamic Capabilities

and Strategic Management,” Strategic Management Journal, 18 (7), 509-533.

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Vol.3 Issue 2JAPAN MNE Insights

Special Essay:
The Switching Model of International Competitive andCooperative Entry Modes: Highlighting the Validity ofa Revised Transaction Cost Approach to the Theory of
MNE
Takeshi Fujisawa
Professor of International Marketing,
School of Business Administration
Kwansei Gakuin University, Kobe, Japan

Introduction
Since Year 1990 the explanative power of the transaction cost analysis model（thereafter, TCA）as a general theory of the multinational enterprise (MNE)
appeared to be gradually diminishing, which is asserted by some authors who
criticize it as oversimplification for a general theory and also point out thedifficulty of testing transaction costs in empirical studies and others who
repeatedly stress that the weight of transaction costs shared in MNE’s selecting an
optimal entry mode has been lost by the frequent and conspicuous events of non‐equity and minority equity entry modes such as strategic alliances（SA）.
Among Reading School, however, as Casson (2000) suggests, TCA is seen still
now not to lose its effectiveness, so long as TCA is in part revised and thentransaction costs can be integrated into a broad framework for explaining what
type of market entry mode including strategic alliances & M&A is more preferable
for which MNE over time in terms of introducing information cost （IC） andcommunication cost （CC） .
Taking such a separate evaluation to TCA into consideration, it is granted torevise the traditional TCA employed by Rugman (1981) in developing the general
theory of MNE, whereas the revised context is forced to omit from this paper forthe constraint on the volume. That is why this paper focuses on extending therevised TCA to MNE’s decision‐making on SA not only for manufacturers but also
for soft developers. In particular, the optimal conversion point among competitiveand cooperative entry modes should be highlighted. Finally each role of IC and CC
as a determinant of market entry modes selected by MNE is proposed in acomprehensive entry model.
Throughout this theoretical development, the validity of TCA might bedemonstrated.
Ⅰ

A Theoretical Model of Strategic Alliances
Let Company B be a follower MNE, provided that Company A is defined as aleader MNE. In the first phase, A retains a technological advantage and sells its
technology to B, before B manufactures a sort of finished products utilizing thislicensed technology in order to supply A with the products under an OEM
Ⅱ

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Vol.3 Issue 2JAPAN MNE Insights

agreement for A’s own brand, while some manufactured products are sold with B’s
brand.
Company A has already divested from producing these items. An initialcondition for A is that A has not only a technological advantage but also a brandone. Necessary variables for analyzing both MNEs’ behavior are defined as follows.
B’s total supplying volume of finished products manufactured by B; QＢ
A’s selling price of its own brand; PＡ
B’s selling price of its own brand; PＢ
B’s selling price of manufactured products for A; PＣ
B’s total average production and supplying cost; CＢ
B’s ratio of selling its own brand to B’s total quantity of manufactured products;x（0≦x≦１）
Under a licensing agreement A receives an assured licensing fee from B. The
rate of this licensing fee is measured by a certain ratio of B’s total sales volume
while producing the goods inclusive A’s technology. The rate of this licensing fee
is denoted as y like 0≦y≦１. Since B starts manufacturing the related products,
it’s postulated A has no touch with supplying parts and materials for B’s
production.
Among the above variables, a few initial conditions are found. For A’s brandcan be sold at a higher price than B’s brand, PＡ＞PＢ is assured. Moreover, since B
has to incur sales promotion cost when selling its manufactured products with B’s
brand, B is enforced to put its own brand price higher than the selling price of B’s
products for A. Then PＢ＞PＣ is assumed. B had better get some adding values fromits manufacturing so as to keep producing. So PＣ＞CＢ is naturally made clear.
Thus the initial condition follows that
PＡ＞PＢ＞PＣ＞CＢ, Therefore, PＡ＋PＢ＞2PＣ①
For simplification of discussion, the transportation, tariff and insurance costs
are neglected when A imports all manufactured products from B. Rather several
variables are added to the above existing variables.
Annual A’s total profit; RＡ
A’s revenue of licensing fee ; LＡ
A’s sales profit with its own added brand value; BＡ
B’s total profit; RＢ
Here RＡ＝LＡ＋BＡ.
LＡ＝PＢQＢｘy＋PＣQＢ（１－x）y②
BＡ＝（PＡ―PＣ）QＢ（１－x）③
RＢ＝（PＢ―CＢ）QＢx ＋（PＣ－CＢ）QＢ（１－x）④

Then A’s residual technological development cost is denoted as TＡ and its total
R&D cost related this technology is TＯ.

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Vol.3 Issue 2JAPAN MNE Insights

Each sales year for A since a new product was introduced by A in the market isdefined as I, and the years since A released its own technology is shown by k. TＡ
is,
n

m

TＡ＝ＴＯ－  B A   L A
i

i 1

k

⑤

k 1

In the first A’s decision‐making to involve selling its technology to B depends
on the condition satisfying RＡ＝LＡ＋BＡ＞RＢ, as long as TＡ＞0 is continued. The
reason why if LＡ＋BＡ＜RＢ, A should leave TＡ at the time of licensing out and findthe total future revenue gained by A may be lower than that of B. In this case A
may notice that A would have never kept a motive for its technologicaldevelopment. If TＡ＞0 is assumed by A but as a result of licensing out, LＡ＋BＡ＜
RＢ is realized, A can’t perform to collect the total cost for its technologicaldevelopment and sunk cost will be arisen. This sunk cost is regarded as a sort oftransaction cost.
Therefore as far as A’s rational behavior is assured, it turns out to the below
formula.
｛PＢQＢx＋PＣQＢ（１－x）｝y＋（PＡ－PＣ）QＢ（１－x）＞（PＢ－CＢ）QＢx⑥＋（PＣ―CＢ）QＢ（１－x）
Derived from equation ⑥, the condition for defining the rate of licensing fee issolved as below.
( PA  PB  2 P C ) x  2 PC  C B  P A
ｙ＞⑦( PB  PC ) x  PC
In the next phase, at the time period of TＡ ＝0, A’s technological value isdiminishing while B’s brand is going up. That is why the condition of PＢ＝PＣ may
be balanced for both as a price negotiation term. Consequently B’s brand value
tends to become equivalent with the market price evaluated by actual traders.
Here PＢ＝PＣ can be substituted into equation ⑦, thus the new equation ⑧ isderived.
( PA  PC ) x  2 PC  C B  PA
ｙ＝⑧
PC
Finally, at TＡ＜0, B can strengthen its brand power and B’s brand selling pricebecomes equal to the world standard price, which can be denoted as PＡ＝PＢ＝PＣ.
Thus the negotiation concerning the existing technology becomes against A.
Taking advantage of such a reversal on the licensing fee, B becomes stronger thanA in deciding the fee shown by ⑨．
PC  C B
ｙ＜
⑨
PC

13

Vol.3 Issue 2JAPAN MNE Insights

In addition to this analysis, so as to solve the optimal condition for A in licensing
out, one stable equilibrium about the rate of A’s technological licensing fee should
be derived from totally differentiating equation ⑧ under y′＝0 as follows.
P C ( PA  PB  2 P C )  ( P A  C B  2 PC )x＝⑩
(1  PC  PB )( PA  PB  2 PC )As X is constrained to be non‐negative and （1+PＣ）＞PＢ is clearly kept,
PＡ＋PＢ≧２PＣ，and PＡ＋CＢ≧２PＣ⑪
As PＡ ＋PＢ ＞PＡ ＋CＢ is established, A’s stable time period concerning A’s
negotiating power over its licensing fee is defined as below.
PA  C BPＣ≪⑫
2
In such a condition that A’s sales added value is higher than B’s manufacturing
added value, A becomes more advantageous over B in negotiating its licensing fee.
But in the case of（PＡ－PＣ）＝（PＢ－PＣ）, A becomes to suffer from getting
the satisfied agreement for A. That is, when A’s sales profit ratio with A’s brandcomes out below B’s sales profit ratio with B’s brand value which is made clear by
PＣ＞CＢ, A is forced to reduce its status for negotiating the licensing fee.
In conclusion, A should start its licensing out from the time period satisfying
PA  C B
and determine to expire its licensing agreement at
the condition of PＣ＜
2
the time coincident with（PＡ－PＣ）＝（PＢ－PＣ）.
Ⅲ Decision‐making Model for SD’s Foreign Market Entry Modes
TCA has been often applied to entry modes for service firms. Erramilli（1990）
attempts to explain this variation in terms of certain service attributes and motives
for foreign market entry, using TCA as its theoretical basis. The observation
indicates that service firms’ entry mode choice associated with hard services
resembles that in manufacturers. Erramilli & Rao（1993）investigates theinternationalization pattern of service firms by three stage model. They apply TCA
to build a theoretical and empirical model. The relationship between high asset
specificity and sole FDI are positively observed, whereas low asset specificity links
with shared‐control modes like JV. Both results support conventional TCA. High
capital intensity has a positive relation with sole FDI while middle one necessitates
shared‐control, which coincides with TCA.
From these two research results the internalization process of service firms
turns out to have commonality with the one of manufacturing firms. TCA is also
useful for service firms in applying it to their decision‐making on what entry mode
is to be selected.
For this reason we suggest the criterion for a software developer’s selecting
market entry modes referring to any idea of the preceding research. Here pay
attention to off‐shore development typically seen to the software industry and14Vol.3 Issue 2JAPAN MNE Insights

how much both opportunity cost and dissipation cost as a special cost influencefirm’s decision‐ making on the optimal entry mode.
Many independent and dependent variables available to solving the problemof what entry mode is best for a software developer （SD） in various situations
are shown and specify the all variables based on each definition.
R1： import sales volume of software developed by other companies
R2： total revenue by licensing out internally developed software technology toother companies
R3： total revenue by selling internally developed software with its original brandI１： total cost of importing externally developed software
M1： sales promotion expenses for software imported
M３：sales promotion expenses for internally developed software with its originalbrand
M4： sales promotion expenses of software depending on the development ratioof consignees
P1： net profit by importing and selling externally developed software
P2： net profit by licensing out internally developed software technology to othercompanies
P3： net profit by selling internally developed software with its original brandP4： total net mixed profit of by selling internally developed software with its
original brand and selling its software served for another brandO1：opportunity cost incurred due to missing the sales of internally developed
softwareO2：opportunity cost incurred due to licensing out internally developed software
technology to other companies
D1： expense required for developing an internal existing software, some of which
will be contributing to developing the next generation software (it ispostulated that its depreciation has already expired)D2： existing software development cost incurred before licensing out internallydeveloped software technology
D3： newly additional cost for developing the next generation software
r2：technological dissipation cost accompanied with licensing out internallydeveloped software technology（0＜ｒ2＜1）
What degree of share the existing software development expense (D1) is
expected to account for in contributing to save the development cost for the next
generation software assuming that the existing software technology can create thenext one, which is defined as α（0＜α＜１）.
Then, O1＝R3－（D3－D1α）－M3①
In order not to incur O1, the vital condition is designated.
R3＜D3－D1α②15Vol.3 Issue 2JAPAN MNE Insights

The constraint ② relates to mean that huge investment cost should bear inorder to succeed in the new generation software and the synergy effect between
the new generation one and the existing one can’t be greatly brought out, thus thatis why the technological continuity is trivial, which results in not bearing O1.
As P1 has co‐relationship with O1, thus the below equation is derived.
P1=R1－I1－M1－O1③nnHere P1＝  
i 1

1i

―

O

1i

④

i 1

The above left item in the right equation shows the net sales profit of imported
software over years (n) since at the stage its related opportunity cost has neverbeen accounted. Its right item describes the opportunity cost due to notdeveloping software inside the SD and selling it. ; Thus
n

n

i 1

i 1

 O1i ＝  R 3i ―D3⑤

Generally when the opportunity cost is larger than the development cost, theinternal development should be selected.
On the other hand, how SD estimates the profit accrued from licensing out thesoftware internally developed over years (n) should be considered. If thetechnology licensed out can contribute to develop other software, technologicaldissipation risk will happen. Since a result of such risk (r2) is taken into
consideration, the net profit by licensing out internally developed software
technology to other companies is defined as equation ⑥.
P2＝R2－D2－O2⑥
The net profit accruing from licensing out internally developed software
technology over years (n) may bring about technological dissipation cost (r2）.
When the technological dissipation cost (r2）is higher, it reduces the net sales
profit of its technological license out. Therefore equation ⑦ can be drawn.
n



2i

P2＝ i 1n
（1  r 2）⑦

In the third, the net profit accrued from selling internally developed softwarewith its own brand is described by equation ⑧.
P3＝R3－D3－M3⑧
It should be noted that the business types of selling such software are mainly
divided into sales with its original brand and via trusted development. Here thedevelopment degree of trusted development accounted for total order volume
from customers is denoted as β（0＜β＜１）.

16Vol.3 Issue 2JAPAN MNE Insights

The higher this degree is, the lesser naturally its sales expense is, because theconsignor sells software marking its own brand and thus pays for market
development activities with its own cash.
Instead of it, its sales profit ratio becomes reduced compared with selling
original brand as its consignee must give up gaining some of sales profit due to its
consignor (buyer)’s holding the goodwill of selling software. Consequently theratio of the consignee’s giving up sales profit to its consignor accompanied withthis trusted development for consignor’s brand is defined asγ（0＜γ＜１）. In
this way considering the business model of the consignee in exporting its software
for its consignor, sales promotion expenses of software depending on thedevelopment ratio of consignees is denoted as M4 and then define as M4＝M3（１－β）.
Assuming that the total sales revenue is the same in both own brand sellingand original equipment manufacturing（OEM), and R&D cost is required in bothtypes, the net sales profit gained by the mixed type is derived from the equation⑨.
｝－D3＝R3－M3－β（R3γ－M3） ⑨
P４＝｛R3（１－βγ）－M3（１－β）
In equation ⑨, P４ shows a bigger value when satisfying R3γ－M3＜0, for β＞
0.
M3,it is more
R3
desirable for consignee to raise the ratio of OEM supply of software developed by
it so as to gain more sales profit. Such a condition that M3 becomes greatly bigger
than R3γ is best required for a consignee so long as the larger βis, forβ＞0.

Therefore as long as satisfying R3γ－M3＜0, that is, γ＜

Ⅳ A Conceptual Framework and Theoretical Integration
Following Casson’s theory（2000）that IC has TC related field to some extent,
let information cost（IC）be employed as well as communication cost （CC）and
TC in order to distinguish the criterion for the selection of foreign market entry
modes such as foreign direct investment（FDI). What is the biggest influencing
factor is focused on.
The theoretical background is also essentially required. Whether wholly‐owned
or joint venture type of FDI has been preferred by Japanese parents should beclarified comparing with other entry modes such as licensing and exporting plants.
All of manufacturers should have strong firm specific advantages in entering each
foreign market by setting up their wholly‐owned subsidiaries equal tointernalization. Before entering foreign countries most of manufacturers mighthold some strategic intent mainly divided into globalization or localization, sincesuch a strategic motive necessarily influences on the performance of eachsubsidiary.
Then let the determinants of several entry modes be clarified.
Firstly manufacturers must hold specific assets in entering foreign countries so
as to compete with their rivals not only in a host country but also in the world
market. A local production in a wholly‐owned subsidiary may become a promising17Vol.3 Issue 2JAPAN MNE Insights

entry mode for attaining the goal of market share. This mode strongly commits
corporate resources to link with many markets. Consequently once such a project
fails, this MNE takes highest risk and feels it hard to recover from a crucial damage.
To make a wholly‐owned subsidiary stronger, a parent must develop strong‐binding asset specificity in technology or knowledge enough for its subsidiary to
be transferred to learn well. From a long perspective, its subsidiaries can be
expected toward developing an original design of technology and business model.
This entry mode has a merit in that it can erase TC for the following reasons.
A manufacturer’s parent can transfer its technology and knowledge to its
subsidiary without caring about market inefficiencies illustrated by unstably
evaluated value of a new technology due to the lack of technology market
mechanism and asymmetry information as well as unduly moral hazard by alicensee where a new type of technology may be sold to the third party by thislicensee ignoring the licensing agreement concluded between a license holder anda technology buyer. So as to prevent from opportunistic behavior of a licensee, its
licensor must always audit and monitor the partner’s behavior. Therefore thelicensor often has to endure policing cost（PC）, even though paying PC might not
be perfectly control its licensee to act freely with moral hazard, even if it has been
continuously paying PC since the licensing
As a matter of fact, a licensing at the early stage of its product life cycle like aphase of introducing a new product in the world entails highest risk for a licensor
in that the maximum dissipation cost (DC) might happen to the licensor fromearlier releasing out this type of technology which causes licensee to catch up withor overtake the licensor in selling a big volume of the products whose technology
is derived from the licensor.
Before setting up a wholly‐owned subsidiary, a manufacturer has to researchwhere is best for locating its subsidiary and when to start its operation, as market
research and feasibility study are required for this MNE. That is why the MNE must
pay high IC from the feasibility study. After it starts operation in its subsidiary, thisMNE has to incur high IC so that the parent controls and coordinates many
subsidiaries whenever integrating the role of each subsidiary into its global
strategy. How to integrate a variety of subsidiaries into the corporate level ofglobal strategy depends on much information available to the parent. As a resultof information processing, this MNE can work together with its local subsidiaries.
CC between a parent and its wholly‐owned subsidiaries becomes criticallyimportant after a local production and R&D start. The managers at local
subsidiaries also regard mutual communication with their parent company as themost important element for decision‐making and expanding transactions within
the own firm beyond national borders. In this way the parent comes to formulatea world mandate product strategy in a speedy way. Therefore CC is apt to augment
in integrating wholly‐owned subsidiaries.
Joint ventures (JVs), however, demand both partners to pay maximum CC to
conduct an optimal decision making. If one’s goals become divergent from anotherpartner’s ones, both managers must often keep in touch with each other, and manytimes attend a variety of meetings after several discussions. Therefore eachdecision making in a JV tends to be deferred (particularly in a equality ownership18Vol.3 Issue 2JAPAN MNE Insights

type of JV). Such a slow decision making induces a project to be delayed or
postponed, which worsens both partners’ business performance due to the late
response to the changing environment. To solve this problem, information sharing
shouldn’t be neglected. That is why JVs must incur relatively high IC instead ofsaving highest CC. Even if CC and IC can be covered by MNE, another big problem
happens to every JV partner.
Sunk cost is often caused by opportunistic behavior of one side of partner
when another partner has invested huge resources and cash into its own plant
whose type is limited to a specific usage for production. If one partner rejects
selling the product fabricated in this JV, another partner, that is, a real plant owner
can’t compensate such a facility investment cost because another type of productcan’t be made or assembled in its JV’s plant. Such a partner is enforced to give up
covering sunk cost, while an opportunistic partner doesn’t have a will to pay forsunk cost. Partnership tends to be easily collapsed as soon as the production andsales regulation specified in the JV agreement can’t be observed by one partner
who has never touched with the facility investment.
Thus transaction costs（TCs）are comprised of three cost factors;①Dissipation cost (DC), ②Policing cost（PC）, ③Sunk cost（SC）. Obviously
at the same time, TC have some relations with information cost（IC）andcommunication cost (CC).
Then let us proceed to build theoretical models. At first focusing on the role ofinformation collecting cost (ICC) used to research a product market and a labormarket for each type of entry mode, it can be found that a theoretical framework
which is lent itself to explain what type of entry mode is best for a manufacturer
depending on the requirement levels of ICC allotted for a product market (PM) andlabor market (LM).
Generally FDI is classified into a wholly‐owned type and a majority or equally‐
owned or minority JV. What type of FDI is preferred depends on the production
process (method) of whether abundant labor can be employed. For example, aminority JV is suitable to small lot of production as one partner can’t have muchinterest on business performance compared with running a majority JV.
To be more interested for a majority JV, the manufacturer who is eager toresearch a labor market and save product market research cost is likely to adopt alabor intensive production method, whereas its partner manager who emphasizes
the role of marketing research on its own product rather than collecting
information on a labor market, a capital intensive facility seems to be utilized. A
Wholly‐owned FDI prefers high‐tech and mass production employing a labor
intensive facility.
The above proposition as to a majority JV may be well fit to Japanese
automobile parts subsidiaries located in Thailand and China according to theauthor’s analyzing the data whose source is Directory of Japanese Companies’
Going Abroad （Kaigai Shinshutsu Kigyo Soran）in 2008 published by Toyo Keizai
Publishing Co.
Good performance subsidiaries were inclined to have production‐orientation
explicitly when their local operations launched. Let show all figures of the sample
subsidiaries belonging to good performer; initial facility investment = 77289 ten

19Vol.3 Issue 2JAPAN MNE Insights

thousands Yen, the number of employees = 364 persons, total sales volume in year
2007 = 461341 ten thousands Yen. Therefore, a labor intensive production
method is popularly found in a large number of production‐oriented JV.
The subsidiaries whose main motive for starting their operations was todevelop the local new market are much more seen in the bad performance groupcompared with the production‐orientation type. This marketing‐orientation typesubsidiaries have different profile like the below on average; ownership ratio =81.6%, the initial facility investment = 102033 ten thousands Yen, the number of
employees = 238 persons, total sales volume in year 2007 = 319699 ten thousands
Yen. These figures coincide with the proposition that a capital intensive facility
seems to be utilized among majority JV emphasizing the role of marketing research.
Consequently both types of subsidiaries support the above proposition.
Here return eyes onto cost factors changing over time. In terms of taking thechanging costs by each foreign market entry mode into consideration, thedeterminants of MNE’s selecting several entry modes can be derived.
Exporting plants （EP）takes a step forward into becoming MNE. For EP, thecost size relation may be CC>TC>IC. Particularly CC incurs entailing several
technological instructions for a plant importer.
For Licensing, TC>CC>IC is objectively observed, for the dissipation cost oftechnology is highest on average than any other entry modes, because due toexternalize a licensor’s asset specificity, the licensee can learn it and then appear
as a competitor in the world market, which is emphasized by Rugman,In the case of JV, three hypothesized relationships might come true without
considering internalization models proposed by Rugman etc. Rather linking witha decision‐making speed for JV partner’s managers and relationships with local
partners and headquarters lead to the comparison of cost sizes as follows.
For minority JV, TC>CC>IC.
Equally‐owned JV is expected to establish TC=CC>IC. CC is highest among all
entry modes, as it takes a long time and largest frequency in business decision
between the partners concerned who have the same decision making rights.
Majority JV has a different aspect. Higher equity ownership ratio in JV ensures
the parent company to appropriate its own asset specificity, contributing to reduceTC.
According to Casson’s theory (2000), IC has a TC related field to some extent.
Namely, to recognize an inseparable sphere from TC in IC is to be emphasized.
What overlapping field with TC can be seen in IC? TC‐unrelated factor of IC is tosearch for skillful labors and extension to a new market. On another side, sunkcost accruing from JV partner’s opportunistic behavior is often seen in its own
facility invested by a majority owner parent company as this parent tends tomainly invest into its subsidiary’s plant. Such a factor is counted as IC related withTC.
Here let us discern TC‐related IC from TC‐unrelated IC (pure IC) and employ
TC‐unrelated IC. In the case of a wholly‐owned subsidiary, IC>CC>TC is plausibly
applicable to many MNE. Over the years having passed since a wholly‐owned
subsidiary was established, it may come to be positioned in a series of world
mandate strategy type by its headquarters. By this IC will continue augmenting in

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Vol.3 Issue 2JAPAN MNE Insights

order to develop the world market and look for new transaction partners involvedin a sort of supply chain management.
V A Conclusion and Future Research Agenda
All of the three theoretical considerations in each section emphasize that thepower of a TCA is still now effective in explaining what entry mode is optimal for
MNE over time, which has been often addressed by Rugman, Buckley and Casson,etc. Even though examining the determinants of MNE‘’s selecting strategic
alliances came to add much importance rather than reviewing the ones of
traditional internalization and externalization, the theoretical and analyticalframeworks based on transaction costs shouldn’t be ignored.
Combining the traditional TCA as an economics theory with the principal‐agency
theorem, the resource‐based view, the dynamic capability approach, the network
approach as the theory of the firm seems to become a mainstream in reformulating
the theory of the MNE where to be noteworthy, Rugman(2014), Buckley(2012)
and Casson (2016) have already tackled with the theoretical synthesis. After
examining whether these types of theoretical approaches are in effect substitutive
or complementary to TCA, MNE research theorists should now address expanding
the possible sphere to integrate the above five approaches into reformulating theinternational entry mode theory of the MNE. Ideally it is the time we should clarify
what approach as applied to the theory of the MNE is best.
Main references
Buckley, P. J. & M.C. Casson, （2010），“A theory of cooperation in international
business”, Buckley, P. J. and M.C. Casson, The Multinational Enterprise Revisited:
The Essential Buckley and Casson, Palgrave Macmillan.
Buckley P.J. and R. Strange（2012），”The Governance of the Multinational
Enterprise: Insights from Internalization Theory”，Buckley P. J. and R.
Strange, Innovations in International Business, Palgrave Macmillan．
Casson, M.C. （2000）， Economics of International Business: A New Research
Agenda, Edward Elgar Publishing Limited.
Casson, M.C. （2016），The Theory of International Business : Economic Models
and Methods, Palgrave Macmillan.
Erramilli, M.K.（1990）， “Entry mode choice in service industries”, International
Marketing Review, Vol.7, Issue 5.
Erramilli, M.K. & Rao,C.P.,（1993）， "Service firms' international entry‐mode
choice: A modified transaction‐cost analysis approach”, Journal of Marketing,
Vol.57,July, pp.19‐38.
Rugman, A. (1981), Inside the Multinationals, Croom Helm Ltd.
Rugman, A. (2014), “Subsidiary Specific Advantages and Multiple Embeddedness
in Multinational Enterprises”, The MNE Academy Journal, Vol. 7, July, Japan
Academy of MNE.

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Vol.3 Issue 2JAPAN MNE Insights

Academy of Multinational Enterprises (Japan)
2015-2017 Executive Board
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Editors
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Public Relations and Publications
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Japan MNE Insights will be published twice a year on the AMNE official website(www.mne-jp.org). Please feel free to contact with the editorial team if you have any question
or request.

Japan MNE Insights Editorial TeamThe chairperson of the Newsletter committee
Toshiaki Sugita, Konan University

Editor-in-Cheif

Chie Iguchi, Keio University

EditorMasashi Arai, Asia University
Tamiko Kasahara, University of Shizuoka
Hironori Uchibori, Hakuoh University
Tetsuya Usui, Nihon University

Japan MNE Insights Editorial Team is currently located at
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University of Shizuoka, School of Management and Information
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