COMPARATIVEBUSINESS FAILURESOF
FOREIGN-CONTROLLED
FIRMS IN THE UNITED STATES
Jiatao Li* and Stephen Guisinger**
Universityof Texasat Dallas
Abstract. We explore the comparative business failures of
foreign-owned or controlled firms and domestically owned
firms. Original data are collected regarding foreign-controlled
firms in the U.S. that filed for bankruptcyprotection,were involuntarily liquidated or ceased operations mainly due to poor
financial performanceduring the 1978-1988period. Our results
show that foreign-controlledfirms fail less often than domestically owned firms. The patterns of foreign-controlledbusiness
failures and the impacts of entry modes, ownershiptypes, and
national culture on the failures of foreign-controlledfirms are
also examined.
Interestin the performanceof foreign-controlledfirmsin the UnitedStates
has increasedas the inwardflow of foreign investmenthas grown. Many
fear that foreign firms will come to dominate certain industry groups.
However,sinceU.S. firmshavea historyof failure-through bankruptcyor
involuntaryliquidations-one can expect the U.S. subsidiariesof foreign
firms to fail, as well. The issue that we explorein this studyis the comparative rateof businessfailurebetweenthese two groupsof firms. The rates
of failurediffer betweenthese two and we examinesome of the reasons
for this difference.
THEORETICALFOUNDATIONAND HYPOTHESES
Before examiningthe relationshipbetween foreign control and performance, we should be more precise about our definitions. Foreigncontrol
exists when a foreign firm controls ten percentor more of the equity of
a subsidiary.Failureoccurswhen a firm entersinto Chapter11or a forced
liquidation.Thereare,of course,alternativedefinitionsfor both failureand
*JiataoLi is a doctoralcandidatein Organizations,Strategy,and International
Managementat the Universityof Texasat Dallas.
**StephenGuisingeris Professor of InternationalManagementStudies at the
Universityof Texasat Dallas, wherehe also servesas Chairman,Joint Centerfor
China-U.S.ManagementStudies.
The authorswishto thankJeffreyArpan,EdwardFlowersandDavidRicksfor suggestingthe idea for
this researchin theirpaper[1981]andthe threeanonymousreviewersfor tileirinsightfulcommentsand
suggestions.
Received:April 1990;Revised:July 1990;Accepted:October1990.
209
210 JOURNAL OF INTERNATIONALBUSINESS STUDIES, SECOND QUARTER 1991
control,but these definitions,being widelyused throughoutthe literature,
facilitatecomparisonswith other research.
We examinefive categoriesof factorsthat can explainboth the failureof
firms and differences in failure rates between domestic and foreigncontrolledfirms. These factors lead logically to five distinct hypotheses
that we test in a subsequentsection.
OwnershipAdvantagesand BusinessFailures
Dunning [1977, 1988] developedthe eclectic paradigmto explain internationalproduction.Subsidiariesof multinationalfirms can manufacture
successfullyin foreignmarketsonly if they possess ownershipadvantages.
Theseownershipadvantagesmustbe sufficientto compensatefor the costs
of settingup and operatinga foreignvalue-addingoperationbeyondthose
faced by indigenousproducers.These ownershipadvantagesmay include
intangibleassetsandadvantagesof commongovernance.Empirproprietary
ical investigationshave identifiedownershipadvantagesin both U.S. and
foreign-basedmultinationalfirms [Lall 1980; Pugel 1981;Swendenborg
1979;Dunning 1981;Kimura1989].However,these studiesdid not answer
the questionwhetherthese advantagesare sufficientto offset the costs of
operatingin countriesalien to the firm, separatedby both geographyand
culture.
The patternof inwardforeigndirectinvestment(FDI)may differfromthat
of outwardFDI. Lall and Siddharthan[1982]pointed out that, in some
industries,the ownership-specificadvantagesthat enable U.S. firms to
invest abroad successfullymay be so extensiveor relativelyso dominant
that foreign firms generally cannot compete successfully in the U.S.
market.They suggest this may be the case in the computerindustry.In
other industries,foreign firms may have built up proprietaryintangible
assets that enableinvestmentin the U.S. on a largescale. This may be the
case for watchesand clocks [Pugel 1985].
Arpan and Ricks [1974] identified several economic forces promoting
increasedforeigndirectinvestmentin the United States. One factor is the
increasedconfidence of large foreign MNCs in their ability to competL
with U.S. firms in the U.S. market.Researchby Franko[1976]and Stopford [1980]also attributedthe strongforeigndirectinvestmentgrowthin
the U.S. to the increasingsize and capabilitiesof foreign-basedcompanies.
However,because so little researchhas been done on the comparative
performanceof foreign-ownedor controlledfirms in the U.S., thereis no
conclusiveevidencethat foreign-ownedfirms have discoveredbetterways
of operatingin the U.S. [Arpan, Flowersand Ricks 1981].
Little [1982]studiedthe impacton financialhealthof foreignacquisitions
of U.S. non-financialfirms. The author finds that at the time of their
purchase firms bought by foreignerswere generallymarkedby belowfirmsacquired
debt. Manufacturing
averageprofitabilityand above-average
by foreignerswere particularlyweak. As for the impact of the foreign
FAILURESOF FOREIGN FIRMS IN THE U.S.
211
acquisitions,the resultsshow an apparentdeteriorationin the U.S. firms'
relativeprofitabilityand an apparentaccelerationin the growthof salesand
assets. Apparently,foreignownerswereable to provideadequatecapital,
technology or managementskills to help acquired firms expand their
marketshares [Little 1982].
Studies of foreign divestmentby Boddewyn [1979], Wilson [1980] and
Casson [1986]provideadditionalinsightsinto the performanceof foreign
investments.Foreign divestmentdiffers from initial entry in two ways.
First, divestmentoccurswhen a firm loses one of the ownership,location
or internalizationadvantages[Dunning 1988:22]. Second, there may be
certain exit barriersthat do not correspondto barriersto entry [Porter
1980;Harrigan1982]. Recentevidencehas shown that the rate of divestmentby multinationalfirmshas beenincreasing[Davidsonand McFetridge
1984]. Severalkey factors such as poor pre-investmentanalysis, adverse
environmentalconditions,bad communications,organizationaland structural factorsmay lead to poor financialperformance,which in turn may
contributeto divestmentdecisions [Boddewyn1979].
Twocases can be consideredwhereownershipadvantagesarerelatedto the
firms.The first
comparativeperformanceand failuresof foreign-controlled
is when foreign firms possess specific ownershipadvantagesover their
competitorsin the U.S. These foreign firms can utilize these ownership
advantagesby either setting up new subsidiariesor even acquiringweak
U.S. companies.This is consistentwith Little's [1982]finding that firms
bought by foreignersweregenerallymarkedby below-averageprofitability
and above-averagedebt. The second case is when foreign firms may not
possess a particularownershipadvantageand can acquiresuch advantage
by buying a U.S. firm. Based on the ownershipadvantagesargumentfor
internationalproduction,we would expect foreign-controlledfirms in the
U.S. to have a lowerbusiness failurerate than domesticallyowned firms.
We examine the following hypothesis for all non-financialindustriesin
aggregateand for major industrygroups (manufacturing).
Hi: The business failurerate of foreign-controlledfirms in the
U.S. is significantlylower than that of domesticallyowned
firms.
Liability of Newness
Aggregateanalyses[Altman1983]showthat overone-half of all failuresin
the U.S. occur within the first five years of a firm's existence.Research
in organizational ecology [Stinchcombe 1965; Freeman, Carroll and
Hannan 1983]showsthat new organizationssuffer a liabilityof newness,
a greaterrisk of failurethan older organizations,becausethey depend on
the cooperationof strangers,have low levelsof legitimacy,and are unable
to compete effectivelyagainst establishedorganizations.Further,Stinchcombearguedthat new organizationsof a new form are morelikelyto fail
than new organizationswith an establishedform. Empiricalstudies (e.g.,
212 JOURNAL OF INTERNATIONALBUSINESS STUDIES, SECOND QUARTER1991
Freemanet al. 1983)found that thereis a liabilityof newness:death rates
at early ages are much higher than those at later years. They have also
found that the effectsof newnesscan be separatedfromthose of smallness.
Lupo et al. [1978]found that the profit rates of foreignaffiliates of U.S.
MNCsin 1966werestronglyrelatedto the age of subsidiaries,aftercontrolling for the countryand industryin which the subsidiaryis located. This
age-profitabilityrelationshipis largelydue to the higherpercentageof new
subsidiariesrunninglosses. A corollaryholds that the averageprofits of
new foreignsubsidiariesshould be low and the failurerate shouldbe high
[Caves1982].Our second hypothesisexaminesthe liabilityof newnessof
foreign-controlledfirms in the United States.
H2: NewU.S. affiliatesof foreignparentssuffera higherbusiness
failurerate than more establishedU.S. affiliates.
Entry Modes
The choice among acquisition,joint ventureor greenfieldentryis related
to business failuresbecause they differ both in expectedriskinessand in
the importanceof various coordinationcosts. Michalet and Delapierre
[1976]suggestedthat acquisitionis morelikelyin sectorswherethe advantages of MNCsrestin generalorganizationalabilityand not technologyor
other specificassets. New ventureshave the disadvantageof greaterriskiness [Caves 1982, pp. 81-82]. One might expect that the survivalrate of
subsidiariesfounded by acquisitionwould exceedthat of newly founded
subsidiaries,because of risk differences. However,the data from the
HarvardMultinationalEnterpriseProjectshowthe opposite:foreignsubsidiariesof U.S. MNCs foundedby acquisitionhavea higherrateof exit than
those founded as new ventures[Curhanet al. 1977;Wilson 1980].
Acquisitionand greenfieldcan be consideredas representingalternative
entry modes, with joint venturesbeing only a question of the degreeof
ownership[Cavesand Mehra1986;Kogutand Singh 1988].A joint venture
is formedby the pooling of assets in a commonand separateorganization
by two or more firms who share joint ownershipand control over the
pooled assets. Both acquisitionsand greenfieldinvestmentscan take the
form of joint ventures.In this study we treatjoint venturesas a separate
entrymode becausetheypossessuniquecharacteristicsthat affect business
failures.Coordinationof and conflicts betweenjoint ventureparents,as
well as the potentialunintendeddisclosureof proprietaryknowledge,can
generatetransactioncosts associatedprincipallywith uncertainty,opportunistic behavior and asset specificity [Williamson 1975; Anderson and
Gatignon1986].Killing[1983]assertedthat, among his threejoint venture
categories,dominantpartnerjoint venturesaremorelikelyto be successful.
Totest thishypothesis,Killingmeasuredperformancethroughmanagement's
assessmentof the joint venture'sperformance,as well as throughliquidations and reorganizations.Kogut [1988]studiedthe life cycle of domestic
and internationaljoint venturesin the U.S. and found that mortalityrates
FAILURESOF FOREIGN FIRMS IN THE U.S.
213
differ for these two groupsof joint ventures.Wewould expectthat foreign
investmentsenteredthroughjoint venturesaremorelikelyto fail thanthose
enteredthrough greenfields.However,the differencesin the impacts of
acquisition entries and joint ventureentries on business failure are not
clear.Thus our subhypothesis[H3(b)]takesa null form. The thirdhypothesis examinesthe relationshipbetweenentry modes and businessfailures.
H3: Foreign-controlledfirms entered through acquisitions are
more likely to fail than those enteredthroughgreenfields.
(a): Foreign-controlled
firmsenteredthroughjoint ventures
are more likely to fail than those entered through
greenfields.
(b): There is no difference in the failure rates between
foreign-controlledfirms enteredthrough acquisitions
and those enteredthroughjoint ventures.
Ownership1)Ipes
The types of foreign ownershipmay also relateto business failures. We
consider three types of foreign ownership: MNC, individual, and
government-owned
enterprise.Firmsof differentownershiptypes differin
the following factors: (1) the interests and constraints of owners and
managers;and (2) the abilities of these parties to obtain resourcesfrom
productmarketsand factormarkets,suchas capital,management,and technical talent [Mascarenhas1989].Government-owned
firms havegenerated
muchcontroversyabout "unfair-competition"in such diverseindustriesas
airlines, telecommunications,mining, aircraft manufacturingand steel
[Waltersand Monsen 1979].Foreignparentsof differentownershiptypes
maypossessdifferentownershipadvantages.If ownershipadvantagessuch
as managementand marketingskills, technology,and capitalplay crucial
roles in the success of foreign-controlledfirms [Dunning 1977, 1988], we
would expecta lowerfailurerate from U.S. affiliatescontrolledby foreign
MNCsthan those controlledby foreignindividuals.However,the natureof
comparativefailuresof firmscontrolledby foreigngovernmentsis not clear
when compared to those controlled by foreign individuals. Thus our
subhypothesis[H4(b)] takes a null form.
H4: The U.S. affiliatescontrolledby foreignMNCs areless likely
to fail than those controlledby foreign individuals.
(a): The U.S. affiliatescontrolledby foreignMNCs areless
likelyto failthanthosecontrolledby foreigngovernments.
(b): Thereis no differencein the failureratesbetweenthe
U.S. affiliates controlled by foreign individualsand
those controlledby foreign governments,
CulturalDistance
Contraryto the usual perception,surveysof internationalbusinessfailures
[Altman 1983]revealthat, comparedto the U.S., business failureratesin
214 JOURNAL OF INTERNATIONALBUSINESS STUDIES, SECOND QUARTER 1991
culturallydissimilarcountries(e.g., Japan)are not significantlydifferent
fromthose of culturallysimilarcountries(e.g., Canadaor UK). The Japanese rate of business failurein recentyears is at least as large as that of
in smallin Japanareconcentrated
the UnitedStates.Althoughbankruptcies
and medium-sizefirms,especiallythose that do not enjoyprotectionof an
affiliatedgroupof companies(keiretsu),a numberof largefirmslisted on
the first section of the TokyoStock Exchangehavealso failed (about fifty
from 1963to 1978) [Altman 1983].1Japan is also an importantcase for
on FDI behavior
testinghypothesesabouteffectsof nationalcharacteristics
and performance.The culturaldistanceof Japan from Westernindustrial
countries has been identified as a negative factor in its participationin
foreign directinvestment[Yoshino1976;Ozawa 1979].
Previousstudieshavesuggestedthat the abilityof foreignfirmsto manage
the local operationsof subsidiariesmay be influencedby two considerations. One concernsthe relativeculturaldistancebetweenhome and host
countries.The secondconcernsthe absoluteculturalattitudestowarduncertainty avoidance.Even with the internationalexpansionof organizational
boundaries,managersin thesefirmsarelikelyto be influencedby the dominant countryculture[Hofstede 1980;Johanson and Vahlne1977]. Kogut
and Singh [1988]providedevidencethat culturaldistance and attitudes
towardsuncertaintyavoidanceinfluencethe selectionof entrymodes. The
following hypothesisrelatesnational cultureto business failures.
H5: U.S. affiliates whose foreign parents are from culturally
dissimilarcountriesare more likely to fail than those from
culturallysimilarcountries.
DATA AND RESEARCH METHODOLOGY
Data and Sample Selection
The definitionof businessfailuresin this studyincludesfirmsthat filed for
bankruptcyprotection,wereinvoluntarilyliquidatedor ceased operations
mainlydue to poor financialperformance.Weused two sourcesto compile
a list of companies that filed for bankruptcyprotection under either
Chapter11 or Chapter7 of the U.S. bankruptcycode duringthe period
1978-1988:F & S Indexof CorporateChanges(F & S) and the WallStreet
JournalIndex(WSJ).We collecteddata on foreignownershipinterestsof
firms on the bankruptcy list through three sources: Department of
Commercedocumentson FDI in the U.S.; Directoryof foreignmanufacturersin the U.S. by Arpan and Ricks [1974, 1979, 1985 editions]; and
Mergers & Acquisitions (various issues).2
By comparingcompany names from the two lists, we createda list of
companiesthat filed for bankruptcyduringthe 1978-1988
foreign-controlled
period. For 1978-88, the F&S Index contains 1,470 non-financialfirms
under bankruptcy, of which 94 firms were foreign-controlled.We
recheckedthe 94 firms against relatedreportsin the WallStreetJournal
FAILURESOF FOREIGN FIRMS IN THE U.S.
215
and announcementsin the M &A journaland foundthat only 55 had effective foreigncontrolbefore filing for bankruptcy.The other 39 firmseither
came underforeigncontrolafterthe firm declaredbankruptcyor werethe
divestedassetsor divisionsof the U.S. firmsthat laterdeclaredbankruptcy.
Wethen examinedforeign-controlledfirms in the U.S. that had been involuntarily liquidated or ceased operations mainly due to poor financial
performance.Data on liquidationswerecollectedfrom the F & S Indexof
CorporateChanges,again for 1978-1988.Among the 690 firms in liquidation reportedin the F & S Index for 1978-88,we identified 35 firms that
were foreigncontrolledbefore liquidation.We then examinedreasonsfor
liquidation.Thirtyfirmswereinvoluntarilyliquidatedor ceasedoperation
due to financialfailures.The remainingfive whichwereidentifiedas divestments of partial assets of U.S. affiliates, were excludedfrom our list of
failed firms. Thus, the total numberof foreign-controlledbusinessfailures
is 85: 55 firms under bankruptcyplus 30 firms under liquidation.
BusinessFailureRate
Wecollectedaggregatebusinessfailureand bankruptcystatisticsin the U.S.
from Dun & Bradstreet's(D&B) annual Business Failure Record. The
D&B business failurerate index reportsthe numberof failuresrecorded
per 10,000firmsthat D&Bcovers.The D&Bdefinitionof businessfailures
includesbusinessesthat filed for bankruptcyprotectionor ceased operations with losses to creditors.This definitionis consistentwith the one we
use in this study.
We developeda foreign-controlledbusinessfailurerate (FFR) to compare
with the U.S. domestic business failurerate (DFR). The FFR is defined
as the numberof foreign-controlledbusiness failuresper 10,000 foreigncontrolledfirmsin the UnitedStates.Data on the total numberof foreigncontrolled firms in the U.S. were collected from publications of U.S.
Departmentof Commerce.We use the Dun & Bradstreetbusiness failure
rateas our DFR index. Owingto the small samplesize, we conductednonparametrictests (chi-square)to determineif the FFR is significantlylower
than the DFR.
Parent Guarantee
Since this study concernsfailuresof foreign-controlledfirms, the issue of
parentguaranteesof bank loans to foreignaffiliatesbecomesimportant.If
the parentguaranteesthe debt of its (wholly or majority-owned)subsidiaries, a subsidiarycannot go bankruptindependentof the parent [Caves
1982]. Stobaugh[1970]reportedthat only one of thirty-sevenU.S. MNCs
would let a subsidiarydefaulton its debt (evenif it was not formallyguaranteed). A large portion of bank lending to foreign affiliates includes
explicit or implicit guaranteesby the parent firm in the loan agreement.
Shapiro[1986]reportsthatMNCsarereluctantto guaranteethe debtof their
subsidiaries,even when a more favorableinterestrate can be negotiated.
216 JOURNAL OF INTERNATIONALBUSINESS STUDIES, SECOND QUARTER 1991
They arguethat affiliates should be able to stand alone. Accordingto the
surveyby Robbinsand Stobaugh [1973],large U.S. MNCs prefernot to
guaranteetheiraffiliates'loans.Theyoften adopt a specific"no guarantee"
rule,in partbecausethey find it easierto be consistentthanto try to differentiateamong affiliates. Small MNCs also preferno guarantee.Mediumsized firms, however,are often willing to give a guarantee.In the case of
joint ventures,when one partneris unableor unwillingto provideits share
of the guarantee,banks may requirehigher interestrates to be paid.
A recentstatementfrom GeneralMotors Company [Winters1990]notes
that "as a matterof policy,GeneralMotorsdoes not provideguaranteesfor
borrowingby its local subsidiaries."Even though recenteconomic conditions in Brazilhavehad a severeimpacton GM's Braziliansubsidiary(GM
do Brasil), the parent company has not providedloan guaranteesas a
matterof policy.Unfortunately,dataarenot availableregardingthe current
practiceof the parentguarantee,especiallythe practicesof foreign-based
multinationalfirms.Theparentguaranteewouldaffectthe failuresof some
MNCs' wholly or majority-ownedsubsidiaries.In our sample, foreigncontrolled firms are defined as firms with lOWoor more foreign control
interests.Wholly or majority-ownedsubsidiariesof MNCs account for a
small proportionof the sample.Indeed,our studysheds some light on the
currentparentguaranteepracticeof foreign-basedMNCs: the failuresof
wholly or majority-ownedsubsidiariesin our sample show that foreign
multinationalparentsmay not offer debt guaranteesto their subsidiaries.
Effects of Firm Size
Studieshaveshownthat the size of a firm has an importanteffect on business failure [Freeman,Carrolland Hannan 1983]. Smaller firms have a
higher failure rate than large firms. In the 1980 Benchmarksurvey of
foreign direct investmentin the U.S. by the Departmentof Commerce,
U.S. affiliates wererequiredto file a completereportif total assets, sales,
or net income were at least $1 million. Partialreportshad to be filed if
total assets, sales and net income were less than $1 million. In the 1980
Benchmarksurvey,partial reports filed by smaller firms accounted for
38.7% of the total. In this study,we haveadjustedthe numberof foreigncontrolledfirmsfor the proportionof partialreports.The lowerboundaries
of the size of firms in the U.S. affiliates' population and in the firms
covered by Dun and Bradstreetare identical. Except for severalrecent
large foreign acquisitions,foreign-controlledfirms are generallysmaller,
especiallycomparedto large U.S. multinationalfirms coveredby Dun &
Bradstreet.Because of their smaller sizes, one would expect foreigncontrolledfirms to fail more often than domesticallyowned firms.
FINDINGSAND DISCUSSIONS
Ideally, we could test our hypotheses simultaneouslyin a multivariate
model. Unfortunately,both the nature and numberof our observations
FAILURESOF FOREIGN FIRMS IN THE U.S.
217
precludethis approach.Nevertheless,the resultsof our bivariatehypothesis
tests are rewardingenough to believethat more researchleading up to a
full multivariateexaminationis clearlyjustified. Twoother limitationsof
our study should be noted. First, measuresof both domesticand foreigncontrolledfailureratescontain unknownerrors.In compilingour list, we
reliedon publishedsourcesof businessnews.However,some foreignbankruptciesundoubtedlymanagedto avoidnotorietyand wereleft off our list.
Similarerrorsno doubt occur in the U.S. business failure rate. Second,
manyof the foreign-controlledfailuresin our list had foreignparentsthat
wereeitherunwillingor unableto rescuetheir troubledU.S. affiliates.We
are not sure what percentageof failed U.S. firms had U.S. parents that
were similarlydisinclinedto bail out their failing subsidiaries.A much
higher rate of parental rescue (either a higher proportion of parental
controlledsubsidiariesor a higher propensityto rescue)could explain a
lowerforeign-controlledfailurerate.Data are simplylackingon this issue,
but this does not implythat comparisonsof failureratesbetweendomestic
and foreign-controlledfirms are without interest.3
ComparingBusinessFailureRates
businessfailuresrepresentabout 3.94%of the total nonForeign-controlled
financialbusiness failuresduringthe period 1978-88in the U.S. This can
be comparedto the 10.78%of total U.S. assets and 8.71%of total U.S.
equityheld by foreign-ownedor controlledU.S. affiliatesduringthe same
period [U.S. Departmentof Commerce1988]. This suggeststhat foreigncontrolledfirms in the U.S. have a lowerbusinessfailureratethan domestically owned firms.
We comparethe failurerates of foreign-controlledfirms in the U.S. with
those of domesticallyowned firmsboth in aggregateand by industrytype.
In the aggregateanalysis for all non-financialindustries,the chi-square
tests supportthe hypothesis(HI) that the failurerateof foreign-controlled
firmsis significantlylowerthan that of domesticallyowned firms (at a .05
level for 1978 and at a .01 level for 1979-1988,see Table1). The FFR has
a mean of 9.4 while the DFR has a mean of 81. In manufacturing,chisquaretests showthat the FFRis significantlylowerthanthe DFR for 198088 (at a .05 level for 1980-81and at a .01 level for 1982-1988).For 1978
and 1979, the results are significant only at a .15 level. This can be
explainedby the unusuallylow U.S. failurerates duringthese two years.4
The mean of the FFR is 22 while the mean of the DFR is 85.
Wecan observethat the FFR's mean in manufacturingis twice as high as
the FFR's mean in all non-financialindustries.This suggests there may
exist some industry concentrationamong failures of foreign-controlled
firms. Ownershipadvantagesof foreign parents may result in a lower
failurerate in one industrysector relativeto the other.
Sincethe U.S. affiliates'proportionof total U.S. assetsis higherthan their
shareof total U.S. equity,foreign-controlled
firmsin the U.S. appearto use
218 JOURNAL OF INTERNATIONALBUSINESS STUDIES, SECOND QUARTER1991
TABLE 1
Comparative Foreign-Controlled Business
All Non-Financial
Year
Number
of U.S.
Affiliates1
Number of
Failures
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
5,456
5,839
7,079
7,490
7,901
8,147
8,359
8,491
8,815
9,990
11,190
3
4
2
7
11
9
9
11
11
9
9
Mean
Total
Failure Rates 1978-1988
Industries
Manufacturing
FFR DFR2
(Per 10,000)
6**
7***
3***
9***
14
11***
11***
13***
12***
9***
8***
24
28
42
61
88
110
107
115
120
102
98
9.4
81
Number
of U.S.
Affiliates1
Number of
Failures
1,700
1,769
2,034
2,171
2,308
2,424
2,507
2,561
2,719
3,346
3,730
3
3
2
5
7
7
4
10
5
7
7
85
FFR DFR2
(Per 10,000)
18*
17*
10**
23**
30***
29***
16***
39* **
18***
21***
19***
22
44
43
53
67
97
84
124
119
114
95
98
85
60
Chi-square test: ***p<.01; **p<.05; *p<.15;
1Source: U.S. Department of Commerce. Operations of US. Affiliates of Foreign Companies,
1977-1980, 1981-1988. Washington, D.C.: U.S. Government Printing Office.
2Source: Dun & Bradstreet. Business Failure Record. 1978-1988.
debt leverageto a greaterextentthan U.S. firms. Jensen[1989]arguesthat
high debt can makethe firmoperatemoreefficientlyand makebankruptcy
less likely.This seems consistentwith our finding that foreign-controlled
firms have a lower failurerate.
Patterns of Foreign-Controlled Business Failures
All fifty-five firms on the bankruptcylist filed for reorganizationunder
Chapter11of the U.S. bankruptcycode, althoughseveralfirmshave since
changedto Chapter7 (liquidation).The thirtyfirmson the liquidationlist
businessesin the U.S.
havebeen liquidatedor acquired.Foreign-controlled
sufferedhigh failuresin the yearsof 1982-1986.Over60% of all failures
in our sampleoccurredduringthis five-yearperiod. Data on the aggregate
profitabilityof FDI in the U.S. and U.S. businessfailurerateshaveshown
similartrends.
Wetestedthe liabilityof newnessby examiningthe numberof yearsbetween
the time of failureand the initial foreigndirectinvestmentin the United
States (Table2). More than 70% of foreign-controlledbusiness failures
occurredwithinthe firstfive yearsof investment.A chi-squaretest supports
the hypothesis(H2)thatnewU.S. affiliatessuffera higherfailurerate(significantat a .01level,chi-square=22.6,one-tailedcriticalchi-square1,.01=6.64).
This time patterncan be comparedto Dun & Bradstreet'sstatisticsthat
show the highest failurepropensitybetweenthe second and fifth yearsof
a firm's existence[Altman 1983].Nearly half of all failuresoccur during
219
FAILURESOF FOREIGN FIRMS IN THE U.S.
TABLE 2
Pattern of Foreign-Controlled Business
Failures 1978-1988
Domestic
Failures by age of business
Number of
Failures
Percentage
Failures (%)**
1986
1982
One year or less
Two years
Three years
Total three years or less
14
7
10
31
18.2
9.1
13.0
40.3
2.0
8.1
12.6
22.7
13.1
13.6
11.9
38.6
Four years
Five years
Total five years or less
16
8
55
20.8
10.3
71.4
11.7
11.1
45.5
8.6
7.3
54.5
Six years
Seven years
Eight years
Nine years
Ten years
Total six to ten years
5
7
3
1
2
18
6.4
9.1
3.9
1.3
2.6
23.4
9.4
8.0
6.1
4.3
3.6
31.4
6.5
5.3
4.7
4.1
3.5
24.1
Over ten years
Total
5.2
23.1
21.4
100.0
100.0
100.0
4
77*
*Dates of entry are not available for eight firms in the sample.
**Source: Dun & Bradstreet. Business Failure Record. 1978-1988.
this period.Thiscomparisonsuggeststhat whileboth domesticand foreigncontrolledbusinessessuffer a liabilityof newness,foreign-controlledfirms
seem to suffer from this liability to an even higher degree.A chi-square
businessfailuresduring
test showsthat the percentageof foreign-controlled
the first five yearsof investmentis significantlyhigherthan the percentage
of domestic failuresduring the first five years of a firm's existence(significant at a .01 level, chi-square= 12.4 with one degreeof freedom).The
percentageof domestic failuresduringthe first five yearsof a firm's existence is the averageover the 1978-1988period.
Effects of Entry Modes and Ownership73'pes
To investigatethe effect of entry modes on business failures,we compiled
data on total FDI entriesin the U.S. for the period 1978-87underthe three
entry modes: acquisitions, joint ventures, and greenfields. The total
number of entries for the ten-yearperiod is 5,588. Among them, 65Wo
enteredthroughacquisitions,90/0 throughjoint venturesand 260/0through
greenfields.Weuse this distributionas a proxyand compareit to the entry
mode distributionof the eighty-fivefailed firmsin our sample,where74Wo
enteredthroughacquisitions,100/othroughjoint venturesand 160/othrough
greenfields.A chi-squaretest supports the hypothesis (H3) that foreign
acquisitionsof U.S. firms are more likely to fail than foreign greenfield
investments(significantat a .05 level, chi-square= 3.95, one-tailedcritical
chi-square1,.05= 3.84). This result is also consistentwith the analysisof
U.S. direct investmentsabroad [Curhanet al. 1977;Wilson 1980].
220 JOURNAL OF INTERNATIONALBUSINESS STUDIES, SECOND QUARTER 1991
The failurerate of joint ventureentriesis expectedto be higherthan that
of greenfieldentries[H3(a)].A chi-squaretest did not reportthe difference
as significant(chi-square= 1.80). Wethen applieda chi-squaretest to determine the differenceof failureratesbetweenjoint ventureentriesand acquisition entries. The result shows that we cannot rejectthe null hypothesis
[H3(b)] of no significant difference in failure rates between these two
formsof entry(chi-square=0.01). This resultseemsto confirmthe findings
of previousresearchon joint ventureinstabilityand difficultyin the controlperformancerelationship.
To investigate the effect of ownership types on business failure, we
examineddata on the transactionsof FDI in the U.S. for 1981.Among the
821 non-financial entries, 74% were made by foreign MNCs, 20o by
foreignindividuals,and 6Woby foreigngovernments.Thiscan be compared
to the failed firms in our sample, where64'o were controlledby foreign
MNCs, 29Woby foreignindividualsand 7% by foreigngovernments.A chisquaretest supportsthe hypothesis(H4) that U.S. affiliatescontrolledby
foreignMNCs are less likelyto fail than those by foreignindividuals(significant at a .05 level, chi-square=5.21).
The failure rate of firms controlledby foreign MNCs is expectedto be
lower than the failure rate of firms controlled by foreign governments
[H4(a)].A chi-squaretest did not reportthe differenceas significant(chisquare=1.09).Wethen tested the differencein failureratesbetweenfirms
controlledby foreignindividualsand those by foreigngovernments.A chisquaretest showsthat the differenceis not significant(chi-square= 0.012).
Thus, we cannot rejectthe null hypothesis[H4(b)]of no significantdifference in failureratesof firmscontrolledby foreignindividualsand those by
foreigngovernments.
Cultureand BusinessFailures
To investigatethe effect of national cultureon business failure,we drew
measuresof culturaldistanceand uncertaintyavoidancefrom the workof
Hofstede [1980].Hofstede found that differencesin nationalculturesvary
substantiallyalong four dimensions:uncertaintyavoidance,individuality,
Using Hofstede's
toleranceof powerdistance,and masculinity-femininity.
indicesand followingthe methodologyby KogutandSingh[1988],a composite index was formed based on the deviationalong each of four cultural
dimensions to measure the cultural distance of each country from the
United States.5
Wegroupedcountriesinto two categoriesbased on culturaldistancefrom
the UnitedStates(Table3). The culturallydissimilargroupconsistsof countries with largerculturaldistance(CD>1). The culturallysimilar group
consists of countrieswith smallerculturaldistance(CD< 1). It should be
noted that in this sectionwe consideronly manufacturingfirms,sincedata
on the numberof foreign-controlledfirms in other sectorsare not available. We collecteddata on the numberof foreignmanufacturingfirms in
FAILURESOF FOREIGN FIRMS IN THE U.S.
221
TABLE3
Failure Rates of Foreign-Controlled Manufacturing Firms
by National Culture, 1978*1988
Nation
Number of
Failures
1978-88
Culturally similar group
U.K.
8
Canada
9
Switzerland
5
7
Germany
Subtotal
29
Culturally dissimilar group
3
Netherlands
2
Belgium
7
France
Sweden
1
12
Japan
Subtotal
25
Number of U.S.
Affiliates1
1,140
753
211
1,023
Uncertainty
Avoidance2
FFR
over 78-88
(per 10,000)
.0797
.1133
.3366
.4127
35
48
58
65
70
119
237
68
1.5122
1.5330
1.5701
2.3667
2.5315
53
94
86
29
92
87
183
190
55
305
Cultural
Distance2
3,127
346
109
369
183
394
1,401
Chi-square=6.20; one-tailed critical chi-square 1, .05=3.84
1Source: J. Arpan and D. Ricks. 1986. Foreign direct investment in the United States.
Journal of International Business Studies, Fall: 150.
2Source: G. Hofstede. 1980. Culture's Consequences. Beverly Hills: Sage Publications.
the U.S. from Arpan and Ricks [1986].Only countrieswith at least 100
U.S. manufacturingaffiliatesin operationin 1984areincludedin our analysis. A chi-squaretest supportsthe hypothesis(H5) that the U.S. affiliates
whose foreign parentsare from culturallydissimilarcountries are more
likely to fail than those from culturallysimilarcountries(significantat a
.05 level). Giventhe small numberof failed firms by each home country,
some caution in interpretingour results is advised. It is interestingto
notice that nearly 50Oo of failuresin the culturallydissimilargroup are
accountedfor by Japanesefirms(12).6Previousstudieshavesuggestedthat
Japanesefirms prefergreenfieldinvestmentsas opposed to acquisitions.
Since our resultshave shown that foreign acquisitionsare more likely to
fail than foreign greenfieldinvestments,the support for the impact of
national cultureon business failuresis enhanced.
CONCLUSIONSAND IMPLICATIONS
Using a sampleof eighty-fiveforeign-controllednon-financialfirmsin the
United Statesthat either filed for bankruptcyprotectionor wereinvoluntarilyliquidatedduring1978-1988,we haveexploredsome of the characteristics of foreign-controlledbusiness failures.Our resultshave shown that
both in aggregateand by major industrygroups, the businessfailurerate
of foreign-controlled
firmsin the U.S. is significantlylowerthan the failure
rateof domesticallyownedfirms. New U.S. affiliatesof foreigncompanies
222 JOURNAL OF INTERNATIONALBUSINESS STUDIES, SECOND QUARTER 1991
are found to suffer a higher failurerate than more establishedaffiliates.
Furthermore,theyseemto sufferthe liabilityof newnessto a greaterextent
than new U.S. firms. Modes of entry, forms of foreign ownership,and
national cultureare also found to have effects on the failuresof foreigncontrolledfirms in the United States.
The findings of this study have importantimplications.First, this study
contributesto the theory of foreigndirectinvestmentby providingempirical evidencethat, while not directlyconfirming,is at least consistentwith
Dunning's[1977;1988]hypothesison ownershipadvantage.Lowerfailure
ratescould be due to foreignfirmsutilizingtheirspecificownershipadvantagesto competesuccessfullyin the UnitedStates,but therecould be other
reasonsas well. Second, this studyhas implicationsfor corporatestrategy.
The study providesempiricalsupportfor corporatepolicies of globalization. Because of the lower failure rate, many other foreign firms with
specificownershipadvantagesshould considerinvestingin the U.S. where
our study suggests they will be able to compete successfullywith U.S.
firms. Ourstudy suggestsseveralareasfor futureresearch.First,empirical
researchshould examinefailure rates for U.S. direct investmentsabroad
and comparethemwiththe failureratesof domesticfirmsin the host countries. Second, researchshould explorethe reorganizationprocessof failed
firmsand examinehow thesereorganizationsdifferfrom
foreign-controlled
those of U.S. bankruptfirms. The welfareeffects and policy implications
are of particularinterest.
NOTES
1. Ozawa [1979] reports that Japan's small- and medium-sized manufacturers have been very active in
foreign direct investment. We do not have evidence whether this is also the case for Japanese investments in the United States.
2. FDI is defined as the ownership or control, directly or indirectly, by one foreign corporation or
person of 10% or more of a firm's voting securities or equivalent [U.S. Department of Commerce 1983].
3. Another approach would be to compare the failure rate of recently created foreign enterprises in the
U.S. with that of recently created domestic enterprise controlling for the types of industry, dates of
entry, or modes of entry. Our further research will be developed along these lines and we thank anonymous reviewers for their suggestions.
4. The number of foreign subsidiaries in the U.S. reported by Department of Commerce, even after
adjusting for the proportion of partial reports, is conservative. Arpan and Ricks [1979] report that the
number of foreign manufacturing subsidiaries in the U.S. in 1978 totals 3,433, nearly doubling the estimate (1700) by Department of Commerce. This suggests that the FFR could be even lower than our
estimate here. For example, the failure rate for 1978 and 1979, using Arpan and Ricks' estimate of total
foreign manufacturing affiliates in the U.S., is 8.7 and 8.6, respectively.Chi-square tests show that both
are significantly lower than the DFR at a .05 level.
5. The cultural distance is defined as:
4
CD= 1/4F, [(Iij_Iiu)2 Vi]
i=1
where,
Iij
u
Vi
CDj
=index for the ith cultural dimension and jth country;
= the United States;
=variance of the index of the ith dimension;
=cultural distance of the jth country from the U.S.
FAILURESOF FOREIGN FIRMS IN THE U.S.
223
6. We thankan anonymousreviewerfor bringingthis point to our attention.
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