The Impact of Firm’s Internationalisation on Corporate ...

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The Impact of Firm’s Internationalisation on Corporate Governance:

Evidence from Russia

By: Kirill Osaulenko

UCL

PhD in Strategic Management

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I, Kirill Osaulenko confirm that the work presented in this thesis is my own.

Where information has been derived from other sources, I confirm that this has

been indicated in the thesis.

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Abstract

This PhD thesis is rooted in the broad field of “Strategic Management” and

examines the key determinants of corporate governance in large Russian firms, during

periods of rapid internationalisation and up-sizing from small, modest firms to large,

multinational companies. After the introductory literature review (Chapter 2), the thesis

adopts a multi-method approach in responding to its main research focus, through

qualitative research (Chapter 3), theoretical approaches (Chapter 4) and empirical

research (Chapters 5 and 6). Chapter 3 offers an in-depth analysis of a unique, face-

to-face interview with top management at Kaspersky. Next, a game theory model

informs the conceptual framework and aims to predict whether a firm (such as

Kaspersky) expanding outside its domestic market, should strategically adopt new

corporate governance mechanisms, or whether it should continue to exploit pre-

existing internal mechanisms (Chapter 4). The empirical evidence builds on a brand-

new database, based on a unique level panel database of 300 Russian firms, covering

a time-span of 19 years from 2000-2018, showing variables such as the structure of

the board of directors, the geographical presence of the firm abroad, mergers and

acquisitions, financials, and so on (Chapter 5). The empirical findings highlight how the

development of corporate governance is closely linked with a strategically sound

mechanism of a firm’s internationalisation (Chapter 6). Firms need to establish an

incremental knowledge acquisition process, via internationalisation, that leads to a

fully-fledged exploitation of competitive advantages, both internationally and

domestically. This latter point has been scantly analysed by the existing literature.

Chapter 7 concludes.

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Impact Statement

This thesis fills a gap in current research in the field of strategic

management. It highlights the important strategic decisions that should be

taken by any firm going through the internationalisation process, in terms of

corporate governance restructuring. The theoretical framework of this thesis

provides vital evidence that corporate governance adjustments are required for

successful internationalisation. This thesis will, therefore, primarily impact the

corporate business sector, especially, small and medium firms pursuing rapid

internationalisation. The theoretical framework, developed in the thesis,

provides senior managers and business owners with a robust plan of action to

be taken during the internationalisation process, dependent on the market of

entry, market concentration, and the current developmental stage of the entrant

firm. With evidence from a case study, this research proves that application of

the theoretical framework could change the trajectory of internationalisation

from failure to success.

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Table of Content Abstract .................................................................................................................. 3

Impact Statement ................................................................................................... 4

Chapter 1 ...................................................................................................................... 12

Introduction .............................................................................................................. 12

Literature Review..................................................................................................... 21

Definitions of Terms .......................................................................................... 21

Theories of Internationalisation ............................................................................... 22

Economic Theories of Internationalisation .............................................................. 24

The Transaction Cost Approach. ......................................................................... 24

The Eclectic Paradigm ......................................................................................... 26

Behavioural Approach ............................................................................................. 28

Original Uppsala Model (U – Model) .................................................................. 28

Innovation Models (I –Models) ........................................................................... 33

Network Model of Internationalisation ................................................................ 36

International New Ventures (INV) .......................................................................... 39

Organisational theory of Internationalisation .......................................................... 42

Holistic framework of industry factors and INV ..................................................... 44

Theories of Corporate Governance .......................................................................... 46

Agency Theory..................................................................................................... 46

Stewardship Theory ............................................................................................. 52

Stakeholder Theory .............................................................................................. 54

Resource Dependency Theory (RDT) ................................................................. 56

Corporate governance lifecycle perspective ........................................................ 58

Institutional Theory .............................................................................................. 60

Discussion of Theories. ............................................................................................ 62

Relationship between corporate governance and internationalisation ..................... 65

Board of Directors and firm’s internationalisation .............................................. 65

Transparency and Disclosure (T&D) and firm internationalisation .................... 67

Shareholder rights and firm’s internationalisation ............................................... 69

Corporate Governance & Internationalisation in Russia ......................................... 71

Conclusion ............................................................................................................... 77

References ............................................................................................................ 79

Chapter 2 ...................................................................................................................... 94

Kaspersky Lab case study ........................................................................................ 94

Methodology ............................................................................................................ 97

Background .............................................................................................................. 99

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Establishment of the frim ....................................................................................... 102

First stage of internationalisation (1997 -2000) ..................................................... 104

Second stage of internationalisation (2000-2006) ................................................. 109

Third Stage of internationalisation (2007 – 2016) ................................................. 115

Discussion and Conclusion .................................................................................... 119

Appendix A. ........................................................................................................... 125

Reference: .............................................................................................................. 130

Chapter 3 .................................................................................................................... 132

Internationalisation and strategic decisions on corporate governance ................... 132

Cost function of implementing corporate governance mechanisms. ..................... 138

Methodology .......................................................................................................... 143

Low cost of corporate governance investment ...................................................... 144

Separating Equilibrium Subcase One (Low Cost) ............................................. 152

Separating Equilibrium Subcase Two (Low Cost) ............................................ 156

Pooling Equilibrium Subcase Three (Low Cost) ............................................... 160

Pooling Equilibrium Sub-Case Four (Low Cost)............................................... 166

High cost and changes in the payoff structure ....................................................... 172

Separating Equilibrium Subcase Five (High Cost) ............................................ 175

Separating Equilibrium Subcase Six (High Cost) .............................................. 179

Pooling Equilibrium Sub-Case Seven (High Cost) ............................................ 182

Pooling Equilibrium Sub-Case Eight (High Cost) ............................................. 189

Looking beyond the duopoly game ........................................................................ 195

Discussion and Conclusion .................................................................................... 198

Reference: .............................................................................................................. 202

Chapter 4 ................................................................................................................... 204

Dataset for the analysis ......................................................................................... 204

Sectoral Distribution .............................................................................................. 208

Regional Distribution of the Sample...................................................................... 210

Sectoral and Regional Concentration..................................................................... 212

Control Variables in the Sample ............................................................................ 213

The Dependent Variable ........................................................................................ 217

Board Size .......................................................................................................... 221

Board Age .......................................................................................................... 223

Board Gender Diversity ..................................................................................... 224

Foreign Directors vs. Domestic Directors ......................................................... 226

Executive and Non-executive Members of the Board ....................................... 227

Internationalisation Variables ................................................................................ 230

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Foreign and Domestic Subsidiaries ................................................................... 230

Foreign and Domestic Merges and Acquisitions ............................................... 236

Geographical Diversification ............................................................................. 241

Geographical Efficiency of the Board ............................................................... 242

Graphical Analysis of Internationalisation and Corporate Governance ............ 245

Reference: .............................................................................................................. 250

Appendix B. ........................................................................................................... 252

Chapter 5 .................................................................................................................... 261

Regression analysis ................................................................................................ 261

Methodology .......................................................................................................... 262

Regression Results ................................................................................................. 263

Board of Directors and Internationalisation ........................................................... 265

Average Age of the Board ................................................................................. 268

Number of Male Directors ................................................................................. 270

Number of Female Directors ............................................................................. 271

Number of Executive Directors ......................................................................... 273

Number of Independent Directors. .................................................................... 275

Number of Russian Directors on the Board ....................................................... 277

Number of Foreigners on the Board .................................................................. 279

Robustness Checks................................................................................................. 281

Margin Analysis ..................................................................................................... 286

Board of Directors.............................................................................................. 287

The Dominance of Russian Executive Male Directors on the Board ................ 289

Average Age of the Board ................................................................................. 292

Number of Foreign Directors on the Board ....................................................... 294

Number of Female Directors on the Board ........................................................ 297

Number of Non-Executive Directors on the Board ........................................... 299

Discussion and conclusion ..................................................................................... 302

Appendix C. ........................................................................................................... 306

Chapter 6 .................................................................................................................. 325

Conclusion ................................................................................................................. 325

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FIGURE 1-1: INCREMENTAL PROCESS OF INTERNATIONALISATION (JOHANSON AND VAHLNE 1997). .............................................................................................................................. 28

FIGURE 1-2: THE BASIC MECHANISM OF INTERNATIONALISATION (JOHANSON AND VAHLNE, 1977) ............................................................................................................................... 29

FIGURE 1-3: COMPARISON OF UPSSALA MODEL WITH INNOVATION MODELS ............... 35 FIGURE 1-4: NETWORK MODEL OF INTERNATIONALISATION BY JOHANSON AND MATTSSON

(1988) .............................................................................................................................. 36 FIGURE 1-5: INTERNATIONALISATION PROCESS OF INTERNATIONAL NEW VENTURES

MCDOUGAL & OVIATT (1994)......................................................................................... 40 FIGURE 1-6: ORGANISATIONAL THEORY OF INTERNATIONALISATION ................................... 42 FIGURE 1-7: INTERNATIONALISATION OF SME BASED ON THE SPEED, SCOPE & MODE OF

INTERNATIONALISATION. ............................................................................................... 45 FIGURE 1-8: STEWARDSHIP THEORY BY DONALDSON & DAVIS (1991) .................................. 52 FIGURE 1-9: PRINCIPAL-MANAGER CHOICE MODEL ............................................................... 53 FIGURE 2-1.SHARE OF KASPERSKY LAB IN THE US MARKET IN 2008 .................................... 114 FIGURE 2-2: THEORETICAL FRAMEWORK OF DYNAMIC INTERNATIONALISATION OF INV

(NUMMELA, SAARENKETO & LOANE, 2016) ................................................................. 120 FIGURE 2-3.THE ROADMAP OF KASPERSKY LAB INTERNATIONALISATION PROCESS AND

CHANGES IN THE CORPORATE GOVERNANCE STRUCTURE. ......................................... 125 FIGURE 2-4 FINANCIAL PERFORMANCE OF KASPERSKY LABORATORY BY REGION .............. 126 FIGURE 2-5 RESTRUCTURING OF THE CORPORATE BOARD .................................................. 127 FIGURE 3-1.INTERNATIONALISATION AND CORPORATE GOVERNANCE ............................... 136 FIGURE 3-2.COST FUNCTION OF INVESTMENT INTO CORPORATE GOVERNANCE AND ITS

RELATIONSHIP WITH PROFIT MAXIMIZATION. ............................................................. 141 FIGURE 3-3. SIMULTANEOUS GAME UNDER THE LOW COST ............................................... 146 FIGURE 3-4.SEQUENTIAL GAME WITH PERFECT INFORMATION UNDER THE LOW COST .... 148 FIGURE 3-5. SEQUENTIAL GAME WITH IMPERFECT INFORMATION UNDER THE LOW COST 150 FIGURE 3-6. SEPARATING EQUILIBRIUM SUBCASE 1 (LOW COST) ........................................ 155 FIGURE 3-7. SEPARATING EQUILIBRIUM SUBCASE 2 (LOW COST) ........................................ 158 FIGURE 3-8. POOLING EQUILIBRIUM SUBCASE 3 (LOW COST) ............................................. 165 FIGURE 3-9. POOLING EQUILIBRIUM SUB-CASE 4 (LOW COST) ............................................ 171 FIGURE 3-10. SIMULTANEOUS GAME UNDER THE HIGH COST OF CORPORATE GOVERNANCE

...................................................................................................................................... 173 FIGURE 3-11. SEQUENTIAL GAME WITH PERFECT INFORMATION UNDER THE HIGH COST . 174 FIGURE 3-12. SEQUENTIAL GAME WITH IMPERFECT INFORMATION UNDER THE HIGH COST

...................................................................................................................................... 176 FIGURE 3-13.SEPARATING EQUILIBRIUM SUBCASE 5 (HIGH COST) ...................................... 178 FIGURE 3-14. SEPARATING EQUILIBRIUM SUBCASE 6 (HIGH COST) ..................................... 180 FIGURE 3-15. POOLING EQUILIBRIUM SUBCASE 7.2 (HIGH COST) WHEN P=0 AND Λ = 0 .... 186 FIGURE 3-16. POOLING EQUILIBRIUM SUBCASE 7.3 (HIGH COST) WHEN P=0 AND Λ = 0 .... 187 FIGURE 3-17. POOLING EQUILIBRIUM SUBCASE 7.4 (HIGH COST) WHEN P=0 AND Λ = 1 .... 188 FIGURE 3-18. POOLING EQUILIBRIUM SUBCASE 8 (HIGH COST) WHEN P=0 AND Λ =0 ........ 193 FIGURE 3-19. POOLING EQUILIBRIUM SUBCASE 8 (HIGH COST) WHEN P=1 AND Λ =0 ........ 194 FIGURE 3-20. POOLING EQUILIBRIUM SUBCASE 8 (HIGH COST) WHEN P=0 AND Λ=1 ......... 195 FIGURE 3-21. SIMULTANEOUS GAME WITH N NUMBER OF PLAYERS IN THE MARKET ........ 196 FIGURE 3-22 RESULTS OF THE GAME THEORY ANALYSIS ...................................................... 201 FIGURE 4-1 TOTAL NUMBER OF FIRMS, AVERAGE AGE AND NUMBER OF FIRMS WHICH WERE

INCORPORATED DURING THE TIME SPAN OF THE ANALYSIS (BY YEAR) ...................... 206 FIGURE 4-2. FOREIGN DIRECT INVESTMENT INTO RUSSIA. SOURCE: WORLD DEVELOPMENT

INDICATORS. ................................................................................................................. 207 FIGURE 4-3. BREAKDOWN OF THE SAMPLE BY SECTOR OF ECONOMIC ACTIVITY. .............. 208

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FIGURE 4-4 PERCENTAGE SHARE OF THE SAMPLE BY THE SECTOR OF ECONOMIC ACTIVITY. ...................................................................................................................................... 209

FIGURE 4-5 SHARE OF GDP IN RUSSIA BY SECTOR OF ECONOMIC ACTIVITY (2018) ............. 210 FIGURE 4-6. GEOGRAPHICAL BREAKDOWN OF THE SAMPLE. ............................................... 211 FIGURE 4-7 SHARE OF GDP BY GEOGRAPHICAL REGION (2017) ..................... 212 FIGURE 4-8 SHARE OF STATE-OWNED ENTERPRISES ........................................ 215 FIGURE 4-9. PERCENTAGE OF LISTED AGAINST NON-LISTED FIRMS. .................................... 217 FIGURE 4-10. SHARE OF THE FIRMS IN THE SAMPLE WITH THE BOARD OF DIRECTORS ...... 219 FIGURE 4-11. CORPORATE STRUCTURE OF THE BOARD, BY YEAR ........................................ 221 FIGURE 4-12. AVERAGE BOARD SIZE IN THE SAMPLE, BY YEAR ............................................ 222 FIGURE 4-13. THE AVERAGE AGE OF THE BOARD, BY YEAR. ................................................. 223 FIGURE 4-14. BOARD GENDER DIVERSITY IN LISTED AND NON-LISTED FIRMS ..................... 224 FIGURE 4-15. GENDER DIVERSITY OF THE BOARD OF LISTED FIRMS .................................... 225 FIGURE 4-16. AVERAGE NUMBER OF FOREIGN AND RUSSIAN DIRECTORS ON THE BOARD. 226 FIGURE 4-17. AVERAGE NUMBER OF EXECUTIVE AND NON-EXECUTIVE DIRECTORS ON THE

BOARD. ......................................................................................................................... 228 FIGURE 4-18. PERCENTAGE OF FIRMS WITH AND WITHOUT SUBSIDIARIES. ........................ 233 FIGURE 4-19. DESCRIPTIVE STATISTICS OF FOREIGN AND DOMESTIC SUBSIDIARIES. .......... 234 FIGURE 4-20. GROWTH DYNAMIC OF FOREIGN AND DOMESTIC SUBSIDIARIES. ................. 235 FIGURE 4-21. DESCRIPTIVE STATISTICS OF FOREIGN M&A AND DOMESTIC M&A OF THE

PARENT COMPANY. ...................................................................................................... 238 FIGURE 4-22. PERCENTAGE OF FIRMS WITH AND WITHOUT M&A DEALS ........................... 239 FIGURE 4-23. GROWTH RATE OF FOREIGN AND DOMESTIC M&AS ...................................... 240 FIGURE 4-24. DESCRIPTIVE STATISTICS OF GEOGRAPHICAL DIVERSIFICATION .................... 242 FIGURE 4-25 INDEX OF THE BOARD EFFICIENCY WEIGHTED BY THE NUMBER

OF FOREIGN ACQUISITIONS. ............................................................................... 244 FIGURE 4-26 INDEX OF THE BOARD EFFICIENCY WEIGHTED BY THE NUMBER OF FOREIGN

SUBSIDIARIES. ............................................................................................................... 245 FIGURE 4-27 COMPARISON OF THE AVERAGE NUMBER OF NON-EXECUTIVE DIRECTORS ON

THE BOARD BETWEEN THE FIRMS WITH AND WITHOUT INTERNATIONAL ACTIVITY .. 246 FIGURE 4-28 COMPARISON OF 1-TIER BOARD SYSTEM ACROSS FIRMS WITH AND WITHOUT

INTERNATIONAL ACTIVITY. ........................................................................................... 247 FIGURE 4-29 COMPARISON OF THE TWO-TIER BOARD SYSTEM ACROSS

FIRMS WITH AND WITHOUT INTERNATIONAL ACTIVITY. ............................ 248 FIGURE 4-30 COMPARISON OF THE AVERAGE NUMBER OF INTERNATIONAL

DIRECTORS ON THE BOARD BETWEEN THE FIRMS WITH AND WITHOUT INTERNATIONAL ACTIVITY ................................................................................... 249

FIGURE 4-31. CORRELATION BETWEEN THE DEPENDENT AND INDEPENDENT VARIABLES. 252 FIGURE 4-32. DISTRIBUTION OF FOREIGN AND DOMESTIC SUBSIDIARIES BY SECTOR OF

ECONOMIC ACTIVITIES. ................................................................................................ 253 FIGURE 4-33 DISTRIBUTION OF FOREIGN AND DOMESTIC M&A DEALS BY SECTOR OF

ECONOMIC ACTIVITIES. ................................................................................................ 254 FIGURE 4-34. HISTOGRAM OF LOG: NUMBER OF EMPLOYEES ............................................. 255 FIGURE 4-35. HISTOGRAM OF LOG TOTAL ASSETS IN THOUSANDS OF RUBBLES ................. 256 FIGURE 4-36. HISTOGRAM OF LOG” TOTAL FIXED ASSETS IN THOUSANDS OF RUBBLES ..... 257 FIGURE 4-37. HISTOGRAM OF LOG: AGE OF THE FIRM ......................................................... 258 FIGURE 4-38. HISTOGRAM OF LOG: OPERATING REVENUE IN THOUSANDS OF RUBBLES. .. 259 FIGURE 4-39 WHAT DOES RUSSIA EXPORT? (2018) .............................................................. 260 FIGURE 5-1 CORRELATION MATRIX OF INDEPENDENT VARIABLES ....................................... 265 FIGURE 5-2 REGRESSION RESULTS, DEPENDENT VARIABLE “SIZE OF THE BOARD OF

DIRECTORS” ..................................................... ОШИБКА! ЗАКЛАДКА НЕ ОПРЕДЕЛЕНА.

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FIGURE 5-3REGRESSION RESULTS, DEPENDENT VARIABLE “AGE OF THE BOARD OF DIRECTORS” .................................................................................................................. 269

FIGURE 5-4 REGRESSION RESULTS, DEPENDENT VARIABLE “NUMBER OF MALE DIRECTORS ON THE BOARD” ........................................................................................................... 270

FIGURE 5-5 REGRESSION RESULTS, DEPENDENT VARIABLE “NUMBER OF FEMALE DIRECTORS ON THE BOARD” ........................................................................................................... 272

FIGURE 5-6 REGRESSION RESULTS, DEPENDENT VARIABLE “NUMBER OF EXECUTIVE DIRECTORS ON THE BOARD” ........................................................................................ 274

FIGURE 5-7 REGRESSION RESULTS, DEPENDENT VARIABLE “NUMBER OF NON-EXECUTIVE DIRECTORS ON THE BOARD” ........................................................................................ 276

FIGURE 5-8 REGRESSION RESULTS, DEPENDENT VARIABLE “NUMBER OF RUSSIAN DIRECTORS ON THE BOARD” ........................................................................................................... 278

FIGURE 5-9 REGRESSION RESULTS, DEPENDENT VARIABLE “NUMBER OF FOREIGN DIRECTORS ON THE BOARD” ........................................................................................ 279

FIGURE 5-10 RESULTS OF THE GMM REGRESSION MODELS ................................................. 282 FIGURE 5-11 MARGIN ANALYSIS OF THE BOARD SIZE FOR LISTED AND NON-LISTED FIRMS

BASED ON THE NUMBER OF FOREIGN MARKETS ......................................................... 287 FIGURE 5-12 MARGIN ANALYSIS OF THE BOARD SIZE FOR LISTED AND NON-LISTED FIRMS

BASED ON THE NUMBER OF FOREIGN SUBSIDIARIES. ................................................. 288 FIGURE 5-13MARGIN ANALYSIS OF THE BOARD SIZE FOR LISTED AND NON-LISTED FIRMS

BASED ON THE NUMBER OF FOREIGN ACQUISITIONS ................................................. 289 FIGURE 5-14 MARGIN ANALYSIS OF THE NUMBER OF RUSSIAN DIRECTORS FOR LISTED AND

NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN MARKETS ......................... 290 FIGURE 5-15 CORRELATION MATRIX OF THE DEPENDENT VARIABLES ................................. 291 FIGURE 5-16 MARGIN ANALYSIS OF THE AVERAGE AGE OF THE BOARD FOR LISTED AND

NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN MARKETS. ........................ 292 FIGURE 5-17 MARGIN ANALYSIS OF THE AVERAGE AGE OF THE BOARD FOR LISTED AND

NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN .......................................... 293 FIGURE 5-18 MARGIN ANALYSIS OF THE AVERAGE AGE OF THE BOARD FOR LISTED AND

NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN M&AS .............................. 294 FIGURE 5-19 MARGIN ANALYSIS OF THE AVERAGE NUMBER OF FOREIGN DIRECTORS ON THE

BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN MARKETS ....................................................................................................................... 295

FIGURE 5-20 MARGIN ANALYSIS OF THE AVERAGE NUMBER OF FOREIGN DIRECTORS ON THE BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN SUBSIDIARIES. ............................................................................................................... 296

FIGURE 5-21 MARGIN ANALYSIS OF THE AVERAGE NUMBER OF FOREIGN DIRECTORS ON THE BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN M&AS. ........................................................................................................................... 296

FIGURE 5-22 MARGIN ANALYSIS OF THE AVERAGE NUMBER OF FEMALE DIRECTORS ON THE BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN MARKETS ....................................................................................................................... 297

FIGURE 5-23 MARGIN ANALYSIS OF THE AVERAGE NUMBER OF FEMALE DIRECTORS ON THE BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN SUBSIDIARIES. ............................................................................................................... 298

FIGURE 5-24 MARGIN ANALYSIS OF THE AVERAGE NUMBER OF FEMALE DIRECTORS ON THE BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN M&AS. ........................................................................................................................... 299

FIGURE 5-25 MARGIN ANALYSIS OF THE AVERAGE NUMBER OF NON-EXECUTIVE DIRECTORS ON THE BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN MARKETS ....................................................................................................... 300

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FIGURE 5-26 MARGIN ANALYSIS OF THE AVERAGE NUMBER OF NON-EXECUTIVE DIRECTORS ON THE BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN SUBSIDIARIES................................................................................................. 301

FIGURE 5-27MARGIN ANALYSIS OF THE AVERAGE NUMBER OF NON-EXECUTIVE DIRECTORS ON THE BOARD FOR LISTED AND NON-LISTED FIRMS BASED ON THE NUMBER OF FOREIGN M&AS ............................................................................................................ 301

FIGURE 5-28 DESCRIPTIVE STATISTICS OF THE KEY VARIABLES. .................. 306 FIGURE 5-29. CORRELATION MATRIX BETWEEN THE DEPENDENT AND INDEPENDENT

VARIABLES ..................................................................................................................... 307 FIGURE 5-30 WINSORIZING RESULTS OF THE GMM ............................................................. 308 FIGURE 5-31. MARGIN RESULTS FOR THE SIZE OF THE BOARD. ........................................... 309 FIGURE 5-32. MARGIN RESULTS FOR THE AVERAGE AGE OF THE BOARD ............................ 310 FIGURE 5-33. MARGIN RESULTS FOR THE NUMBER OF MALE DIRECTORS ON THE BOARD . 311 FIGURE 5-34. MARGIN RESULTS FOR THE NUMBER OF FEMALE DIRECTORS ON THE BOARD

...................................................................................................................................... 312 FIGURE 5-35. MARGIN RESULTS FOR THE NUMBER OF FOREIGN DIRECTORS ON THE BOARD

...................................................................................................................................... 313 FIGURE 5-36. MARGIN RESULTS FOR THE NUMBER OF RUSSIAN DIRECTORS ON THE BOARD

...................................................................................................................................... 314 FIGURE 5-37. MARGIN RESULTS FOR THE NUMBER OF EXECUTIVE DIRECTORS ON THE

BOARD .......................................................................................................................... 315 FIGURE 5-38. MARGIN RESULTS FOR THE NUMBER OF NON-EXECUTIVE DIRECTORS ON THE

BOARD .......................................................................................................................... 316 FIGURE 5-39 HAUSMAN TEST FOR FIXED EFFECT AND RANDOM EFFECTS MODELS WITH

BOARD SIZE AS A DEPENDENT VARIABLE ..................................................................... 317 FIGURE 5-40HAUSMAN TEST FOR FIXED EFFECTS AND RANDOM EFFECTS MODELS WITH THE

AGE OF THE BOARD AS A DEPENDENT VARIABLE ........................................................ 318 FIGURE 5-41 HAUSMAN TEST FOR FIXED EFFECTS AND RANDOM EFFECTS MODELS WITH

THE NUMBER OF MALE DIRECTORS ON THE BOARD AS A DEPENDENT VARIABLE ..... 319 FIGURE 5-42 HAUSMAN TEST FOR FIXED EFFECTS AND RANDOM EFFECTS MODELS WITH THE

NUMBER OF FEMALE DIRECTORS ON THE BOARD AS A DEPENDENT VARIABLE ........ 320 FIGURE 5-43 HAUSMAN TEST FOR FIXED EFFECTS AND RANDOM EFFECTS MODELS WITH THE

NUMBER EXECUTIVE DIRECTORS ON THE BOARD AS A DEPENDENT VARIABLE ......... 321 FIGURE 5-44 HAUSMAN TEST FOR FIXED EFFECTS AND RANDOM EFFECTS MODELS WITH THE

NUMBER OF NON-EXECUTIVE DIRECTORS ON THE BOARD AS A DEPENDENT VARIABLE ...................................................................................................................................... 322

FIGURE 5-45 HAUSMAN TEST FOR FIXED EFFECTS AND RANDOM EFFECTS MODELS WITH THE NUMBER OF RUSSIAN DIRECTORS ON THE BOARD AS A DEPENDENT VARIABLE ........ 323

FIGURE 5-46 HAUSMAN TEST FOR FIXED EFFECTS AND RANDOM EFFECTS MODELS WITH THE NUMBER OF FOREIGN DIRECTORS ON THE BOARD AS A DEPENDENT VARIABLE........ 324

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Chapter 1 Introduction

The international activity of emerging market firms has experienced

phenomenal growth over the past decade (Guillen & Garcia-Canal, 2009;

Ramamurti & Singh, 2009). The share of emerging markets, in the global

economy, has grown from just below 20% in 1990 to about 44% in 20191. This

growth has generated significant interest among scholars in understanding the

internationalisation process of emerging market firms.

In academic literature, the idea most widely studied and debated is that

the process of internationalisation for emerging market firms differs from

companies in developed countries (Luo & Tung, 2007; Mathews, 2006; Peng &

Delios, 2006). The reason for this lies in the shift in strategic behaviour of

emerging market firms. Before the year 2000, the primary target for

geographical expansion of emerging market firms was other emerging markets,

that display similar economic conditions and are close in terms of geographical

proximity and cultural domain. Such behaviour follows the traditional approach

to internationalisation represented in Johanson and Vahlne’s (1977) paradigm

of incremental internationalisation.

After the 2000s, however, emerging market firms began to target

developed economies in the internationalisation process, applying new

mechanisms such as cross-border mergers and acquisitions (OECD,

2005). This aggressive internationalist approach was motivated by the desire

to take advantage of resources and markets, and to increase global

1 Source: The Role of Emerging Markets in a New Global Partnership for Growth by IMF

Managing Director Christine Lagarde. International Monetary Fund

https://www.emerald.com/insight/content/doi/10.1108/S1571-5027(2010)00000230031/full/html#bib61









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competitiveness (Gaur, Kumar, & Singh, 2009). At the same time, the

internationalisation process became a major objective for most new emerging

market firms.

McDougal & Oviatt (1994) describe these type of firms as International New

Ventures (INV) and provide a theoretical framework to explain the

phenomenon. The theory established a new direction in internationalisation

literature, shedding light on the internationalisation process of small and

medium enterprises. In response to this, several other academic papers have

also focused on examining entry modes into foreign markets (Ripollés & Blesa,

2017), operational strategies (Bell, Crick & Young, 2004; Crick & Spence, 2005;

Martin & Javalgi, 2016), survival challenges (Coeurderoy et al, 2012) and

growth and performance beyond the inception stage (Ghannda & Ljungquist,

2005; Li et al, 2017).

Rather than examining successful internationalist processes of INVs, the

literature has largely focused on unsuccessful cases, which have been the

result of three main factors. These include managerial incompetence, which

has led to falling profits, liquidity difficulties and eventually to bankruptcy

(Hayward et al, 2006; Ooghe & De Prijcker, 2008), entrepreneurial strategic

failures (Van Gelder et al, 2007) and external factors beyond the control of the

entrepreneur (Carter & Wilton, 2006). The first two factors signify that emerging

market firms have failed to address the rise in complexity that is an inevitable

by-product of internationalisation.

When a firm expands outside its country of origin, complexity and

information asymmetry increases (Sanders & Carpenter, 1998; Michael &

Pearce, 2004; Lee et al, 2008), making it more difficult and costly to monitor the


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performance of Top Management Teams (TMT) (Zajac & Westphal, 1994), thus

leading to typical agency problems. To mitigate against such failures, emerging

market firms should implement new or additional corporate governance

mechanisms, that may not have been needed in domestic markets. This

relationship, between internationalisation and the development of corporate

governance mechanisms in emerging market firms, has not been addressed in

the literature.

To study this relationship, this PhD thesis focuses on emerging market

firms in the Russian Federation. The Russian market provides an appropriate

setting for testing this relationship for a number of reasons. First, as one of the

world’s emerging markets, Russian firms experienced aggressive

internationalisation in the early 2000s. Between 2000 and 2008, Russia topped

the list of BRIC countries in outward foreign direct investment2, handing this

position to China after the financial crisis of 2008. Although most of this

investment came from Russian companies operating in industries linked to

natural resources (oil and gas primarily), a growing number of Russian firms in

other sectors also committed to establishing themselves abroad during this

period. This expansion focused primarily on advanced European countries with

well-established corporate governance standards.

Then, having transitioned from a centralised economy into a market

economy, the Russian Federation began shaping its corporate governance

standards. These were only partially modelled on the standard of developed

countries such as UK, with its Anglo-American practices, and Germany with its

2 Source: https://unctadstat.unctad.org/wds/TableViewer/tableView.aspx

https://unctadstat.unctad.org/wds/TableViewer/tableView.aspx

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European continental system of corporate governance. As a result, the

corporate governance standards in Russia are a mixture of corporate

governance practices introduced in the corporate governance code of 2002.

The fact that the 2002 corporate governance code was a non-compulsory set

of guidelines, has therefore had only a limited effect on the corporate

governance mechanisms of Russian firms.

At the same time, despite the privatisation process of the 90s,

(Filatotchev, Wright, & Buck, 1995), leading Russian companies in different

sectors of the economy, are still owned by the state. Examples include

Gazprom and Rosneft (energy sector), Sberbank (banking sector), Aeroflot,

Russian Railway (RZD) (transportation) and so on. After 2004, the acquisition

of firms by the state became regular practice, steadily increasing the presence

of the state in major Russian firms. It is also important to point out that, due to

the pyramidal structure of ownership, the Russian state also indirectly owns a

significant portion of Russian enterprise (Lazareva et al, 2007). The state’s

share in market capital overall increased from 20% in the year 2003, to 50% in

2012 (Enikolopov & Stepanov, 2013).

The literature indicates that adoption of best corporate governance

practices, in Russian firms with concentrated state ownership, remains quite

limited (Grosman et al, 2016). The Russian Institute of Directors report (2014)

suggests that the proportion of independent and non-executive directors in

state-owned enterprise remains low. At the same time, this report concludes

that voluntary disclosure of information is relatively lower in comparison to

publicly traded firms without state control.

16

The Russian market, between 2000 and 2018, was characterised by

aggressive internationalisation of Russian firms, combined with poor corporate

governance standards of Russian firms, when compared with firms from

developed markets. It is in this context that this PhD thesis concentrates on the

300 largest Russian companies, based on their size in the year 2016, and uses

the multi-method approach to develop and test the hypothesis. The outline of

the thesis is presented below.

This thesis begins with an extensive literature review in Chapter 1, that

examines two streams of academic literature relevant to the study. The first part

of the chapter concentrates on the main theories of firm based

internationalisation. The second part analyses numerous theories of corporate

governance. Using both theoretical and empirical perspectives, this chapter

points to the one-sided approach that dominates the literature in the field of

corporate governance of large multinational companies. The literature primarily

focuses on how strong corporate governance mechanisms determine the

success of internationalisation. This approach, however, overlooks the

possibility of international growth of firms from modest, small firms to large,

multinational companies, therefore missing the important strategic decisions

that should be taken in regard to corporate governance restructuring.

Chapter 2 of the thesis examines a real-case example. It considers how

rapid internationalisation was the cause of multiple corporate crises,

significantly impacting the firm’s performance, and occasionally leading to

unsuccessful internationalisation efforts. The case study is based on an in-

depth analysis of a unique face-to-face interview conducted with the top

17

management of Kaspersky. Such an approach illustrates how the adjustment

of corporate governance structure, allowed Kaspersky Laboratory to change its

trajectory from failure to success during the process of rapid

internationalisation. For a more comprehensive qualitative analysis, the

interview data was combined with additional information from the public press,

Kasperky’s corporate webpage, press releases, books, and academic articles

on Kaspersky Laboratory. In this chapter, the thesis develops the first two

hypotheses which are tested later in the thesis.

Hypothesis 1:

Firm’s internationalisation, which occurs through opening a subsidiary or

foreign acquisition in the foreign market, will be positively correlated with the

number of corporate governance mechanisms.

Hypothesis 2

Increase in the geographical diversification of the firm will be positively

correlated with the share of foreign directors represented on the board.

The theoretical method, adopted in Chapter 3, is based on the game

theory model which informs the conceptual framework, to predict whether a firm

(such as Kaspersky) expanding outside its domestic market, should

strategically adopt new corporate governance mechanisms or if it should keep

exploiting pre-existing internal mechanisms. Based on the theoretical

framework, the third hypothesis will be developed.

Hypothesis 3:

Internationalisation of the firm, from a country with low levels of corporate

governance, to a country with high levels of corporate governance, will be

correlated with a restructuring of corporate governance mechanisms.

18

After the theoretical framework, this thesis presents empirical evidence

from a proprietorial level panel database of 300 Russian firms, that draws on

data collected over 19 years, from 2000-2018 (Chapter 4). The database

includes detailed variables related to the board of directors’ structure such as:

size, age, gender diversity, the degree of board independence and the share of

foreign representatives on the board. The data also examines the

internationalisation of the firm through geographical diversification of the firm,

foreign mergers and acquisitions, and expansion of the subsidiaries outside if

its domestic market. The fifth chapter also investigates the detailed structure of

Russian boards and analyses the difference in structure between listed and

non-listed firms and how these differences influence the relationship between

internationalisation and corporate governance.

Hypothesis 4:

After the IPO of the firm there is a statistically significant relationship between

the internationalisation and its corporate governance restructuring.

The empirical findings highlight how the development of corporate

governance mechanisms correlate with a firm’s sound internationalisation

strategy (Chapter 5). Firms need to build an incremental knowledge acquisition

process, via internationalisation, that leads to a fully-fledged exploitation of

competitive advantages both internationally and domestically.

The final chapter (Chapter 6) summarises the findings of qualitative,

theoretical, and empirical methods used in this thesis, discusses the main

contributions and limitations of the current thesis, and considers ideas for future

research.

19

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Chernykh, Lucy, (2008). Ultimate ownership and control in Russia. Journal of

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internationalization and survival: Empirical tests on a panel of ‘adolescent’ new

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172–186

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Guillen, M. F., & Garcia-Canal, E. (2009). The American model of the multinational

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Mathews, J. A. (2006). Dragon multinationals: New players in 21st century of

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21

Literature Review Definitions of Terms

In the existing academic literature on corporate governance and

internationalisation, different authors have used different definitions of those

terms. Therefore, before going examining the academic literature in depth, it is

important to understand the variations of those definitions.

A large number of scholars have used different meanings for the term

corporate governance (CG henceforth) in academic papers. Wieland (2005)

defined corporate governance from the business ethic perspective “…as

leadership, management, and control of a firm by formal and informal, public

and private rules” while from the economics and law perspective Zingales

(1997) described CG as “the complex set of constraints that shape the ex-post

bargaining over the quasi-rents generated in the course of a relationship.” The

definition by Shleifer and Vishny (1997) concentrated more on the financial

aspect stating that CG is “…the ways in which suppliers of finance to

corporations assure themselves of getting a return on their investment.” On the

other hand, most of the comparative studies on corporate governance use a

general definition presented by Aoki (2000), which states CG is “…the structure

of rights and responsibilities among the parties with a stake in the firm”. In

summary, the OECD (2004) defined CG as “The system by which business

corporations are directed and controlled”. The difference among the definitions

is primarily linked to the academic field and the research question that the

academics are targeting. Therefore, each social scientist is forming their own

scope and concerns

22

Exactly the same can be said about the term internationalisation, which

also has some variation in its definition across scholars. Ahokangas (1998)

describes it as “the process of mobilizing, accumulating and developing

resource stocks for international activities”. Another definition of this term can

be seen from the perspective of business networks. For example, as suggested

by Lehtinen and Penttinen (1999) internationalisation is the process of

“developing networks of business relationships in other countries through

extension, penetration and integration”. Johanson and Vahlne (1990) stated

that internationalisation is a “cumulative process in which relationships are

continually established, developed, maintained and dissolved in order to

achieve the firm’s objectives”. The definition by Welch and Luostarinen, (1988)

states that internationalisation is “The process of increasing involvement in

international operations"

Theories of Internationalisation

Over the past couple of decades, there has been an impressive increase

in the number of multinational enterprises (MNEs) around the globe (Fishwick,

1981; Hamilton 1986; Dunning, 1993; Young, Hood, & Peters 1994; Caves

1996; Mudambi 1999; Enright 2000; Andreff 2002; Child & Rodrigues 2005;

Dimitratos et. al., 2009; Filippov, 2010; Kalman 2017; Esho & Verhoef 2020) .

The Organisation for Economic Co-operation and Development (OECD) and

United Nations Conference on Trade and Development (UNCTAD)

define multinational (or transnational) enterprises as companies which are

engaged in foreign direct investment (FDI) and either own or control the value-

added assets in more than one country.

23

In the academic sphere, a large number of scholars have described the

different benefits for companies to extend their performance outside of their

origin market and have explored the various characteristics of MNEs (Buckley

P., J., & Casson M. C. 1976; Rugman A., M., 1981; Kogut B., & Zander U.,

1993; Markusen, J. R. 1995; Dunning, J. & Lundan, S. 2008). While some

scholars have described advantages of becoming an MNE, others

concentrated on the process of internationalisation itself. In the past half a

century, scholars examined the internationalisation process of a firm from

different perspectives and were able to determine several theories of

internationalisation. We could list the so-called economic models of

internationalisation such as Transaction Cost Approach (Williamson, 1981) &

Eclectic Paradigm (Dunning 1979); Behavioural models of internationalisation

such as Uppsala Model developed by Johanson & Vahlne (1977) as well as

innovation related models developed by Bilkey & Tesar (1977) Cavusgil (1980)

Reid (1981) and Czinkota (1982) and finally entrepreneurial approaches such

as International New Ventures model (McDougal & Oviatt, 1994), among

others. The following sections will describe various theories of

internationalisation from different perspectives and will highlight their

advantages and disadvantages.

24

Economic Theories of Internationalisation

The Transaction Cost Approach.

Having its roots in new institutional economics, transaction cost theory

(TCT henceforth) “... is an interdisciplinary approach to the study of

organizations that joins economics, organization theory, and aspects of

contract law” (Williamson, 1981). In 1937, economist Ronald Coase noticed

that production of final goods and services involves a succession of processes

and assembly activities. During these stages the firm is involved in internal and

external exchanges and monitoring processes (i.e.: exchange of materials,

money etc.) with other market actors. Each exchange will have a transaction

cost that depends on asset specificity, uncertainty and frequency of the

exchange (Williamson, 1981). TCT assumes that decision makers employ

opportunistic behaviour due to three main constraints: limited information,

limited ability to evaluate the process and a limited time scale to make the

decision (in other words bounded rationality3). At the same time, an important

assumption of the TCT approach is that markets are competitive and, therefore,

there are multiple suppliers. Based on those assumptions the transaction cost

theory focuses on the inter-organisational governance of a seller-buyer

relationship and its economisation process (Andersen, 1997).

Later, the TCT framework was extended into the international context

and used to explain the selection of the entry mode into a foreign market

(Anderson & Gatignon, 1986; Klein et al., 1990). Based on the characteristics

of the transaction costs, decision makers will select the most appropriate entry

3 The concept was introduced by the Nobel Prise winner Herbert A. Simon (1991) Bounded rationality and organisational learning

25

mode by taking into account a fundamental trade-off between the need for

stricter control and the implicit cost of further resource commitments. Later,

Erramilli and Rao (1993), suggested additional modification to the original

model by adding non-transactional cost advantages, which are gained through

multinational cooperation. An improved framework explained the selection of

the market entry mode for the service industry where the main specific assets

are intangibles.

The transaction cost theory, was exposed to some criticism. David and

Han (2004) made a systematic assessment of 63 empirical articles related to

transaction cost theory and concluded mixed results due to methodological

problems such as self-selection variable issues, survivorship bias, sample

selection (i.e.: most studies did not used Longitudinal data). One of the

questions that the authors brought to the attention of the literature was the

problem of measuring transaction costs, as in most studies they are measured

indirectly using the characteristics of the transaction (asset specificity,

uncertainty, the interaction of asset specificity and uncertainty, frequency, and

opportunism). Similar conclusions were made by Ghoshal and Moran (1996),

Masten and Saussier (2000), Carter and Hodgson (2006), and Macher and

Richman (2008). Therefore, most empirical studies shifted away from the

original unit of the analysis (transaction cost) and used firm level as the unit of

analysis. (Andersen, 1997)

26

The Eclectic Paradigm

Another significant theoretical framework that is used to determine the

international production activities of MNEs and the mode of entry is “The

eclectic paradigm” conceived and developed by John Dunning (1979, 1980,

1985, 1988, 2000, and 2008). The initial theory took a static approach and

suggested that companies are getting involved in international production

based on three main factors: Ownership advantages (O), Location advantages

(L) and Internalisation advantages (I) (OLI). The first factor (O) corresponds to

the possession of assets, which competitors do not have. The author justifies

three main types of ownership specific advantages such as those relating to

the possession and exploitation of monopoly power, scarce or unique

resources and those relating to managers’ competences. The second, (L), is

the attractiveness of the specific country for FDI (e.g. low production costs, high

market potential). The third factor (I), relates to the ways through which firms

may organise and exploit their core competencies (hierarchical or external

modes of operation) (Dunning 1993). Later Dunning (2001) proposed looking

at OLI theory as an ‘envelope’ for other economic and business theories, which

means that the explanatory power of the model would increase if it is used

together with other models (like resource based theory or evolutionary theory).

OLI paradigm was further developed by Guisinger (2001) in his ‘evolved

eclectic paradigm’. First, he replaced the Internalisation factor with the mode of

entry (M). This allows researchers to differentiate between factors affecting

different modes of entry in different countries. The second and major

modification of OLI by Guisinger (2001) is the adaptation of the firm’s operations

to the international business environment building on institutional theory, hence

27

adding ‘A’ in the OLMA. According to Guisinger (2001) “there must be a

compelling distinction’ between foreign and domestic components of the

environment”.

As tends to happen with all theories, the eclectic paradigm has been

criticised by a number of authors. Rugman (2010) suggests the model is too

eclectic. It has a broad and loose structure in all three advantages categories.

Itaki (1991) also supported this point, stating that the concept «ownership

advantage» is redundant in the sense that it can logically be classified as

internationalisation advantages. Solberg and Askeland (2005) stated that the

broadness and multiplicity of the eclectic framework makes it vulnerable to

complexity, leading to difficulties in predicting causality. Finally, unlike the

behavioural approaches, which will be discussed in the next section, the initial

eclectic paradigm approach is static; a major drawback considering that

internationalisation is intrinsically a dynamic process. This point, however was

targeted by the author of the theory himself (Dunning 2000) who extended his

theory and discussed how best a firm may organize its activities to create future

assets, rather than optimize the use of its existing assets

.

28

Behavioural Approach

Original Uppsala Model (U – Model)

Presented by Jan Johanson and Jan-Erik Vahlne in the Journal of

International Business Studies in 1977, this was the first theoretical model to

represent internationalisation as a series of incremental decisions. It was based

on the earlier empirical study of the export organisation of Swedish firms, in

which firms were entering foreign markets in small steps (stages) following a

chain of establishment where each successive stage represented a higher

degree of international involvement (Johanson & Wiedersheim-Paul, 1975).

Based on the pattern from the study, the authors assumed that the

internationalisation process frequently starts in markets that are closely related

to the domestic market in terms of geographical distance. Such distance was

defined as “factors that make it difficult to understand foreign environment”.

In order to justify why internationalisation of firm occur through incremental

steps, Johanson and Vahlen (1977) used a dynamic model (figure 1.1), in which

the outcome of one set of decisions provided the input of the next. They

determined a mechanism that is divided into two sets of internationalisation

variables: state aspect and change aspect (figure 1.2).

Stage 1

No regular

export

activity

Export

(sales) via

agent

Sales

Subsidiary

establishment

Establishment of

Production

subsidiary

Stage 2 Stage 3 Stage 4

Figure 1-1: Incremental process of internationalisation (Johanson and Vahlne 1997).

29

As seen on the above figure, the U-model assumes that a change in the state

aspects (market commitment & market knowledge) will influence the change

aspects (commitment decisions & current activities), and this in turn will have

an impact on a state aspect.

All four elements are assumed to be important factors for the growth of

international activity. Market commitment, in this model, represents the

perception of risk and opportunities that a firm have. It consists of two parts,

the degree of commitment and amount of committed resources. The first refers

to the difficulty to find an alternative use to the resource and transfer it to the

other market and the second, represents the amount of firm’s investment.

Market knowledge also consists of two elements: objective knowledge

(knowledge about market methods and tools, which can be applied to different

markets) and experiential knowledge (knowledge about culture, customers’

preferences and characteristics, which are different across markets). For the

U-model, the latter element is vital. Such experiential knowledge provides a

framework for perceiving and formulating opportunities. There is also a direct

relationship between market knowledge and market commitment. Knowledge

Market

Knowledge

Market

Commitment

State Aspects

Commitment

Decisions

Current

Activities

Change Aspects

Figure 1-2: The Basic Mechanism of internationalisation (Johanson and Vahlne,

1977)

30

0.can be considered as a resource, therefore the better the knowledge about

the market the more valuable are the resources and the stronger is the

commitment to the market. It is also claimed that experiential knowledge

reduces a firm’s perception of market uncertainty or risk, which in turn has an

impact on commitment to international markets.

Regarding the change aspect of the mechanism, Johanson and Vahlne

(1977) assumed that the major source for the experience is the current

business activities of the firm. At the same time, most of the firm’s current

activities have lag effects (i.e. there is no perceived immediate effect of the

action). Therefore, it was assumed the longer the lag effect the higher is the

market commitment of the of firm.

The commitment decision (decision to commit resources to foreign

operations) is the second change aspect that depends upon what decisions

are made and how they are made. Regarding the first part, it is assumed that

decisions are made in response to perceived problems and / or opportunities

in the market. Awareness of need and possibilities for business actions are

assumed to be dependent on experience. Regardless of whether decisions

are made in response to problems or in response to opportunities,

commitment will be made in relation to current business activities.

The Uppsala model drew interest from different researchers and also

gathered some criticism. For example, a number of authors stated that the

model is deterministic (Reid, 1983, Turnbull, 1987) as it does not take into the

account other external factors, which can influence internationalisation, such

as strategic actions taken by the decision maker. Anderson (1993) claims that

the model does not explain why or how the process starts, in other words there

31

are no initial conditions. Engwall and Wallenstal (1988) were able to provide

empirical evidence that confirms the Uppsala model is not suitable for

explaining internationalisation in the service industry, for example. Forsgren

(1989) also concluded that the model is only applicable as an explanation of

the initial stages of firms’ internationalisation during which market knowledge

and resources are still a restriction. It has also been argued that the model

does not take into the account interdependencies between different country

markets (Johanson & Mattsson, 1988).

Later in 1990, Johanson and Vahlne revisited their own model, making

two main changes to fulfil the gaps identified. First, the authors looked at how

the Uppsala internationalisation process model and Eclectic Paradigm

(Dunning 1988) can be used as complementary frameworks, in order to

increase their respective explanatory power. As the process model relies on

the notion of market knowledge and market resources, its explanatory power is

limited to the early stages of firms’ internationalisation, at which time these

factors are still a constraint for a firm (Forsgren, 1989). On the other hand, the

eclectic paradigm assumes that decision makers have perfect information,

which is more applicable to the firms that have activities in different countries

and can therefore explain the later stages of internationalisation.

Secondly, the model was linked to the concept of industrial networks in

which firms obtain knowledge and resources through the production network,

and in which they are tied to each other through different bonds, thus allowing

the firm to enter foreign market (Johanson & Vahlne, 1990). As the network can

be far beyond the country’s borders, such relationships among firms are

considered as bridges to other networks, which are important in the initial steps

32

abroad and in the subsequent entry of new markets. The authors also claim

that it is possible to enter such network only if the firms inside are motivated to

start the collaboration process.

The most recent paper by Johanson & Vahlne (2009) shifted the original

model even more towards the network approach. The Authors concluded “…

successful internationalisation requires a reciprocal commitment between the

firm and its counterparts” (Johanson & Vahlne, 2009). Firms still have to

develop knowledge for the internationalisation process; however, this

knowledge will come through the company’s position in the network. The

position is determined by the trust and commitment among partners. At the

same time, Johanson and Vahlne (2009) stated that the explanatory power of

the establishment chain, which was in the original view, is decreasing. Modern

companies tend to start internationalisation sooner, choose a more rapid mode

of entry into the foreign market and select markets that are not necessarily

related in terms of geographical distance (Hedlund & Kverneland, 1985; Oviatt

& McDougall, 1994; Madsen & Servais, 1997). This leads to the fact that they

may just leapfrog certain stages of the chain.

33

Innovation Models (I –Models)

There are a number of models developed by Bilkey and Tesar (1977),

Cavusgil (1980), Reid (1981) and Czinkota (1982) that are quite closely related

to the U-model in terms of their approach on incremental stages and

geographical distance (See Table 1.1). However, the core difference was that

those scholars saw the internationalisation process as an innovation-adoption

cycle. In other words, the internationalisation decision is considered as an

innovation for the firm (Anderson 1993).

Bilkey and Tesar’s (1977) 6-stage model was empirically related to the

sample of Small and Medium Enterprises (SMEs) in which firms gradually

increase the level of exporting to the countries that are psychologically further

away if the firm’s management is seeking to explore exporting opportunities.

Cavusgil’s (1980) manufacturing firms in Maine and New Mexico model is

founded on management’s successive decisions regarding exporting over a

period of time. Based on empirical evidence, the author suggests that several

firm-specific characteristics and managerial factors act as determinants in the

process of facilitating or inhibiting the progress of firms from one

internationalisation stage to the next, as presented in Figure 1.3.

Czinkota (1981) based his analysis on small and medium firms

manufacturing industrial goods. He adapted the first four stages of his model

from Bilkey and Tesar’s (1977) study. He used several criteria for differentiating

among stages: past export volume, absolute export volume, length of export

experience, types of countries exported to, number of export customers,

number of export transactions, and manpower committed to exporting. He has

also segmented firms so as to be able to target government export assistance

34

requirements effectively. The empirical investigation revealed that firms, at

various stages, significantly differed in terms of their organisational and

managerial characteristics.

Reid (1981) views internationalisation as an innovation adoption

process. Export adoption was believed to require a favourable management

attitude to exporting, an available foreign market opportunity and the presence

of spare resource capacity within the firm. He points out the need to distinguish

between the foreign entry expansion process of small and large firms.

Regarding small firms, he assumed that the individual decision-maker

influences the export behaviour of the firm while the entry behaviour in large

firms is a complex process, which involves a much higher number of decision

bodies. This model differs from other I-models, as it is not focused on the

organisational form adopted by the firm for exporting, but on the attitude and

behaviour of the decision-maker and the requirements of the firm in terms of

allocated resources at each stage of the adoption process.

Based on the above descriptions, innovation-related models concentrate

primarily on the export-oriented behaviour of firms and do not provide any

support for the later stages of internationalisation. They share similar

characteristics and seem to have semantic differences rather than real variants

about the nature of internationalisation process, apart from the initiating

mechanism (Anderson 1993). In addition, these models are restricted to a cross

sectional studies of SMEs and, based on this, it is not possible to conclude how

firms get from one stage to another, as only one point in time is analysed.

Anderson (1993) suggests that a longitudinal study will be more appropriate for

analysing establishment chains that are reported in I-model.

35

Figure 1-3: Comparison of Upssala Model with Innovation Models

Johanson & Vahlne (1977) Bilkey & Tesar (1977) Cavusgil (1980) Reid (1981) Czinkota (1982)

Stage 1

No regular export activities Management is not

interested in exporting

Domestic marketing: the firm sells only to the home market

Export awareness: problem of opportunity recognition, arousal of need

The completely uninterested firm

Stage 2

Export via independent representatives

Management is willing to fill unsolicited orders, but makes no effort to explore the feasibility of active exporting

Pre-export stage; the firm searches for information and evaluates the feasibility of undertaking exporting

Export intention: motivation, attitude, beliefs, and expectancy about export

The partially interested firm

Stage 3

Establishment of an overseas sales subsidiary

Management actively explores the feasibility of active exporting

Experimental involvement: the firm starts exporting on a limited basis to some psychologically close country

Export trial: personal experience from limited exporting

The exploring firm

Stage 4

Overseas production / manufacturing units

The firm exports on an experimental basis to some psychologically close country

Active involvement: exporting to more new countries – direct exporting – increase in sales volume

Export evaluation: results from engaging in exporting

The experimental firm

Stage 5

The firm is an experienced

exporter

Committed involvement: management constantly makes choices in allocating limited resources between domestic and foreign markets

Export acceptance: adoption of exporting / rejection of exporting

The experienced small exporter

Stage 6

Management explores the feasibility of exporting to other more psychologically distant countries

The experienced large

exporter

Sources: Anderson (1993) p213; Johanson &Vahlne (1977) p25

36

Network Model of Internationalisation

Behavioural models’ approaches, which were described in the previous

sections, rely on the notion of experiential knowledge. Firm acquires this type of

knowledge while operating in the international marketplace and can use it later on to

resolve issues in the foreign markets (Brockman & Anthony, 1998). The obvious

problem that arises from this concept is how the firm that does not operate within the

international market can gain experiential knowledge. The network model of Johanson

and Mattsson (1988) suggests that external factors (such as actors or organisations)

can influence internationalisation process (figure.1.4).

Figure 1-4: Network model of internationalisation by Johanson and Mattsson (1988)

The original model was based on the industrial markets in which firms are

interconnected with other market actors (i.e. suppliers, distributors, customers, etc.)

through the network of long-lasting relationships. It is also assumed that such networks

are stronger and more developed in the home market in comparison to the export

market (Johanson and Mattsson, 1988). This model was determining firm

internationalisation level as a result of its position in the network (Hadley & Wilson,

2003). The authors were able to distinguish two elements that influence

internationalisation process: level of firm internationalisation and level of market

Degree of market internationalisation

Low High

Degree of internationalisation

of the firm

Low The Early

Starter Late Starter

High The lonely

International

The international

among others

37

internationalisation. Based on these criteria they derived four categories of firms: The

early starter, later starter, lonely international and the international among others.

Johanson and Mattsson (1988) characterised the early starter as a firm that has

few unimportant relationships with firms in the foreign markets and similar firms in the

production network. Similarly, at this stage, suppliers, customers and competitors do

not have strong international relationship in either their home or international market.

Due to such poor relationships, the firm does not have knowledge about the

international markets, and according to Johanson and Mattsson (1988), it is not

possible to gain that knowledge only through domestic relationships. Therefore, to

start international activity, the firm requires resources (including knowledge) to

increase its market commitment, which can be obtained through agents in the foreign

markets, and expand internationalisation through the original establishment chain

(Johanson & Wiedersheim-Paul, 1975).

‘The lonely international’ category describes a firm with the high level of

internationalisation but where the internationalisation level of the market environment

is low. In other words, this firm has a higher level of internationalisation in comparison

to its competitors in the production network. Therefore, this firm has the competence

to pass obtained knowledge about foreign markets to its own network and thus

promote internationalisation within the production network (Hollensen, 2007).

The ‘late starter’ has a low degree of internationalisation, however the degree

of market internationalisation is high (Hadley & Wilson, 2003). Based on the

characteristics of the late starter by Johanson and Mattsson (1988), such as low level

of market commitment and activity in the foreign markets, it is very similar to the early

starter typology. However, there is an important difference. The late starter has an

indirect international relationship through suppliers, customers and competitors,

38

creating a knowledge advantage relative to the early starter (Hadley & Wilson, 2003).

Academic literature suggests that such inter-network relationship can influence the

decision making process of the firm (Johanson & Mattsson, 1988; Bonaccorsi, 1992;

McKiernan, 1992). Bonaccorsi (1992) also pointed out that small firms generally make

decisions to commit resources towards internationalisation based on network

collective experience. At the same time, author suggests that some companies can

simply imitate the decisions of other companies, thus imitating the same

internationalisation process.

The ‘international among others’ typology has a high degree of both market and

firm level of internationalisation. A highly internationalised environment will allow the

firm to benefit from a higher level of experiential knowledge in comparison to ‘lonely

international’. This, in turn, allows for building a solid relationship between different

production networks, utilising firm’s production capacity and product specialisation

(Johanson & Mattsson, 1988).

Such a model of internationalisation goes beyond the original Uppsala model

by taking into the account the business environment of the firm, thus bringing the

concept of interconnectedness into the internationalisation process (Andersson,

2002). The model suggests that cooperation among different actors of the network

will lead to the efficient development of the firm, in comparison to competition within

the production network. Bjorkman and Forsgren (2000) also pointed out that within the

network model the firm could have the majority of its physical assets in the home

market, but at the same time play a significant role in the international network

development. According to the model, it is also plausible to gain experiential

knowledge from the production network without going through the direct experience of

work in the foreign markets (Eriksson et al., 1998; Bonaccorsi, 1992).

39

On the other hand, quite a few authors criticised the network approach. For

example, Bjorkman and Forsgren (2000) pointed out that the model does not predict

the internationalisation process but just differentiates the typologies of the companies.

At the same time, it is not clear how the shift occurs from one typology into another

(Chetty & Blankenburg, 2000). Nummela (2002) claims that another limitation is that

the model concentrates primarily on the large companies and it does not describe the

behaviour of the small and medium enterprises (SME) within the networks. It is also

claimed that the model does not take into the account the decision maker, who might

have the opportunity to internationalisation but is unwilling to do so for any reason, i.e.

is afraid to lose control of the company (Chetty & Blankenburg, 2000). Another issue

that was raised by Chetty and Wilson (2003) was that the model does not explain the

way to create network relationships, thus it is not clear how the ‘early starter’ can begin

the internationalisation process.

International New Ventures (INV)

In contrast, to the incremental process of internationalisation (Johanson &

Vahlne, 1977; Johanson and Mattsson, 1988; Brockman and Anthony, 1998),

McDougal and Oviatt (1994) developed a theory, which drew attention to the

phenomena of rapid internationalisation into the global markets. The authors called

these firms ‘International New Ventures’. The theory suggested that such companies

are international from inception and concentrated more on the age of the company

rather than size. Partly, that phenomenon became possible as the international

environment was changing. The rapid growth of technology reduced transactions

costs, communication costs and made it easier for the small start-up companies to

identify business opportunities in the foreign markets (McDougal & Oviatt, 1994). The

40

other reason was the rise of entrepreneurs with international experience through which

they were able to identify and connect resources in different markets and establish

competitive advantages, allowing new companies to internationalise without actually

owning resources (McDougal & Oviatt, 1994).

In their theory, McDougal & Oviatt (1994) distinguish four types of international

new ventures: Export/Import start-ups, Geographically Focused start-ups, Global

start-ups, Multinational trader (Fig. 1.5). To differentiate between the groups the

authors used two main criteria: Coordination of value chain activities and number of

countries involved.

Figure 1-5: Internationalisation process of International New Ventures McDougal & Oviatt

(1994)

Number of Countries involved

Few Many

Coordination of value chain

activities

Few Export/Import Start-

ups Multinational Trader

Many Geographically

focused start-ups Global Start-ups

Both Export/Import start-ups and Multinational trader can be grouped by their

ability to establish disproportions of resources between countries, thus providing them

with opportunities to create markets. The only difference is the number of countries in

which these new ventures operate. Geographically focused start-ups are constrained

to a specific region in which they are specialising in the several value chain activities,

while the global start-ups are specialising in the several value chain activities in

different geographic regions (McDougal & Oviatt, 1994).

Source: McDougal & Oviatt (1994) p59

41

The theory established a new turn in internationalisation literature, especially

shedding some light on rapid internationalisation process of small and medium

enterprises. However, this approach has some limitations. First of all, McDougal &

Oviatt (1994) pointed out that it is hard to establish the exact starting point of new

venture. That occurs due to the difference of firms’ development process prior to the

official launch. Zahra (2005) also states that existing companies could establish some

international new ventures. On the one hand, those firms can be counted as a new

venture, but on the other, they can benefit from the resources and relationships that

already exist in the parent company, which means that the parent company can drive

their internationalisation process. The author also mentions that original theory does

not inspect firms’ survival rate between international new ventures typologies, thus

making it questionable whether these types are equally feasible (Zahra, 2005). In

addition, the theory does not take into account the industry specific characteristics,

which can influence the internationalisation process (Andersson, 2006; Evers, 2010;

Evers 2011)

42

Organisational theory of Internationalisation

Figure 1-6: Organisational theory of Internationalisation

One of the recent frameworks that take into the account industry specific

characteristics, which can influence the internationalisation process is “the

organisational model” created by Malhorta and Hinings (2010). These authors claim

that the internationalisation process varies between different organisation types and

each type reacts differently to three critical elements of the internationalisation

process: physical presence, degree of presence and focus of entry. Theoretical

background of the framework combines some characteristics of the original Uppsala

model framework (Johanson & Vahlne, 1977; Bowen et al. 1989). From the Uppsala

model, Malhorta and Hinings (2010) take the idea of incremental stage development

of internationalisation. However, the authors allow for leapfrog behaviour of the firm

(skipping some stages of the process) depending on the different scenarios of firm

development and its characteristics. From Bowen et al.’s (1989) framework,

organisational model picked characteristics to distinguish between firms’ typology:

Organisation type

Differentiating characteristics

Nature of production

activity

Nature of Dominant asset

Degree of centrality of client

Mass Production

organisation

Mass production

Least people intensive

Low

Disaggregated production

organization

Disaggregated production

Moderate people intensive

Medium

Project-based organization

Project-based production

Highly people intensive

High

Source: Malhotra & Hinings (2010) p336

43

standardised / customised output, capital / labour intensity in the firm, high / low degree

of client centralisation.

Those characteristics can be represented on a continuum and suggest three

main types of organisations. At one end of the continuum is a ‘mass production’

company that is capital intensive, produce standardise products and has the low

degree of client centrality. Typical examples of such typology are automobile

production companies, service factories, chemical plants etc. At the other end of the

continuum is a ‘project-based firm’ with high levels of labour intensity and customised

products, which is based around the client needs, for example professional services,

consulting, accounting etc. Those firms are more knowledge intensive and primarily

selling their intangible goods to the client. The third type is situated in the middle of

these continuums and they represent a ‘disaggregated production organisation’ with

some degree of product customisation, moderate degree of labour intensiveness and

medium degree of client centrality. Companies such as restaurants, hotels, car rentals

etc. can be included in this category.

Each type of organisation has a different internationalisation process

depending on a physical presence, degree of presence and focus of entry. Malhorta

and Hinings (2010) claim that for mass production firms’, physical presence in the

foreign market will be the major determiner of the internationalisation process. If

physical presence is not required, the firm can follow the standard Uppsala model

stages of internationalisation starting from export and licencing. However, if the

physical presence is a critical element for the firm’s internationalisation the firm will

leapfrog the initial stage and will chose a joint venture or a wholly owned venture as

an entry mode. Disaggregated organisations, based on their characteristics, will

primarily choose the contractual paths (engagement through contracts or franchises)

44

of internationalisation as their physical presence in foreign market is driven by

moderate people intensiveness. For projects-based organisations, physical presence

and the degree of this presence depends on each individual project (client), which

typically is very high, as these organisations heavily rely on their employees as main

source of delivering the service. In order to remain in the foreign market, project-based

organisations should sustain a continuous inflow of projects. Therefore, the

commitment of the resources varies according to the demand in the market.

Holistic framework of industry factors and INV

Another recent paper by Andersson, Evers and Kuivalainen (2014) also emphasised

the role of industry factors in the internationalisation process of the firm. The main

difference with the organisational model (Malhorta and Hinings, 2010) is the origin of

the theoretical concept. The Andersson, Evers and Kuivalainen (2014) framework

takes its roots from the theory of international new ventures (McDougal and Oviatt,

1994). Using the original assumptions of McDougal and Oviatt (1994), those managers

who possess knowledge of international markets and who are able to link the

resources between these markets prefer rapid internationalisation from the inception

and pursuing revenues from different international markets. The conceptual

framework identifies key industry factors as well as emergent factors that influence the

new venture internationalisation process in terms of speed, geographical scope and

entry strategy. Such key influencing factors are competition and structure, industry life

cycle, industry concentration, knowledge intensity, local cluster internationalisation

and global industry integration. The emergent factors are identified as new business

models, technology and industry network dynamics.

45

Andersson, Evers and Kuivalainen (2014) based this conceptual theory on the

empirical evidence, which studied rapid internationalisation process of small and

medium enterprises primarily in high-tech industries (Bloodgood et.al. 1996; Burgel

and Murrey, 2000; Crick, 2000; Johnson, 2004; Spence and Crick, 2006; Fernhaber

et.al., 2007; Kuivalanen et.al., 2007). According to the Organisation of Economic

Cooperation and Development (OECD), industry can be classified as high tech if firms

inside this industry invest more than 4% of their revenue in research and development

(R&D).

At this point, in summing up the framework factors, which will influence the

speed, scope and mode of internationalisation of new international ventures, the

Andersson, Evers and Kuivalainen (2014)

Figure 1-7: Internationalisation of SME based on the Speed, Scope & mode of

internationalisation.

46

authors point out that the framework is very abstract, thus further empirical research

is recommended. As the majority of studies concentrated on the high-tech sectors, it

is important to see if similar factors will have an influence on internationalisation in the

low or mid-tech industries (Evers, 2011). Furthermore, research should be scrutinising

the internationalisation strategy and especially attempting to define what is meant by

INV internationalisation (Andersson, Evers and Kuivalainen, 2014).

Theories of Corporate Governance

Agency Theory

The field of corporate governance takes its roots from the work of Berle and

Means in 1932, in which they draw attention to the separation of ownership and control

in modern organisations. They noticed that due to the increase in the size of modern

corporations’ owners (principals) hire managers (agents) to perform the work. They

argued that the agents might use the property of the firm for their own benefit resulting

in an intrinsic principal agent conflict. Later, the financial literature (Arrow, 1971;

Wilson, 1968) charachterised the conflict between the agent and principal through the

problem of risk sharing, suggesting that these two groups have different risk attitude

and as a result will act differently. The owners (principals) invest their own capital and

bear the risk of failure, which correlates with the decisions made by managers (agents)

who are risk averse and act to maximise their own benefit. Furthermore, Jensen and

Meckling (1976) developed the idea that a company is a nexus of contracts, thus

describing the firm not as an individual but a legal entity, which is joined by contracts

among suppliers, customers and creditors. However, the interest of the parties differs,

the conflict of interest arises, and it can only be relegated through managerial

47

ownership and control. Eisenhardt (1989) categorised the agency theory in two

models: Positive agency theory and Principal-agent research. The first concentrated

on thinking about specific situations in which the principal-agent conflict arise and then

suggesting a mechanism to resolve it. Typically, it was applied only to large

corporations and scholars looked at the relationships between managers and owners.

The second path concentrated on general agency problem that could occur between

employer and employees, buyers and suppliers. Academics in this field made general

assumptions and were looking for a generalised theory rather than a case study

specific approach (Eisenhardt, 1989).

Looking at the evolution of the agency theory it is possible to derive three main

types of the agency problems. The first type is the conflict between the agent

(manager) and the principal (owner), which arises due to information asymmetry. The

potential setbacks that may emerge from this information asymmetry are adverse

selection and moral hazards (Arnold and Lange 2004). The first problem is that owners

cannot conclude if managers have completed the work for which they are paid. The

second problem is that owners cannot check if the work produced by managers is

accomplished to their abilities. The second type is the conflict between the major and

minor shareholders (Shleifer & Vishny, 1997). The major shareholders or blockholders

will have the higher voting power and will swing the decisions in their own interest at

the cost of the minority (Fama & Jensen, 1983). This type of the agency problem exists

in the countries which have high ownership concentration. The third type of the agency

problem that is discussed in the literature is the the conflict between the owners and

creditors (Damodaran, 1997). The owners of the firm may invest in the project that

would be counted as a high risk project by the creditor who provide the funds. The risk

will raise the cost of the finance and depreciate the value of the debt. The successful

48

completion of the project may provide owners with the abnormal returns, however will

not reward the creditors with in the same proportion, because their return will be limited

by the fixed rate of interest. On the contrary, if the project will fail the creditors will bear

some of the losses.

The literature describes number of reasons that cause agency problems such

as: separation of ownership and control (Berle & Means, 1932); information

asymmetry (Jensen & Meckling, 1976); moral hazard (Hölmstrom, 1979), different risk

preferences (Arrow, 1971); and provide the remedies for these problems. To minimise

the agency problem, the scholars discussed several corporate governance

mechanisms to monitor agents and mitigate the principal-agent conflict. A large

number of academic articles explored the role and structure of the board and its

functions as a primary monitoring mechanism (Fama & Jensen, 1983; Baysinger &

Butler, 1985; Lorsch & MacIver, 1989; Baysinger & Hoskisson, 1990; Boyd 1994; Daily

& Dalton, 1994; Johnson Daily and Ellstrand, 1996). The literature suggests that the

outside directors in the board will help to align the interests of owners and managers.

Looking from the perspective that firm is the nexus of contracts (Jensen and

Meckling (1976) the optimal contracting between agents and principals should reduce

the problem of information asymmetry through compulsory information disclosure from

agents to principals (Healy and Palepu 2001) and motivate parties acting in self-

interest to maximise the value of the organisation through accounting remuneration

(Jensen and Murphy 1990). Therefore, contract is another monitoring mechanism,

which should protect shareholder interests and ensure that agents act in the best

interest of principals. The theory of incomplete contracts, however, points out to the

fact that all contracts cannot specify what is to be done in every possible contingency

and the contract will have to be renegotiated later which will have the cost. Thus, an

49

immediate consequence of the incomplete contracting approach is the so-called hold-

up problem (Schmitz 2001). When contracts are incomplete any contract negotiated

in advance must leave some option over the use of the assets. In this case the owner

of the firm is the party to whom the residual rights of control would be allocated and to

minimize the efficiency loss Grossman and Hart (1986) argues that this allocation

should be optimal.

Apart from the internal mechanisms the literature points out to the external

mechanisms of control that can assist in mitigating the conflict between the agent and

the principal. The examples of these mechanisms are efficient labour markets (Fama,

1980) and the market for corporate control (Jensen and Ruback 1983; Kini et. al.,

2004). The first mechanism linked with the idea that efficient managers often strive for

better business conditions and remuneration from the market. The market determines

this reward by the past performance. Therefore, managers need to prove their value

by maximising the value of the firm. The second mechanism relates to the hostile

takeovers that can occur as a result of the poor management of the firm. In this case

the acquirer may eradicate the underperforming management of the targeted firm after

acquisition and the distress of such events may stimulate the managers to perform

efficiently.

However each monitoring activity comes with agency cost, which is “…the sum

of monitoring expenditure by the principal to limit the aberrant activities of the agent,

the bonding expenditures of the agent, and the residual loss in welfare experienced

by the principal as a result of the divergence of interests between the principal and the

50

agent” (Jensen and Meckling, 1976).4 Therefore, it can be concluded that cost

efficiency is the main criterion for assessing the success under the agency theory.

However, even though agency theory is one of the most applicable theories

used to resolve corporate governance issues, it has its own limitations. First of all,

several empirical studies concluded there is a weak relationship between the incentive

payments to agents and firm performances (Jensen and Murphy, 1990; Tosi, Werner,

Katz and Gomez-Meija, 2000) Frydman and Jenter (2010), based on a review of US

executive compensation data covering the period 1936 to 2005, did not find any

evidence to support optimal contracting. Another limitation observed by Johanson and

Ostergen (2010) is that even though agency theory provides a valuable insight into

corporate governance, it applies primarily to countries in the Anglo-Saxon model.

Spanos (2005) also noticed that the agency problem depends on the ownership

characteristics of each country. In countries where ownership structures are

dispersed, if the investors disagree with the management or are disappointed with the

performance of the company, they use the exit options, which will be signalled through

a reduction in share prices. In contrast, countries with concentrated ownership

structures and large dominant shareholders, tend to control (or collude with) the

managers and expropriate minority shareholders in order to gain private control

benefits.

Furthermore, a number of authors have also suggested that agency model is

too simplistic and extended the original theory in the direction of the behavioural school

of though. Pratt and Zeckhauser (1985) suggested that it is important to look at the

agent’s human capital as a function of work motivation, rather than just trying to align

4 Some examples of agency costs are: the costs of recruitment, creation of additional management layers, moral

hazard, stealing, and adverse selection. (Shapiro 2005).

51

agent-principal interests. Wiseman and Gomez-Mejia (1998) expanded the

boundaries of the risk assumption and emphasised that agents can be loss averse.

That means that they will “…prefer to avoid losses altogether over options that limit

the size of the loss”, therefore assuming that agents are unwilling to take more risk on

some occasions. Another issue raised by behavioural theorists was that monetary

compensation is not the only factor that motivates agents to perform at their full

potential (Shafir, Diamond & Tversky, 1997); it also depends on the intangible factors

of compensation. Fehr and Schmidt (1999) call this phenomenon “inequity aversion”.

In such models, the agent’s equity benchmark is subjectively determined according to

market norms and personal referents. One more change to the original agency model

is managers’ time preference. Agents discount future compensation according to a

hyperbolic discount factor so that the implied discount rate varies over time and is not

constant (Frederick, Loewenstein & O'Donoghue, 2002; Graves & Ringuest, 2012).

Pepper and Gore (2012) merged those extensions together and were able to derive a

theoretical framework of behavioural agency theory, which focused on agents’

behaviour and factors that influence agents’ interests.

52

Stewardship Theory

Donaldson & Davis (1991) suggest an alternative theory to agency model in

which managers are perceived as stewards who will act in the best interest of the

owners from inception (Fig.1.8).

Such behaviour eliminates the principal agent problem and reduces agency

costs to its minimum, for example unifying the role of CEO and the chairman of the

board of directors. Davis, Schoorman and Donaldson (1997) claim that agents are

rational and that pro-organisational behaviour will maximise their utility function,

therefore agents receive maximum utility when owners’ wealth is maximised.

According to this theory, there are situational factors (such as collectivistic culture,

involvement-oriented management system) and psychological factors (value

commitment orientation, use of personal power) that influence individuals to become

either agents or stewards (Davis, Schoorman and Donaldson, 1997). Pastoriza and

Adopted from: Pepper A. and Gore J. (2012)

Figure 1-8: Stewardship theory by Donaldson & Davis (1991)

53

Ariño, (2008) claim that the most important is a direct relationship with the principal.

Thus, a decision on whether to become an agent or a steward (for both principal and

manager) can be represented as an assurance game (Davis, Schoorman and

Donaldson, 1997), the result of which can be maximised if the party will select similar

behaviour options. Pastoriza and Ariño, (2008) suggesting that stewardship theory and

agency model should be seen as complementary frameworks to increase the

explanatory power of both models (figure. 1.9).

Figure 1-9: Principal-Manager choice model

Principal Choice

Agent Steward

Manager’s Choice

Agent Minimize Potential cost Mutual Agency Relationship

Agent acts Opportunistically Principal is Angry / betrayed

Steward

Principal acts opportunistically Manager is frustrated/ betrayed

Maximize potential performance Mutual stewardship relationship

Adopted from: Davis, Schoorman and Donaldson (1997)

Based on the empirical evidence from the academic literature, stewardship

theory studies concentrate on the board composition of family owned firms (Chrisman

et.al., 2007; Eddleston & Kellermann, 2007), and non-for profit organisations (Van

Slyke, 2007; Donaldson & Davis, 1991; Muth & Donaldson, 1998; Corbetta & Salvato,

2004). In these firms managers naturally motivated to work for owners or for

organizations to accomplish the tasks and responsibilities with which they have been

trusted.

54

Stakeholder Theory

While the two theories previously discussed concentrated only on the

relationship between the principal and the agent, the stakeholder theory suggests that

the firm has responsibilities to a larger group of stakeholders. Developed by Freeman

(1984), this model suggests that modern companies exist within the society and

therefore should have corporate social responsibilities, consequently shifting the

traditional approach from shareholder’s wealth maximising firm towards perusing the

multiple objectives of different stakeholders (Ayuso & Argandoña, 2007). Stakeholders

are defined as “Any group or individual who can affect or is affected by the

achievement of the organization’s objectives” (Abdullah & Valentine, 2009). As the

model takes into account the interests of different stakeholders, Freeman and Evan

(1990) suggest this should be reflected in the board of directors. In other words, boards

should include representatives of different stakeholders who have a corporate interest

in the firm. Those stakeholders should make decisions in the interest of all stakeholder

groups and no set of interests is assumed to dominate (Donaldson & Preston 1995).

However, different stakeholders can pursue different interests, thus it is argued

in the academic literature that it is important to differentiate stakeholder types.

Rodriguez et al., (2002) proposed three classification categories: consubstantial

(Shareholders/Investors, Employees, and Strategic partners), contractual (sub-

contractors, suppliers, financial institutions, customers) and contextual (local

communities, public administrations, societies, and knowledge and opinion makers).

According to the authors, all three groups are contributing towards firm value creation

and defending their interests will lead to a sustainable and dynamic firm development

process.

55

Jensen (2001) critiques the “Stakeholder theory” for assuming a single-valued

objective. He believes the inherent conflict between the doctrine of shareholder value

maximisation and the objectives of stakeholder theory can be resolved by mixing

together “enlightened” versions of these two philosophies. Jensen defines the

“enlightened” stakeholder theory simply as stakeholder theory with the specification

that maximising the firm’s total long-term market value is the right objective function.

However, in the short-term other key issues such as flow of information from senior

management to lower ranks, interpersonal relations, working environment, etc., are all

critical issues that should be considered.

The empirical evidence of the stakeholder model focused on the relationship

between stakeholder management and firm’s performance. Most of the empirical

papers on that topic, were able to establish the positive relationship (Waddock &

Graves, 1997; Ogden & Watson, 1999; Ruf, Muralidhar, Brown, Janney, & Paul,

2001; Moore, 2001; Hillman & Keim, 2001; Godfrey, 2005; Berrone, Surroca, &

Tribo, 2007). To measure the stakeholder management system the literature proposed

Company index, which includes (a) community relations, (b) workplace diversity, (c)

labor relations, (d) environmental impact, and (e) product safety (e.g., Berman et al.,

1999; Hillman & Keim, 2001; Waddock & Graves, 1997). However, the main criticism

of such approach was related to the assumption that all five indicators are equally valid

parameters of stakeholder management.

56

Resource Dependency Theory (RDT)

Resource dependency theory is based on a cyclical process through which all

companies should pass. In order to stay in the market and produce goods or services

all companies require resources. Those are obtained from other companies who

possess the required resources, thus leading to interdependence. In turn,

interdependence will lead to uncertainty and, in order to decrease this, companies will

try to establish environmental linkages between firms and pool resources together. In

this perspective, directors serve to connect the firm with the resources needed to

survive (Pfeffer, 1978). Therefore, in the context of resource dependency theory, the

board of directors is seen as a crucial mechanism, which provides access to resources

needed and reduces uncertainty.

Directors can be classified into four categories, insiders, business experts,

support specialists and community influential actors (Abdullah & Valentine, 2009).

First, the insiders are current and former executives of the firm and they provide

expertise in specific areas of the firm itself, such as finance and law, as well as general

strategy and direction. Second, the business experts are current, former senior

executives and directors of other large for-profit firms and they provide expertise on

business strategy, decision-making and problem solving. Third, the support specialists

are the lawyers, bankers, insurance company representatives and public relations

experts and these specialists provide support in their individual specialised field.

Finally, the community influential actors are the political leaders and leaders of social

or community organisations. All four types of directors may bring resources such as

information, skills, key constituents (suppliers, buyers, public policy decision makers,

social groups) and legitimacy that will reduce uncertainty (Gales & Kesner, 1994). For

example, outside directors who are partners in a law firm can provide legal advice,

57

either in board meetings or in private communications with the firm executives that

may otherwise be more costly for the firm to secure. Hence, such environmental

linkages or network governance could reduce transaction costs associated with

environmental interdependency (Williamson 1985).

Empirical research focuses primarily on the board composition and size. For

example, Pfeffer (1972) finds the correlation between the board size and firm’s

environmental needs. He determines “that board size and composition are not random

or independent factors, but are, rather, rational organizational responses to the

conditions of the external environment” (Pfeffer, 1972). Pearce and Zahra (1992)

discovered that board size are positively associated with future performance of the

firm. Kaplan and Minton (1994) found an empirical relationship between corporate,

financial directors and the stock performance of a company. Finally, Daily (1995)

identified that the proportion of outside directors was positively associated with

successful bankruptcy reorganisation.

A good deal of research also establishes the need to change board composition

as the environment of the firm changes (Boeker & Goodstein, 1991; Lang & Lockhart,

1990). For example, Peng (2004) explore the relationship between the resource-rich

and resource-poor outside directors. In the context of China’s changing institutional

environment, he determined that the positive relationship between the number of

resource-rich outside directors and firm’s performance. Peng (2004) suggests that if

the board composition is not changed to meet new environmental demands,

performance suffers.

Another stream of resource dependency theory research aligns the board

composition with the stages of a firm’s life cycle in which director resources are most

valuable. This idea was originally proposed by Zahra and Pearce (1989). Authors

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argue that firm life cycle stage may influence the importance of the resource

dependence role of boards. Contributing to this literature Lynall, Golden, and Hillman

(2003) and Gabrielsson (2007) propose that this is more applicable to the early stages

of the company’s life cycle. The study by Daily and Dalton (1993) support this

empirically, finding a significant relationship between several board characteristics (for

example: board size and composition) and performance in small and medium

corporations.

Corporate governance lifecycle perspective

Building on the work of Zahra and Pearce (1989), Filatotchev et. al. (2006)

proposed the idea that corporate governance parameters may be linked to strategic

thresholds in the firm's life‐cycle, dividing the life cycle of the firm into 4 stages:

founder/IPO threshold; IPO/maturity threshold; maturity and decline, “re-invention”.

At the founder/IPO threshold stage the most important role of the corporate

governance mechanism (board of directors) would be to bring together the resources

and knowledge. In the early stages of firm’s development this will help to increase the

strategic flexibility and ensure the long term survival of the company. Certo et al.

(2001) points out to the fact that newly established firms with rapid expansion do not

suffer from the agency problem at this stage and therefore do not require large

independent boards. The author claims that this type of the mechanisms is more

relevant to the later stage of firm’s life cycle (mature firms). Finkle (1998) also

contributes to that fact pointing out that at this stage it is more important to look at the

knowledge and experience of the board member who can contribute to the firm's

competitive advantage

https://www.emerald.com/insight/content/doi/10.1108/17439130610705481/full/html#b23

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When the firm moves towards the maturity stage, as suggested by the agency

theory (Fama and Jensen, 1983), the firm may experience the separation of ownership

and control. Changes in firm’s ownership structure will change the corporate

governance mechanisms towards the monitoring and control functions. At this stage,

the value‐protecting role of corporate governance mechanisms becomes

predominantly important, while the resource role of corporate governance

mechanisms depreciate

The role of monitoring corporate governance mechanisms becomes more

important when the firm is entering the maturity stage. According to the free cash flow

(FCF) hypothesis (Jensen 1993) agency problem increase as the organisation

matures and start to generate significant rents, which in turn will result in the

managerial opportunisms and encourage self‐serving managerial behaviour (Gibbs,

1993). Furthermore, greater free cash flow diminishes the significance of the resource

and strategy roles of corporate governance mechanisms.

In the 4th stage of firm’s life cycle, when the declining firm is attempting to

reinvent itself and overcome the effects of decline, the firm may once again require

strong strategic management decisions and the linkage to the external resources. In

this case the firm can once again restructure its corporate board which can create new

value creation opportunities. This shift is appropriate, as the FCF literature points out

to the fact that the agency problem diminishes when the company is going through

decline stage.

It can be concluded that following this framework the top management team

and outside investors have to find the right balance between the corporate governance

mechanisms at each stage of firm’s life cycle. If the balance can be reached and




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maintained the firm would benefit from the competitive advantages, which in turn will

assist firm’s development into the next stages (Filatotchev et. al. (2006)

Some empirical evidence support corporate governance life cycle perspective,

concluding that mature firms tend to practice better overall corporate governance and

firms tend to be most transparent and accountable when they are young

(O'Connor and Byrne, 2015). The evidence from the emerging markets, however,

suggest that the corporate governance mechanisms of the firms, primarily link with the

strategic decisions (such as listing on the exchange) rather than the corporate life-

cycle. Esqueda and O’Connor (2020) suggest that the improvements in corporate

governance mechanisms depend on closeness of the firm to stricter regulations rather

than the life cycle of the firm.

Institutional Theory

Institutional theory highlights that rules and norms form an important element

of national institutional systems (La Porta et al., 2000). This was extended further by

institutional theory scholars who studied how the law on corporate governance is

shaping the corporate governance practices of the firms. In particular, how the firm’s

corporate governance standards vary in relation to the country’s regulatory framework.

At the same time the literature looked into the influence of the voluntary codes such

as the UK corporate governance code, OCED principal of corporate conduct. (Aguilera

& Cuervo-Cazura, 2004; Brammer, Jackson, & Matten, 2012). The authors were able

to identify the profound differences across countries that remain in the rights and

responsibilities of the principals. For example, Japanese company law provide a wider

decision-making power to the shareholders of the Japanese firms in comparison to the

US corporate law (Shishido, 2007).

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The main focus of the institutional theory discussion, however, is how the

institutional framework can eliminate the agency problem that can arise between the

major shareholder and the minority group in the firms with concentrated ownership

structure (Fama & Jensen, 1983). Scholars highlighted the effectiveness of using

courts as an enforcement mechanism in corporate governance. However, the

effectiveness of this mechanism depends on the extent to which the legal system in a

particular country is prepared to consider cases of failed business decisions,

misguided strategy, and other managerial mistakes (Nakajima, 1996, Ramseyer &

Nakazato, 1999, on Japan; Baums, 1993, on Germany; Law Commission 1999 and

Nakajima, 1999, on English and other common law jurisdictions in Southern and East

Asia; and Palmiter, 2006, on the US).

The empirical evidence primarily focused on the family owned firms (with high

ownership concentration) from the emerging and less developed economies

(Claessens, Djankov, & Lang, 2000) and provided the mixed evidence on the

effectiveness of the concentrated ownership. Some studies pointed out to the fact that

family owners may have superior monitoring abilities compared to diffused

shareholders (Bruton et al., 2003; Anderson & Reeb, 2004). While other scholars

emphasise that family ownership creates a principal-principal conflict creating a

negative effect no firm’s performance (Young et al., 2008; Jiang & Peng, 2011). In this

case, the institutional theory resolves these contradictory arguments by suggesting

that the presence of absence of various types of national institutions and their

enforcement will shape the corporate governance of the firm, regardless of ownership

concentration (Zhou and Peng,2010; Filatotchev et al., 2011)

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Discussion of Theories.

Based on the literature review, it is apparent the internationalisation process

has been studied by scholars from different perspectives (Economical, Behavioural,

and Entrepreneurial, Organisational etc.) Some concentrated primarily on the large

companies (Uppsala and TCT) while others determined the internationalisation

process of the small and medium enterprises (Innovation models, INVs, Network

Approach). However, each model has a good explanatory power only within the

assumptions of that model; therefore, each theory only suits certain firm typologies

that follow particular internationalisation process (Uppsala stage model vis-à-vis INV).

It can also be concluded that the research on internationalisation process has

some room for improvement. First of all, all the theories distinguish some stages /

gradation of the internationalisation process. Generally, it can be represented on a

continuum with the firm that has a low level of international activity on one side and

the large global firms on the other. However, all models (apart from INV) were criticised

by scholars for the lack of explanation on how a domestic firm can begin its

internationalisation process. For example, the Upssala model suggests that, at stage

one, the firm does not have any international activity and, at the second stage, it starts

exporting through independent representation. Nonetheless, the theoretical link on

how the firm can find such independent representative is missing.

Another area, which was criticised a lot within all models, is that there is no time

frame for the internationalisation process. For example, when internationalisation

starts there is a certain time period during which the company will shift from one stage

of internationalisation (within one model) into another. Taking into account the

exponential growth of technological progress it seems reasonable to include the speed

of the internationalisation process into the models of internationalisation.

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Academic literature on corporate governance primarily focuses on the agency

theory as the main explanatory model of principal-agent conflict. Based on the

available theories they can be generally divided into two types. First are those where

the conflicts arise within the firm (Agency, Stewardship, and Stakeholder) and the

second type is where the conflict is between society and the company (Social contract,

legitimacy theory). The exception is Resource dependency theory that is looking at the

role of the board from the economic perspective.

All theories of corporate governance that were covered in the literature review

claim that the dominant mechanism of corporate governance is the board of directors.

However, the theoretical reasoning of the role and structure of the board difference

across the models. For example, the main role of the board of directors in the agency

theory is to monitor agents; nonetheless, the resource dependency model suggests

the role of directors is to link resources between companies.

As we concluded, most models concentrate their attention on the board of

directors as the main mechanism of corporate governance. However, it is not the only

one that could potentially reduce the problem between principal and agent. Empirical

literature also was able to determine that transparency and disclosure of information

and minority shareholder protection are vital mechanisms for corporate governance.

Therefore, there is a potential theoretical improvement of the models if they would

include more major mechanisms of corporate governance.

As can be seen from section above the process of internationalisation of any

firm will lead to the growth of the company in terms of total revenue, value of total

assets, number of employees, geographical presence etc. When the firm expands

outside its country of origin it will lead to higher complexity and increased information

asymmetry (Sanders G., and Carpenter, 1998; Michael and Pearce 2004; Lee et.al.

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2008), making it more difficult and costly to monitor top management teams (TMT)

performance (Zajac and Westphal, 1994), leading to a typical agency problem.

Therefore, the company would require some corporate governance mechanisms in

order to reduce that information asymmetry. At the same time, it is plausible that before

entering international market (starting internationalisation process), the firm can hire

an independent foreign director onto the board in order to use his knowledge, network

connections and skills to enter the new foreign market. Thus, the corporate

governance mechanism such as board of directors can help to start the

internationalisation process. Therefore, it is possible to conclude that the correlation

between corporate governance and internationalisation should exist. The following

section of the literature review will examine the empirical evidence of such correlation

from different perspectives.

65

Relationship between corporate governance and internationalisation

Board of Directors and firm’s internationalisation

As seen in the previous section it is possible to conclude that the board of

directors is a primarily used monitoring mechanism to decrease agency costs and

uncertainty. Based on this, there should be a correlation between firm Board of

Directors and the level of internationalisation (Luo 2005).

Most empirical studies have focused on the effect that board of directors

structure and composition (independent variable) will have on the internationalisation

(dependent variable). Oxelheim et al. (2013) studied the role of international directors

on the board for 346 non-financial Nordic firms, concluding a positive effect in the

increase of international directors on the board and the percentage of international

activity, measured as foreign sales ratio. Another study by Rivas (2012), concentrated

on the tenure, background and age diversity of the board members. Based on a

sample of 108 USA and European firms, he determined a positive relationship of board

members’ tenure and background diversity with the level of internationalisation.

Contrary to his original hypothesis, age variable was negatively correlated to

internationalisation, suggesting that younger board age has a positive relationship with


Conversely, several papers looked into the reverse relationship between

internationalisation (as in independent variable) and the board of directors structure

(as a dependent variable), however obtained some conflicting results. Based on the

sample of 258 US companies, Sanders and Carpenter (1998) were able to determine

a positive relationship between the level of internationalisation and board size. The

authors were able to confirm a negative link between board duality and level of firm’s

internationalisation. On the other hand, Markarian and Parbonetti (2007) looked at a

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random sample of 150 companies from 6 industries (utilities, banks, drugs, software,

computers, and hi-tech equipment manufacturers) and found a negative relationship

of firm’s internal and external complexity to the composition of the board5. Internal

complexity was represented by the amount of R&D expenditure and invested capital,

while external expenditure was characterised by the geographical diversity of the

business and a ratio of foreign sales to total sales. Results show that firms with high

level of external complexity substitute outside directors (like retired politicians, or

affiliated to the armed forces, of those who belong to the local community,) for insiders

(those who currently or previously worked in the company).

A much smaller number of studies, concentrated on the developing countries.

Chen (2014) based his research on 150 listed Taiwanese electronic firms, looked at

the human capital factors of international directors of the board (independent variable)

and determined a positive relationship between director’s international

experiences/educational level and the level of firm internationalisation. Lu, Xu, and Liu

(2009) studied a link between the number of outside directors (independent variable)

and the level of export of Chinese listed firms for the period 2002-2005. Using panel

data, which consisted of 2,637 firm-year observations, they determined a positive

relationship between the number of outside directors and a decision to become an

export company. Alpay et al. (2005) compared the board structure (independent

variable) and performance of multinational subsidiaries from USA and Europe to the

board of directors of local Turkish firms. The findings supported their original

hypothesis: the BoD of multinational subsidiary firms in Turkey monitor managers’

5 Board composition was classified into four categories: business experts, support specialists, community

influentials, and insiders. The ratio of each category to the total number of directors on the board was taken as a

dependent variable.

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performance more accurately, have larger board sizes and a higher percentage of

outside directors in comparison with home companies.

Transparency and Disclosure (T&D) and firm internationalisation

Even though the majority of studies concentrated their attention on the board of

directors as a corporate governance control mechanism to diminish agency problem,

there are other potential setbacks that may emerge from the information asymmetry

of MNEs such as adverse selection and moral hazard (Arnold & Lange 2004). The first

problem is that owners cannot conclude if managers completed the work for which

they are paid. The second problem is that owners cannot check if the work produced

by managers is accomplished to their abilities. According to academic literature, the

solution to these drawbacks is optimal contracting between agents and principals

(Healy and Palepu 2001). Such contracts make it compulsory for the managers to

disclosure information, which is required by owners and investors, based on which

they are able to control and monitor top management teams as well as to assess

manager’s performance (Bushman and Smith 2001). Based on financial and non-

financial information, owners stimulate manager’s incentive to maximise shareholder

value through managerial compensation plans (Jensen & Murphy 1990).

Research in this area was trying to determine how this governance tool is

related to internationalisation. Sanders and Carpenter (1998) were able to determine

a positive relationship between the level of internationalisation (independent variable)

and CEO compensation in the listed US companies. Oxelheim and Randøy (2004),

based on the sample of listed Norwegian and Sweden firms, also identified a positive

relationship between all the elements of internationalisation (international-listing,

foreign sales and export) as an independent variable and CEO compensation (as a

dependent). However, the CEO compensation plan is just one of many control

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mechanisms, which uses accounting information. Bushman and Smith (2001)

gathered information from different sources and looked at the accounting information

from the different angles. The “Examples include takeovers (Palepu, 1986), proxy

contests (DeAngelo, 1988), boards of directors (Dechow et al., 1996; Beasley, 1996),

shareholder litigation (Kellogg, 1984; Francis et al., 1994; Skinner, 1994), debt

contracts (Smith and Warner, 1979; Leftwich, 1981; Press and Weintrop, 1990;

Sweeney, 1994), and the audit function (Feltham et al., 1991; DeFond and

Subramanyam, 1998).”6

However, it is not just the amount of disclosed information that matters; it is also

the format and type of accounting information in which it is released (Hirshleifer and

Hong 2003). Two most common formats for international use are the American GAAP

(acronym defined as Generally Accepted Accounting Principles) and the International

Financial Reporting Standards (IFRS). A large number of papers compared the pros

and cons of both standards, however, the results of these studies are mixed. While

some scholars were able to represent a comparative advantage of a certain format

(Harris & Muller 1999; Daske & Gebhardt 2006), others did not find any difference in

the outcome of represented data (Leuz 2003). However, one of the things that

academic literature agrees on is that by presenting the very same financial and

accounting data in different formats (for example Local GAAP and IFRS), multinational

companies increase their disclosure and transparency in comparison to local firms,

thus decreasing information asymmetry. There are several examples to support this

statement. A study by Ding, Jeanjean and Stolowy (2008), based on the cross-

sectional data of 199 French listed firms in the year 2001, supported this argument

6 * These authors are included in the reference section of this study

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and determined the impact of internationalisation (independent variable) on the

presentation format of the financial information (dependent variable). Companies with

higher levels of internationalisation produced financial reports using both the home

(French) template and IFRS/GAAP format. Khanna, Palepu and Srinivasan (2003)

demonstrated a positive relationship between the level of companies’ Transparency

and Disclosure (independent variable) rating (produced by S&P) and their interaction

with US labour/product/capital markets (dependent variable) by looking at a sample of

794 firms from developed and developing countries. Chiang and Ko (2009) took a

sample of Taiwanese firms between the years 2000-2004, to analyse the relationship

between the internationalisation and the level of R&D. Looking from the agency theory

perspective, they were able to confirm that increasing information transparency

(independent variable) will reduce equity agency cost. Lee et al. (2008), based on a

sample of 9,500 firms, both internationalised and domestic, were able to conclude that

international firms will also present their reports quicker than domestic firms.

Shareholder rights and firm’s internationalisation

Another Important component of corporate governance is shareholder rights.

In particular, potential investors are interested in how they will be protected if they will

acquire stock in the company. If, at the firm level, strong minority shareholder

protection rules and regulations exist, then the investor will prefer to buy shares of that

company, therefore increasing the dispersion of the ownership inside the firm.

According to La Porta et al. (1998), there exist a negative relationship between the

level of shareholder protection and ownership concentration. A country with a stronger

legal system will be more attractive to small and medium investors, thus making firms’

ownership more dispersed. Dispersed ownership might enlarge the gap between

owners and managers or, in other words, the interest of minority shareholders will

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result in being different to other larger owners, causing an increase in agency costs.

On the other hand, concentrated ownership will work as a control mechanism. Large

shareholders (e.g. financial institutions) will have power to control and monitor

managers better, thus to maximise shareholder value; however, concentrated

ownership will also create a free rider problem (Grossman and Hart 1980). Looking

from the angle of minority shareholders, they will try to bring more outside directors to

the board in order to support their own interests. (Kim et.al. 2007) That discussion

explains why most of the research in this area is dedicated either to the relationship

between shareholder rights and Board Composition (Klapper and Love 2004;

Krishnamurti et.al. 2006; Kim et.al. 2007; Doidge et.al. 2007) or to ownership

concentration (La Porta et.al.1998; Claessens et. al. 2002).

The research output on the relationship between internationalisation and

shareholders’ rights is very scarce. Jiraporn et al. (2006), using the same methodology

as Gompers et al. (2003), constructed a corporate governance index, which measures

the level of shareholders’ rights. Applying a logistic regression model on the sample

of 1862 firm-year observations (between years 1993–1998) they determined a positive

relationship between the level of shareholders’ rights (independent variable) and

diversification (global and industrial) of the company (dependent variable). Other

studies looked at the corporate governance ratings, which combined shareholders’

rights sub index with board of directors and disclosure characteristics. Even though a

positive relationship between the level of internationalisation and corporate

governance was determined, the drawbacks of those studies is that it is hard to tell

how significant the shareholders rights sub index was on its own (Filatotchev et.al.

2001, Sturgess 2011; Carvalhal 2014)

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Corporate Governance & Internationalisation in Russia

After reviewing the literature that is available on the topic of corporate

governance and firms’ internationalisation, it is also important to review the evolution

of corporate governance system in Russia. In comparison to developed economies,

the notion of corporate governance has only appeared recently in the Russian

Federation. The main cause is that during the communism era companies were state-

owned, which limited the agency problem that was driven by the separation between

the ownership and control. A turning point in the modern Russian history is the collapse

of the Soviet Union, where government owned a vast majority of companies. In early

90s, Russia initiated mass privatisation through voucher schemes (Filatotchev et al.

1995). At the same time, privatisation occurred in Central and Eastern Europe (CEE)

and other Commonwealth Independent states (CIS), although its effects varied across

regions (Estrin et al. 2009). Three waves of redistribution of property, privatisation,

expropriation of minority shareholders and hostile bankruptcies in Russia (Sprenger

2002) partially reduced the presence of state-owned companies. However, it created

concentrated ownership of unskilled and unaccountable management and general

lack of competence (Boycko et al. 1997). At the same time, widespread scandals

involving pyramid schemes in 1994-1995, and people’s losses at banks stemming

from the crisis of August 1998, were exacerbated by the Russian weak legal system.

During these riotous years, Russia started to improve its legal environment and

introduced Company Law, Security Market Law and Investor Protection Law

(Sprenger 2002), which shaped corporate governance in Russia7. The Company Law

(1996) has been mainly concentrated on the composition of the BoD. It allowed firms

7 A full list of Laws, which were introduce up to the corporate governance code in 2002 presented in Puffer S.,M.,

and McCarthy D.,J (2003) “The emergence of corporate governance in Russia”, Journal of World Business, Vol

38, pp284–298

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to set up a 2-tier board system, similar to the German Model of corporate governance,

however an implementation of 2-tier board was still optional8.

The security market Law (EBRD 1996) and Investor Protection Law (1999)

concentrated on improving shareholders’ rights, particularly voting rules, and

introduced stricter rules on the amount of disclosed information presented to

shareholders. At the same time, an accounting reform started in 1998, the main aim

of which was to move from the Russian GAAP format to IFRS9. Despite the

introduction of these legislations their efficiency in improving corporate governance

was extremely low, due to the incompetence of the enforcement mechanisms

(Sprenger 2002) and the level of corruption in the regulatory bodies, leaving Russian

companies with high ownership concentration and weak protection of minority

shareholders’ property rights (Lazareva et.al. 2007)

An important point in the development of Russian corporate governance was

an introduction of the CG code in 2002. This was a non-compulsory set of guidelines

for companies, which were based on the standards established by the OECD

(McCarthy and Puffer 2002). Practices from developed countries also had a large

influence on Russian code of CG. For example, the first two Russian companies that

were listed on NYSE were VimpelCom (Telecommunication firm) and Yukos Oil

(Energy Firm). Since the NYSE had a tough rule on Transparency and Disclosure and

8 The comparison between the two-tier board and one-tier board system is widely discussed in the literature (Tüngler, Grit T, 2000; Pillay 2013; Millet-Reyes et al., 2010; Van Camp et al. 2020. The “Anglo-American” model of a one-tier board structure is largely a reflection of the neoliberal norms of shareholder primacy and free-market capitalism. The German two-tier model is in many ways a reflection of stakeholder primacy, codetermination, and managerialism. In the two-tier board structure, a separate board of directors supervise the executive team and provides a recommendation to the executive team. In the one-tier board structure, the executive and non-executive or supervisors are all members of the same board, i.e. they collectively form one company body. The core differences between the boards lie in the segregation of roles, speed of the decision making process, role of the chairman and CEO. 9 White paper on corporate governance in Russia, available online at: http://www.oecd.org/corporate/ca/corporategovernanceprinciples/2789982.pdf

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minority shareholders’ rights, VimpelCom and Yukos were obliged to comply. That

factor significantly influenced their corporate governance and provided an example for

other large Russian companies, which started to adopt American GAAP voluntarily.

Similarly, Mobile Telesystem (MTS) firstly joined NYSE and London Exchange and

was only then listed on the Moscow Stock Exchange (Judge and Naumova 2004). As

mentioned earlier the 2-tier boar system, which was adopted in Russia, takes its

origins from Germany. McCarthy and Puffer (2002) also draw a parallel with French

law, which obliges companies to announce the remuneration of Top Management

Teams (TMTs), including the parent company and its subsidiaries. However, many

Russians companies still prefer not to provide this information in their reports.

During the early privatisation period in the 90s, the federal government has

locked in substantial shares in certain industries, such as gas, electric energy, oil, and

telecommunications. As a next step, these shares were transferred to specially

created state-controlled holdings (Chernykh 2008). The examples of such firms are

Gazprom and Rosneft (energy Sector), Sberbank (Banking Sector), Aeroflot

(Transportation). In some occasions, to control the strategically important firms, the

state issued a golden share, which grant large control rights, including veto power on

certain important issues, without any cash flow rights (Frye & Iwasaki, 2011). At the

same time, due to the pyramidal structure of ownership, a vast number of companies

are also controlled by the government (Lazareva et.al. 2007, Okhmatovskiy et. al.,

2018).

Looking into the state-owned enterprises in Russia it is also important to look

at the means of control that the Russian state has beyond the ownership (Grosman et

al., 2016). One of the technics of the Russian state to maintain the control over the

firm without direct ownership is the appointment of Russian state active officials as top

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executives of companies. At the same time there are cases when the government

appoints former government officials as top executive which may also be counted

towards the government control, however there are no systematic studies to show how

such appointment influence the strategic decision of the firm. Another instrument that

is used by the state to maintain the control of the firm is though the provision of

government resources (subsidy, grants, refinancing) in the critical conditions. This

provided state agencies with significant leverage over private companies. Also, the

weak regulatory framework can be seen as one of this instruments, because in

practice this allows the state to create favourable conditions by changing and adjusting

regulatory framework.

Another large group of owners which emerged during the privatisation stage is

the so-called group of “Russian oligarchs” who control around 40% of Russian industry

(Guriev and Rachinsky 2004; Okhmatovskiy 2010; Okhmatovskiy and David, 2012).

Melkumov (2009) Also points out to the relationships between the state and some

oligarchs. The unofficial approval from the state allowed these large tycoons to grow

and benefit from these relationships and in return they were inclined to cooperate with

the state (Adachi, 2013). These oligarchic–state network structures filled the

institutional vacuum left by the collapsed communist economy, ensuring access to the

requisite resources for investments and improving assets’ productivity (Grosman &

Leiponen, 2018).

In summary, the Russian corporate governance model has a high ownership

concentration mostly in the hands of large stakeholders (state or oligarchs) and a weak

legal system to protect minority shareholders, which leads to high private benefit of

control, poor accounting practices with a lack of disclosed accounting information and

no strict compulsory Laws for firms’ corporate governance structure.

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Research suggests that limited number of articles were dedicated to this subject

in previous years. The first papers, presented in the late 1990s, described a general

situation on privatisation and ownership structure, trying to predict the future trajectory

of the corporate governance regime and comparing it with other post-soviet countries

(Filatotchev, Wright and Buck 1995; Goldman 1997; Earle 1998). Based on these

papers, a number of scholars tried to determine the impact of privatisation (ownership

structure) on firms’ performance and analyse how corporate governance influence

firms’ value.

A research on firms’ performance and corporate governance in Russia was

started by Black (2001). From a sample of 21 companies, he determined a positive

relationship between two variables: value ratio (as dependant variable) and

governance ranking provided by an Investment Bank (as independent Variable). Later

Black, Love, Rachinsky (2006) contributed to Black's paper by producing a time-series

study in which they increased the sample size to 80 companies and corporate

governance indexes to six categories, all of which were produced by different rating

agencies and different companies. Kuznecov and Pal (2011) continued this research

and concentrated on the Transparency and Disclosure index (as an independent

variable) produced by Standard and Poor’s (S&P) and used Tobin’s Q as a

performance variable (dependent variable). The most recent research on the structure

of corporate governance board and its effects on firm performance was produced by

Muravyev (2017). This research concentrated on the board of directors of Russian

publicly traded companies and indicated that several characteristics of corporate

boards, such as the proportion of foreign directors and directors’ appointments in other

firms, have a positive effect on company’s performance.

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Research, which focused on ownership concentration, was started by

Filatotchev et al. (2001). In their study, they determined a negative relationship

between large-block shareholders and a firm’s performance and investment. Guriev

and Rachinsky (2004) focused on a specific group of owners – oligarchs. Their main

hypothesis was to check if under the control of big tycoons’ firms would perform better.

However, they could not find any significant differences in regards to firms’

performance. Only employees’ wages in companies owned by oligarchs were higher

in comparison with other firms. Sprenger (2002) produced a survey study in which he

determined an increase in the number of outsiders’ shares between 1995 and 2000.

His survey also concentrated on the minority shareholders’ rights and legal system,

emphasising the importance of strong legal system for corporate governance and

highlighting the incompetence of law enforcement mechanisms. Kuznetsov et al.

(2012) also drew attention to the weak institutional environment and confirmed that

control structures with multiple large shareholders’ increase efficiency.

The research on the Internationalisation of Russian companies is also scarce.

Kalotay (2010) developed a general model for Russian level of internationalisation. He

took outward foreign direct investment (OFDI) as the internationalisation variable and

analysed its relationship with Russian GDP, Policy changes, geographical position,

culture and connection with CIS states etc. While this study concentrated on the macro

level, others have presented the results on the firm level. Podmetina (2011) based on

the sample of 150 R&D oriented Russian companies determined a positive

relationship between internationalisation (independent variable) and innovation

(dependent). Vaatanen et al. (2009) and Sherbakov (2012) were able to show a

positive relation between internationalisation (measured as a ratio of total sales to

foreign sale and total assets to foreign assets) to performance (Tobins’s Q). In

77

contrast, the most recent empirical evidence from the Russian market (Grosman et

al., 2017) shows how the proper translation of the foreign practices of corporate

governance from the western countries might mitigate blockholder appropriation.

Most of the studies used a similar regression analysis and some were able to

determine a positive link between firms’ performance and good CG practices.

However, the common drawback of these studies lies in the sample size and variables

selection due to the limitation in the available data. This is why this literature review

leaves room for the urgent need for future research in this area.

Conclusion

Looking through the extensive literature available on the topics of

internationalisation and corporate governance it is clear that the literature on these

topics was primarily developing as the two separate streams of literature. Only some

academic scholars concentrated on the relationship between corporate governance

and internationalisation. In these academic articles the authors were primarily looking

into the fact that the strong corporate governance mechanisms will determine the

success of internationalisation process. The stream of the literature that concentrates

on the internationalities process of the firm focuses of the firm entry modes into the

foreign markets (Ripollés & Blesa 2017) operational strategies (Bell, Crick & Young

2004; Crick & Spence 2005; Martin & Javalgi 2016) and growth and performance

beyond the inception stage (Ghannda & Ljungquist 2005; Li et al., 2017). While the

corporate governance stream of the literature primarily looked into the structure of the

board of directors (Rivas 2012, Oxelheim et. al. 2013), the amount of transparency

and disclosure (Oxelheim and Randøy 2004), and the shareholder protection

78

mechanisms (Jiraporn et.al. 2006) that would assist with the successful

internationalisation process.

However, as mentioned earlier in this chapter, the internationalisation process

of international mew ventures may leapfrog the stages of traditional internationalist

approach and as result will fail to address in full spectrum the important strategic

decisions that SME firms are faced with in the process of rapid internationalisation.

Furthermore, if such firm is coming from the country of origin with weak regulatory

framework of corporate governance standards or low enforcement level of these

standards, this will influence the number of corporate governance mechanism that the

firm apply from the inception. However, the literature put aside the importance of

interaction between the rapid internationalisation and the corporate governance

standards of the firm from the weak corporate governance environment. The rapid

expansion could happen for the small and medium sized firms without the separation

of ownership and control, and will conceal the problem of unchanged corporate

structure that could play a vital role in the success of firms’ internationalisation. The

next chapter will focus on the example of the firm from the Russian market that

experienced such rapid internationalisation and will analyse what was the main

reasons that changed their development path from failure to success.

79

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Chapter 2 Kaspersky Lab case study

The theory of International New Ventures (INV) (McDougal & Oviatt 1994) has

received a lot of attention from international entrepreneurship scholars (Shrader et al.,

2000; McDougall et al., 2003; Zahra 2005; Coviello 2006). On the one hand, this has

been due to the international business fast changing environment. In other words, the

rapid diffusion of ICT reduced transactions and communication costs and has made it

easier for small start-up companies to identify business opportunities in foreign

markets (McDougal & Oviatt, 1994). Another contribution factor is the rise of

entrepreneurs with international experience, through which they are able to identify

and connect resources in different markets and establish competitive advantages

(McDougal & Oviatt, 1994). Consequently, if the entrepreneur is able to connect

resources from different markets, that has allowed INVs not to own their resources for

internationalisation (Zahra 2005). The original definition proposed by McDougal &

Oviatt (1994) is that an INV is “a business organization that, from inception, seeks to

derive significant competitive advantage from the use of resources and the sale of

output in multiple countries”

Within the intellectual framework developed by McDougal & Oviatt (1994), who

looked in details at the characteristics of INV, the main research focus was centred on

the analysis of the small and medium-sized enterprises (SMEs) in knowledge-

intensive sectors (Ojala 2009), in particular software development companies. These

are enterprises that did not require large capital from the inception and therefore had

a significant level of intangible assets in their balance sheet. A large number of other

academic papers have also been focused on examining the entry modes into foreign

markets (Ripollés & Blesa 2017), operational strategies (Bell, Crick & Young 2004;

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Crick & Spence 2005; Martin & Javalgi 2016), survival challenges (Coeurderoy et al.,

2012) and growth and performance beyond the inception stage (Ghannda & Ljungquist

2005; Li et al., 2017).

While the dominant part of the literature was looking at the success case studies,

the parallel channel of INV research focused on unsuccessful cases, where the

international expansion or further survival on the foreign markets was characterised

by INV failures, which can result from three main factors. These include managerial

incompetence, which has led to falling profits, liquidity difficulties and eventually to

bankruptcy (Hayward et al., 2006; Ooghe & De Prijcker, 2008), entrepreneurial

strategic failures (Van Gelder et al 2007) and external factors beyond the control of

the entrepreneur (Carter & Wilton 2006).

The recent paper by Nummela et al (2016) concentrated on these three main

causes of failure in INVs and presented a holistic framework for analysing failure in

future studies, while also identifying critical incidents as well as internal and external

factors that have caused the failure process. The authors’ findings summarises the

key elements of failure in rapid internationalisation, which consists of the antecedents

(managerial incompetence, strategic decisions, external triggers) process (partial or

complete withdrawal from international markets) and consequences of failure

(decreased profitability of business, restructuring of business, business closure).

Nonetheless, the model presented considers internationalisation a dynamic process,

and argues that the company that failed in its initial internationalisation may

successfully re-internationalise later, at the same confirming failure of

internationalisation can result from a single factor (e.g. management incompetence)

or the combination of antecedents (i.e.: management incompetence with incorrect

strategic decisions and external factors).

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However, the framework seems to put aside the link between the management

incompetence and strategic failures. In small and medium size firms, the owner and

manager is often the same person, which means a wrong strategic decision can be

made as a result of scarce management experience. In such owner-managed

enterprises, the decision maker underestimates the significance of a firm’s growth

during the process of internationalisation. On the one hand, when the firm expands

outside its country of origin it will lead to higher complexity and increase information

asymmetry (Sanders and Carpenter, 1998 Michael and Pearce 2004; Lee et.al. 2008),

making it more difficult and costly to monitor management performance (Zajac and

Westphal, 1994) and leading to a typical agency problem (Berle & Means 1932). On

the other hand, an unchanged corporate structure in the process of rapid

internationalisation could lead to overconfident decision making and a strategic failure

(Nummela et al., 2016). This signals the importance of the balanced corporate

structure for INVs, which should not be costly (i.e. creating a large board of directors

with international external members) for the owner, but at the same time would provide

some critical analysis of his strategic decisions and managerial practices. This chapter

will analyse the relevance of corporate governance structure for international new

ventures from emerging markets by presenting a case study of an IT software

development company (Kaspersky Lab) from the emerging market (Russia).

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Methodology

Case studies as instruments for developing and assessment of hypothesis have

provided significant insights into the management field (Penrose,1960; Chandler,

1962; Pettigrew, 1973; Burgelman, 1983; Eisenhardt, 1989; Yin, 1994; Eisenhardt and

Graebner, 2007; Siggelkow, 2007; Weick, 2007). In comparison to Eisenhardt 1991,

who puts a lot of emphasis on comparison of multiple cases, Dyer and Wilkins (1991)

emphasise that the essence of a case study analysis lies in the thorough evalusation

of one case in order to establish new relationships. This classical approach would be

applied in the qualitative analysis in this thesis. There are two primary reasons to use

such approach. First, management theory considers case study to be one of the most

valuable instrument to study the relationship between the key variables in the early

stages of the new theory. (Yin, 1994; Eisenhardt, 1989). Second, using this approach

require close interaction with the specialists in the field of management, which is

suitable for creating managerial relevant knowledge.

The main qualitative data source was provided from in-depth interviews with

the top management team in 2017. During this year two interview were conducted.

The average duration of the interviews was 1 hour and 20 minutes. The main objective

of the first interview was to collect the information on the internationalisation history

focusing on the sequence of events and dates, motivation for rapid internationalisation,

methods of internationalisation (i.e.: joint ventures, mergers and acquisitions, foreign

subsidiaries) and issues that the company faced during the internationalisation

process. The second interview focused on the corporate governance structure asking

the interviewee about the corporate governance mechanisms that were developed in

the history of the firm, in what year, what was the main reason for the implementation

of certain corporate governance mechanisms. Both interviews were unstructured

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allowing interviewees to provide detailed answers and evaluate their knowledge of the

topic.

The collected data will be analysed with the method of contextualized

explanation (Welch et al., 2011) which will examine the main reasons behind the

changes in the corporate governance structure of the firm, taking into the account

firm’s history, their operational environment, rapid internationalisation and the reasons

for aggressive international growth form the inception. In addition to the reasons given

by the top management team during the interviews, this chapter will analyse additional

external factors that influenced strategic decisions inside the firm.

For a more comprehensive qualitative analysis, the data was combined with

additional information from the media, corporate webpage, press releases, books and

academic articles related to Kaspersky Laboratory. The case study in this chapter will

focus on rapid internationalisation process and analyse in what way the adjustment of

corporate governance structure has allowed Kaspersky Lab to change its trajectory

from failure to success.

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Background

Kaspersky Lab (KL) is an IT-security firm that was established in 1997 by four

colleagues, Eugene Kaspersky, Natalia Kaspersky, Aleksey De-Monderik and Vadim

Bogdanov10 “with zero investment”11. It has grown from a small office to a large

international corporation with almost 3000 employees and 30 offices around the globe

Eugene Kaspersky graduated from Moscow’s institute of Cryptography,

Telecommunications and Computer Science and decided to start his career at the

military Scientific and Research Institute. However, as his defence sector job did not

provide him with sufficient income, parallel with job he began to search for side projects

and even tried being an IT sales representative for one of the co-operatives. However,

the experience was unsuccessful.

It was in 1989 that Eugene caught his first computer virus «Cascade», which

he was able to explore in details and create a piece of code that will combat the virus.

This incident gave birth to his new hobby. He started collecting viruses and, more

importantly, creating cures for them. This led to the creation of a reputation for

Kaspersky within the Information Technology (IT) sector and he was thus offered other

projects. One was from a software development company in Russia, which wanted to

include the anti-virus software inside their software package and asked Kaspersky to

do that. The task was successfully completed and the final result gave birth to the first

Ani-virus with Graphical User Interface (GUI), which had significant advantages in

comparison to the competitors. Another project was related to the installation of the

security packages on several computers, which were later sold to the end user. Both

the projects were well paid, and from these earning he was able to self-publish his

10 Source: Interview from http://www.forbes.ru/milliardery/257437-virus-kasperskogo-kak-biznes-kaspersky-lab-zakhvatil-200-stran-mira 11 Source: Kaspersky Lab, from Russia with Antivirus

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book. As Kaspersky mentioned in one of his interviews “…I did not earn much from

this book, however I still believe, that my decision was right. I invested in my name,

which eventually became a well-known brand”12

Eventually, the number projects increased and Eugene decided to move into

the corporate sector. He was employed by KAMI Information Technology Centre (a

Russian family owned IT firm specialising in IT security). At that time, KAMI was one

of the leaders in IT sector in Russia and anticipating computerisation of the post-Soviet

country and concentrated on providing IT security for both business and personal

users. This firm knew Kaspersky from his work at Scientific Research Institute and

decided to support his antivirus software project.

The work at KAMI provided the opportunity for Eugene to concentrate on the

creation of the product without any distractions. In 1994, the project, which was called

“AntiViral Toolkit Pro” (AVP), was almost finished. KAMI decided to send its software

for testing to Hamburg University and, after the testing, AVP was named number one,

as this software was able to detect and combat most viruses. This victory attracted

new international contracts from Italy and Switzerland where the software was

distributed by the local firms. One of the largest deals was signed with the F-Secure,

a Finnish IT security. However, the Finnish firm interest was in the use of the core

elements of the software. The success in attracting international contracts was also

possible due to the help of Natalia Kaspersky who joined KAMI in 1994 as a sales

representative. As the demand for the AVP was increasing, Kaspersky’s department

in KAMI was also growing in terms of employee numbers. He was joined by Aleksey

De-Monderik and Vadim Bogdanov, two IT specialists who contributed to the further

development of the product.

12 http://www.fba.kz/www/files/istoriya_uspeha_kasperskiy.pdf

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Apart from the firm’s support and belief in Eugene’s product, there was another

crucial factor that influenced the further professional and personal development of

Kaspersky, which was his increasing awareness of the international environment in

the IT sector. First of all, during his work at KAMI, Eugene was given the opportunity

to travel abroad. His first trip was to the largest international computer expo CeBIT

(Centrum der Büro- und Informationstechnik) in Hanover, which took place in 1992,

just one year after he joined KAMI. In the book “The Principle of Kaspersky: The

Bodyguard of the internet” by Dorofeev and Kostileva (2010), which is based on

several interviews directly with Eugene Kaspersky and his top management team

(TMT), the author confirms this event influenced Kaspersky in two ways. Firstly, such

international event provided him with an opportunity to develop a professional network

development and search for new international partners and contracts for the firm, as

almost all the largest multinational IT firms were present at the expo. Secondly,

Kaspersky could see a clear distinction between western IT security firms and Russian

/ Post-Soviet firms. The former group of companies were more technologically

developed while the later did not even have a complete product.

After the Hanover conference, in the same year (1992), Kaspersky was invited

by the UK firm “Sophos” who offered collaboration with KAMI. The actual collaboration

between the Sophos and KAMI was based on the fact the English firm was forwarding

different viruses to the Kaspersky’s team. They were then analysed, “healed”, by KAMI

and the cure was sent back to the UK. At that time, this partnership was the main

source of funds for KAMI. As a side effect of this cooperation, Kaspersky was able to

make submit several articles in the western journal “Virus Bulletin”.

Despite Kaspersky’s product achievements in the international environment,

securing several international contracts in 2016, the firm’s main market focus was still

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Russia. However, although there was an increased demand for antivirus software due

to an increase in cybercrime and the computerisation of the Russian market, the

economy between 1992 and 1997 was going through the turmoil of restructuring from

a communist to a market economy. As a result, there was no regulatory framework in

the IT sector and despite KAMI’s attempts to sell the antivirus software though their

partners network the level of piracy and illegal distribution from user to user created

shortfalls in sales for Eugene’s department. At the same time, there was a

disagreement within KAMI between the owners, which caused an overall decrease in

performance and, consequently, its profitability. At that time, several KAMI’s

department decided to split form the main company and open their own firms. In 1997,

Kaspersky and 3 other KAMI employees (Natalia Kaspersky, Aleksey De-Monderik

and Vadim Bogdanov) decided to follow this example and start their own company.

Establishment of the frim

The idea to name the company after the AVP anti-virus software creator was

initially proposed by Natalia Kaspersky, who became the Managing Director of the new

firm. The main reason for this was Kaspersky’s reputation in the IT security sector in

domestic and international markets, which allowed the firm to spend less on marketing

and branding13. The two main roles within the company were distributed equally

between Eugene, who was responsible for the technical development and innovation,

and Natalia, who dealt with sales, human resources, marketing, general strategy and

the future development of the firm.

13 http://www.forbes.ru/milliardery/257437-virus-kasperskogo-kak-biznes-kaspersky-lab-zakhvatil-200-stran-mira

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Leaving KAMI and creating an independent firm had advantages and

disadvantages for Kaspersky Lab. As Natalia Kaspersky mentioned in one of her

interviews “One of the main advantages was the freedom of decision making, while

the drawback of being an independent company is to build your own distribution

network almost from scratch”. Due to the lack of resources, the owners decided to

focus on international markets and partners who stayed with them after splitting from

KAMI. However, the drawback of such a strategic decision was that the top

management team did not have significant knowledge of the foreign environment and

were not sufficiently proficient the English language to create and promote a complete

product for the foreign market (Dorofeev & Kostilova, 2010). Consequently, the foreign

partners were more interested in the actual technology rather than a final product.

Based on that interest, Kaspersky lab was able to sign two licencing contracts

for its technology (the core of the antivirus software) to two foreign firms within the first

year. The first one was with G-DATA, a German IT security company. The German

company contacted Kaspersky Lab direct and signed the contract during the CeBIT

international computer expo. The second was with F-Secure, a major player in the

antivirus software market. As one of the leading industry firms, they were able to

dictate the strict terms and conditions. As Kaspersky stated “The contract with F-

secure was the technology slavery. As the contract stated that we were not allowed to

licence our core of the antivirus software to anybody else apart from the previously

signed contracts, to develop antivirus internet solutions and the Finish firm was

granted all the rights to our technologies and their source codes” (Dorofeev &

Kostilova, 2010). These conditions were accepted by Kaspersky Lab, as there was no

alternative and the firm required the cash flow for further development.

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Even though the contract placed tough restrictions on the firm, the fact that 70%

of firm’s profit was coming from technology licencing and all the clients were from

Europe played a crucial role in 1998. This was the period of the financial crisis in

Russia and, by being an export oriented firm, and receiving its profit in US dollars, it

allowed Kaspersky Lab to prosper in such a challenging economic environment. The

difference in the exchange rate, which resulted from the strong devaluation of Russian

Rouble, provided the firm with extra fixed assets. Secondly, during the financial crisis

the there was an increase in unemployment and the labour market was overwhelmed

with skilled labour from different economic sectors. Kaspersky lab, were able to use

this opportunity and started to improve the corporate structure by hiring a financial

director and chief technology officer.

First stage of internationalisation (1997 -2000)

As mentioned by Kaspersky in an interview “If you just stay in the home market,

eventually you will be swallowed by large multinationals”. With such vision, the

international expansion was started from the inception of the company. The first

international office was established in Cambridge (United Kingdom) in 1999. However,

the decision to open the branch in the United Kingdom was not supported by any

business oriented logic. The main reason for establishing the new office in Cambridge

and starting the international expansion from the United Kingdom was the fact that

Eugene Kaspersky had visited the UK several times. The first time he went there as

KAMI’s employee, and later he went to attend the UK conference “Virus Bulletin” as

an entrepreneur and simply liked the country (Dorofeev & Kostilova, 2010). In 1999,

the market for IT security in the UK was divided between Symantec and McAfee, and

covered most of the consumer market (Dorofeev V. J. & Kostilova T.P. 2010), which

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by default created large barriers for entry, especially for a new start-up from the country

with no reputation in the IT industry.

The strategy was to find the local Russian manager, who had knowledge of the

UK market and would be willing to promote the product in this new market. Kaspersky

and his team found the person interested in starting and leading the new branch,

Vladimir Freidin - a Russian immigrant who had lived in the United Kingdom for 20

years and who agreed to work for the IT software firm as a sales representative14.

Together with another employee, Liza Klensy, both were trying to approach large and

small distributors across the UK. The main target at that time was Dixons (IT and

electronics retailer network in the United Kingdom) who currently had a 90% share of

the retail market in that industry, however all the negotiations were unsuccessful. The

main problem was the brand being unrecognised by the UK’s consumer and an

inability to spend a large amount on marketing and brand awareness in the new

market. The only thing that kept the UK’s office operating was the small level of IT

software piracy in the market, which meant that consumers preferred to buy the

original IT software from the developer, rather than finding free or illegal options.

Through direct sales to UK consumer, Kaspersky Lab was able to stay in the market,

however, that presence was more like survival as Eugene Kaspersky himself

acknowledged15.

Parallel to the establishment of the UK office, the managing director Natalia

Kaspersky was trying to enter Germany and Finland. However, the main difference

was the actual entry strategy. This time senior managers concentrated on the creation

of partners’ network and technology licencing, rather than developing a physical

14 http://www.forbes.ru/milliardery/257437-virus-kasperskogo-kak-biznes-kaspersky-lab-zakhvatil-200-stran-mira 15 http://tv.russia.ru/video/tinkov_10135/

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presence. In Germany, the brand Kaspersky had a much better reputation in

comparison to the UK. All the technical exhibitions and IT software lab tests, in which

Eugene participated as part of the KAMI firm, had a positive effect on brand

awareness, as anti-virus software from Kaspersky was receiving top reviews and

awards from local experts. Those recommendations allowed the firm to start to form a

partners’ network, who began distributing the product across Europe.

Nonetheless, overall the firm’s first physical presence outside the domestic

market was perceived as the failure. Kaspersky Lab’s management highlighted

several reasons for that outcome. First was the conservatism of the British consumer

market and their unwillingness to change their IT security software provider even if it

had a cheaper price than the leading brands on the market (Dorofeev & Kostilova

2011). Second was the high concentration of the retail sector in the IT industry, which

creates a lack of competition and made it harder for the firm to negotiate good terms

and conditions for the product. Thirdly was prioritising the UK market rather than

adopting an international strategy. This was particularly relevant to the products that

were coming from emerging markets, which are known for their lack of transparency

and the high degree of piracy, in terms of computer software.

Nonetheless, the experience from the UK market did have some positive effects

on internationalisation strategy for further expansion. Firstly, it encouraged the firm’s

senior management to decide that the physical presence was an important part for the

improvement of brand awareness and reputation. However, the lack of capital at this

initial stage foiled this objective. The solution came from their experience in other

European markets (Germany and Finland), which was successfully based on

licencing. The second main positive change was related to the corporate structure of

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the firm, where the senior managers decided to move away from the idea of employing

Russian top managers in their foreign offices to build trust and brand awareness.

Even though internationalisation was one of the core ideas of business

development for Kaspersky Lab, several factors were restricting the firm to a limited

numbers of internationalisation strategies. One significant obstacle was the contract

with the Finish firm F-secure. Not only was the Finish firm squeezing the profits of

Kaspersky, but in 2000, they were also trying to acquire Kaspersky Lab. At the time of

the dot-com bubble, F-secure launched an IPO and managed to raise a large amount

of capital. The priority of the firm was quick expansion into other markets and

improvement of their technology through M&A and Kaspersky Lab was one of their

targets, however the acquisition proposal was refused.

In the same year, another difficulty emerged within the company itself, which

was the first corporate crisis. The core of the problem was a misunderstanding

between the senior management team and employees (particularly IT engineers). The

top management team hired during the financial crisis in Russia came from a

management background but were unable to integrate into the technological process.

As a result of vague communication between employees and the top management

team, the new version of antivirus software, which was released for the Russian

market in 2000, was very technical, slowed down personal computer speed and was

not user friendly, therefore reducing the cash flow and damaging reputation.

Consequently, the firm’s technical and marketing director had to resign.

The founders started to look for top managers who would be oriented towards

internationalisation of the business. However, they soon realised that at that time there

was a lack of Russian managers with either international experience or international

awareness. As a result, Kaspersky Lab started extended their search for top managers

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to western countries. Firstly, they hired a German manager, who worked in the team

for just 4 months and (in the same year) an English manager was fired within the same

timeframe. The causes for the sacking in both cases were the same. First, employees

were complaining about the different approaches proposed by the new managers and,

due to difficulties in the communication process between the top management team

and employees, these were even harder to address in comparison to the Russian

managers. Secondly, managers from outside the firm were chasing commercial

benefits rather than the ideology of the founders, which was to build the best antivirus

software through innovation. The conclusion Kaspersky came to at that time was to

start training top management team personnel from within the firm’s employees.

Corporate restructuring within the firm helped Kaspersky Lab in several ways.

First, they were able to create a product that was easy to use for general PC users

and had more advanced settings for the experts. Secondly, besides improving the

main product, the new top management team, who were IT engineers, were able to

develop new diversified products, separating corporate and household users. The final

factor was the development of a 24hour support line, which was a unique service for

the Russian market at that time, and the daily update of the antivirus database, which

was a unique feature of the antivirus software worldwide.

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Second stage of internationalisation (2000-2006)

After corporate restructuring within the firm, the new trajectory was clear. The

two main objectives were to increase the share of corporate users and to increase the

firm’s share in foreign markets. Thus, the second stage of internationalisation started

with massive expansion across all continents.

At the beginning of the millennium, the focus of Kaspersky’s Lab expansion was

focused on Europe. The firm was preparing to start selling their product into European

markets as soon as the contract with F-secure expired, as this was the only factor

restricting them from selling the anti-virus directly to European consumers. The last

attempt by F-secure to take over Kaspersky Lab was in 2003. They proposed a merger

between the two companies with a 60% stake belonging to F-secure and 40% to

Kaspersky Lab. That offer was refused, as two others had also been, because, as

Eugene suggested “… in the next three years we would be the one who would offer

you to merge, buying off 80% of your company” (Dorofeev & Kostilova, 2011).

While they were still under the contract, Kaspersky Lab started its preparation

for international expansion. In 2000, at the CeBIT expo, Kaspersky had several

successful negotiations on establishing and strengthening cooperation with large

software distributors from the Netherlands, Sweden, Greece, Brazil, France, Iceland,

Switzerland, Spain, Hungary and Austria16. The year 2002 marked the establishing of

the first international office after the corporate crisis, which was opened in France

(“Sophia-Antipolis” – Technology Park on the south of France). Most of the products’

instructions were translated into French, as this market was about 20% of the firm’s

16 Source: https://www.kaspersky.ru/about/press-releases/2007_laboratorija-kasperskogo-otkryvaet-predstavitelstvo-v-shvecii

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European sales at that time17. The following year, Kaspersky Lab opened its

European antivirus research centre in Paris (France)18 to improve their ties with

international partners and to start their support line for European customers. As

managing director, Kaspersky Lab appointed one of the leading French experts in

computer viruses in Europe – Marc Blanchard.

The second major European market for Kaspersky was Germany. Sales of

Kaspersky product under its own name started in Germany in 2003 and the

geographical location of the new office did not have any influence on the decision at

that time. The German office was opened in Ingolstadt solely because Natalia

Kaspersky was able to find Andreas Lamm (Dorofeev & Kostilova 2011), a good

German manager who previously worked in a leading position at maxiBIT, Trusted

Information Systems and Network Associates, as well as at Articon-Integralis AG,

where he served as Technical Director.19

After developing its European offices, Kaspersky started to move into Asia and

the USA. Japan was the second largest market in the world for computer security at

that time, which was valued at around 500 million USD.20 As stated in Natalia’s

Kaspersky interview (Dorofeev & Kostilova 2011) the approach to enter Japan was

exactly the same in regards to the general product and general marketing strategy as

in Europe. They were attending different IT conferences and had long negotiations

with the Japanese potential distributors. However, this did not provide any positive

17 https://www.kaspersky.ru/about/press-releases/2002_laboratorija-kasperskogo-otkryvaet-predstavitelstvo-vo-francii 18 https://www.kaspersky.ru/about/press-releases/2003_laboratorija-kasperskogo-otkryvaet-evropejskij-centr-antivirusnyh-issledovanij 19 https://www.kaspersky.com/about/press-releases/2011_andreas-lamm-1966-2011 20https://www.kaspersky.ru/about/press-releases/2003_laboratorija-kasperskogo-otkryvaet-predstavitelstvo-v-japonii

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results, even though Kaspersky technology was already being used by several firms,

which operated in Japan. As Eugene Kaspersky stated in one of his interviews, the

Japanese market was very similar to the UK in terms of its conservatism and the

unwillingness of consumers to purchase a new product. After several failed attempts

to sell the Russian product directly to Japanese distributors the company decided to

search for a Japanese manager and found Daizo Yamaoko who had lived and worked

in Moscow for 17 years and, in 2003, a new joint venture with Japanese firm iMEX.Co

Ltd was created in Tokyo21.

Based on the internationalisation experience from the first Asian market

(Japan), Kaspersky lab was looking to appoint a Chinese manager in China, where

the office was opened in 2004. In fact, the candidate for this position contacted

Kaspersky directly and offered his services in China. This was Harry Cheung who in

2003 was the President of Information Security One (China), and was recognised as

one of the top providers of information security in China. The result of such a decision

based on the previous experienced helped the company with successful


The largest market for IT security and Software innovation was the USA and

Kaspersky Lab was trying to enter this market almost from its inception. The first

attempt to start selling the product (at that time the AVP antivirus) was as early as

1998-1999. Natalia Kaspersky found a representative in USA (Kit Peer)22 who

registered the AVP brand in the USA two days prior to Moscow office in USA and

created a website (www.avp.com). This move allowed the American representative to

21https://www.kaspersky.ru/about/press-releases/2003_laboratorija-kasperskogo-otkryvaet-predstavitelstvo-v-japonii 22 http://www.forbes.ru/milliardery/257437-virus-kasperskogo-kak-biznes-kaspersky-lab-zakhvatil-200-stran-mira

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purchase the product from Kaspersky with huge discounts and keep most of the profit

to himself. In one of the interviews Natalia Kaspersky mentioned that “…out of 2 million

USD per year only 300 000 USD was Kaspersky’s Lab profit”. As a result, the

agreement with Kit was terminated in 1999. However, even at this stage there was a

difficulty, as the contract did not account for any termination clauses. However, after

a number of legal proceedings and fines the contract was finally terminated.

The second attempt to enter the market was not made through direct sales of

the final product but through the licensing of the technology, as this method had proved

successful in Europe. To strengthen the chances of success, the management team

decided to establish an office in Silicon Valley and appointed a manager from its

Moscow’s office (Vladimir Chernyavskij) to promote Kaspersky’s technology in the

USA. The lack of international experience and knowledge of American market in

particular was slowing down the promotion of Kaspersky’s technology and was the

result of inefficient resource allocation. “We had a profit of $20,000, but spent

$800,000 in a year” Natalia Kaspersky confirmed later23. As a result the office was

closed in 2002 and all the contracts were transferred to the control of the head office

in Moscow.

The third attempt to enter the American market took place after the completion

of first corporate restructuring, which helped Kaspersky Lab to formulate their

objectives and marketing strategy. The new search for a qualified manager in America

took place among the IT security firms in the US. As a result, Peter Laakkonen, the

top manager of F-secure (Finish Firm) in the US, was appointed as the new director

of the US office in 2004. His main objective was to sell the licensed technology to the

US IT firms. However, as the main target was to enter the American retail market with

23

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the complete product, Natalia Kaspersky started looking for a second person. The

second manager was Steve Orenberg, and in the spirit of Kaspersky Lab at that time,

they opened the second office in Boston in 2005, where Steve lived at that time. In

2004, when Orenberg resigned from his job and accepted Kaspersky’s Lab proposal,

he was unable to work for them immediately due to the non-compete clause of his

contract, but for the next year he was working on a strategy and building the team.

One of the core players hired by Orenberg as marketing director in Boston’s

office was Randy Dravas. He brought some radical marketing strategies for the US

software security retail market. One of them was not to start a price war by entering

the market with the lowest price, but to be the most expensive product on the shelf

(Dorofeev & Kostilova, 2011). At that time, the market was divided between Symantec

and McAfee. Both were American brands from California. The idea that Randy

proposed to American distributors was that by putting the price of Kaspersky Anti-virus

higher than Symantec and McAfee they would not steal clients and therefore the profit

of the distributor, but would attract new clients as Kaspersky product is much more

advanced and was favoured by IT specialists. The second idea provided by Randy,

which helped to attract other consumers to the antivirus-software, was to allow

different payments methods. At the beginning of that approach, the product was given

for free and if after 6 months the client did not want to continue to use the product, he

was cut off from the anti-virus database updates and support. However, if there was

no formal cancellation, money was deducted from the credit card that the customer

gave at the beginning of the trial period. As the practice showed, only 5% of the

customers decided to cancel the subscription (Dorofeev & Kostilova 2011). By using

this marketing approach, in 2006 Kaspersky anti-virus was distributed by 200 retail

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stores in the U.S. and Canada and, by 2008, about 15,00024. In 2010, Kaspersky

became the top retail seller of antivirus software in America (see Fig 2.1)25. However,

by 2007 the company had experienced significant growth and become one of the

major players in anti-virus software on several international markets.

Figure 2-1.Share of Kaspersky Lab in the US Market in 2008

Company Sales in the US market (October

2008)* Share of the market

Symantec $12.6 million 48.70%

Kaspersky Lab $5.1 million 19.80%

Trend Micro $4.0 million 15.70%

McAfee $2.2 million 8.70%

Microsoft $600,000 2.30%

* = approximate

Source: The NPD Group

Parallel to the successful internationalisation, the pressure of a new corporate

crisis was building in Kaspersky lab. The growth of its international distribution network

together with international offices around the globe, once again began to draw

attention to the corporate structure, which was unable to handle the large firm and, as

a result, was bringing inefficiency into the firm’s financial performance (Dorofeev &

Kostilova, 2011). The commercial interest of rapid internationalisation had set aside

the innovation and, as a result, versions Kaspersky 4.0 and 5.0 were repeating the

issues experienced during 2000. Another problem was the inefficiency of decision

making and the speed of these decisions due to the hierarchical structure of the large

corporation where the final decision was being made by a single person.

24 https://usatoday30.usatoday.com/money/companies/management/profile/2008-11-23-kaspersky-lab-pc-security_N.htm 25 http://www.forbes.ru/milliardery/257437-virus-kasperskogo-kak-biznes-kaspersky-lab-zakhvatil-200-stran-mira

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The solution the company introduced was the establishment of a board of

directors in the year 200726. There were 9 directors with 3 international directors

appointed from the firm’s foreign offices. The new managing director became Eugene

Kaspersky, replacing Natalia Kasperskaja in this post (however Natalia still was a

board member). Other board members included were Aleksey De-Moderik, Vitalij

Bezrodnih, Eugene Bujakin, Harry Kondakov, Andreas Lamm, Steve Orenberg and

Harry Cheung. Such restructuring helped the firm’s management team to keep up with

its fast-international growth and, as a result, the company managed to go through the

financial crisis without suffering a decrease in revenue. In 2008 the global revenue

almost doubled in comparison to the previous year. However, in 2009 the company

felt the effect of the global financial crisis and global revenues increased by only

40%27. From early 2009, the company started to look for the additional capital to

maintain its fast expansion and started to think about an IPO.

Third Stage of internationalisation (2007 – 2016)

The third and final stage of internationalisation started straight after the board

of directors was established and this was the decision of the board to build regional

hubs to encourage easy and quick operations. In 2008, 3 regional offices were

established, a North American Hub in the USA, a Middle eastern lab in Dubai, and an

Asian Lab in Malaysia. As Eugene Kaspersky describes, this was an active expansion

strategy, as the firm continued to build subsidiaries in the foreign markets. The hubs

were continuously growing and eventually five regional divisions were established.

26 https://www.kaspersky.ru/about/press-releases/2007_laboratorija-kasperskogo-moderniziruet-strukturu-korporativnogo-upravlenija 27 https://www.forbes.ru/milliardery/257437-virus-kasperskogo-kak-biznes-kaspersky-lab-zakhvatil-200-stran-mira

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These were in Western Europe (Austria, Benelux, France, Germany, Italy, Poland,

Portugal Spain Sweden, Switzerland, the UK); Eastern Europe, Middle East and Africa

(Kazakhstan, Romania, Russia, South Africa, Turkey, Ukraine, United Arab Emirates,

Latvia); North and South Americas (USA, Canada, Latin America countries); Asia

Pacific (Australia, China, India, South Africa), and Japan was a stand-alone country.

This time the expansion was proceeding in parallel with the corporate

restructuring, and there were number of things that changed in the corporate structure

during that period of internationalisation. Firstly, the firm was thinking about the IPO

and there were two main reasons for that. Initially, Kaspersky lab considered the

external capital could help with the rapid expansion in the third phase. However, at the

same time, as Natalia Kasperskaya moved away from the managing position, she was

looking for the opportunity to sell her 20% of the company to some external buyers.

This was due to the internal conflict of interest that happened between her and the

new board of directors (Dorofeev & Kostilova, 2011). In 2011, the 20% was bought by

the General Atlantic. Such turn of events created a potential threat to the Kaspersky

decision making process in terms of its global strategy as General Atlantic got a seat

at the board of directors. The threat can be viewed from the perspective that the

American company (General Atlantic) can sell these shares to some other American

firms that are direct competitors of Kaspersky Lab in America. The board was also

considering the benefits of such change, as this potentially opens the corporate market

for the Kaspersky Lab. However, within the years’ Kaspersky bought back the share

from General Atlantic28

28 https://www.kaspersky.ru/about/press-releases/2012_laboratoriya-kasperskogo-obyavlyaet-ob-izmenenii-struktury-akcionernogo-kapitala

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Furthermore, after the creation of the board of directors, the firm looked into the

value of building the corporate culture, taking into the account that not only the revenue

of the firm was steadily growing, but also the number of employees across the globe.

For that purpose, Kaspersky lab hired the HR firm Heidrick and Struggles to create

and implement a formal corporate culture across its global offices, which in 2008

employed 2400 employees.29 The process took several years and was finished in

2010. The main goal of such action was aligning the vision and ideas across the firm’s

division. Such action prevents the cases that happened earlier in the firm’s history,

where there was misunderstanding between the teams (for example sales and R&D),

which lead to the technical and corporate crisis.

It can be concluded that Kaspersky’s major internationalisation phase was

finished by the year 2012. After that, the board of director was restructuring in

accordance with the strategic objectives of the firm (Figure 2.5). During the third phase

of internationalisation the firm focused on the transparency and disclosure

mechanisms. As a result of this objective the new head office in the UK was

established in 201330. The idea behind the introduction of new transparency and

disclosure mechanisms was to show the stable development of the firm and earn trust

in the corporate sector. For that reason, Kaspersky Lab began to publish their reports

in the IFRS standards and publicly announced the press-releases of these reports on

their webpage (example31). At the same time the firm started to provide an annual

report which included the independent audit reports32.

29 https://www.pro-personal.ru/article/383692-razrabotka-korporativnyh-tsennostey 30 https://www.kaspersky.ru/about/press-releases/2013_laboratoriya-kasperskogo-otkryivaet-novyiy-evropeyskiy-ofis-hab-v-londone 31 https://www.kaspersky.ru/about/press-releases/2018_kaspersky-lab-revenues-grow-8-to-698-million-in-2017 32 https://beta.companieshouse.gov.uk/company/04249748/filing-history

https://www.pro-personal.ru/article/383692-razrabotka-korporativnyh-tsennostey

https://www.kaspersky.ru/about/press-releases/2013_laboratoriya-kasperskogo-otkryivaet-novyiy-evropeyskiy-ofis-hab-v-londone

https://www.kaspersky.ru/about/press-releases/2013_laboratoriya-kasperskogo-otkryivaet-novyiy-evropeyskiy-ofis-hab-v-londone

https://www.kaspersky.ru/about/press-releases/2018_kaspersky-lab-revenues-grow-8-to-698-million-in-2017

https://www.kaspersky.ru/about/press-releases/2018_kaspersky-lab-revenues-grow-8-to-698-million-in-2017

https://beta.companieshouse.gov.uk/company/04249748/filing-history

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Between 2012 and 2017, only two additional foreign offices were opened, one

in Singapore and a research lab in Dublin. One reason for this was that all the strategic

markets were already conquered by the Kaspersky lab, and there was no need for

further expansions. In addition, in 2014 the political situation that occurred between

Russian and the Western countries that evolved was not in the favour of Russian firms.

As a result of this political conflict, some of the major Russian firms were placed under

the European and US sanctions. In 2017, Kaspersky lab itself was also involved in

litigation with Microsoft and in the same year received a ban from the US government

on its products to be used by governmental departments or firms. Both of these factors

were related to the tight relationship between the Russian government and the security

firm, however the proof of that link was not established33. The most recent interaction

between the Kaspersky Lab and Russian Federation is the fact that Kaspersky won

the government contract to run all cybersecurity efforts at the 2014 Winter Olympics

in Sochi (Russia). Both factors had a negative influence on the operation and its

revenue in the US market which was followed by partial withdrawal from the US

market34. To mitigate the negative influence that Kaspersky Lab faced during the year

2017, they proposed to launch the Global Transparency Initiative (GTI),35 the main aim

of which was to open the source code to the products and engage the expert

community in the field of cybersecurity to ensure the integrity and reliability of the

company's products, internal processes and business operations. The GTI program

33 https://www.wsj.com/articles/russian-hackers-scanned-networks-world-wide-for-secret-u-

s-data-1507743874

34 https://wccftech.com/kaspersky-closing-washington-office/

35 https://www.kaspersky.ru/about/press-releases/2017_kaspersky-lab-global-transparency-initiative

https://www.wsj.com/articles/russian-hackers-scanned-networks-world-wide-for-secret-u-s-data-1507743874

https://www.wsj.com/articles/russian-hackers-scanned-networks-world-wide-for-secret-u-s-data-1507743874

https://wccftech.com/kaspersky-closing-washington-office/

https://www.kaspersky.ru/about/press-releases/2017_kaspersky-lab-global-transparency-initiative

119

started with the reallocation of its data processing facilities from Russia into the

Switzerland and continues to open independent offices around the globe36

Discussion and Conclusion

As can be seen from the company’s history, it can be classified as the

international new venture based on the definition of McDougal & Oviatt (1994). From

the inception of the company, its managers saw internationalisation as the primary

objective for the firm’s growth. However, managerial incompetence together with poor

strategic decisions led to the failures in the internationalisation process in certain

foreign markets. These failures were followed by partial or complete withdrawal from

foreign markets and the restructuring of the business. This process can be directly

link to the theoretical framework presented by Nummela et.al (2016) (Figure 2.2).

36 https://www.kaspersky.ru/blog/transparency-status-updates/21211/

https://www.kaspersky.ru/blog/transparency-status-updates/21211/

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Figure 2-2: Theoretical framework of dynamic Internationalisation of INV (Nummela,

Saarenketo & Loane, 2016)

The beginning of the internationalisation process of Kaspersky Lab can be linked

to the traditional Uppsala model. The firm started their internationalisation through

licencing and exporting of their technology and selling of their products into the

neighbouring countries. During that period the company did not experience significant

growth resulting in minor changes in the managerial system of the firm. That phase of

the internationalisation did not require any adjustments in the corporate governance

structure of the firm. This chain of events shows that the exporting phase of

internationalisation would not necessarily require business restructuring or

introduction of corporate governance mechanisms.

The first poor strategic decision regarding internationalisation process was to open

a foreign subsidiary in the UK market. The entry method that was chosen by Kaspersky

together with the targeting market itself revealed the managerial incompetence and

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lack of international experience in the firm. As a result Kaspersky Lab faced the partial

withdrawal from the UK market, in which they could not be successful from the

beginning. At the same time the growth in the number of employees in the domestic

office required additional layers of management which were hired, however the lack

of instruments to align the interests of the owners and the top management teams lead

to the first corporate crisis. The conclusion that can be drawn that both of these factors

(internationalisation by establishing the foreign subsidiary and growth in the size of the

company in the domestic market) lead to corporate restructuring.

The second phase of internationalisation was a massive expansion into different

regions (Europe, Asia, North America). Based on the historical timeline presented in

the case study, it is possible to conclude that when the firm entered eastern European

countries, such as Poland, Ukraine, Kazakhstan they did not experience difficulties in

reaching the main consumers or confront complications in the internationalisation

process regardless of the company’s growth. The primary reason for that is the cultural

proximity between Russia and eastern European countries. That factor allowed

Kaspersky Lab to reallocate Russian managers who were able to efficiently manage

the new offices. Such reallocation At the same time the level of corporate governance

in the eastern European countries is similar to the Russian market. As a result none

of the corporate governance instruments were enforced on Kaspersky.

The internationalisation into Western Europe together with Asia and North

America regions, required different approach. Primarily, Kaspersky lab was looking

to hire the regional managers to lead the foreign offices. The decision making

process, however, was locked on the managing director of the firm at that moment

(Natalia Kasperskaya), which reduced the speed and efficiency of the crucial

strategic decisions. The geographical diversification of the firm, as the result of

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internationalisation, increased the complexity of Kaspersky Lab and required

adjustment in the corporate structure for the efficient performance. The result was

the establishment of a board of directors with international directors appointed from

the firm’s foreign offices. Such restructuring helped the firm’s management team to

keep up with its fast-international growth and, as a result, the company managed to

go through the financial crisis without suffering a decrease in revenue.

Further expansion in the third phase of internationalisation was also followed by

the restructuring of corporate board. The decision of the board to look into the IPO as

an instrument for additional financing of their international expansion, resulted in the

expansion of the board of directors prior to the potential IPO. The new board member

was the second largest stakeholder in the company. This change, however, was

temporary, as the firm realised that dispersed ownership will slow down their decision

making process. The result was the buyback of the shares by Eugene Kaspersky from

General Atlantic. After that the board composition did not experience major changes

and consisted of 7-8 execute directors out of which 2-3 were international directors .

At the same time during the third phase of internationalisation the firm focused on

their global image and implemented the transparency and disclosure corporate

governance mechanisms to assist with that strategic task. They started to apply the

international financial reporting standards to increase the transparency and disclosure

and to perform a yearly independent audit . However, further actions to improve their

transparency and disclosure were linked primarily to the external factors (sanctions

of the Russian firms in 2014, conflict with Microsoft in 2017, conflict with the US

government in 2017) rather than internationalisation. For example as result of the US

scandal, Kaspersky lab launched global transparency initiative.

123

Plotting the events that are linked to the change in the corporate governance

structure and internationalisation on the same timeline show the correlation between

the adjustment and implementation of corporate governance mechanisms and the

successful internationalisation process (Appendix A.2.1). From the graph, the

internationalisation was followed by the organisational restructuring of the firm, which

emphasised the importance of corporate restructuring when the company is growing.

At the same time, the company did not experience the separation of ownership and

control, as the main controlling group of the firm stayed almost unchanged though the

time. Indeed, the same group of owners were managing the daily activity and setting

the global objectives for the firm. However, when the firm expanded globally in the

second phase of internationalisation, the hierarchical structure of the firm with the

single executive director became inefficient and resulted in a technical and corporate

crisis. To mitigate both, Kaspersky Lab established a board of directors and included

their regional foreign senior managers on the board to distinguish between the global

objectives and daily business operations. However the This case study example

provides the ground for the first 2 hypothesis of this thesis.

Hypothesis 1:

Firm’s internationalisation, which occurs through opening a subsidiary or foreign

acquisition in the foreign market, will be positively correlated with the number of

corporate governance mechanisms.

Hypothesis 2

Increase in the geographical diversification of the firm will be positively correlated

with the share of foreign directors represented on the board.

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It is also important to mention that corporate governance restructuring was not only

influenced by internationalisation. The family disputes between Natalia Kaspersky and

Eugene Kaspersky forced the Kaspersky Laboratory to change the corporate structure

of the board as Natiala sold her shares to the third party prior to the IPO . At the same

time several mechanisms of transparency and disclosure were applied in order to

retain reputation of the firm on the global stage after the scandals with Microsoft and

the ban from the US government. Or due to the growth of the company such as annual

reports with the independent auditor’s reports.

125

Appendix A. Figure 2-3.The roadmap of Kaspersky Lab internationalisation process and changes in the corporate governance structure.

126

Figure 2-4 Financial performance of Kaspersky Laboratory by region37

Total Revenue (in million dollars)

2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Total 388 538 612 639 667 711 619 644 698 726

EEMEA Region 283 349 379 386 380 412 461 429 493 563

North and South America Region 79 134 174 193 223 231 106 156 143 98

Asia-Pacific region 26 55 59 60 64 68 52 59 62 65

37 Authors calculation based on the available financial information of Kaspersky Lab

(Source: https://www.tadviser.ru/). Underlined figures were interpolated based on the original

data.

https://www.tadviser.ru/

127

Figure 2-5 Restructuring of the corporate board38

38 Structure of the Board of Directors (BOD) through time. Source: Annual reports available

online at: https://beta.companieshouse.gov.uk/company/04249748/filing-history

Year Changes in the structure of the board of directors

Comment

2007 9 Directors out of which: 6 Russian Directors | 3 Foreign Directors 1 Female director 9 Executive directors

Establishment of the board




2011 9 Directors out of which: 6 Russian Directors | 3 Foreign Directors 1 Non - Executive director

Restructuring of the board in the preparation to the IPO

2012 8 Directors out of which: 5 Russian Directors | 3 Foreign Directors 1 Non - Executive director

Restructuring of the board due to the internal conflict between Natalia Kasperskaya and Eugeme Kaspersky

2013 5 Directors out of which: 4 Russian Directors | 1 Foreign Director 5 Executive Directors

Restructuring of the board due to the buyback of the shares from the external directors.

2014 6 Directors out of which: 4 Russian Directors | 2 Foreign Directors 6 Executive Directors

Restructuring of the board due to the objectivate to increase foreign sale

2015

6 Directors out of which: 4 Russian Directors | 1 Foreign Director 6 Executive Directors




https://beta.companieshouse.gov.uk/company/04249748/filing-history

128

Questionnaire for the first interview

1. In which markets KL operates at the moment?

2. What are the current international objectives of the firm?

3. What was the first foreign market in which the firm started to operate?

4. What was the main reason for internationalisation?

5. In your opinion, what influenced the main strategic decisions of the firm during

internationalisation?

6. Why the firm decided to use Join Ventures and subsidiaries as primary tools for

internationalisation?

7. Did internationalisation change the organisational structure of the firm?

8. In what way internationalisation changed the organisational structure of Kaspersky

laboratory?

9. From your perspective, what was the toughest market to enter, and why?

10. In your opinion, what was the main problems in the internationalisation process?

11. How these problems were resolved?

12. Does the company has a plan for the future geographical diversification?

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Questionnaire for the second interview.

1. How would you describe the organisational structure of the firm in the early

establishment?

2. In your opinion, when the organisational structure of the firm started to change? (In

what way?)

3. From your perspective, what was the main reason for the organisational changes?

4. Was the new organisational structure efficient?

5. Why the firm decided to create the board of directors? What was the main reason

behind this action?

6. From your opinion was this the right decision? Why?

7. Was the board actions transparent?

8. How many board meetings are held during the year? Was the firm planing to go

public (IPO?), what was the reason for that?

9. Did the sanctions against Russia in 2014 influence the firm in any way?

10. Why the firm decided to disclose their accounting in the IFRS format?

11. Why the firm started to disclose annual reports?

130

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Chapter 3 Internationalisation and strategic decisions on corporate governance

The extensive literature has focused on the causal relationship between the

corporate governance of a firm and its internationalisation, suggesting that the former

will determine the success of the later. For example, having an international director

with experience and knowledge of the foreign market on the BoD (board of directors)

will ease the process of entering that market (Lu, Xu, and Liu 2009; Chen 2014; Rivas

2012; Oxelheim et al., 2013). At the same time, good protection of minority

shareholders could attract the attention of foreign investors, therefore increasing the

capital of the firm and providing it with a financial opportunity to start operating outside

its market of origin (Jiraporn et al., 2006).

However, based on the agency theory, monitoring mechanisms of corporate

governance, such as BoD, transparency and disclosure mechanisms, and protection

of minority shareholders, is required only when there is a separation of ownership and

control (Berle and Means, 1932), which can occur in two situations. The first situation

is when there is an increase in asymmetric information within the company due to an

increase in size. That is applicable if we think of a company that is continuously

growing in terms of its employees, assets and branches that are distributed across

different geographical areas of the domestic market.

Secondly, conflict can arise if the firm requires external capital. The two options

that are viable for firms are financing through debt or equity. If the capital is obtained

from investors (equity financing), it may lead to dispersed ownership and thus will

require corporate governance control mechanisms to mitigate the rising conflict

between the principal and the agent. At the same time, debt financing may also require

certain corporate governance mechanisms to decrease the information asymmetry

133

(and increase transparency) between the debt provider (bank) and the firm. The

literature suggests following the pecking order theory (Myers & Majluf, 1984): if the

firm is unable to finance itself internally through retained earnings, it should try and

finance itself through debt first, before financing itself through the issuing of equity.

This hypothesis is interlinked with agency costs that would depend on the capital

structure that the firm selects. Internal financing will require a minimum number of

corporate governance mechanisms, while financing through debt or equity will lead to

the implementation of additional corporate governance mechanisms (Vivek, Young &

Myungsoo, 2012). Therefore, it can be concluded that for small- and medium-sized

firms to introduce the monitoring of corporate governance mechanisms will depend on

the firm’s capital structure.

At the same time, both factors (size and external capital) may vary in relation

to the firm’s sector of performance. If we compare the inception stages of a

manufacturing firm to those of an information and communication (IT) software

company in terms of labour and capital, the first will require a larger amount of both.

Following that, the set of initial corporate governance mechanisms between two firms

may also vary due to industry characteristics. Combining these factors, it is reasonable

to assume that if a company is operating only in the home market, does not require

external capital from its inception, and operates in an industry that has low set up

costs, it will not need to monitor corporate governance mechanisms.

As this thesis focuses on internationalisation and corporate governance, it is

reasonable to assume that all the firms within the framework see internationalisation

as their main objective at some stages of their development. Consequently, for the

company that does not need to monitor corporate governance mechanisms, strategic

development can progress in two ways. The first way is to continue its growth in the

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home market to a certain level and then penetrate any other market. That procedure

is the first stage of the original Uppsala model of internationalisation (Johanson and

Vahlen, 1977). The second way is to start operations in the foreign market from

inception (international new ventures theory, McDougal and Oviatt, 1994). That

strategic decision will depend on several factors, such as competition intensity in the

home market in comparison to the foreign market, demand for a product/service

between the home market and foreign market, whether an actual physical presence in

the foreign market is required, etc.

Therefore, let us compare two firms, one of which can be international from

inception and the one that prefers stage development prior to international activity. As

has been observed from the existing literature, when a firm expands outside its country

of origin, it will lead to higher complexity and increase information asymmetry (Sanders

and Carpenter, 1998; Michael and Pearce 2004; Lee et al., 2008), making it more

difficult and costly to monitor top management teams’ (TMT) performance (Zajac and

Westphal, 1994), leading to a typical agency problem. That leads to a conclusion that

an international firm will have to adopt additional or new corporate governance

mechanisms, increasing its level of corporate governance, which will be higher in

comparison to the firm that is operating only on the domestic market39.

39 It is important to highlight that the literature points out the bi-directional relationship between corporate governance and internationalities based on the development path that the firm will select. One of the strategies for international expansion is firstly to grow in the domestic market, receive additional financing through debt or capital, then adjust the corporate governance structure in accordance to the level of complexity that the firm is facing to mitigate the agency problem, and then start the internationalisation process. The other strategy, which is the key focus of this thesis, is to start the internationalist expansion from the inception of the firm (become a ‘born global’ firm), which will increase the complexity of the firm and should be accompanied by the changes in the corporate governance structure to mitigate any failure in the internationalisation process.

135

Apart from information asymmetry, some external factors can influence the

corporate governance of international firms. As different countries have different rules

and regulations, the structure of corporate governance mechanisms and their

application will differ as well. Typical examples include accounting standards across

different markets (IFRS standard or GAAP standard), board structure (one or two tier

board), rules and regulations about minority shareholder protection (voting rights), or

the type and amount of disclosed information. If those regulations are different

between the home market of the firm and the international market, an international

firm will be obliged to adopt certain government practices. Consequently, it is possible

to conclude that if an international firm emerges from a market where the general

standards of corporate governance are poor40 in comparison to the market of entry, it

will be forced to introduce some new or additional corporate governance mechanisms,

thus increasing and developing the overall number of corporate governance

mechanisms, in contrast with a firm that operates only in the domestic market.

As soon as such a firm starts its operation in the foreign market, and adopts the

corporate governance mechanisms which are required within that market, it engages

with other market actors (i.e.: suppliers, distributors, customers, etc.) and starts

building new relationships within the industry production network, hence absorbing

new practices. Based on such experiential learning (Kolb 1984) within the network, an

40 The poor corporate governance on a country level refers to the low enforcement of corporate

governance mechanisms. Countries with weak enforcement experience low protection of

minority shareholders’ interests, have weak financial auditing and accounting standards, and

non-transparent regulation of securities exchanges, which are subject to excessive government

influences. Public institutions in developed capital markets are perceived to provide a superior

framework of corporate governance than in emerging market economies (Cornelius, 2005).

136

international company may implement best practices, among which can be new

corporate governance mechanisms, thus establishing an additional channel through

which the overall corporate governance structure can be improved.

Hence, for a firm that sees internationalisation as one of the main objectives,

does not require external capital, and is originally from a market with a poor corporate

governance framework in comparison to the market of entry, it is possible to envisage

the following development path of corporate governance mechanisms, represented

below:

This graph represents the change in the number of corporate governance

mechanisms (y-axis) with respect to time (x-axis). The period of time from t to t+1

represents the establishment of the company in the home market. Based on the laws

and corporate governance framework in the domestic market, that company might be

t t +1 t +2

Number of corporate governance mechanisms (CG) of the firm

Time t +3 (0,0)

ΔCG1

ΔCG2

A1

B1

C1

A1

B1

C1

Figure 3-1.Internationalisation and corporate governance

137

obligated to introduce certain corporate governance mechanisms, or, due to the

industry specifications (i.e. manufacturing firm), which can lead to information

asymmetry, the company would require particular control mechanisms from inception.

Therefore, some corporate governance mechanisms may exist in any company from

inception.

Starting from t+1, the firm will enter a new international market, and as

discussed above, there are three factors that would lead to an increase in the number

of corporate governance mechanisms which emerge from the internationalisation

process. Area ‘A1’ represents a fixed increase in the number of corporate governance

mechanisms due to the laws and regulations of the new market. Area ‘B1’ shows

exponential growth of corporate governance mechanisms through time due to

experiential learning. Area ‘C1’ characterises an increase through time due to the

growth of the company (increase of information asymmetry within the company). For

example, a company can open an additional branch in a new geographical region of

the same foreign market. The overall level of corporate governance mechanisms will

increase by ‘ΔCG1’ when a company enters its first international market.

Starting from the period t+2, a firm may enter another international market, and

if all the assumptions are met, the firm can still absorb and implement new corporate

governance mechanisms (Areas A2, B2, C2). However, if first and second

international markets are similar in their corporate governance laws and overall

business environments (for example, Germany and Austria; United Kingdom and

United States), then that means that internationalisation into the second market can

yield some increase of corporate governance (if any); however, it will be in smaller

proportions in comparison to the first international market (ΔCG1> ΔCG2). Thus, when

the company enters some markets ‘n’ in the period t+n, that will mean that ΔCGn = 0.

138

At this point, the firm may not introduce any additional corporate governance

mechanisms, but it may restructure the existing ones, depending on the strategic

decisions.

On the other hand, if the firm’s first market of entry has the same corporate

governance framework as the firm’s domestic market, the change to the corporate

governance mechanisms can be minimal. For example, if the corporate governance

code in the foreign market is just a set of guidelines rather than a set of rules (for

example, the Russian code of corporate governance and the CIS regions), this will

imply that the increase of firm’s corporate governance due rules and regulations (area

A1 on Figure1) would be equal to 0. Adoption of corporate governance mechanisms,

which comes from experiential learning in the foreign market (Area B1), can also be

equal to 0 if firms, which already operate in the foreign market with a low level of

corporate governance, have no incentive to introduce any corporate governance

mechanisms. Thus, the only effect of internationalisation on corporate governance will

occur due to the increase in firm’s overall complexity (C1), which increases information

asymmetry.

Therefore, the following conclusion can be drawn from the above discussion:

internationalisation of a firm from a country with a low level of corporate governance

into a country with a high level of corporate governance will be correlated with the

restructuring of corporate governance mechanisms.

.

Cost function of implementing corporate governance mechanisms.

Following the discussion from the previous section, corporate governance may

play a vital role in sustainable international expansion. The new international market

will require additional corporate governance mechanisms to accompany the

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successful internationalisation process (as can be seen from Chapter 2). The

establishment of these new corporate governance mechanisms will have a direct

impact on the cost for the firm41. On the one hand, an investment into the restructuring

of the board of directors by adding additional non-executive, independent or foreign

directors, and introducing transparency and disclosure mechanisms or minority

shareholder protection mechanisms, should lead to an increase in firm’s performance

(Baysinger and Butler, 1985; Rosenstein and Wyatt, 1990; Brickley et al., 1994;

Durchin et al., 2009). This therefore suggests the existence of a positive linear

relationship between corporate governance mechanisms and a firm’s performance.

However, spending too much on corporate governance mechanisms may lead

to another extreme of the agency problem. Such “over-monitoring” generates costs,

harms managerial initiative, and, as a result, board members tend to make decisions

that lead to the increase in the size of the firm beyond its optimal level, or maintain

unutilized resources for increasing personal utility of status, power, compensation, and

prestige (Jensen et al., 1976; Stulz, 1990; Masulis, Wang, and Xie, 2007; Hope &

Thomas, 2008). Eventually, this will escalate the conflict between managers and

owners and will lead to corporate governance failures, which in turn will be negatively

correlated with the firm’s performance.

This introduces an important concept, that to mitigate the agency problem, the

firm should choose its corporate structure optimally in terms of its cost versus

profitability. Therefore, it is important to consider what would be the cost function of

implementing new corporate governance mechanisms when entering new

international markets.

41 Additional costs may be related to the restructuring of the corporate boards, which will correlate with the salaries and remunerations, or to the establishment of auditing and monitoring mechanisms.

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When viewed from the perspective that each additional international market that

has a higher level of corporate governance (developed economy) than a firm’s

domestic market (emerging market) will require some corporate governance

improvement or adjustments (Figure 3.1), it is possible conclude that as soon as a firm

enters its first international market, the cost of the implementation of new corporate

governance mechanisms will also increase. This positive relationship between cost

and a firm’s profitability will reach the optimal point at which the firm’s cost of

implementing additional corporate governance mechanisms will not yield any

additional benefit to the firm’s performance. The time interval during the optimization

will vary between firms and will depend on the firm’s characteristics and experience.

After the initial stage of internationalisation, the firm may continue with

geographical expansion and may enter another foreign market in which the corporate

governance mechanisms differ from the set of the corporate mechanisms that already

exist in the entrant’s firm. If these additional corporate governance mechanisms are

compulsory by the rules and regulations of the second foreign market, or the

complexity of the entrant’s firm increases due to geographical expansion, the

additional corporate governance mechanisms should be implemented by the entrant

firm and will once again increase the cost of introducing new corporate governance

mechanisms.

Following this explanation, it is possible to conclude that the cost for the

implementation of new corporate governance mechanisms is positively correlated with

internationalisation. The cost will start increasing from slow and steady implementation

of corporate governance mechanisms from the domestic market if the firm is operating

in a country with a poor level of corporate governance, followed by a steep acceleration

after the first international entry, and then followed by an increase at a decreasing rate

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with each additional international market. Such a relationship between the cost and

the additional or new corporate governance mechanisms can be represented by cubic

function42.

42 It is important to state that the cost functions may be of three main types: linear cost functions, quadratic cost functions, and cubic cost function. The core difference among these types is the rate at which the cost changes, given the input variable (in the case of this thesis, this would be corporate governance mechanisms). If the cost function is linear, variable cost increases at a constant rate, which means that the quadratic cost function will have a diminishing return to the variable factor, while the cubic cost function will have both an increasing return to the variable factor in the beginning, the point at which the rate is constant (the inflection point), and, at the same time, a decreasing return to the variable factor. Different firms may adopt different cost functions based on their production functions, depending on their sector of production and firm structure. However, regardless of the cost function type, the increase in the variable factor will always increase the cost. Therefore, the introduction of new corporate governance mechanisms will increase the cost for the firm, regardless of its cost function. At the same time, each firm, regardless of its cost function, will go through an optimisation exercise. The academic literature acknowledges that this is positive, but the overall results that CG matters for a firm’s performance are robustly established in the literature.

Figure 3-2.Cost function of investment into corporate governance and its relationship

with profit maximization.

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The cost function represented in Figure 3.2 follows the logic from the previous

section. As soon as a firm enters a new international market with a higher level of

corporate governance in relation to its domestic market, it should improve its own

corporate governance structure beyond the fixed cost (a). This cost increase will

continue up to a certain point (flex point of the cubic function), at which the firm will

maximise its profit from the international market. And only by entering an additional

foreign market, will the cost restart its growth. The graph in Figure 3.2 represents the

equilibrium between the cost of implementing new corporate governance mechanisms

and the maximum profit that could be achieved by a firm that is using these corporate

governance instruments. Based on the graph, it can be clearly seen that overspending

and underspending on corporate governance mechanisms will not lead to profit

maximisation.

At the same time, the literature mentions that homogeneous firms use different

corporate governance mechanisms and still maximise their firm’s performance

(Hermalin,1994; Gibbons and Roberts, 2013). This suggests that a detailed corporate

structure will be individual, based on the firms’ objectives and structure. At the same

time, the national corporate governance codes that provide firms with the best

practices of good corporate governance and enforce certain corporate governance

mechanisms, will establish certain similarities between the firms that operate on the

same markets.

This indicates that the strategic decision that the entrant firm faces is to

establish an optimal level of corporate governance mechanisms that are required to

accompany successful (profitable) internationalisation. This strategic decision should

be based on costs associated with the introduction of new corporate governance

mechanisms, which in turn relate to the corporate governance standards of a foreign

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country, the number of corporate governance mechanisms of the competitors43 that

are operating in this market, and the initial set of corporate governance mechanisms

that the entrant firm processes prior to the internationalisation process.

Methodology

To analyse that strategic decision on an optimal level of corporate governance

investment for the entrant firm, it is better to look at this decision-making process from

a game theory perspective. Game theory is a model for decision-making under

varying unpredictable conditions (uncertainty). Games are characterised as strategic

interactions between players. The strategy is a complete plan of actions, that includes

all possible options together with the outcome preferences (Dixit, Nalebuff, 2008). In

the academic literature the strategy that would predict the outcome of the game is

usually called a solution (Salkind, 2012) and the purpose of the game theory approach

is to explore and analyse different solutions, which are available for players in the

game. To justify the best possible solution the game theory modelling is using the

concept of ‘utility’, which refers to the preferred outcomes that may be different among

different players. The objective of such analysis is to identify the solution that would

maximise the utility of the player (Dixit, Skeath, Reiley, 2015). If the players are able

to solve the game is such a way that they optimise their utilities and none of the players

have an incentive to deviate from this solution that is called the equilibrium state. The

rest of this chapter will focus on identifying all the possible solutions (under perfect

and imperfect information) that the firms (players) will face and to establish, which

solutions will bring the companies towards the equilibrium state.

43 Homogeneous firms that are operating in the same sector and produce similar products / provide similar services.

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Low cost of corporate governance investment

I will start with a very simple game in which I assume that there are just two

firms: the entrant and the incumbent. Both firms are operating in the same sector and

produce homogeneous products. In the first game that I will analyse, I will assume that

both firms will decide at the same time (simultaneous game). The entrant firm has

already entered the market (the internationalisation has already occurred) and both

firms are competing purely on the level of corporate governance44 and thus have just

two strategies, either to set their corporate governance level “high” or “low”.

Before we analyse this game, it is important to highlight certain assumptions.

Firstly, I will assume that the game has perfect information, which means that both

firms are aware of each other’s strategies and the payoff structure is common

knowledge for both players prior to the game. This assumption simplifies the initial

steps of the analysis to find the Nash equilibrium in the first game. If we assume that

any player has doubts in terms of the information that he/she possesses this may

change the results of the analysis. If player one does not know the payoff structure of

the game, this fact should be made an integral part of the analysis and will change the

game to a game with asymmetric information45.

Secondly, we assume that they have the same cost of investment into

corporate governance mechanisms, which means that the cost functions in terms of

corporate governance mechanisms for both firms are identical and the cost of

investment into new corporate governance mechanisms is low.

44 The level of corporate governance will represent the set of corporate governance mechanisms that influence a firm’s profitability. The remaining of this chapter will refer to the firm with the higher level of corporate governance as the firm with the optimal set of corporate governance mechanisms, which are higher in comparison to the other firm. The low level of corporate governance will reflect the firm with the lower number of corporate governance mechanisms. 45 The game with asymmetric information will be discussed later in the analysis.

145

Thirdly, we assume that the market of entrance has the same corporate

governance level or lower than the domestic market of the entrant firm. This third

assumption will justify why the incumbent will have to make a decision on the

investment into corporate governance, because if the incumbent is operating in a

strong corporate governance market, that would force him to apply certain corporate

governance mechanisms and will make his corporate governance standards higher

than the entrant’s corporate governance. In this case, the entrant will have to catch up

with the incumbent to be competitive in the foreign market, regardless of the costs.

Fourthly, it is also important to highlight that both players of this game are

rational and determine to maximise their utility. The rationality assumption which is

widely applicable in the game theory assumes that the players are perfect calculators

and flawless followers of their best strategies. That means that a player has a

consistent set of payoffs over all the logically possible outcomes and calculates the

strategy that best services the player’s interest. From a strategic management

perspective, when the firm is facing a decision-making process (like

internationalisation), it will explore the vast number of available possibilities. After that

they will evaluate all the scenarios and will select the best possible outcome that they

can justify. In that case, it can be concluded that most of the time, the firm will act

rationally.

Taking into consideration the literature on corporate governance and a firm’s

profitability, it can be concluded that the increase in the number of corporate

governance mechanisms will increase the profitability of the firm. In the concept of

game theory, such a relationship can be represented in the form of payoffs46. The

46 The payoff will represent the value that is associated with each possible outcome. The higher the payoff, the better the outcome for the player. In the case of this chapter, the fact that corporate governance has a positive relationship with the firm’s profitability

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more a company invests into the establishment of corporate governance mechanisms,

the more profit (higher payoffs) it will receive. If the entrant firm matches the

incumbent’s decision of low investment into corporate governance, then they split the

profit equally (𝜋

2). If the entrant matches the decision of the incumbent of high

investment into corporate governance, then they will bear some cost of that investment

(c) but will still split the market. However, if the second firm does not match the decision

of the first, then the firm with higher corporate governance will be more competitive

and will have all the profit in the market for itself (), while the other firm will have a

negative impact on its performance and may even go out of the market in the long

term (𝛾)47, which means that 𝛾 < 0. The strategic form of the game is represented

below:

Figure 3-3. Simultaneous game under the low cost

Entrant

High Low

Incu

mb

en

t High 𝜋

2 -c ;

𝜋

2 -c 𝜋 − 𝑐 ; 𝛾

Low 𝛾 ; 𝜋 − 𝑐 𝜋

2 ;

𝜋

2

suggests that the higher the payoff, the higher the profit that the firm receives by making a certain strategic move. Later in the chapter, when the firm will face a decision-making process based on asymmetric information, this outcome will be weighted by the probability of that outcome, introducing the concept of expected payoff. To quantify the degree of preference that the firm will face in the game of asymmetric information, the game-theoretic modelling suggests using the utility function (Dixit, Skeath, Reiley, 2015). The game theory approach does not need to have a specific utility function; however, it will require a payoff structure that would be coherent with the fact that the increase in corporate governance mechanisms will represent higher payoffs. 47 In this case, the player who selects a low level of corporate governance, while his opponent chooses a high level of corporate governance, will lose some of his market share to the other player, which will be reflected as a negative payoff. In that sense, the incumbent firm may suffer from the internationalisation of the entrant.

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The payoff structure under the low cost of corporate governance investment is such

that:

𝜋 > 𝜋 − 𝑐 > 𝜋2⁄ > 𝜋

2⁄ − 𝑐 > 𝛾

The Nash equilibrium of this game would be for the incumbent to play “high”

and for the entrant to play “high”, which will yield a payoff of 𝜋

2− 𝑐 for both firms. In this

game, both players have a dominant strategy – “high” - and the payoff structure is

such that even by playing their dominant strategy, neither of the players will achieve

the most profitable outcome. This game is a typical prisoner’s dilemma. From the

perspective of corporate governance, this result supports the argument that if a firm’s

performance is positively correlated to a corporate governance level, then the safest

option for the entrant firm would be to adopt certain corporate governance

mechanisms, regardless of the competitor’s decision.

Let me now consider the scenario that such a game is not simultaneous but

sequential. In this case, the incumbent will move first and select the level of corporate

governance, either high or low. The entrant will have a second move and will also

select the level of his corporate governance at either high or low. All the assumptions

that were stated earlier will hold. Therefore, the entrant will know for sure if the

incumbent has selected a high corporate governance standard or a low corporate

governance standard in the first stage of the game. The payoff structure is also similar

to the simultaneous game. If the entrant firm matches the incumbent’s decision of low

investment into corporate governance (low, low), then they split the profit equally (𝜋

2).

If the entrant matches the decision of the incumbent of high investment into corporate

governance, then they will bear some of the cost of that investment (c), but will still

split the market (high, high). However, if the second firm does not match the decision

148

of the first, then the firm with higher corporate governance will be more competitive

and will have all the profit in the market for itself (), while the firm with the low

corporate governance level will have a certain loss (𝛾) and vice versa. The extensive

form of this game, with the payoffs, is represented below.

The payoff structure is such that:

𝜋 > 𝜋 − 𝑐 > 𝜋2⁄ > 𝜋

2⁄ − 𝑐 > 𝛾

Using the backward induction, we can see that at the top decision node of the

entrant, he will choose strategy “high”. At the bottom node, he will also select strategy

Figure 3-4.Sequential game with perfect information under the low cost

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“high”. Knowing the payoff structure and all the strategies that are available for the

entrant, the incumbent will invest in high corporate governance. The rollback

equilibrium selects high corporate governance for the incumbent, and always selects

high corporate governance for the entrant. From Figure 3.4, we can see that for the

incumbent to stay competitive, he will need to introduce new corporate governance

mechanisms when a second player is entering the market, even though this will not

be the most profitable result for either firm, which is the case when the incumbent does

not invest into corporate governance (playing low), while the entrant matches his

action and also plays strategy low.

In both the simultaneous and consequential games represented above, given

perfect information where both players know each other’s payoffs and actions, it is

possible to draw the same conclusion. When the incumbent is initially operating in the

market with a low corporate governance level and the entrant comes from a similar

market, they will both choose to select a high level of corporate governance to stay

competitive, even though the better collective outcome would be not to introduce any

extra corporate governance mechanisms, therefore keeping the cost to a minimum

and sharing the maximum profit.

However, in a more realistic set-up, the entrant will not know for sure if the

incumbent has strong or weak corporate governance, therefore the assumption of

perfect information will not hold. In game theory terms, this will become a signalling

game and will change how the game tree will look.

Let us look at the following game. Firstly, its nature is going to decide the type

(𝑡 ∈ {𝑡1, 𝑡2}) of the incumbent with the certain probability (p for the type 1 and 1-p for

the second type). The first type (𝑡1) is the incumbent with strong corporate governance

standards. The second type (𝑡2) is when the incumbent’s corporate governance is

150

weak. The incumbent knows for sure if he is type 1 or type 2, and after observing this

information, it will be the incumbent’s turn to select either a high corporate governance

standard or a low one. In the second stage of this game, it is for the entrant to choose

his strategy and either play strategy high or low. The payoff structure for this game

stays the same: 𝜋 > 𝜋 − 𝑐 > 𝜋2⁄ > 𝜋

2⁄ − 𝑐 > 𝛾, assuming that the cost for the

entrant to catch up with the incumbent’s corporate governance in not high. The game

tree for this updated scenario is represented in Figure 3.5.

Let us look at the right-hand side of the tree. Here, the incumbent, depending

on his type, will select a high level of corporate governance (H); however, the entrant

will not know if the incumbent’s corporate governance is actually high or low, which is

determined by nature in the first stage of the game. Therefore, if the incumbent

observes that he is a type 1, and then plays his strategy “high”, he is signalling to the

entrant that he actually has strong corporate governance. The opposite of that

scenario is that the incumbent will be type 2, but will behave as a firm with strong

Figure 3-5. Sequential game with imperfect information under the low cost

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corporate governance and will therefore be bluffing in order to push the entrant into

the strategy of not matching the incumbent’s corporate governance, and thus will

remain competitive in the market. At the same time, a firm signalling that it has high

corporate governance will have an extra cost, and therefore will reflect on the payoff

of the incumbents (𝐶𝐼(𝑚𝑖𝑚𝑖𝑐), 𝑤ℎ𝑒𝑟𝑒 0 < 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐) <𝜋

2). The important assumption here

is that for that bluff to be credible, the cost of the incumbent to mimic type 1 should be

less than the cost of the entrant (𝐶𝐸) to catch up with the incumbent’s corporate

governance (𝐶𝐼(𝑚𝑖𝑚𝑖𝑐) < 𝐶𝐸). If the incumbent mimics the action of the firm with the

high level of corporate governance while his corporate governance is actually low, he

will still receive some benefit of that move, represented by 𝜃. This reward is some

fraction of the market that he will receive based on his investment in corporate

governance. This reward is between 0 < 𝜃 <𝜋

2 and it should be subtracted from the

entrant’s payoff. As the entrant cannot truly distinguish between the types of the

incumbent, this is represented in the diagrams as “information set 1”.

On the left-hand side, the incumbent is playing strategy “low”, depending on his

type. When the incumbent initially has weak corporate governance (type 2) and is

playing “low”, it is possible to label this strategy as “honest”, meaning that the

incumbent will not lie about his type, and if he has weak corporate governance, he will

demonstrate low corporate governance investment. On the contrary, if nature will

determine that the incumbent is type 1 and has strong corporate governance, and the

incumbent will play action “low”, that means that he is hiding the real information and

trying to push the entrant into a trap. Hiding the true information will also come at a

cost for the incumbent (𝐶𝐼(𝑙𝑖𝑒), 𝑤ℎ𝑒𝑟𝑒 0 < 𝐶𝐼(𝑙𝑖𝑒) <𝜋

2). The trap here can be devastating

for the entrant, because if he follows the path in which nature determines that the

incumbent’s type is 𝑡1, the incumbent plays “low” and the entrant chooses to match

152

the incumbent’s decision (to play low), that will lead to a payoff structure such that the

incumbent will remain as the monopolist (payoff of 𝜋 − 𝐶𝐼(𝑙𝑖𝑒)) and the entrant will be

unsuccessful in the market and will have the certain cost that can arise from

unsuccessful internationalisation (payoff of 𝛾 ). Once again, the entrant cannot directly

observe the type of the incumbent, and therefore we can see the second information

set on the left-hand side of the tree. It is also important to highlight that the incumbent’s

cost of hiding information is less than his cost of mimicking the actions of the firm with

the high level of corporate governance.

To solve this sequential game of incomplete information, it is important to

introduce a concept of beliefs. That means that the players of this game must not only

use their best strategies, given their information, but must also draw correct inferences

(update their beliefs via the Bayes rule when possible) by observing the actions of the

opponent. When the optimal decisions at all nodes will be

imposed, this will be a perfect Bayesian equilibrium (PBE).

Separating Equilibrium Subcase One (Low Cost)

A separating equilibrium comes with the assumption that each type of player 1

will choose a unique action, which means that the one type will choose one strategy,

while the other type will choose the opposite strategy. The second player observes

that action and, based on his belief, will be able to determine in which node of the tree

he is located. Therefore, if the incumbent plays a certain action, the entrant’s belief is

that this action can only be played by a certain type of incumbent. Based on this logic,

there are two potential cases in which the incumbent can select his actions. Case

number one is when the incumbent is “honest” and he plays action “high” when he is

type 1 and action “low” when he is type 2. The second case of the separating

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equilibrium that should be considered is when the incumbent is bluffing or hiding

information. In other words, he is playing “low” if he is type 1 and “high” if he is type 2.

Let us consider the first case and the incumbent’s strategy (𝜎𝐼) depending on

the type he is playing.

𝜎𝐼(𝑡) = {𝐻 𝑖𝑓 𝑡 = 𝑡1

𝐿 𝑖𝑓 𝑡 = 𝑡2

In this case, the entrant will update his beliefs based on the idea that only a certain

type of the incumbent will play this action, which means that the probability for the

incumbent being type 1 and playing strategy “high” is equal to 1 (p=1), and the

probability of the incumbent being type 2 and playing strategy “high” is equal to 0 (1-

p) and vice versa. Therefore, the beliefs could be updated via the Bayes rule:

𝜇1(𝑡1) = Pr(𝐻𝐼|𝑡1) ∗ Pr (𝑡1)

Pr (𝐻)=

Pr(𝐻|𝑡1) ∗ Pr (𝑡1)

Pr(𝐻|𝑡1) ∗ Pr(𝑡1) + Pr(𝐻|𝑡2) ∗ Pr (𝑡2)

Where: Pr(𝐻) = ∑ Pr(𝐻|𝑡𝑖) ∗ Pr (𝑡𝑖)𝑡=𝑖

𝑃𝑟(𝑡1) = 𝑝 and 𝑃𝑟(𝑡2) = 1 − 𝑝

Substituting the probabilities will yield:

𝜇1(𝑡1|𝐻) =1 ∗ 𝑝

1 ∗ 𝑝 + 0 ∗ (1 − 𝑝)= 1

Therefore: 𝜇1(𝑡1|𝐻) = 1; 𝜇1(𝑡2|𝐻) = 0

In the same way, it is possible to update the beliefs that type 2 will always play the

strategy “low” and type 1 will never play this strategy:

𝜇2(𝑡1|𝐿) = 0 ; 𝜇2(𝑡2|𝐿) = 1

Based on the beliefs of the entrant and the corresponding types of the incumbent, it is

possible to calculate the expected utility for the entrant 𝔼𝑈𝐸, when the incumbent is

playing action “high” and when he plays action “low”.

Identifying the best response for the entrant against strategy “high”:

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(1) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜇1(𝑡1|𝐻𝐼) ∗ 𝑈(𝐻𝐸|𝐻𝐼; 𝑡1) + 𝜇1(𝑡2|𝐻𝐼) ∗ 𝑈(𝐻𝐸|𝐻𝐼; 𝑡2)

(2) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝜇1(𝑡1|𝐻𝐼) ∗ 𝑈(𝐿𝐸 , 𝐻𝐼; 𝑡1) + 𝜇1(𝑡2|𝐻𝐼) ∗ 𝑈(𝐿𝐸|𝐻𝐼; 𝑡2)

Inputting the corresponding beliefs and payoffs will yield that:

(1)𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 1 ∗ (𝜋

2− 𝐶𝐸) + 0 ∗ (𝜋 − 𝜃−𝐶𝐸)

(1) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) =𝜋

2− 𝐶𝐸

(2) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 1 ∗ 𝛾 + 0 ∗ (𝜋

2− 𝜃)

(2) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝛾

Based on the expected utility and the payoff structure that was defined earlier, it is

possible to conclude that 𝑈𝐸(𝐻𝐸 , 𝐻𝐼) > 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼). Therefore, when the incumbent

plays strategy “high”, the entrant will choose to play “high” as well, based on the belief

that only the incumbent with strong corporate governance (type 1) will choose that

action. This best response can be written as follows:

𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸

Now we need to calculate the expected utility and identify the best response for

the second player against strategy “low”:

(3) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜇2(𝑡1|𝐿𝐼) ∗ 𝑈(𝐻𝐸|𝐿𝐼; 𝑡1) + 𝜇2(𝑡2|𝐿𝐼) ∗ 𝑈(𝐻𝐸|𝐿𝐼; 𝑡2)

(4) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜇2(𝑡1|𝐿) ∗ 𝑈(𝐿𝐸|𝐿𝐼; 𝑡1) + 𝜇2(𝑡2|𝐿𝐼) ∗ 𝑈(𝐻𝐸|𝐿𝐼; 𝑡2)

Inputting the corresponding beliefs and payoffs will yield that:

(3) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 0 ∗ (𝜋

2− 𝐶𝐸) + 1 ∗ (𝜋−𝐶𝐸)

(3) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋−𝐶𝐸

(4) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 0 ∗ 𝛾 + 1 ∗𝜋

2

(4) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜋

2

155

In this case the best response for the entrant will be to select strategy “high” as

𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) > 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼), if he believes that only a type 2 incumbent will play the

strategy “low”. Therefore, the best response for the entrant would be

𝐵𝑅𝐸(𝐿𝐼) = 𝐻𝐸

Based on the best responses which are calculated above, it can be concluded that the

entrant will have a dominant strategy of playing strategy “high”, regardless of the

incumbent’s actions. The strategies that we concluded based on the expected utilities

and beliefs are highlighted in red in the tree diagram below (Figure 3.6).

The final step to determine if that is the PBE is to check that the incumbent has

no incentive to deviate. First, we will look at a type 1 incumbent and compare his

payoffs of playing strategy “high”, knowing that the entrant will play “high”, and the

incumbent who will play “low” while the entrant chooses “high”. Comparing the payoffs,

we can identify that the incumbent will prefer to play “high” as his payoff is greater (

Figure 3-6. Separating equilibrium subcase 1 (Low Cost)

156

𝜋

2>

𝜋

2− 𝐶𝐼(𝑙𝑖𝑒) ). Thus, there is no incentive for the incumbent to deviate from the

equilibrium path.

We will now consider the type 2 incumbent who would choose strategy “low”

when the entrant selects “high”. In this scenario, by playing “low” the incumbent will

receive the payoff of 𝛾 and by playing the strategy “high” he will receive the payoff of

𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). Therefore, there are two possible outcomes. Proposition one is that if the

incumbent’s reward for mimicking the action of the firm with strong corporate

governance is higher than the cost of this action, then there is an incentive to defect

from the equilibrium path (𝛾 < 0 < 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐)). Proposition two is that if the cost of

mimicking the actions of the firm with high corporate governance is high, then there is

no incentive to deviate under the condition that 𝛾 ≥ 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐).

As one of the assumptions is that the value of the reward is strictly between

zero and half of the potential market (0 < 𝜃 <𝜋

2 ), there is an incentive for the

incumbent to deviate, as proposition one will hold. Therefore, there is no perfect

Bayesian equilibrium in this case.

Separating Equilibrium Subcase Two (Low Cost)

The second case of separating the equilibrium that should be considered is when the

incumbent is bluffing or hiding information. In other words, he is playing “low” if he is

type 1 and “high” if he is type 2. Therefore, the strategy for the incumbent will be

𝜎𝐼(𝑡) = {𝐿 𝑖𝑓 𝑡 = 𝑡1

𝐻 𝑖𝑓 𝑡 = 𝑡2


type of incumbent will play this action, which means that the probability of the

incumbent being type 1 and playing strategy “low” is equal to 1 (p=1), and the

157

probability of being type 1 and playing strategy “high” is equal to 0 (1-p) and vice versa.

Therefore, the beliefs could be updated via the Bayes rule, in a similar manner to the

first case of separating equilibrium.

𝜇1(𝑡1|𝐻𝐼) = 0 ; 𝜇1(𝑡2|𝐻𝐼) = 1

𝜇2(𝑡1|𝐿𝐼) = 1 ; 𝜇2(𝑡2|𝐿𝐼) = 0

Knowing that only a certain type of incumbent will play strategy “high”, and another

type will play strategy “low”, with the corresponding belief for the entrant, it is possible

to calculate the entrant’s expected utility and identify the best responses. Firstly, I will

look at the right-hand side of the original tree, where different incumbent types will play

strategy “high”:

(5) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜇1(𝑡1|𝐻𝐼) ∗ 𝑈(𝐻𝐸| 𝐻𝐼; 𝑡1) + 𝜇1(𝑡2|𝐻𝐼) ∗ 𝑈(𝐻𝐸|𝐻𝐼; 𝑡2)

(6) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝜇1(𝑡1|𝐻𝐼) ∗ 𝑈(𝐿𝐸| 𝐻𝐼; 𝑡1) + 𝜇1(𝑡2|𝐻𝐼) ∗ 𝑈(𝐿𝐸|𝐻𝐼; 𝑡2)

(5)𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 0 ∗ (𝜋

2− 𝐶𝐸) + 1(𝜋 − 𝜃 − 𝐶𝐸)

(5)𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋 − 𝜃 − 𝐶𝐸

(6) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 0 ∗ 𝛾 + 1 ∗ (𝜋

2− 𝜃)

(5) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) > (6) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

Therefore, the best response for the entrant against strategy “low” will be to play

strategy “high”, 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸

Now let us look at the left-hand side of the original tree, in which two different

types of the incumbent will play strategy “low”. Based on the beliefs that were defined

in the beginning of this subcase, the entrant will assume that only the second type of

incumbent would play strategy “low”. The expected utility for the second player is:

(7) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜇2(𝑡1|𝐿𝐼) ∗ 𝑈(𝐻𝐸| 𝐿𝐼; 𝑡1) + 𝜇2(𝑡2|𝐿𝐼) ∗ 𝑈(𝐻𝐸|𝐿𝐼; 𝑡2)

(8) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜇2(𝑡1|𝐿𝐼) ∗ 𝑈(𝐿𝐸| 𝐿𝐼; 𝑡1) + 𝜇2(𝑡2|𝐿𝐼) ∗ 𝑈(𝐿𝐸|𝐿𝐼; 𝑡2)

158

(7) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 1 ∗ (𝜋

2− 𝐶𝐸) + 0 ∗ 𝜋 − 𝐶𝐸

(7) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋

2− 𝐶𝐸

(8) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 1 ∗ 𝛾 + 0 ∗𝜋

2

(8) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝛾

(7) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) > (8) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

Therefore, the best response for the second player (entrant) against strategy “low” will

be always to play strategy “high”. The tree diagram representing the beliefs, payoffs

and the best responses is represented below.

To identify if this set of sequential strategies and beliefs is indeed the perfect

Bayesian equilibrium, it is vital to check that the incumbent has no incentive to deviate

off the equilibrium path. Starting with the type 1 incumbent, his payoff along the

equilibrium path will be 𝜋

2− 𝐶𝐼(𝑙𝑖𝑒). If the type 1 incumbent deviates and selects strategy

“high” based on the best response of the entrant, the incumbent will have the payoff

Figure 3-7. Separating Equilibrium Subcase 2 (Low Cost)

159

of 𝜋

2. Therefore, the incumbent has the incentive to defect from his strategy “low” when

he is type 1, and play strategy “high”:

𝜋

2 >

𝜋

2− 𝐶𝐼(𝑙𝑖𝑒)

The type 2 incumbent, whose default strategy based on the beliefs would be to

play “high”, will receive the payoff of 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). The potential deviation for the

incumbent of this type would be to play strategy “low”, and knowing that the entrant’s

best response in this case would be to play strategy “high”, the incumbent’s payoff

would be equal to 𝛾. Therefore, there are two potential outcomes depending on the

level of incumbent’s reward for mimicking the behaviour of the strong type (𝜃) and the

level of cost (𝐶𝐼(𝑚𝑖𝑚𝑖𝑐)). Proposition one is that if the incumbent’s reward for mimicking

the action of the firm with strong corporate governance is higher than the cost of this

action, then there is no incentive to defect from the equilibrium path (𝛾 < 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐)).

Proposition two is that if the cost of mimicking the actions of the firm with high

corporate governance is higher or equal to the reward that the incumbent can receive,

then there is no incentive to deviate as 𝛾 ≥ 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). As 𝜃 is always greater than

0, it is possible to conclude that there is no incentive to defect from the equillibrium

path, and the type 2 incumbent will stick to the strategy “high”.

Conlcuding the analysis on the second subcase of seperating equilibrium, we can

state that the perfect Bayesian equilibrium does not exist, as the type 1 incumbent will

always have an incentive to defect.

160

Pooling Equilibrium Subcase Three (Low Cost)

In a pooling PBE, both types of incumbent will choose the same message, so

that they cannot be distinguished by the second player based on their behaviour.

Therefore, there are two potential cases in which the incumbent pools his actions: the

first is in the strategy “high”, regardless of his type, or the second case is when he

selects “low”, regardless of his type. Starting the analysis from the scenario when the

incumbent is pulling on strategy “high”, his strategy can be represented as:



Following the procedure to identify if the pooling equilibrium exists, the entrant’s beliefs

should be updated via the Bayes rule whenever possible. Considering the beliefs that

the entrant will have about the incumbent when observing his strategy “high”,

regardless of his type, the beliefs will be:

𝜇1(𝑡1|𝐻) = Pr(𝐻|𝑡1) ∗ Pr (𝑡1)

Pr (𝐻)=

Pr(𝐻|𝑡1) ∗ Pr (𝑡1)

Pr(𝐻|𝑡1) ∗ Pr(𝑡1) + Pr(𝐻|𝑡2) ∗ Pr (𝑡2)

𝜇1(𝑡2|𝐻) = Pr(𝐻|𝑡2) ∗ Pr (𝑡2)

Pr (𝐻)=

Pr(𝐻|𝑡2) ∗ Pr (𝑡2)

Pr(𝐻|𝑡2) ∗ Pr(𝑡2) + Pr(𝐻|𝑡1) ∗ Pr (𝑡1)

From the structure of the game we know that 𝑃𝑟(𝑡1) = 𝑝 and 𝑃𝑟(𝑡2) = 1 − 𝑝. And

based on the strategy of the first player, Pr(𝐻|𝑡1) = 1 and Pr(𝐻|𝑡2) = 1 . Therefore,

the beliefs will be

161

𝜇1(𝑡1|𝐻) = 𝑝

𝜇1(𝑡2|𝐻) = 1 − 𝑝

If, however, the incumbent will play strategy L (regardless of his type), which never

occurs along the equilibrium path, the Bayes’ rule will not apply because:

𝜇2(𝑡1|𝐿) ≠ Pr(𝐿|𝑡1) ∗ Pr(𝑡1)

Pr(𝐿)

𝜇2(𝑡2|𝐿) ≠ Pr(𝐿|𝑡2) ∗ Pr(𝑡2)

Pr(𝐿)

Where: Pr (𝐿) = 0

In this case, we reach arbitrarily assigned beliefs (Fudenberg & Tirole, 1991). It is not

possible at this point to know which, if any, beliefs regarding the equilibrium path

behaviour will sustain a pooling equilibrium. Therefore, for now, we assume that:

𝜇2(𝑡1|𝐿) = 𝜆

𝜇2(𝑡2|𝐿) = 1 − 𝜆

𝑊ℎ𝑒𝑟𝑒: 𝜆 ∈ [0,1]

Now we can start calculating the expected utility of the entrant when the incumbent is

pooling his types and playing action “high”:


(10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝜇1(𝑡1|𝐻𝐼) ∗ 𝑈(𝐿𝐸|𝐻𝐼; 𝑡1) + 𝜇1(𝑡2|𝐻𝐼) ∗ 𝑈(𝐿𝐸|𝐻𝐼; 𝑡2)

Substituting the beliefs and payoffs:

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝑝 ∗ (𝜋

2− 𝐶𝐸) + (1 − 𝑝) ∗ ( 𝜋 − 𝜃 − 𝐶𝐸)

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋

2𝑝 − 𝐶𝐸𝑝 + 𝜋 − 𝜃 − 𝐶𝐸 − 𝜋𝑝 + 𝜃𝑝 + 𝐶𝐸𝑝

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋 −𝜋

2𝑝 − 𝐶𝐸 − 𝜃 + 𝜃𝑝

162

(10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝑝 ∗ 𝛾 + (1 − 𝑝) ∗ (𝜋

2− 𝜃)

(10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝑝 ∗ 𝛾 +𝜋

2− 𝜃 −

𝜋

2𝑝 + 𝜃𝑝

The best response (BR) for the entrant against the incumbent’s strategy “high” will

depend on which expected utility is higher. Therefore, there are three conditions:

𝐵𝑅𝐸(𝐻𝐼) = {

𝐻𝐸 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) > 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

𝐿𝐸 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) < 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

𝑝𝐻𝐸 + (1 − 𝑝)𝐿𝐸) 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

To find the best response of the entrant, we can start from the indifference condition:

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = (10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

(9) 𝜋 −𝜋

2𝑝 − 𝐶𝐸 − 𝜃 + 𝜃𝑝 = (10) 𝑝 ∗ 𝛾 +

𝜋

2− 𝜃 −

𝜋

2𝑝 + 𝜃𝑝

Knowing that the probability of 𝑝 ∈ [0,1], it is possible to approach this solution by

substituting the values of 𝛼 into the equation. Let us look at the first proposition that

𝑝 = 1 (proposition one):

(9) 𝜋 −𝜋

2− 𝐶𝐸 − 𝜃 + 𝜃 = (10) 𝛾 +

𝜋

2− 𝜃 −

𝜋

2+ 𝜃

(9) 𝜋

2− 𝐶𝐸 = (10) 𝛾

Therefore, the entrant would be indifferent as his payoff of 𝜋

2− 𝐶𝐸 will be equal to 𝛾.

However, taking into account the payoff structure that was defined at the beginning of

the analysis 𝜋 > 𝜋 − 𝑐 > 𝜋2⁄ > 𝜋

2⁄ − 𝑐 > 𝛾 the dominant strategy for the entrant

would be to play action “high”: 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸

The opposite case (proposition two) is when 𝑝 = 0.

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = (10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

(9) 𝜋 −𝜋

2𝑝 − 𝐶𝐸 − 𝜃 + 𝜃𝑝 = (10)𝑝 ∗ 𝛾 +

𝜋

2− 𝜃 −

𝜋

2𝑝 + 𝜃𝑝

163

(9) 𝜋 − 𝐶𝐸 − 𝜃 = (10) 𝜋

2− 𝜃

As 𝜃 is the constant that is the same on both sides, it can be removed, and the final

payoff for the indifference condition will be:

(9) 𝜋 − 𝐶𝐸 = (10) 𝜋

2

As in proposition one, for this statement to be true the entrant should face the high

cost of corporate governance. Based on the predefined payoff structure of the case,

the entrant’s strategy “high” will yield a higher payoff: (9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) >

(10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼), therefore the entrant’s best response would be to play action “high”:

𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸.

Consequently, if the incumbent is pooling on strategy “high”, the best response for the

entrant would also be to set his corporate governance “high”.

Now it is important to look at the actions of the entrant off the equilibrium path,

which is to identify what would be the best response of the entrant in case of the type

1 incumbent playing strategy “low”.

(11) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜇2(𝑡2|𝐿𝐼) ∗ 𝑈(𝐻𝐸|𝐿𝐼; 𝑡1) + 𝜇2(𝑡2|𝐻𝐼) ∗ 𝑈(𝐻𝐸|𝐿𝐼; 𝑡2)

(12) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜇2(𝑡2|𝐿𝐼) ∗ 𝑈(𝐿𝐸|𝐿𝐼; 𝑡1) + 𝜇2(𝑡2|𝐻𝐼) ∗ 𝑈(𝐿𝐸|𝐿𝐼; 𝑡2)

(11) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜆 ∗ (𝜋

2− 𝐶𝐸) + (1 − 𝜆) ∗ ( 𝜋 − 𝐶𝐸)

(11) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2𝜆 − 𝐶𝐸

(12) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜆 ∗ 𝛾 + (1 − 𝜆) ∗𝜋

2

(12) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜆 ∗ 𝛾 +𝜋

2−

𝜋

2𝜆

164

In this case, the best response (BR) for the entrant against the incumbent’s strategy

“low” will depend on which expected utility is higher. Therefore, there are 3 conditions:

𝐵𝑅𝐸(𝐿𝐼) = {

𝐻𝐸 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) > 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

𝐿𝐸 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) < 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

𝜆𝐻𝐸 + (1 − 𝜆)𝐿𝐸) 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)


(11)𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = (12)𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

Again, we will have to consider two different propositions based on the probability of

𝜆. Proposition one is that 𝜆 = 1

(11)𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2∗ 1 − 𝐶𝐸

(11)𝜋

2− 𝐶𝐸

(12)𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 1 ∗ 𝛾 +𝜋

2−

𝜋

2∗ 1

(12)𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝛾

The result for the incumbent under proposition one is that he will always play strategy

“high”, as 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) > 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

Under the second proposition, 𝜆 = 0:

(11)𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2∗ 0 − 𝐶𝐸

(11) 𝜋 − 𝐶𝐸

(12)𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 0 ∗ 𝛾 +𝜋

2−

𝜋

2∗ 0

(12)𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) =𝜋

2

165

As the entrant’s cost is low, playing high would once again be the dominant strategy

𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) > 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼). The equilibrium paths are shown in Figure 3.8.

To understand if the pooling equilibrium exists, we must now make sure that as

a result of the actions of player two (the entrant), the incumbent does not have the

incentive to deviate. Therefore, if the incumbent is pooling on his strategy “high” while

he is a type 1 player, he will end up with the payoff 𝜋

2. However, if he deviates from

that path and plays strategy “low” while being a type 1 player, his payoff based on the

best response of the entrant would be 𝜋

2− 𝐶𝐼(𝑙𝑖𝑒). Comparing these two payoffs, the

incumbent would be better off by staying on the equilibrium path, and therefore will

have no incentive to deviate.

If the incumbent is type 2 and is pooling on strategy high, his payoff, based on

the best response of the entrant, would be 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). The alternative path for the

Figure 3-8. Pooling Equilibrium Subcase 3 (Low Cost)

166

type 2 incumbent would be to play strategy “low”, and, in this case, it would yield a

payoff of 𝛾. Therefore, it can be concluded that the pooling PBE will exist as:

𝛾 < 0 < 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐)

Pooling Equilibrium Sub-Case Four (Low Cost)

Let us now consider the second scenario of pooling equilibrium, in which the

incumbent is pooling on his strategy “low”:



Following the procedure to identify if the pooling equilibrium exists, the entrant’s beliefs

should be updated via the Bayes rule whenever possible. Starting from the beliefs that

the entrant will have about the incumbent when observing his strategy “low”,

regardless of his type, the beliefs will be:

𝜇2(𝑡1|𝐿) = Pr(𝐿|𝑡1) ∗ Pr (𝑡1)

Pr (𝐿)=

Pr(𝐿|𝑡1) ∗ Pr (𝑡1)

Pr(𝐿|𝑡1) ∗ Pr(𝑡1) + Pr(𝐿|𝑡2) ∗ Pr (𝑡2)

𝜇2(𝑡2|𝐿) = Pr(𝐿|𝑡2) ∗ Pr (𝑡2)

Pr (𝐿)=

Pr(𝐿|𝑡2) ∗ Pr (𝑡2)

Pr(𝐿|𝑡2) ∗ Pr(𝑡2) + Pr(𝐿|𝑡1) ∗ Pr (𝑡1)

From the structure of the game, we know that 𝑃𝑟(𝑡1) = 𝑝 and 𝑃𝑟(𝑡2) = 1 − 𝑝. Based

on the strategy of the first player, Pr(𝐿|𝑡1) = 1 and Pr(𝐿|𝑡2) =1. Therefore, the beliefs

will be

𝜇2(𝑡1|𝐿) = 𝑝

𝜇2(𝑡2|𝐿) = 1 − 𝑝

167

If, however, the incumbent plays strategy H (regardless of his type), which never

occurs along the equilibrium path, the Bayes’ rule will not apply, because:

𝜇1(𝑡1|𝐻) ≠ Pr(𝐻|𝑡1) ∗ Pr(𝑡1)

Pr(𝐻)

𝜇1(𝑡2|𝐻) ≠ Pr(𝐻|𝑡2) ∗ Pr(𝑡2)

Pr(𝐻)

Where: Pr (𝐻) = 0

In this case, we reach arbitrarily assigned beliefs. It is not possible at this point to know

which, if any, beliefs regarding the equilibrium path behaviour will sustain a pooling

equilibrium. Therefore, for now we assume that:

𝜇1(𝑡1|𝐻) = 𝜆

𝜇1(𝑡2|𝐻) = 1 − 𝜆

𝑊ℎ𝑒𝑟𝑒: 𝜆 ∈ [0,1]

Now we can start calculating the expected utility of the entrant when the incumbent is

pooling his types and playing action “low”:



(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝑝 ∗ (𝜋

2− 𝐶𝐸) + (1 − 𝑝) ∗ ( 𝜋 − 𝐶𝐸)

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2𝑝 − 𝐶𝐸

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝑝 ∗ 𝛾 + (1 − 𝑝) ∗𝜋

2

168

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝑝 ∗ 𝛾 +𝜋

2−

𝜋

2𝑝

In this case, the best response (BR) for the entrant against incumbent’s strategy “low”

will depend on which expected utility is higher. Therefore, there are three conditions:




𝑝𝐻𝐸 + (1 − 𝑝)𝐿𝐸) 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

Similar to the first case of pooling equilibrium, it is important to consider two extreme

cases when 𝑝 = 1 and 𝑝 = 0. In the first proposition, let us consider that 𝑝 = 1

Under this condition, the best response of the entrant would be:

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2∗ 1 − 𝐶𝐸

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) =𝜋

2− 𝐶𝐸

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 1 ∗ 𝛾 +𝜋

2−

𝜋

2∗ 1

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝛾

Therefore, under proposition one, the entrant’s expected utility to play strategy “high”

is always greater than his expected utility to play strategy “low”. Thus, for the entrant,

“high” is the dominant strategy.

The second proposition is that 𝑝 = 0. Under this criterion, the expected utility of

playing strategy “high” and “low” for the entrant, while the incumbent is pooling on his

strategy “low”, would be:

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2∗ 0 − 𝐶𝐸

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 − 𝐶𝐸

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 0 ∗ 𝛾 +𝜋

2−

𝜋

2∗ 0

169

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜋

2

Based on the payoff structure that the cost implementation of new corporate

governance mechanisms is low ( 𝜋 > 𝜋 − 𝑐 > 𝜋2⁄ > 𝜋

2⁄ − 𝑐 > 𝛾), it can be

concluded that “high” is still the dominant strategy for the entrant. Therefore, the best

response for the entrant is always to play strategy “high”, while the incumbent is

pooling on his strategy “low”.

The next step to find the pooling equilibrium would be to consider the best

response actions of the entrant off the equilibrium path. In that case, the entrant would

assume that the incumbent is playing strategy “high”, regardless of his type.




(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜆 ∗ (𝜋

2− 𝐶𝐸) + (1 − 𝜆) ∗ ( 𝜋 − 𝜃 − 𝐶𝐸)

(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋

2𝜆 − 𝐶𝐸𝜆 + 𝜋 − 𝜃 − 𝐶𝐸 − 𝜋𝜆 + 𝜃𝜆 + 𝐶𝐸𝜆

(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋 −𝜋

2𝜆 − 𝐶𝐸 − 𝜃 + 𝜃𝜆

(16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝜆 ∗ 𝛾 + (1 − 𝜆) ∗ (𝜋

2− 𝜃)

(16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝜆 ∗ 𝛾 +𝜋

2− 𝜃 −

𝜋

2𝜆 + 𝜃𝜆

The best response (BR) for the entrant against incumbent’s strategy “high” will depend

on which expected utility is higher. Therefore, there are three conditions:




𝜆𝐻𝐸 + (1 − 𝜆)𝐿𝐸) 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

170


(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = (16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

(15) 𝜋 −𝜋

2𝜆 − 𝐶𝐸 − 𝜃 + 𝜃𝜆 = (16)𝜆 ∗ 𝛾 +

𝜋

2− 𝜃 −

𝜋

2𝜆 + 𝜃𝜆

Knowing that the probability of 𝜆 ∈ [0,1], it is possible to approach this solution by

substituting the values of 𝛼 into the equation. Let us look at the first proposition that

𝜆=1 (proposition one):

(15) 𝜋 −𝜋

2− 𝐶𝐸 − 𝜃 + 𝜃 = (16)𝛾 +

𝜋

2− 𝜃 −

𝜋

2+ 𝜃

(15) 𝜋

2− 𝐶𝐸 = (16) 𝛾

Taking into account the payoff structure that was defined at the beginning of

the analysis > 𝜋 − 𝑐 > 𝜋2⁄ > 𝜋

2⁄ − 𝑐 > 𝛾 , therefore the dominant strategy for the

entrant would be to play action “high”, 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸

The opposite case (proposition two) is when 𝜆 = 0.

(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = (16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

(15) 𝜋 −𝜋

2𝜆 − 𝐶𝐸 − 𝜃 + 𝜃𝜆 = (16) 𝜆 ∗ 𝛾 +

𝜋

2− 𝜃 −

𝜋

2𝜆 + 𝜃𝜆

(15) 𝜋 − 𝐶𝐸 − 𝜃 = (16) 𝜋

2− 𝜃


payoff for the indifference condition will be

(15) 𝜋 − 𝐶𝐸 = (16) 𝜋

2

As in proposition one, based on the predefined payoff structure of the case, the

entrant’s strategy “high” will yield a higher payoff (15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) > (16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼),

therefore the entrant’s best response would be to play action “high” 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸.

171

Therefore, on the equilibrium path, the entrant would always play strategy “high”, as it

would be the dominant strategy. The tree diagram in Figure 3.9 represents the best

responses of the entrant.

The final step to identify if the pooling equilibrium will hold under the actions of

the second player would be to look at the incumbent’s payoff on and off the equilibrium

path, to determine if the incumbent has an incentive to deviate. If the incumbent is type

2 and is pooling on his strategy “low”, he will receive the payoff of 𝛾. On the other

hand, if the incumbent deviates from the equilibrium path and chooses strategy “high”

while he is a type 2 player, he would receive the payoff of 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). In this case,

the incumbent will have an incentive to deviate 𝛾 < 0 < 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐).

In the scenario when the incumbent is a type one player and is pooling on the

strategy “low”, he will receive the payoff of 𝜋

2− 𝐶𝐼(𝑙𝑖𝑒). Taking the action off the

equilibrium path, and knowing the best response of the entrant on that path, the payoff

Figure 3-9. Pooling Equilibrium Sub-Case 4 (Low Cost)

172

for the incumbent would be 𝜋

2 , which will always be higher. Therefore, there is no

pooling equilibrium when the first player is pooling on his strategy “low”.

High cost and changes in the payoff structure

One of the key assumptions in the previous section of this chapter was that the

cost of investment into the corporate governance is low, and by investing into

corporate governance mechanisms, a firm would still be better off than not investing.

This section will consider the scenario when the cost on investment into corporate

governance is high, holding all the other assumptions the same as in the previous

section. The primary reason for that significant cost can be due to the fact that if the

entrant firm comes from a market with a low level of corporate governance into a

market where the corporate governance standards and regulations are high, then the

first market of entry will require a significant catch up in terms of corporate governance

mechanisms and therefore a significant investment, which will mean significant costs

for the entry firm. This assumption will change the payoff structure of the game and

the new payoff structure will be: 𝜋 > 𝜋2⁄ > 𝜋 − 𝑐 > 𝜋

2⁄ − 𝑐 > 𝛾.

As in the previous section, I will begin the analysis with the simple simultaneous

game (Figure 3.10), in which the entrant and the incumbent choose their strategy for

playing a high or low level of corporate governance at the same time.

173

Figure 3-10. Simultaneous game under the high cost of corporate governance

Entrant

High Low In

cu

mb

en

t High 𝜋

2 -c ;

𝜋

2 -c 𝜋 − 𝑐 ; 𝛾

Low 𝛾 ; 𝜋 − 𝑐 𝜋

2 ;

𝜋

2

Using the best response method, we can see that the entrant will play strategy

“high” when the incumbent is playing strategy “high”, and the entrant will play strategy

“low”, when the incumbent is playing strategy “low”. In this case, the game becomes

the coordination game, with two Nash equilibria (high, high) and (low, low). In this

scenario, unlike the previous case with the prisoner’s dilemma, there is no dominant

strategy. The players can achieve one of the Nash equilibria through cooperation, and

this becomes an assurance game in which the best results can be achieved if the

players use the same strategy.

Let us now consider the scenario that such a game is not simultaneous but

sequential (Figure 3.11). In this case, the incumbent will move first and select the level

of corporate governance at either high or low. The entrant will have a second move

and will also select his corporate governance investment at either high or low. All the

assumptions that were stated earlier will hold. Therefore, the entrant will know for sure

if an incumbent has selected a high corporate governance standard or a low corporate

governance standard in the first stage of the game. The payoff structure is also similar

to the simultaneous game. Using the backward induction method, it is possible to

conclude that the entrant will select the strategy “high” if he will end up in the upper

174

node (when the incumbent is playing high) and the entrant will select strategy “low”

when he ends up in the lower node (when the entrant is playing strategy “low”.)

Based on the assumption of perfect information and the rationality of the

players, the incumbent will know the payoffs of the entrant and, at the same time, will

assume that the entrant will select his actions based on the highest payoff at each

node. In this case, the incumbent will compare his payoffs of 𝜋

2− 𝐶 and

𝜋

2. Taking the

payoff structure into consideration ( 𝜋 > 𝜋2⁄ > 𝜋 − 𝑐 > 𝜋

2⁄ − 𝑐 > 𝛾) the higher

payoff for the incumbent in the sequential game would be (𝜋

2). Therefore, the rollback

equilibrium of this game would be for the incumbent to play strategy “low” and for the

entrant to play strategy “low” if the incumbent is playing strategy “low”, and to play

Figure 3-11. Sequential game with perfect information under the high cost

175

strategy “high” if the incumbent is playing strategy high. In comparison to the situation

in Figure 3.4., this time the perfect rollback equilibrium would occur when both players

play strategy “low”. This time the decision to cooperate and not to invest in corporate

governance would yield a higher possible payoff for both players.

Separating Equilibrium Subcase Five (High Cost)

Compared to the scenario with the low cost of corporate governance

investment, it is important to consider the imperfect information that occurs in the entry

game between the incumbent and the entrant under the assumption of high cost. Once

again, it is important to evaluate the outcomes of this game through the concepts of

separating and pooling equilibrium cases, and to determine if the Bayesian equilibrium

holds. All the assumptions and the sequence of actions in the game will remain the

same.

First, the game’s nature will decide the type (𝑡 ∈ {𝑡1, 𝑡2}) of incumbent with a

certain probability. The first type (𝑡1) is the incumbent with strong corporate

governance standards. The second type (𝑡1) is when the incumbent’s corporate

governance is weak. The incumbent knows for sure if he is type 1 or type 2, and after

observing this information, it will be incumbent’s turn to select either a high corporate

governance standard or a low one. In the second stage of this game, it is for the entrant

to choose either to match (select high if incumbent is high) or not to match the high

standards or low standards of the incumbent (select low if the incumbent selects high)

from the previous move. The only difference would be the payoff structure for this

game, which will be: 𝜋 > 𝜋2⁄ > 𝜋 − 𝑐 > 𝜋

2⁄ − 𝑐 > 𝛾 assuming that the cost for the

176

entrant to catch up with the incumbent’s corporate governance in high. The game tree

for this updated scenario is represented in Figure 3.12.

As the payoff’s outcome would stay identical to the previous case (Figure 3.5),

the expected payoffs of the entrant would be the same; however, the interpretation of

the best response functions would differ.

Let us consider the first case and the incumbent’s strategy (𝜎𝐼) depending on

the type he is playing.



In this sub-case, the entrant will update his beliefs based on the idea that only a certain

type of incumbent will play this action.

𝜇1(𝑡1|𝐻𝐼) = 1 ; 𝜇1(𝑡2|𝐻𝐼) = 0

𝜇2(𝑡1|𝐿𝐼) = 0 ; 𝜇2(𝑡2|𝐿𝐼) = 1

Therefore, the expected utility for the entrant would be:

Figure 3-12. Sequential game with imperfect information under the high cost

177

(1)𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 1 ∗ (𝜋

2− 𝐶𝐸) + 0 ∗ (𝜋 − 𝜃−𝐶𝐸)

(1) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) =𝜋

2− 𝐶𝐸

(2) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 1 ∗ 𝛾 + 0 ∗ (𝜋

2− 𝜃)

(2) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝛾

The best response for the entrant, when the incumbent is type 1 and plays his strategy

“high”, would be to play strategy “high” because (1)𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) > (2) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼).

Therefore: 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸

When the incumbent is type 2, he will always play strategy “low”, and, in this case, the

expected utility for the entrant would be:

(3) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 0 ∗ (𝜋

2− 𝐶𝐸) + 1 ∗ (𝜋−𝐶𝐸)

(3) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋−𝐶𝐸

(4) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 0 ∗ 𝛾 + 1 ∗𝜋

2

(4) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜋

2

Under the assumption that the corporate governance investment has a high cost

associated with it and the payoff structure ( 𝜋 > 𝜋2⁄ > 𝜋 − 𝑐 > 𝜋

2⁄ − 𝑐 > 𝛾), this

time the best response for the entrant would be to play strategy “low” when the

incumbent is type 2, because: (3)𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) < (4) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼). 𝐵𝑅𝐸(𝐿𝐼) = 𝐿𝐸

The equilibrium paths for the players are represented in Figure 3.13 below:

178

To check if the separating equilibrium in subcase five will hold, it is important to analyse

if the incumbent will have an incentive to deviate from the equilibrium path. First,

consider when the incumbent is playing strategy “high” while being a type one (strong

corporate governance). In this situation, his payoff would be 𝜋

2. Playing the strategy off

the equilibrium path (strategy “low”, while being a type one player), he will end up with

the payoff of 𝜋−𝐶𝐼(𝑙𝑖𝑒). This action may be better under the condition that the cost of

the incumbent to lie (𝐶𝐼(𝑙𝑖𝑒)) and hide his actual type is small. This will lead to

𝜋−𝐶𝐼(𝑙𝑖𝑒) >𝜋

2 and, as a result, may lead to a profitable deviation. On the other hand, if

the cost of the incumbent to lie would be significant, then there is no incentive to defect

from the equilibrium action. Taking into consideration that 0 < 𝐶𝐼(𝑙𝑖𝑒) <𝜋

2, there is an

incentive for the incumbent to defect.

Looking at the incumbent’s payoff when he is a type 2 player and execute his

strategy ‘low’, the payoff would be 𝜋

2. The alternative for the incumbent is to play

strategy ‘high’, while he is a type 2 player, and receive the payoff of 𝜃−𝐶𝐼 (𝑚𝑖𝑚𝑖𝑐). Based

Figure 3-13.Separating Equilibrium Subcase 5 (High Cost)

179

on the assumptions that 0 < 𝜃 <𝜋

2 and 𝐶𝐼 (𝑚𝑖𝑚𝑖𝑐) > 0 it would be always better for the

incumbent to stay on the equilibrium path.

Therefore, separating the PBE equilibrium in subcase five under high cost

would not occur because the incumbent has an incentive to defect if he is hiding his

real type while being a type one player.

Separating Equilibrium Subcase Six (High Cost)

The second case of separating the equilibrium that should be considered is when the

incumbent is bluffing or hiding information. In other words, he is playing “low” if he is

type 2 and “high” if he is type 1. Therefore, the strategy for the incumbent will be:




type of incumbent will play this action:

𝜇1(𝑡1|𝐻𝐼) = 0 ; 𝜇1(𝑡2|𝐻𝐼) = 1

𝜇2(𝑡1|𝐿𝐼) = 1 ; 𝜇2(𝑡2|𝐿𝐼) = 0

Hence, the expected utility of the entrant would be:

(5)𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 0 ∗ (𝜋

2− 𝐶𝐸) + 1(𝜋 − 𝜃 − 𝐶𝐸)

(5)𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋 − 𝜃 − 𝐶𝐸

(6) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 0 ∗ 𝛾 + 1 ∗ (𝜋

2− 𝜃)

Based on the payoff structure, equation (5) will be always greater than equation (6),

and therefore the best response would be 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸.

180

Now let us consider the scenario when the incumbent is type 2, and, based on

the beliefs that were defined in this sub-case, the expected utility of the entrant would

be:

(7) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 1 ∗ (𝜋

2− 𝐶𝐸) + 0 ∗ 𝜋 − 𝐶𝐸

(7) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋

2− 𝐶𝐸

(8) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 1 ∗ 𝛾 + 0 ∗𝜋

2

(8) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝛾

(7) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) > (8) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

Therefore, the best response for the second player (entrant) against strategy “low” will

be to play strategy “high”, 𝐵𝑅𝐸(𝐿𝐼) = 𝐻𝐸. The tree diagram representing the beliefs,

payoffs and the best responses is represented in figure 3.14

Figure 3-14. Separating Equilibrium Subcase 6 (High Cost)

181

To conclude, if separating equilibrium exists, it is important to check that the

incumbent has no incentive to deviate. Looking at the payoff of the incumbent when

he is type 2 and plays his strategy “high”, the payoff would be 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). The

potential deviation for the incumbent of this type would be to play strategy “low”, and

knowing that the entrant’s best response in this case would be to play strategy “high”,

the incumbent’s payoff would be equal to 𝛾. Therefore, there are two potential

outcomes, depending on the level of the incumbent’s reward for mimicking the

behaviour of the strong type (𝜃) and the level of cost (𝐶𝐼(𝑚𝑖𝑚𝑖𝑐)). Proposition one is

that if the incumbent’s reward for mimicking the action of the firm with strong corporate

governance is higher than the cost of this action, then there is no incentive to defect

from the equilibrium path (0 < 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐)). Proposition two is that if the cost of

mimicking the actions of the firm with high corporate governance is higher or equal to

the reward that the incumbent can receive, then there is no incentive to deviate as

0 ≥ 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). As 𝜃 is always greater than 0, it is possible to conclude that there is

no incentive to defect from the equilibrium path and the type 2 incumbent will stick to

the strategy “high”.

If the incumbent is type 1, he will play his strategy “low” and will end up with the

payoff of 𝜋

2− 𝐶𝐼(𝑙𝑖𝑒). If the type 1 incumbent deviates and selects strategy “high”, based

on the best response of the entrant, the incumbent will have a payoff of 𝜋

2. Therefore,

the incumbent has the incentive to defect from his strategy “low” when he is type 1,

and play strategy “high”. Thus, there will be no equilibrium reached in this sub-case.

𝜋

2 >

𝜋

2− 𝐶𝐼(𝑙𝑖𝑒)

182

The subcase five of separating the equilibrium under the high cost of corporate

governance investment is identical to sub-case two of separating the equilibrium under

the low cost of corporate governance. That fact suggests that if the entrant assumes

that his competitor (the incumbent) has a reputation of being a cheating player, the

entrant’s best strategy would be to select high corporate governance, regardless of

the cost and actions of the incumbent.

Pooling Equilibrium Sub-Case Seven (High Cost)

Starting the analysis from the scenario when the incumbent is pulling on strategy

“high”, his strategy can be represented as:



Updating the beliefs of the entrant that the incumbent will always pool on his strategy

“high” will give:

𝜇1(𝑡1|𝐻) = 𝑝

𝜇1(𝑡2|𝐻) = 1 − 𝑝

If, however, the incumbent plays strategy L (regardless of his type), which never

occurs along the equilibrium path, the Bayes’ rule will not apply. In this case, we reach

arbitrarily assigned beliefs. It is not possible at this point to know which, if any, beliefs

regarding the equilibrium path behaviour will sustain a pooling equilibrium. Therefore,

for now we assume that:

𝜇2(𝑡1|𝐿) = 𝜆

𝜇2(𝑡2|𝐿) = 1 − 𝜆

183

𝑊ℎ𝑒𝑟𝑒: 𝜆 ∈ [0,1]

Knowing the beliefs of the entrant, it is possible to calculate what the expected payoffs

would be like when pooling equilibrium subcase three (low cost):

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝑝 ∗ (𝜋

2− 𝐶𝐸) + (1 − 𝑝) ∗ ( 𝜋 − 𝜃 − 𝐶𝐸)

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋

2𝑝 − 𝐶𝐸𝑝 + 𝜋 − 𝜃 − 𝐶𝐸 − 𝜋𝑝 + 𝜃𝑝 + 𝐶𝐸𝑝

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋 −𝜋

2𝑝 − 𝐶𝐸 − 𝜃 + 𝜃𝑝

(10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝑝 ∗ 𝛾 + (1 − 𝑝) ∗ (𝜋

2− 𝜃)

(10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝑝 ∗ 𝛾 +𝜋

2− 𝜃 −

𝜋

2𝑝 + 𝜃𝑝






𝑝𝐻𝐸 + (1 − 𝑝)𝐿𝐸) 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

To find the best response of the entrant, we can start from the indifference condition

and substitute the beliefs:

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = (10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

The first proposition would be that 𝑝 = 1

(9) 𝜋 −𝜋

2∗ 1 − 𝐶𝐸 − 𝜃 + 𝜃 ∗ 1 = (10) 1 ∗ 𝛾 +

𝜋

2− 𝜃 −

𝜋

2∗ 1 + 𝜃 ∗ 1

(9) 𝜋 −𝜋

2− 𝐶𝐸 − 𝜃 + 𝜃 = (10) 𝛾 +

𝜋

2− 𝜃 −

𝜋

2+ 𝜃

(9) 𝜋

2− 𝐶𝐸 = (10) 𝛾

Taking the payoff structure under the high cost scenario (𝜋 > 𝜋2⁄ > 𝜋 − 𝑐 > 𝜋

2⁄ −

𝑐 > 𝛾 ), the entrant has a strictly dominating strategy to play his action “high”.

Therefore, the best response is 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸.

184

The second proposition would investigate the case when 𝑝 = 0

(9) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = (10) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

(9) 𝜋 −𝜋

2𝑝 − 𝐶𝐸 − 𝜃 + 𝜃𝑝 = (10) 𝑝 ∗ 𝛾 +

𝜋

2− 𝜃 −

𝜋

2𝑝 + 𝜃𝑝

(9) 𝜋 − 𝐶𝐸 − 𝜃 = (10) 𝜋

2− 𝜃

(9) 𝜋 − 𝐶𝐸 = (10) 𝜋

2

In this case, the equation (10) would be always greater than (9), which means that the

best response of the entrant would be to play strategy “low”, 𝐵𝑅𝐸(𝐻𝐼) = 𝐿𝐸.

This result is different from the pooling equilibrium subcase three (low cost),

because now the entrant does not have the dominant strategy, and his best response

will vary based on the allocation of his beliefs about the incumbent’s type. If entrant

believes that the incumbent has a higher probability to be type 1 while pooling on his

strategy “high”, then the entrant’s best response would be to play strategy “high”. On

the other hand, if the entrant believes that the incumbent has a higher probability to

be type 1 while pooling on his strategy “high”, then the best response for the entrant

would be to play strategy “low”.

To make sure that all the possible entrant’s strategies are considered, the

analysis has to look at the entrant’s actions off the equilibrium path, which is to identify

what would be the best response of the entrant in case the type 1 incumbent is playing

strategy “low”.



(11) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜆 ∗ (𝜋

2− 𝐶𝐸) + (1 − 𝜆) ∗ ( 𝜋 − 𝐶𝐸)

185

(11) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2𝜆 − 𝐶𝐸

(12) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜆 ∗ 𝛾 + (1 − 𝜆) ∗𝜋

2

(12) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜆 ∗ 𝛾 + 𝜋

2−

𝜋

2𝜆

In this case, the best response (BR) for the entrant against incumbent’s strategy “low”

will depend on which expected utility is higher. Therefore, there are three conditions:




𝜆𝐻𝐸 + (1 − 𝜆)𝐿𝐸) 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

As in the equilibrium path estimations, there would be two propositions to consider.

Proposition one is that 𝜆 = 1

(11)𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2∗ 1 − 𝐶𝐸

(11)𝜋

2− 𝐶𝐸

(12)𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 1 ∗ 𝛾 +𝜋

2−

𝜋

2∗ 1

(12)𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝛾

The result for the incumbent under proposition one is that he will always play strategy

“high”, as 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) > 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼). Therefore, the best response is 𝐵𝑅𝐸(𝐿𝐼) = 𝐻𝐸.

Under the second proposition 𝜆 = 0:

(11)𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2∗ 0 − 𝐶𝐸

(11) 𝜋 − 𝐶𝐸

(12) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 0 ∗ 𝛾 +𝜋

2−

𝜋

2∗ 0

186

(12) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) =𝜋

2

The best response of the entrant would be to play strategy “low”. 𝐵𝑅𝐸(𝐿𝐼) = 𝐿𝐸. Once

again, the decision of the entrant will totally depend on the probabilities that he will

assign to the arbitrary beliefs.

To conclude, if there is a pooling equilibrium in this subcase, it is important to

consider four different scenarios. First, 𝑝 = 1 and 𝜆 = 1 and in this situation, the best

response of the entrant would be 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸, and 𝐵𝑅𝐸(𝐿𝐼) = 𝐻𝐸. Thus, the

incumbent will act in accordance to the pooling equilibrium in subcase three, and there

will be a pooling Bayesian equilibrium.

Second, when 𝑝 = 0 and 𝜆 = 0, the dominant strategy for the entrant would be

to play strategy “low”. This case has not been discussed yet, therefore it is important

to analyse if the incumbent has an incentive to deviate from the equilibrium path. The

graph in Figure 3.15 represents the equilibrium path of such actions.

Figure 3-15. Pooling Equilibrium subcase 7.2 (high cost) when p=0 and λ = 0

187

In this case, the incumbent will not have the incentive to deviate if he is type 1, and

the entrant is playing his strategy “low”, because his payoff would be lower if he

deviates. 𝜋 > 𝜋 − 𝐶𝐼(𝑙𝑖𝑒). If the incumbent is a type two player, knowing the best

response of the entrant, the incumbent’s payoff would be 𝜋

2+ 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). The

deviation from strategy “high” by the incumbent will provide him with the payoff of 𝜋

2.

As a result, the weak Bayesian equilibrium can be always sustained if the 𝜃 −

𝐶𝐼(𝑚𝑖𝑚𝑖𝑐) = 0. If 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐) < 0, then the incumbent’s payoff after deviation would

be higher and there will be no equilibrium. On the other hand, the assumption that 𝜃 −

𝐶𝐼(𝑚𝑖𝑚𝑖𝑐) > 0 will sustain the strong Bayesian equilibrium.

Third, the p = 1 and λ = 0 condition under which the best response for the

entrant would be 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸 and 𝐵𝑅𝐸(𝐿𝐼) = 𝐿𝐸. The graph is represented in Figure

3.16.


188

If the incumbent is a type 1 player, he will end up with the payoff of 𝜋

2. The alternative

payoff that he will receive if he deviates would be 𝜋 − 𝐶𝐼(𝑙𝑖𝑒). In this case, the deviation

from the equilibrium path would be beneficial only in the case when the incumbent’s

cost of hiding his actual information is not too high (𝜋 − 𝐶𝐼(𝑙𝑖𝑒) > 𝜋

2). If the incumbent is

a type 2 player, he will receive the payoff of 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐) and this will always be less

than the payoff from deviation (𝜋

2), because the (0 < 𝜃 <

𝜋

2). Therefore, there will be

no pooling equilibrium.

Fourth, p = 0 and λ = 1 with the entrant’s best response 𝐵𝑅𝐸(𝐻𝐼) = 𝐿𝐸 and

𝐵𝑅𝐸(𝐿𝐼) = 𝐻𝐸 respectively (Figure 3.17).

In this case, the incumbent will have no incentive to deviate as he will be worse off. If

he is type 1, then his payoff would be 𝜋. The deviation will yield a maximum payoff of

𝜋

2− 𝐶𝐼(𝑙𝑖𝑒), which is always smaller than 𝜋. If the incumbent is a type 2 player, then his


189

payoff would be 𝜋

2+ 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐), which is always greater than 𝛾. Therefore, there will

always be a Bayesian equilibrium under the conditions that p = 0 and λ = 1 when the

incumbent is pooling on strategy “high”.

Pooling Equilibrium Sub-Case Eight (High Cost)

The last sub-case to consider, under the condition of high cost, is when the incumbent

is pooling on his strategy “low”.



Updating the beliefs via the Bayes rule where possible gives:

𝜇2(𝑡1|𝐿) = 𝑝

𝜇2(𝑡2|𝐿) = 1 − 𝑝

If, however, the incumbent plays strategy H (regardless of his type), which never

occurs along the equilibrium path, the Bayes’ rule will not apply, and, in this case, we

reach arbitrarily assigned beliefs. It is not possible at this point to know which, if any,

beliefs regarding off the equilibrium path behaviour will sustain a pooling equilibrium.

Therefore, for now we assume that:

𝜇1(𝑡1|𝐻) = 𝜆

𝜇1(𝑡2|𝐻) = 1 − 𝜆

𝑊ℎ𝑒𝑟𝑒: 𝜆 ∈ [0,1]

The expected utility of the entrant when the incumbent is pooling his types and playing

action “low” will be the same as in pooling equilibrium sub-case four (low cost).



190

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝑝 ∗ (𝜋

2− 𝐶𝐸) + (1 − 𝑝) ∗ ( 𝜋 − 𝐶𝐸)

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2𝑝 − 𝐶𝐸

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝑝 ∗ 𝛾 + (1 − 𝑝) ∗𝜋

2

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝑝 ∗ 𝛾 +𝜋

2−

𝜋

2𝛼

In this case, the best response (BR) for the entrant against the incumbent’s strategy

“low” will depend on which expected utility is higher. Therefore, there are three

conditions:




𝑝𝐻𝐸 + (1 − 𝑝)𝐿𝐸) 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼)

In the first proposition, let’s consider that 𝑝 = 1

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2∗ 1 − 𝐶𝐸

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) =𝜋

2− 𝐶𝐸

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 1 ∗ 𝛾 +𝜋

2−

𝜋

2∗ 1

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝛾

Equation (13) is always greater than (14) based on the payoff structure, therefore the

best response for the entrant is 𝐵𝑅𝐸(𝐿𝐼) = 𝐻𝐸.

In the second proposition let’s consider that 𝑝 = 0

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 −𝜋

2∗ 0 − 𝐶𝐸

(13) 𝔼𝑈𝐸(𝐻𝐸 , 𝐿𝐼) = 𝜋 − 𝐶𝐸

191

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 0 ∗ 𝛾 +𝜋

2−

𝜋

2∗ 0

(14) 𝔼𝑈𝐸(𝐿𝐸 , 𝐿𝐼) = 𝜋

2

Equation (14) is always greater than (13) based on the payoff structure, therefore the

best response for the entrant is 𝐵𝑅𝐸(𝐿𝐼) = 𝐿𝐸.

Analyzing the best response actions of the entrant off the equilibrium path will

yield the following expected utility:




(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜆 ∗ (𝜋

2− 𝐶𝐸) + (1 − 𝜆) ∗ ( 𝜋 − 𝜃 − 𝐶𝐸)

(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋

2𝜆 − 𝐶𝐸𝜆 + 𝜋 − 𝜃 − 𝐶𝐸 − 𝜋𝜆 + 𝜃𝜆 + 𝐶𝐸𝜆

(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝜋 −𝜋

2𝜆 − 𝐶𝐸 − 𝜃 + 𝜃𝜆

(16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝜆 ∗ 𝛾 + (1 − 𝜆) ∗ (𝜋

2− 𝜃)

(16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼) = 𝜆 ∗ 𝛾 +𝜋

2− 𝜃 −

𝜋

2𝜆 + 𝜃𝜆






𝜆𝐻𝐸 + (1 − 𝜆)𝐿𝐸) 𝑖𝑓 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)


(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = (16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

(15) 𝜋 −𝜋

2𝜆 − 𝐶𝐸 − 𝜃 + 𝜃𝜆 = (16) 𝜆 ∗ 𝛾 +

𝜋

2− 𝜃 −

𝜋

2𝜆 + 𝜃𝜆

192

Knowing that the probability of 𝜆 ∈ [0,1], it is possible to approach this solution by

substituting the values of 𝛼 into the equation. Let us consider the first proposition that

𝜆=1 (proposition one):

(15) 𝜋 −𝜋

2− 𝐶𝐸 − 𝜃 + 𝜃 = (16) 𝛾 +

𝜋

2− 𝜃 −

𝜋

2+ 𝜃

(15) 𝜋

2− 𝐶𝐸 = (16) 𝛾

Taking into account the payoff structure 𝜋 > 𝜋2⁄ > 𝜋 − 𝑐 > 𝜋

2⁄ − 𝑐 > 𝛾, the

dominant strategy for the entrant would be to play action “high”, 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸.

The opposite case (proposition two) when 𝜆 = 0.

(15) 𝔼𝑈𝐸(𝐻𝐸 , 𝐻𝐼) = (16) 𝔼𝑈𝐸(𝐿𝐸 , 𝐻𝐼)

(15) 𝜋 −𝜋

2𝜆 − 𝐶𝐸 − 𝜃 + 𝜃𝜆 = (16) 𝜆 ∗ 𝛾 +

𝜋

2− 𝜃 −

𝜋

2𝜆 + 𝜃𝜆

(15) 𝜋 − 𝐶𝐸 − 𝜃 = (16) 𝜋

2− 𝜃


payoff for the indifference condition will be

(15) 𝜋 − 𝐶𝐸 = (16) 𝜋

2

Equation (16) is always greater than (15), hence the best response for the entrant is

to play strategy “low”, 𝐵𝑅𝐸(𝐻𝐼) = 𝐿𝐸.

Similar to the pooling equilibrium in subcase seven, there will be four different

scenarios in which it is important to check if the incumbent has an incentive to deviate.

If not, then the pooling equilibrium will hold, and vice versa.

First, 𝑝 = 1 and 𝜆 = 1 , which will lead to the following best responses by the

entrant: 𝐵𝑅𝐸(𝐿𝐼) = 𝐻𝐸; 𝐵𝑅𝐸(𝐻𝐼) = 𝐻𝐸. This is identical to the scenario in the pooling

193

equilibrium subcase four, and will lead to the similar conclusion that no pooling

Bayesian equilibrium will hold, as the incumbent will have an incentive to deviate.

Second, 𝑝 = 0 and 𝜆 = 0 with the best responses 𝐵𝑅𝐸(𝐿𝐼) = 𝐿𝐸 and 𝐵𝑅𝐸(𝐻𝐼) =

𝐿𝐸. This scenario is represented in Figure 3.18 below.

If the incumbent is a type 2 player while pooling on his strategy “low”, he will

receive a payoff of 𝜋

2. Diverging from his initial strategy “low” and playing strategy high

will lead to the payoff of 𝜋

2+ 𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐). Such a deviation will only be rational if the

𝜃 − 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐) > 0, based on the assumptions that the 0 < 𝜃 <𝜋

2 and that the cost of

mimicking is also 0 < 𝐶𝐼(𝑚𝑖𝑚𝑖𝑐) <𝜋

2 it can be concluded that there is also an incentive

to defect from the equilibrium path.

The incumbent’s payoff when he is staying on the equilibrium path, while being

a type 1 player, will be 𝜋 − 𝐶𝐼(𝑙𝑖𝑒). The deviation will yield a payoff of 𝜋, which is always

Figure 3-18. Pooling equilibrium subcase 8 (high cost) when p=0 and λ =0

194

better because the 𝐶𝐼(𝑙𝑖𝑒) > 0. Therefore, the equilibrium will not hold as the first player

has an incentive to deviate.

Third, 𝑝 = 1 and 𝜆 = 0 with the best responses 𝐵𝑅𝐸(𝐿𝐼) = 𝐻𝐸 and 𝐵𝑅𝐸(𝐻𝐼) =

𝐿𝐸, are represented in Figure 3.19 below.

It can be seen from the graph that in both cases, the incumbent will have an incentive

to deviate as his payoffs will be always higher in comparison to the payoffs that he

receives by staying on the equilibrium path. Therefore, the equilibrium will not hold.

Four, 𝑝 = 0 and 𝜆 = 1 with the best responses 𝐵𝑅𝐸(𝐿𝐼) = 𝐿𝐸 and 𝐵𝑅𝐸(𝐻𝐼) =

𝐻𝐸, are represented in figure 3.20. Here the type 1 incumbent will receive a payoff of

𝜋 − 𝐶𝐼(𝑙𝑖𝑒). The deviation will yield a payoff of 𝜋

2. If the cost of hiding the information

would be significantly higher, then the equilibrium will not hold (if 𝐶𝐼(𝑙𝑖𝑒) >𝜋

2). In other

words, there is no incentive to deviate. If the incumbent is a type 2 player, then his

payoff on the equilibrium path would be 𝜋

2. The deviation will lead to a payoff of 𝜃 −

Figure 3-19. Pooling equilibrium subcase 8 (high cost) when p=1 and λ =0

195

𝐶𝐼(𝑚𝑖𝑚𝑖𝑐), which will always be lower than 𝜋

2 because 0 < 𝜃 <

𝜋

2. Therefore, the

equilibrium will hold.

Looking beyond the duopoly game

So far, the analysis concentrated on the duopoly market with only two players,

but what if the number of firms is more than two? Let us now assume that the number

of firms in the foreign market is equal to “n”. Therefore, the larger the number of firms,

the less profit the entrant firm will be able to obtain ( 𝜋

𝑛 ). At the same time, investment

into corporate governance will mean that the entrant firm becomes more competitive

and will, therefore, have some share of the market (𝜃) from firms that decide not to

invest into corporate governance. In this case, the actual game will now depend on

these three parameters: the number of market participants (n), the cost of corporate

governance investment that the firms are facing (C) and the market share that the firm

would be able to receive as a result of investment into corporate governance

mechanisms.

Figure 3-20. Pooling equilibrium subcase 8 (high cost) when p=0 and λ=1

196

Based on the combinations of these factors, the game will be either the

prisoner’s dilemma, as discussed in the beginning of the theoretical chapter, or the

assurance game, and will follow one of the subcases discussed in this chapter. Four

possible outcomes can occur: (1) the number of market participants is small and the

cost of corporate governance is small; (2) the number of market participants is high

and the cost of corporate governance is small; (3) the number of market participants

is small and the cost of corporate governance is high; (4) the number of market

participants is high and the cost of corporate governance is high.

Figure 3-21. Simultaneous game with n number of players in the market

Entrant

High Low

Ma

rket

High 𝜋

𝑛 - c ;

𝜋

𝑛 -c

𝜋

𝑛− 𝑐 + 𝜃 ;

𝜋

𝑛− 𝜃

Low 𝜋

𝑛− 𝜃 ;

𝜋

𝑛− 𝑐 + 𝜃

𝜋

𝑛 ;

𝜋

𝑛

Figure 3.21 represents the general overview of the simultaneous game when the

entrant is playing in the market with n number of players. Looking at the payoff

structure, it can be seen that most important relationship would be between the market

concentration and the cost of the investment (𝜋

𝑛− 𝑐) in relation to the market share that

the firm will receive from that investment (𝜃). If (𝜋

𝑛− 𝑐 < 𝜃) that means that the cost is

197

low and the number of firms in the market is small, the overall payoff structure would

be 𝜋 >𝜋

𝑛− 𝑐 + 𝜃 >

𝜋

𝑛>

𝜋

𝑛− 𝑐 >

𝜋

𝑛− 𝜃. This payoff structure would lead to the prisoner’s

dilemma case and therefore will follow the solution as represented in subcases one to

four. The alternative is when the number of market participants is high and the cost of

investment into new corporate governance mechanisms is also high. For the entrant

firm, that means that the share of the market that he can obtain from the competition

is (𝜋

𝑛− 𝑐 > 𝜃). In this scenario, the payoff structure would change to 𝜋 >

𝜋

𝑛>

𝜋

𝑛− 𝑐 +

𝜃 >𝜋

𝑛− 𝑐 >

𝜋

𝑛− 𝜃 and the result of these change would be the assurance game, which

will lead to the same conclusions that are represented in the subcases five to eight.

Therefore, case number (1) with the small number of participants and the small

cost of corporate governance would be a prisoner’s dilemma where the dominant

strategy for the entrant firm would be to play his strategy high, regardless the actions

of the other players (Subcases 1-4). Case number (2), where the number of market

participants is high and the cost of corporate governance is small, and case number

(3) where the number of market participants is small and the cost of corporate

governance is high, will depend on the relationship between the market share reward

and the cost and concentration of the market, as described above. Case number (4)

is when the number of market participants is high and the cost of corporate governance

is high, which can be directly linked to the assurance game, where it would be better

for the entrant firm play in coordination with other players (Subcase 5-8).

The alternative strategy when the costs are greater than benefits is to stay out

of these markets in the beginning of internationalisation process to enter first into the

markets with a lower cost of corporate governance and gradually increase the number

of corporate governance mechanisms within the firm, and therefore reduce the overall

cost in the markets with a large number of market participants and high costs.

198

Discussion and Conclusion

Based on the results of the theoretical framework (figure 3.22), the entrant firm

will face different strategic decisions regarding the implementation of its corporate

governance mechanisms that will influence the future profits of the firm in the

international market. First, the decision will depend on the cost of introducing

additional corporate governance mechanisms. Under low costs, an example of which

is when the entrant firm is entering the market which is similar in terms of its corporate

governance practices in relation to the domestic market and therefore will not require

substantial corporate governance adjustments, the entrant firm will have a dominant

strategy. To try and take a substantial share of the new international market, the firm

should increase/improve its corporate governance mechanisms, regardless of the

strategy adopted by the incumbent. The result table (in the appendix of this chapter)

predicts that this will be the Nash equilibrium in simultaneous and sequential games,

given perfect information. The similar result is true for the scenario under the

assumption of imperfect information. In this case, the entrant will once again choose

to implement additional corporate governance mechanisms, assuming that his

competitor in the foreign market will do exactly the same, regardless of the actual type

of corporate governance in the foreign market.

If the firm from the emerging market enters the advanced market, where the

corporate governance standards together with the enforcement of these standards are

high, it will have to spend more on the development of new / additional corporate

governance mechanisms to catch up with the competitors on the foreign market.

Under high cost, the optimal strategy for the entrant firm would be to play a so-called

coordination game in which the entrant will benefit if his level of corporate governance

is similar to the competitors’ level. Under the assumption of perfect information, the

199

results of the theoretical framework predict that if the decision on the development of

corporate governance mechanisms would be taken simultaneously between the

entrant and the incumbent, then they will benefit if their strategy matches. In the

sequential game, if the incumbent has not developed his corporate governance

mechanisms yet, and the entrant knows for sure that this is the case (perfect

information), then it would be better for the incumbent to match the low corporate

governance standards, in which case, both firms would benefit from operating in the

market without additional costs and would therefore maximise their profits.

In the case of imperfect information in the sequential game (which was

represented in the successes 5-8), the strategic decisions that the entrant firm selects

will depend on the beliefs that the entrant firm has about the incumbent. In this

scenario the entrant will try to predict and analyse if the incumbent truly developed the

corporate governance mechanisms that differ substantially from the set of

mechanisms possessed by the entrant. If that is true, then the best option would be to

match the corporate structure of the incumbent. On the other hand, if the entrant

believes that the incumbent is mimicking the behaviour of the firm which has sufficient

corporate governance mechanisms, the entrant could invest in the development of his

corporate governance mechanisms, regardless of the incumbent’s actions.

This framework also considers the strategic decisions of the entrant firm when

the market concentration is high or low, together with the cost of the corporate

governance investment, and the overall benefits that the firm will achieve by entering

a particular foreign market. This was analysed in the last section of the chapter, where

the analysis moved away from the duopoly scenario. The market concentration should

be looked at as an additional factor that would influence the potential profits that the

firm can obtain from the geographical expansion. Looking at the result, the market

200

concentration will shift the game to either being a prisoner’s dilemma (subcases 1-4)

or coordination game (subcases 5-8). In theory, there would be a point at which the

market concentration and the cost of the implementation of new corporate governance

will make the entrant firm indifferent to improving the corporate governance

mechanisms or retaining them at the current level. Such results represent that the

extension of the model into the more complex and real scenarios did not change the

qualitative results, pointing to the robustness of the theoretical framework.

Overall, the market of entry will play a crucial role for the analysis of the strategic

decisions that should be taken by the entrant firm in relation to the corporate

governance restructuring. Therefore:

Hypothesis 3:

Internationalisation of the firm, from a country with low levels of corporate governance,

to a country with high levels of corporate governance, will be correlated with a

restructuring of corporate governance mechanisms.

This chapter explored the conceptual framework, to predict whether a firm (like

Kaspersky, for example) expanding outside its domestic market, should “strategically”

adopt new corporate governance mechanisms or, vice-versa, it could keep exploiting

the mechanisms already developed in the past inside the firm. Using this framework

as an additional tool for the analysis of the internationalisation process may provide a

complete strategy for the entrant firm during the internationalisation process by

entering the markets with a low level of corporate governance and a low number of

market participants first, and gradually entering additional foreign markets where the

cost of corporate governance investment is increasing, therefore resulting in foreign

expansion with a moderate increase in the cost of internationalisation.

201

Figure 3-22 Results of the game theory analysis

Case number Equilibrium Condition Case number Equilibrium Condition

Simultaneous game High , High Simultaneous game 2 nash equilibria (High, High and Low,Low)

sequential game High , High sequential game Low, Low

Subcase 1 (Seperating) No Equilibrium Subcase 5 (Seperating) No Equilibrium

Subcase 2 (Seperating) No Equilibrium Subcase 6 (Seperating) No Equilibrium

Subcase 3 (Pooling)Incumbent type 1 playing High, Entrant

playing high Subcase 7.1 (Pooling)

Incumbent type 1 playnig High; Entrant playing

High

Subcase 4 (Pooling) No Equilibrium Subcase 7.2 (Pooling) Incumbent type 1 plying high; Entrant playing Low

Subcase 7.3 (Pooling) No Equilibrium

Subcase 7.4 (Pooling)

Incumbent Pooling on strategy high; Entrant

playing High if incumbent is High and playing Low if

incumbent is low





Under Low-cost Under High Cost

The game of Perfect Information

The Game of imperfect information

202

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McDougall P.P., & Oviatt B.M., (1994), “Toward a Theory of International New Ventures”, Journal of international business studies, Vol 25(1) pp. 45-64 Michael, S. and Pearce, J. (2004), “Choosing constraints as a third solution to agency”, Journal of Management Studies, vol:41(7), pp1171–1197 Myers, S.C. & Majluf, N.S. (1984) "Corporate financing and investment decisions when firms have information that investors do not have", Journal of Financial Economics, Volume 13, pp187–221. Oxelheim L., Gregoricˇ A., Randøy T., & Thomsen S., (2013) “On the internationalisation of corporate boards: The case of Nordic firms” Journal of International Business Studies , vol.44, pp173–194 Rivas J.L., (2012), “Diversity & internationalisation: The case of boards and TMT's”, International Business Review, vol. 21, (1), pp1-12. Sanders G., & Carpenter M.,A., (1998) , “Internationalisation and Firm Governance: The Roles of CEO Compensation, Top Team Composition, and Board Structure”, The Academy of Management Journal, vol. 41(2), pp. 158-178 Stulz R., (1990), Managerial discretion and optimal financing policies”, Journal of Financial Economics, Vol 26, (1), pp3-27 Vivek M., Young P., and Myungsoo S., (2012). “Equity or Debt Financing: Does Good Corporate Governance Matter?”. Corporate Governance: An International Review. Volume 20,(2) pp 195-211. Zajac, E.J., Westphal, J.W., (1994), “The costs and benefits of managerial incentives and monitoring in large U.S. corporations: when is more not better?” Strategic Management Journal, vol:15, pp112 – 121

204

Chapter 4 Dataset for the analysis

Following the case study example from Chapter 2, which focused on a Russian

firm that went through an internationalisation process and changed its course from

failure to success due to the adjustment of its corporate structure, and the third

chapter, which aimed to generalise the framework for the strategic actions of corporate

restructuring that should be taken by the firm during internationalisation, Chapter 4

and 5 will focus on testing the hypotheses that are outlined earlier in the thesis.

As the geographical focus of the thesis is on Russian firms and the effect of the

internationalisation of these firms on their corporate governance, it was important to

create a dataset that would be unique in this field. To construct the exclusive dataset

for the empirical chapter, it was vital to overcome the shortcomings of the previous

studies in the related field. For that reason, the dataset exploited in this thesis has

been shaped based on three main criteria.

First of all, previous studies on Russian corporate governance concentrated

primarily on Russian public companies listed on the Moscow stock exchange. The

primary reason behind that was the amount of disclosed information (Ichiro, 2008;

Kuznecovs & Pal, 2011; Muravyev, 2017). To expand the thesis beyond publicly

available firms, the dataset focused on large companies, regardless of their public

status.

Secondly, earlier academic articles covered a small timespan, predominantly

the period between 2000 and 2012 (Naumova et al., 2003; Kuznecovs & Pal, 2011). The

sample of this thesis’ database covers 19 years, from 2000 to 2018. This timespan

includes two key events affecting corporate governance: the introduction of the first

205

corporate governance code in 2002, and the update of the corporate governance

practices code in 2014.

In several studies, a third empirical limitation (see also the literature review

chapter) has been the focus of analysis, namely the single “ready-to-use” database.

This thesis combined data from several databases and available sources: Bureau van

Dijk Amadeus (European firms’ level data), Bureau van Dijk Orbis (world firm-level

historical data), Interfax Spark (Russian firm-level database), Bureau van Dijk Zephyr

(mergers and acquisitions database), companies’ annual reports, and Moscow stock

exchange data. The merging of data from several sources has added value to the

existing literature.

To select the sample size, the analysis focused on three main criteria: operating

revenue greater than €350 million in 2016; total assets above €200 million in 2016;

fixed assets above €150 million in 2016. Applying these conditions to the Spark

database provided a dataset of the 300 largest companies in Russia. Out of 300

companies, three were liquidated during the process of data collection. At the same

time, as the base year for the sample was 2016, the firms that were established after

that year are not included in the sample.

Merging information from four different databases also allowed for a substantial

time span to be covered in the empirical analysis. The earliest observations in the

Interfax Spark and Historical BvD Orbis databases were 1995 and 1997 respectively;

however, the significant number of missing observations between 1995 and 2000

makes these years unreliable for the analysis. Therefore, the time span of the

empirical chapter will cover 19 years, from 2000 to 2018.

206

Figure 4-1 Total number of firms, average age and number of firms which were incorporated

during the time span of the analysis (by year)

Year Number of firms

Average age of the firms

Number of new firms

2000 184 22 -

2001 198 21 14

2002 208 21 10

2003 217 22 9

2004 237 21 20

2005 256 20 19

2006 264 21 8

2007 276 21 12

2008 283 21 7

2009 285 22 2

2010 288 23 3

2011 292 23 4

2012 292 24 0

2013 294 25 2

2014 296 26 2

2015 297 27 1

2016 297 28 0

2017 297 29 0

2018 297 30 0

Figure 4.1 represents the distribution of firms within the sample. The minimum

is 184 firms in the year 2000 and the maximum is 297 in the year 2018. On the one

hand, the average age of the firms has steadily increased from 22 to 30 years. On the

other, during this period, 113 new firms were established which became the largest

companies in Russia in 2016. There are several reasons for this. First, in the period

between 2000 and 2007, there was significant growth in total factor productivity and

capital intensity in industries which contributed to Russian economic growth (Andreff

W. and Andreff M., 2017). Secondly, as one of the key macroeconomic policies of that

time was to make the Russian market more transparent, the government introduced

the first code of corporate governance in 2002. That factor contributed to the growth

of foreign direct investment into Russia (Figure 4.2).

207

Based on the number of newly established firms within the timeframe of the

analysis before and after the crisis, the sample represents this boom and shows the

clear cut-off point of the growth. The pre-crisis number of firms that were established

between 2000 and 2007 was 92, which means that a third of the sample emerged

during the prosperous years of the Russian economy. On the other hand, the firms

that were established and became large successful companies after the financial crisis

only numbered 21.

It is also important to highlight that a certain proportion of newly emerged

companies in this dataset is the result of either vertical or horizontal integration of the

largest corporations which already existed, such as Gazprom and Lukoil, GAZ etc.

This explanation justifies how the newly emerged companies were able to grow at an

extraordinary rate and become the largest companies within a five year period.

0

0.5

1

1.5

2

2.5

3

3.5

4

4.5

5

Foreign direct investment, net inflows (% of GDP)

Introduction of corporate

governance code

(2002)

Financial crisis

New release of

corporate

governance

guidelines (2014)

Figure 4-2. Foreign direct investment into Russia. Source: World Development Indicators.

208

Sectoral Distribution

Figure 4.3 represents the breakdown of the sample by sector of economic

activity. It can be seen that the largest portion of the sample (60.27%) is represented

by either manufacturing firms (33%), or firms which operate in the wholesale and retail

trade sector (27.27%). The dominant group is followed by firms in the mining and

quarrying sector (8.42 %), transportation and storage (7.42%), electricity, gas, steam

and air conditioning supply (7.41), and information and communication (4.71%).

Figure 4-3. Breakdown of the sample by sector of economic activity.

Nace Rev.2 Main Sector Number of Firms Percentage of

Firms

Total number of firms 297 100.00%

C. Manufacturing 98 33.00% G. Wholesale and retail trade; repair of motor vehicles and motorcycles 81 27.27%

B. Mining and quarrying 25 8.42%

H. Transportation and storage 25 8.42% D. Electricity, gas, steam and air conditioning supply 22 7.41%

J. Information and communication 14 4.71% M. Professional, scientific and technical activities 12 4.04%

F. Construction 9 3.03%

K. Financial and insurance activities 4 1.35%

L. Real estate activities 3 1.01%

A. Agriculture, forestry and fishing 2 0.67% I. Accommodation and food service activities 1 0.34% N. Administrative and support service activities 1 0.34%

Looking at the yearly breakdown (Figure 4.4), it is possible to conclude that

during the last 19 years, there was an increase in the share of the largest 297 firms in

the wholesale and retail trade sector from 20% to 27%; the share of electricity, gas,

steam and air conditioning supply sector rose from 2.72% to 7.41%; and the financial

sector from 0.54% to 1.35%. For the same period, the share of the manufacturing firms

209

in the sample decreased, which means that new firms that were established during

the last 19 years operated primarily in the least dominant sector of economic activity.

The other sectors, such as construction and information and communication, did not

experience significant changes in terms of major players in these sectors.

Figure 4-4 Percentage share of the sample by the sector of economic activity.

Considering that the sample of the thesis concentrates on the largest firms in

the Russian economy, their contribution to the overall GDP of the country should be

proportional to the percentage share of the firms represented in the thesis. Figure 4.5

represents the share of Russian GDP by sector of economic activity.

0.0

0%

5.0

0%

10

.00

%

15

.00

%

20

.00

%

25

.00

%

30

.00

%

35

.00

%

40

.00

%

45

.00

%

N. Administrative and support service activities

A. Agriculture, forestry and fishing

I. Accommodation and food service activities

K. Financial and insurance activities

L. Real estate activities

D. Electricity, gas, steam and air conditioning supply

F. Construction

M. Professional, scientific and technical activities

J. Information and communication

H. Transportation and storage

B. Mining and quarrying

G. Wholesale and retail trade; repair of motor vehicles…

C. Manufacturing

Percentage share of the sample by the sector of economic activity

2000 2007 2018

210

Figure 4-5 Share of GDP in Russia by sector of economic activity (2018)

48

Based on the Federal State Statistic Service, the largest contributor to the overall

economy is the manufacturing sector (14.3%), followed by wholesale and retail trade

(13.9%) and mining and quarrying (13.2%). This figure clearly shows that the

contribution of the top three sectors to the overall GDP figures is proportional to the

sector of economic activities of the firms that are presented in the sample. Therefore,

it can be concluded that on a sectoral level, the sample of this thesis is representative

of the country.

Regional Distribution of the Sample

The regional distribution of the dataset can be seen in Figure 4.6. The graph

indicates that the largest portion of the firms operates either in Moscow or the Moscow

region (Moscow Oblast). These two areas combined cover 54.21% of the dataset. The

next largest region is Saint Petersburg, with 7.41% of the sample being represented

by that region. Even though the highest proportion of the sample is concentrated in

48 Federal State Statistic Service (https://www.gks.ru/accounts)

https://www.gks.ru/accounts

211

the capital city of Russia, the rest of the sample is geographically dispersed in the

western part of Russia. Only four companies out of the sample (1.35% of the dataset)

are based in the eastern part of Russia. Overall, it can be concluded that most firms

have their headquarters in the western regions of Russia, leaving the eastern ones

without any major players in any sector.

Looking into the geographical distribution of Russian GDP (Figure 4.7), it is possible

to establish that the main contributor is the City of Moscow (19.90%), followed by

Tymen Oblast (8.10%), which is the largest Russian region for oil extraction and

production, and Saint Petersburg (4.94%) and Moscow Oblast (4.94%). Taking into

account that the major oil and gas companies in the sample have their headquarters

in Moscow (which is the variable for geographical location), it is clear why the main

region in the sample of the thesis is Moscow. At the same time, looking at the

139

3122

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Breakdown of the sample by geographical region

Figure 4-6. Geographical breakdown of the sample.

212

geographical distribution of the GDP by region, it is possible to notice a similar pattern

between the sample and the overall Russian economy by geographical region. Both

figures represent a high concentration in the western region of Russia, leaving the

eastern part aside.

Figure 4-7 Share of GDP by Geographical Region (2017)

Sectoral and Regional Concentration From the geographical and regional distribution of the sample, it is possible to

conclude that the Russian economy is highly concentrated in terms of these two

factors. Based on the sample, the majority of the largest Russian firms operate in either

manufacturing or the wholesale and retail sectors and are based in the western part

of Russia, Moscow Oblast and St. Petersburg Oblast. Such interactions between the

sectoral and regional parameters of Russian firms is well documented in the academic

literature.

213

The most important parameter for the economic development of the Russian

regions is the amount of natural resources that is available in the region (Rastvortseva

and Chentsova 2015). This is because Russia has an export-oriented economy49,

which means that the largest Russian companies, such as Gaszprom, Lukoil, and

Bashneft, will operate primarily in certain regions which are rich in natural resources

(the western part of Russia). Such a concentration of natural resources in certain

geographical areas creates an agglomeration effect, which contributes to the

concentration of manufacturing enterprises, service providers and skilled workers in

the region (Rastvortseva 2018).

Based on the overview of the sample, it can be concluded that the dataset

represents the largest 297 companies in Russia in 2016, dominated by the

manufacturing sector and wholesale and retail trade sectors, with 26% of the firms

listed on either domestic or foreign exchanges.

Control Variables in the Sample

The control variables that are used in the sample can be divided into two

groups. The first group is related to the size and age of the firm, and the second group

concerns the corporate structure of the firm. The first group includes the total number

of employees, total assets in thousands of rubles, total revenue in thousands of rubles,

total fixed assets in thousands of rubles, and total intangible assets in thousands of

rubles.

The histograms of the control variables (Appendix B) demonstrate that they

have a normal distribution on a yearly basis. The histograms also suggest that the

49 Figure 4.32 illustrates the Russian export of goods, with the main category consisting of mineral fuels/ oils and products of their distillations (61.6%)

214

density of the size variables (total assets, total fixed assets, total revenue, total

intangible assets) is increasing over time, which means that the groups in the sample

are converging in terms of these variables, rather than diverging. The age of the firm

was constructed using the establishment year of the corporation from the Amadeus

database. By subtracting the year of incorporation from the corresponding year of the

observation, the variable states the full number of years from the incorporation date.

The variable that represents the total number of employees was downloaded from the

Amadeus database; however, it included some missing observations. To fill the gaps

and to construct an accurate variable that measures the number of employees, the

Amadeus database was crosschecked with the Interfax Spark data. If neither of the

resources had the information, the publicly available documentation of the firm (i.e. the

annual report) was used where possible.

The second group of variables that should be controlled in the regression

analysis is the group of dummy variables that may have a relationship with the

corporate governance structure of the firm (state-owned enterprise, board existence,

and publicly quoted firm). All these variables are dummy variables.

As mentioned in the academic literature (Chapter 1), the state plays an

important role in the largest Russian companies. (Abramov et al., 2017; Grosman et

al., 2017). The state-owned enterprise variable has a value of one if Russian

government ownership of the firm is higher than 50.01%, and zero otherwise. In that

case, this variable accounts only for direct state ownership in the sample.50 The

ownership data was downloaded from the Amadeus database and varies over time.

50 The literature on the topic of state-owned enterprises in Russia points to the fact that it is not

possible to clearly identify the indirect ownership of the state due to the lack of information available (Abramov, Radygin, Chernova, 2017).

215

Figure 4.8 of the thesis clearly shows that from the year 2000, there was a

steady decrease in the number of state-owned enterprises in the largest Russian

corporations. Up to 2006, the share of SOE dropped from 38.05% to 13.13%.

After 2006, the share of the Russian state started to increase up to 21% in 2013, and

from that moment it began to increase at a decreasing rate. This trajectory is in line

with the IMF report on the Russian state’s size (2017).

Figure 4-8 Share of state-owned enterprises

The board existence variable demonstrates whether the firm has a board of

directors or not, and is equal to one when a firm announces the creation of a board of

directors. This variable was constructed based on the information from Interfax Spark.

The publicly quoted variable represents if the firm is listed on any domestic or

foreign exchanges. This variable is equal to one if the firm had an initial public offering

(IPO) during the year, and zero otherwise. Based on the academic literature, an IPO

“is the point of entry that gives firms expanded access to equity capital, allowing them

216

to merge and grow” (Fama & Fench, 2004). Financing through equity provides firms

with an opportunity to further develop their existing capabilities and can support

international expansion (Carpenter et al., 2003; Filatotchev & Piesse, 2009); therefore,

IPO can be seen as an initial step for future internationalisation processes.

On the other hand, initial public offerings will require the firms to set a certain

standard in corporate governance. For example, in the rules of the Moscow stock

exchange, the firm must establish the board of directors, an audit committee with the

independent director, and a compensation committee. Also, Russian law provides for

a two-tier board system in public companies. That means that prior to the IPO, the

firm’s corporate restructuring should take place, and therefore firms which have been

through an IPO should have a higher level of corporate governance in comparison to

other companies that are not listed on any exchanges, ceteris paribus. If a firm starts

to expand into the foreign markets after the IPO, the gap between two firms,

concerning the level of corporate governance will increase.

Hypothesis 4:

After the IPO of the firm there is a statistically significant relationship between the

internationalisation and its corporate governance restructuring.

Out of 297 firms in the sample, 62 firms are listed on an exchange. It can be

seen from Figure 4.9 that the number of listed firms against non-listed firms in the

sample is increasing at a decreasing rate from the year 2000 up to the year 2008. In

the post-crisis period, the number of firms that were listed on either domestic or foreign

exchanges was almost unchanged. The main exchange for listed firms in the sample

is the Moscow stock exchange.

217

Figure 4-9. Percentage of listed against non-listed firms.

The Dependent Variable

The dependent variable of this thesis will look at the corporate

governance board to determine how internationalisation phenomena do or do not

impact corporate governance structure. Even though the literature specifies three main

aspects of corporate governance that should be taken into consideration when

discussing the topic of corporate governance (board of directors, transparency and

disclosure, and minority shareholder protection), the strategic decision on

internationalisation is taken by the owners/entrepreneurs in SMEs or by directors on

the boards of multinational companies (Perks & Hughes, 2008; Nielsen, 2010;

Neubert, 2017; Neubert & Van Der Krogt, 2019). Even though this thesis will

concentrate on the board of directors as a focus of the analysis, it will allow for different

ways to measure corporate governance and a clear interpretative framework (see the

218

literature review chapter). The main reason to use the board of directors as a

dependent variable is that internationalisation may trigger the vital changes that should

be taken into consideration by the existing board during the process (e.g. hiring of non-

executive international directors). In some cases, the rapid international growth of

small and medium enterprises may require the board to be established to enter the

foreign market and to increase the chance of survival in the internationalisation

process (e.g. creation of a joint venture with the board of directors as a result of the

foreign representative on the board). Also, the strategic decision of becoming an

international firm may require the consideration of certain corporate governance

changes prior to the internationalisation process. For example, listing on a foreign

exchange may require the expansion of the board, or an increase in the number of

non-executive directors on the board, while the international operation in certain

sectors of economic activities (such as manufacturing) might require the firm to change

from a one-tier board system to two-tier board system.

To accurately analyse the changes in the structure of the board of directors, it

was important to consider the composition of the board. The following six

characteristics were investigated: the size of the board, age, gender diversity,

percentage of executive and non-executive directors on the board, share of foreigners

on the board, and board structure (one-tier or two-tier board)51.

51 The comparison between the two-tier board and one-tier board system is widely discussed in the literature (Tüngler, Grit T, 2000; Pillay 2013; Millet-Reyes et al., 2010; Van Camp et al. 2020. The “Anglo-American” model of a one-tier board structure is largely a reflection of the neoliberal norms of shareholder primacy and free-market capitalism. The German two-tier model is in many ways a reflection of stakeholder primacy, codetermination, and managerialism. In the two-tier board structure, a separate board of directors supervise the executive team and provides a recommendation to the executive team. In the one-tier board structure, the executive and non-executive or supervisors are all members of the same board, i.e. they collectively form one company body. The core differences between the boards lie in the segregation of roles, speed of the decision making process, role of the chairman and CEO.

219

To construct accurate and detailed board variables, this thesis investigated

three main sources. The first source was the database provided by Interfax Spark,

which has the firm-level data for all Russian firms, including the name of the director,

age, current position, position previously held, and the history of change in the board

of directors. Secondly, the Spark database was combined with the publicly available

information derived from the annual report as a complimentary source for data

accuracy and completeness. Thirdly, as some of the firms in the sample were listed

on the Moscow stock exchange, the available information on the directors of listed

firms was also used as an additional source for cross checks. The data was collected

and then reshaped for each firm individually by cleaning and merging the information

for each current director on the board and all the previous members. The data between

2000 and 2002 is less reliable as none of the sources above would show the complete

structure of the board.

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Firms with the board of directors vs no board of directors

Board exist No Board

Figure 4-10. Share of the firms in the sample with the board of directors

220

Figure 4.10 represents the share of the firms with a board of directors against

those firms that do not have a board and are managed by either a single owner or

owned by other corporations who nominated the managing director, or a firm limited

by shares and which has several owners/partners. To construct this variable, two

sources were merged. The original data was gathered from the Interfax Spark

database, which has detailed firm-level data on the current and past board members

of Russian firms. If this information was absent, then the BvD Amadeus database was

checked for the same companies, and in all cases the companies that did not have

any information from Spark about the board of directors had a single owner/manager

(if they were controlled by other firms). The graph clearly shows that by 2007, at least

one-third of the firms had established a board of directors, and after that period the

number of firms which had a board of directors remained constant.

Out of firms with a board of directors, a slightly higher number of firms had a

two-tier board system compared to firms with a one-tier board system (Figure 4.11).

On average, 54% of the sample with a board chose the two-tier board system. To

construct this variable, the detailed company reports from BvD Amadeus were used.

These reports highlighted the members of the board of directors (supervisory board)

and executive board if it existed. If the executive board did not exist in the report, but

the report included the board members, it was assumed that the firm has a one-tier

board structure. The literature on the board structure emphasises the benefits of using

a one-tier or two-tier board structure, but it does not suggest that one is better than the

other, as the board structure should be firm-specific (Rouyer, 2013; Jungmann &

Carsten, 2007; Pellegrini & Sironi, 2017).

221

Figure 4-11. Corporate structure of the board, by year

Row Labels

No board of directors

1 -tier Board 2-tier board

Total Number of

firms

2000 184 - - 184

2001 195 2 1 198

2002 199 3 6 208

2003 193 12 12 217

2004 194 17 26 237

2005 194 26 36 256

2006 187 33 44 264

2007 188 38 50 276

2008 189 42 52 283

2009 198 44 53 295

2010 191 44 53 288

2011 194 44 54 292

2012 192 46 54 292

2013 193 47 54 294

2014 195 47 54 296

2015 196 47 54 297

2016 196 47 54 297

2017 197 46 54 297

2018 197 46 54 297

Board Size

The sample total coverage in 2018 was 924 directors. The board size varies

from the smallest board of four directors to the largest board on the sample, which

consists of 16 members. The average number of directors on the board has steadily

increased from 7.25 in the year 2003 to 9.15 in 2018. However, in terms of the board

of directors, the crucial difference lies between listed and non-listed firms (Figure

4.12).

222

Figure 4-12. Average board size in the sample, by year

Year

Average Board Size in

the sample

Average board size of

non-listed firms

Average board size of listed firms

2001 6.33 6.50 6.00

2002 7.22 6.50 7.43

2003 7.25 7.13 7.31

2004 7.88 7.50 8.11

2005 7.77 7.30 8.00

2006 7.66 6.50 8.13

2007 7.77 6.79 8.14

2008 7.84 6.18 8.35

2009 7.96 6.04 8.62

2010 8.16 6.16 8.85

2011 8.24 6.15 8.99

2012 8.50 6.11 9.38

2013 8.66 6.19 9.55

2014 8.75 6.23 9.61

2015 8.71 6.27 9.54

2016 8.86 6.44 9.65

2017 9.01 6.29 9.86

2018 9.15 6.42 10.25

Average 8.1 6.48 8.65

As can be seen from the graph, the average number of directors for non-listed firms is

on a fixed level of around 6.48 directors per board, while the average number of

directors of listed firms is around 8.65 for the whole period of 19 years. The data

indicate that after the introduction of the corporate governance code in 2002, both

listed and non-listed firms started to increase their board size; however, after 2005,

there was decoupling between the listed and non-listed companies and the average

gap between the two groups increased on a yearly basis.

223

Board Age

The average age of the board in the sample is 50.71 (Figure 4.13). One of the

reasons that the average age of directors is so low is the missing observations in the

early years of the sample. However, a report by Spencer Stuart on the Russian Board

Index (2017) suggests that that average age of the top 50 listed firms in 2017 was

54.3, while the sample of this thesis has 73 listed firms and the average age of the

board members is 54.7. The report also claims that the Russian boards remain the

youngest in Europe, ahead of Poland at 55.5 years; at 61.1 years, Swiss boards had

the highest average age in 2017. While the board size differs between the listed and

non-listed firms, the average age of the listed and non-listed firms has an insignificant

difference.

Figure 4-13. The average age of the board, by year.

Year Average age of the board

Average board age of

the non-listed

Average board age of

the listed firm

2001 42.52 40.69 46.17

2002 46.21 41.69 47.50

2003 46.14 45.34 46.53

2004 45.60 44.32 46.36

2005 46.50 45.82 46.82

2006 47.12 46.65 47.30

2007 47.51 47.25 47.60

2008 48.08 48.34 48.01

2009 48.96 49.08 48.92

2010 49.77 50.06 49.68

2011 50.41 50.35 50.43

2012 51.08 50.72 51.21

2013 51.52 51.14 51.66

2014 52.25 52.24 52.26

2015 52.98 52.77 53.05

2016 53.95 53.81 54.00

2017 54.77 54.97 54.71

2018 55.63 55.83 55.57

Average 50.71 50.27 50.86

224

Board Gender Diversity

The gender diversity in the represented sample is in line with the literature on

the corporate board diversity of Russian firms (Batayeva & Antonov, 2017; Garanina,

Tatiana, Muravyev & Alexander, 2018). The proportion of female board members

(Figure 4.14) is, unfortunately, very low, and on average is not greater than one (which

means that most of the boards of directors in the sample do not have a female director

on the board).

Figure 4-14. Board gender diversity in listed and non-listed firms

Year

Average number of male board

members

Average number of

female board

members

Average number of male board members in

the non-listed firms

Average number of

female board members in

the non-listed firms

Average number of

male board

members in the listed firms

Average number of

female board

members in the listed

firms 2001 6.33 0.00 6.50 0.00 6.00 0.00

2002 7.22 0.00 6.50 0.00 7.43 0.00

2003 7.17 0.08 7.00 0.13 7.25 0.06

2004 7.53 0.35 7.00 0.50 7.85 0.26

2005 7.45 0.32 6.95 0.35 7.69 0.31

2006 7.31 0.35 6.18 0.32 7.76 0.36

2007 7.40 0.38 6.38 0.42 7.78 0.36

2008 7.41 0.43 5.77 0.41 7.92 0.43

2009 7.47 0.49 5.56 0.48 8.12 0.49

2010 7.66 0.50 5.68 0.48 8.34 0.51

2011 7.67 0.58 5.58 0.58 8.41 0.58

2012 7.83 0.67 5.41 0.70 8.72 0.66

2013 7.90 0.75 5.44 0.74 8.79 0.76

2014 7.90 0.84 5.42 0.81 8.75 0.86

2015 7.83 0.87 5.38 0.88 8.67 0.87

2016 7.96 0.90 5.56 0.88 8.74 0.91

2017 8.09 0.92 5.38 0.92 8.94 0.92

2018 8.17 0.98 5.42 1.00 9.03 0.97

Average 7.57 0.52 5.95 0.53 8.12 0.52 The difference between the listed and non-listed firms indicates an interesting pattern

in that the non-listed firms had at least one female director on the board in 2018, while

the listed companies’ figure is slightly below one. One of the reasons for this is the fact

that these non-listed firms, which have a smaller number of board members on

225

average, can have a highly concentrated ownership, particularly in family-owned

businesses, in which the family members dominate the board.

Concerning the dynamics of the female board members of the listed firms

(Figure 4.15), we can see a steady increase from 2004 to 2014 and a period of

stagnation after 2014. During the construction of the sample, it was clear that in the

past four years, listed firms actively rotated the members on the board of directors

(from the management board to the executive board) without any significant changes

to the board composition.

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Gender diversity of the board of listed firms

Share of female Directos Share of Male Directors

Figure 4-15. Gender diversity of the board of listed firms

226

Foreign Directors vs. Domestic Directors

Figure 4.16 represents the average number of foreign and Russian directors on the

board. The average number of foreign directors on the board is equal to 0.92, which

is equivalent to a 12.8% share in the average board of directors. The data between

2001 and 2004 suggests that the average number of foreign directors on the board

decreased from 1.33 to 0.79. However, this result may be misleading due to the large

number of missing observations in these years and the small number of firms that

reported their board structure. After the introduction of the first code of corporate

governance in Russia in 2002, it seems that the transparency and disclosure of the

information in large corporations began to improve, and from 2005 there was a steady

increase in the number of foreign directors on the board.

Figure 4-16. Average number of foreign and Russian directors on the board.

Average number of Russian

directors on the board

Average number of

foreign directors on

the board


directors on the board of non-listed

firms

Average number of

foreign directors on the board of non-listed

firms


directors on the board of listed firms

Average number of

foreign directors on the board of listed firms

2001 5.00 1.33 4.50 2.00 6.00 0.00

2002 6.11 1.11 4.50 2.00 6.57 0.86

2003 6.29 0.96 6.25 0.88 6.31 1.00

2004 7.09 0.79 6.94 0.56 7.19 0.93

2005 7.11 0.66 6.75 0.55 7.29 0.71

2006 6.95 0.71 6.05 0.45 7.31 0.82

2007 7.07 0.70 6.42 0.38 7.31 0.83

2008 7.11 0.73 5.82 0.36 7.50 0.85

2009 7.16 0.80 5.56 0.48 7.71 0.90

2010 7.37 0.80 5.64 0.52 7.96 0.89

2011 7.42 0.82 5.77 0.38 8.01 0.97

2012 7.60 0.90 5.52 0.59 8.36 1.01

2013 7.71 0.95 5.59 0.59 8.47 1.08

2014 7.75 0.99 5.62 0.62 8.49 1.12

2015 7.65 1.06 5.69 0.58 8.32 1.22

2016 7.76 1.10 5.88 0.56 8.38 1.27

2017 7.91 1.10 5.75 0.54 8.58 1.27

2018 8.05 1.10 5.88 0.54 8.73 1.27

Average 7.17 0.92 5.78 0.70 7.69 0.95

227

There is also a significant difference between the listed and non-listed firms in

the share of foreign directors represented on the board. On average, listed firms show

a clear positive growth rate after 2005 up until 2016. In 2016, the average remained

at the same level of 1.27 foreign directors per board of directors in the listed firms.

That increase may be linked to several factors. Firstly, the implementation of the

Russian corporate governance code impacted the listed firms in particular. Secondly,

the globalization of Russian multinationals, a certain proportion of which are listed on

the Moscow stock exchange, required the expertise of foreign directors for better

market entries and development of global strategies.

On the other hand, non-listed firms do not show any progression towards an

increase in the share of international directors on the board. This can be due to the

firm-specific characteristics and needs at a particular moment in time. For example, if

the non-listed firm is operating in a certain sector of economic activity that requires

international relations with the perspective of the foreign market, then this firm may

hire an international board member who can provide not only experience but also

valuable network connections for successful market entry.

Executive and Non-executive Members of the Board

The total number of non-executive directors on the board increased from 5.26%

in 2001 up to 19.7% in 2018 (Figure 4.17). On average, the board of directors in 2018

had 1.8 non-executive directors. The data indicates that over the last 19 years, the

average number of non-executive directors has steadily increased.

The average number of non-executive directors among the non-listed firms

follows the same pattern as the number of foreigners on the board for non-listed firms:

it has a constant number, with some insignificant changes between 0.7 and 0.8 non-

228

executive directors on the board, throughout the dataset period. This can be explained

by the ownership concentration that exists in the number of non-listed firms with a

board of directors, and that in these firms, directors are also the senior managers of

the firms. A major leap occurred between 2006 and 2007, from 0.45 to 0.75 non-

executive directors on the board.

Figure 4-17. Average number of executive and non-executive directors on the board.

Year

Average number of executive directors

Average number of

non-executive directors

Average number of executive

directors of non-listed firms

Average number of non-

executive directors of non-listed

firms

Average number of executive

directors of listed firms

Average number of

non-executive directors of listed firms

2001 6.00 0.33 6.00 0.50 6.00 0.00

2002 6.67 0.56 6.00 0.50 6.86 0.57

2003 6.58 0.67 6.75 0.38 6.50 0.81

2004 7.05 0.84 7.13 0.38 7.00 1.11

2005 6.82 0.95 6.65 0.65 6.90 1.10

2006 6.78 0.88 6.05 0.45 7.07 1.05

2007 6.81 0.97 6.04 0.75 7.09 1.05

2008 6.74 1.10 5.41 0.77 7.15 1.19

2009 6.85 1.11 5.28 0.76 7.38 1.23

2010 6.99 1.17 5.36 0.80 7.55 1.30

2011 7.01 1.23 5.35 0.81 7.60 1.38

2012 7.16 1.35 5.30 0.81 7.84 1.54

2013 7.19 1.47 5.44 0.74 7.81 1.73

2014 7.11 1.64 5.42 0.81 7.68 1.92

2015 7.03 1.68 5.46 0.81 7.57 1.97

2016 7.13 1.74 5.64 0.80 7.61 2.04

2017 7.24 1.77 5.58 0.71 7.75 2.10

2018 7.35 1.80 5.67 0.75 7.87 2.13

Average 6.92 1.18 5.81 0.68 7.29 1.35

In contrast, the average number of non-executive directors on the board of

listed firms has steadily increased, and in 2018 was equal to 2.13 non-executive

directors on the board. This suggests that the boards of the listed firms are becoming

more independent in comparison to the non-listed firms.

229

In regard to the board composition in the sample, it can be concluded that, on

average, 27% percent of the firms in the sample established a board of directors. The

crucial difference within these boards of directors exists between the listed and non-

listed firms. If a firm went through an initial public offering, the data suggests that it

would have a larger board size in comparison to a non-listed firm. At the same time,

the board would be more diversified in terms of the number of executive directors on

the board and the number of foreign directors on the board. However, the boards of

listed and non-listed firms seem to be almost identical in terms of the number of female

directors on the board and the average age of the boards.

Even though this data reflects a representative sample of a Russian board of

directors, some variables are missing. When corporate governance scholars analysed

the board compositions, they also focused their attention on the number of

independent directors on the board and the CEO duality. In the case of Russian

companies, the definition of ‘independent directors’ is very clear. The independent

directors are “persons who not only do not serve as members of the managerial board,

but are also independent from the officers of the company and their affiliated persons

and from major business partners of the company, and do not have any other relations

with the company that may affect the independence of their opinions”52. At the same

time, the CEO duality refers in the literature to the situation when the CEO of the

company is also the chairman of the board. Both of these mechanisms of corporate

governance are primarily used in the literature to mitigate the agency problem and

improve firms’ performance( Baysinger, 1985; Jensen and Murphy 1990; Boeker, and

Goodstein, 1991; Daily, and Dalton, 1993) . During the data collection exercise, the

databases did not provide this information for the non-listed companies, which

52 Russian corporate governance code 2002

230

represented two-thirds of the overall sample; therefore, these variables were

eliminated from the research in order to mitigate the issues arising from the large

number of missing observations.

Internationalisation Variables53

The definition of an international firm in this thesis stems from the idea

that an “international” company has to have a physical presence in a foreign market

through either subsidiary or joint ventures with another foreign company. For that

reason, two primary sources of data were used to construct such a variable: the

cumulative number of foreign and domestic subsidiaries in each year (using the BvD

Amadeus database), and the cumulative number of foreign and domestic mergers and

acquisitions in each year (using BvD Zephyr data). Both databases (Amadeus and

Zephyr) covered the entire period of the study, thus creating the time-variant variables

for the analysis.

Foreign and Domestic Subsidiaries

The BvD Amadeus database provides information about direct and indirect

subsidiaries of a given company, together with their percentage of ownership. This

relationship between the parent firm and all of its direct and indirect subsidiaries can

be unfolded or disentangled for up to ten levels in the company’s report file54. This

means that the firm-level data will show that parent firm A owns 100% of company B

53 As this thesis defines internationalisation as the operations of the foreign markets through

subsidiaries and acquisitions, the export-oriented variable, such as the number of foreign sales of the total value of exports, was not included in the dataset. Both, Interfax Spark and BvD Amadeus provide information about the total number of foreign sales; however, the number of missing observations for that variable is above 85%, which makes it unreliable. 54 As defined in the BvD Amadeus database, an entity is directly owned or part-owned by an individual or entity if the ownership link is direct and passes through no other individuals or entities. In the case of indirect ownership, a simple chain of two or more ownership links exists between an owned or part-owned entity, and an owning or part-owning individual or entity, via one or more intermediate entities.

231

(level one), and company B, in its turn, owns 60% of company C (level two); thus

company A directly owns company B and indirectly owns company C, which will be

shown as the level two relationship.

To construct the number of foreign and domestic subsidiaries, the following

methodology was applied. Firstly, the fully unfolded subsidiary data (on all levels) was

downloaded for each individual firm in the dataset. The subsidiary information included

the country of the subsidiary, subsidiary name, direct and indirect ownership, and the

level of the relationship to the parent company (from one to ten). The subsidiary

information provided in the BvD Amadeus database also included the total revenue,

total assets and number of employees for the last available year. However, the

financial information (total revenue, total assets, and total number of employees) for

the subsidiaries had a significant number of missing observations and did not include

any historical data (the data did not vary through time); it was therefore not included

in the dataset of this thesis.

Secondly, the subsidiary data was reduced to count only those subsidiaries that

are directly or indirectly controlled by the parent company at each level of

disaggregation. Based on the minimum value of ownership (0.01%) available in the

BvD Amadeus database, the assumption for the ownership threshold of the parent

company should be at least 50.01%, either directly or indirectly. In this case, the parent

company can participate in decision-making processes and change the corporate

structure.

Some of the ownership data had to be cleaned before applying the threshold

level. The data with the special codes had to be converted into the numeric values

where possible: “WO” (wholly owned) with 100%, “MO” (majority owned) with 50.01%

“CQP1” (50% plus one share) with 50.01%, “NG” (negligible) with 0.01%, “-” (not

232

significant) or “n.a.” (not available) with missing data. The special codes, such as the

± symbol, >= or <=, or % sign after the number, had to be replaced without changing

the actual number.

Thirdly, the data processing created a variable to distinguish between the

foreign and domestic subsidiaries, which was done based on an acronym of the

country of the subsidiary. If the acronym of the country of the subsidiary was different

to the acronym of the Russian Federation (RU), then the company would be counted

as foreign, and domestic otherwise. Summing up the number of subsidiaries with a

foreign acronym for each year by firm would provide the total number of foreign

subsidiaries of the parent firm from the sample for each year. On the contrary,

summing up the number of subsidiaries with a domestic acronym for each year would

give the total number of domestic subsidiaries of the parent firm from the sample for

each year.

The data had some limitations. At the time of the collection of this data, the BvD

Amadeus database provided information only up to the year 2016. The following years

had either a large amount of missing ownership information or duplicated the values

from the last available year of the information. For that reason, the number of

subsidiaries (either foreign or domestic) stayed constant after 2016. The other

limitation of the Amadeus database is that it covers only European companies, thus

the subsidiaries which are located beyond Europe were not always recorded.

Notwithstanding these limitations, the database remained extremely rich and

informative.

233

Looking at the descriptive statistics of the total number of foreign and domestic

subsidiaries, it can be concluded that from the beginning of the sample (the year 2000),

more than half of the firms were pursuing either domestic or international growth

(Figure 4.18). The percentage of firms with at least one recorded subsidiary steadily

increased from 53% in 2000 to 69% in 2018. For the firms that had at least one

domestic or foreign subsidiary, the average number of domestic subsidiaries was

23.05 while the average number of foreign subsidiaries was just 4.26 (Figure 4.19).

This shows that most of the largest Russian firms concentrated on the domestic

market rather than foreign expansion. At the same time, there were just three firms

(maximum four between the years 2005 and 2008) in the sample which only had

foreign subsidiaries. For both the total number of domestic subsidiaries and total

number of foreign subsidiaries, the distribution is skewed to the right, suggesting that

the larger number of firms had a smaller number of foreign and domestic subsidiaries

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Percentage of firms with and without subsidiaries

At least one subsidiary No subsidiaries

Figure 4-18. Percentage of firms with and without subsidiaries.

234

in relation to the mean, and, at the same time, the sample included some outliers like

Gazprom or Lukoil that had more than 250 subsidiaries.

Figure 4-19. Descriptive statistics of foreign and domestic subsidiaries.

Variable Obs. Mean Std. Dev. Min Max

Domestic Subsidiaries 3,218 23.055 49.78074 0 395

Foreign Subsidiaries 3,218 4.267557 16.87969 0 232

Total Number of Subsidiaries 3,218 27.32256 60.34797 1 444 Looking at the growth rate of foreign and domestic subsidiaries (Figure 4.20),

we can conclude that in the time span of the last 19 years, there were two major spikes

in the number of foreign subsidiaries among the top 297 Russian firms. The first

occurred after the introduction of the corporate governance code in Russia in 2002,

which was introduced as a set of guidelines from the world’s best practices for large

corporations. The second spike was in 2007, right before the financial crisis, and this

is also linked to the fact that Russia, as one of the emerging markets at that time, was

growing rapidly, and it provided good opportunities for the Russian firms to fortify their

positions in the European market.

235

The number of domestic subsidiaries is highly correlated with the number of

foreign subsidiaries throughout the last 19 years, which suggests that, in general, the

expansion phase of the firms in both domestic and foreign markets was occurring at

the same time. The only difference that is seen from the graph is the year 2015 to

2016. This difference arises from the change in the macroeconomic environment that

occurred after the year 2014 as a result of strict sanctions from the western countries.

The sectoral breakdown represented in Appendix B suggests that the largest

number of domestic subsidiaries in 2018 were established by firms operating in the

manufacturing sector (1012 domestic subsidiaries), closely followed by the companies

operating in information and communication (1010 domestic subsidiaries) sector of

economic activity. This highlights the rapid penetration of the domestic market by the

largest IT firms in Russia from early 2000 to the present time. However, the largest

growth rate was observed in the electricity, gas, steam and air conditioning supply

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

30.00%

35.00%

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Growth rate of foreign and domestic subsidiaries

Growth of Foreign Subsidiaries Growth of Domestic Subsidiaries

Figure 4-20. Growth dynamic of foreign and domestic subsidiaries.

236

sector, which resulted from the vertical integration of the largest energy companies

and their increased interest in the domestic market, from pure export-based strategy.

Looking at the breakdown of the international subsidiaries in 2018, the largest

number of them were established by firms operating in the sector of professional,

scientific, and technical activities. However, this result is “dragged” rightward by the

outlier, as the Russian oil firm “Lukoil” is registered in this sector, and its number of

foreign subsidiaries in the year 2018 was 232 out of the total 253. This suggests that

it would be more appropriate to count the firms operating in the transportation and

storage sector (202 foreign subsidiaries) as the leader in the number of foreign

subsidiaries in the year 2018. This sector is closely followed by the manufacturing

sector (174 foreign subsidiaries) and information and communication sectors (147

foreign subsidiaries).

Foreign and Domestic Merges and Acquisitions

To construct the full picture of a firm’s internationalisation, it is also important to

look not only at the subsidiaries, which are established by the parent firm itself, but at

the firms that were created as a joint venture with the foreign firm or through mergers

and acquisitions (M&As), after which the parent company gains control over the

foreign firm. In both cases, the parent firm would be able to take part in the managerial

decision-making processes or change the corporate structure of the newly created or

acquired firm. For this purpose, this thesis used the BvD Zephyr database, which

contains information on M&A, IPO, private equity and venture capital deals and

rumours globally, to construct the number of foreign M&As, number of domestic M&As

and the total number of M&As for each firm in the sample.

237

The Zephyr database provided the information about the acquirer firm (which is

the parent firm from the 297 companies) and the complete information about the target

firm (the firm that was acquired by the parent firm). This database also covered the

period up to the year 2018, which, to some extent, compensates for the limitation of

the subsidiaries variables which do not vary after 2016.

The following methodology was used to construct the required variables. First,

the initial download from the Zephyr database was reduced to 297 acquirer firms to

match the number of companies in the sample of this thesis. The total number of deals

that all these firms had over the period of 29 years was 6110. Secondly, the database

was filtered to use only a certain type of deals, the result of which would be that the

acquirer firm would own more than 50.01% of the target firm. Under these criteria, the

following deal types were included: acquisition deals with 50.01%+; acquisition

increase deals that led to the acquirer firm owning more than 50.01% of the target firm;

capital increase deals by more than 50.01%; joint venture deals in which the acquirer

owns more than 50%; mergers deals in which the acquirer owns more than 50%; and

minority stake increase deals in which the acquirer ended up with more than 50.01%

of the stake. The second cleaning filter was to count only those deals which were

completed. Thirdly, the deals were separated into foreign and domestic groups based

on the country of the target firm. If the country of the target firm was not Russia, then

this would count as a foreign M&A. If the country of the target firm was Russia, then it

would be counted as a domestic M&A.

Some of the M&A data had to be cleaned in the same way as subsidiary

ownership data. The data with the special codes had to be converted into the numeric

values where possible: “WO” (wholly owned) with 100%, “MO” (majority owned) with

50.01% “CQP1” (50% plus one share) with 50.01%, “NG” (negligible) with 0.01%, “-”

238

(not significant) or “n.a.” (not available) with missing data. If, at the end of the cleaning

process, the acquirer firm had a stake of less than 50.01% of a completed deal, such

a deal was dropped from the sample.

Figure 4-21. Descriptive statistics of foreign M&A and domestic M&A of the parent

company.

The descriptive statistics (Figure 4.21) represent that a much smaller number

of Russian firms in the dataset were using M&A as a method of geographical

expansion in domestic and foreign markets, in comparison to market expansion

through the establishment of new subsidiaries. The average number of M&A deals

which were completed and after which the parent company had a controlling stake in

the targeted firm is 8.09 for the whole period of 19 years. The number of domestic

M&A deals (7.02) is seven times higher in comparison to foreign M&A’s (1.07), which

also supports the idea that most firms pursue an increase in the share of the domestic

market before going international.

On the other hand, out of all the firms that had at least one M&A deal (either

foreign or domestic), the share of the firms that were using M&A deals as an instrument

for market growth increased steadily between 2000 and 2018 (Figure 4.22). Starting

from only 5% in 2000, almost half of the companies in the sample (49%) made at least

one M&A deal, which led to the control of the target company.

Variable Obs Mean Std. Dev. Min Max

Foreign M&As 1751 1.074814 2.630937 0 17

Domestic M&As 1751 7.024557 10.81882 0 85

Total M&As 1751 8.099372 12.7981 1 100

239

Similar to the growth rate of the subsidiaries, the growth rate of M&A deals

decreased after 2008. Figure 4.23 represents this decline, together with the very

strong correlation after 2008. There are several reasons for such a strong correlation

and for the steady increase, all of which are linked to the macroeconomic environment

that developed after the financial crisis. Firstly, the financial crisis itself decreased the

firm-level economic activity. Secondly, the sanctions from the western countries in

2014 restricted foreign activity, including the potential M&A deals.

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Percentage of firms with and without M&A deals

At least one M&A deal No M&A Deals

Figure 4-22. Percentage of firms with and without M&A deals

240

The spike that can be seen on the graph in early 2000 to 2004 in the growth

rate of domestic M&A deals is the result of the initially low volume of M&A activity in

early 2000 (only 14 M&A deals). In that case, the largest companies in Russia were

able to double the initial amount almost on a yearly basis.

Looking at the sectoral breakdown of the foreign and domestic M&A activity

(represented in Appendix B), it is possible to conclude that the largest growing sector

of economic activity by domestic M&A deals was manufacturing (348 M&A deals),

followed by information and communication technology sector (199 M&A deals). This

represents the high correlation between the expansion approaches (own subsidiaries

or M&A activity) used by the largest Russian firms on the sectoral level of the domestic

market. The third largest sector in terms of the number of domestic M&A deals was

shared by the electricity, gas and steam industry, with a total of 192 M&A deals.

The foreign M&A deals breakdown by sector in 2018 was also led by the

manufacturing industry (57 M&A deals), followed by the information and

0.00%

20.00%

40.00%

60.00%

80.00%

100.00%

120.00%

140.00%

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Growth Rate of Foreign and Domestic M&As

Growth of Foreign M&As Growth of Domestic M&As

Figure 4-23. Growth rate of foreign and domestic M&As

241

communication sector (38 M&A deals). This statistic indicates that the information and

communication technology sector experienced rapid growth both in the domestic and

foreign markets. The third largest number of foreign M&A deals (29) pertains to firms

operating in the wholesale and retail trade, followed by the financial sector (19 M&A

deals). This can indicate that the foreign M&A deals are primarily used as a tool to

increase market exposure during the internationalisation process.

Geographical Diversification

Another vital aspect of internationalisation in relation to corporate governance

is the geographical diversification of the internationalisation process; in other words,

the number of foreign markets in which the firm is operating. This may have a

significant effect on the corporate governance structure and, at the same time, will

justify if any corporate governance restructuring is necessary. For example, a firm from

Russia that is operating purely in the CIS (Commonwealth of Independent States)

region may require minimal adjustment to its corporate governance structure, in

comparison to a Russian firm that is operating in the United Kingdom or Germany.

For that reason, the dataset contains the variable that shows the number of

foreign markets in which the parent firm from the sample is operating. This variable

was constructed using the combined data from the number of subsidiaries and

mergers and acquisitions. The variable uniquely identifies each new foreign market on

a yearly basis. The average number of foreign markets for firms with international

activity (at least one foreign subsidiary or a single foreign M&A deal) is 5.7, with the

minimum of one and the maximum of 27 markets for a single firm (Figure 4.24). At the

same time, the increase in standard deviation (Figure 4.24) indicates that firms with

242

some degree of internationality have increased their operations in the foreign markets,

while the firms with no international activity pursue expansion on the domestic market.

Figure 4-24. Descriptive statistics of geographical diversification

year Mean of Foreign Markets

Std.Dev. of

Foreign Markets

Min Number Of

Foreign Markets

Max Number Of

Foreign Markets

2000 4.71 5.14 1 19

2001 4.97 5.18 1 20

2002 5.16 5.21 1 20

2003 5.75 6.07 1 21

2004 6.08 6.40 1 21

2005 5.88 6.40 1 21

2006 5.91 6.57 1 21

2007 5.71 6.62 1 22

2008 5.40 6.46 1 22

2009 5.42 6.34 1 22

2010 5.74 6.60 1 24

2011 5.82 6.76 1 25

2012 6.03 6.84 1 26

2013 6.06 6.87 1 27

2014 5.82 6.76 1 27

2015 5.88 6.75 1 27

2016 5.93 6.76 1 27

2017 5.93 6.76 1 27

2018 5.93 6.76 1 27

Total 5.76 6.49 1 27

Geographical Efficiency of the Board

To test the third hypothesis, that the internationalisation of a firm from a country

with a low level of corporate governance to a country with a high level of corporate

governance will be positively correlated with the positive corporate governance

change of that firm, it was important to construct a variable that would represent the

level of corporate governance at country level. For this purpose, the World Economic

Forum data was used. The variable that was used as a proxy was “efficiency of the

243

corporate board55” that has a value between one and seven, where one is poor and

seven is excellent. This data was collected on a yearly basis.

To create an accurate variable at firm level, it was important to construct the

index of the board efficiency based on the number of foreign markets and weighted by

the number of foreign subsidiaries and foreign acquisitions (separately) in that market.

For that purpose, I identified the total number of subsidiaries/acquisitions in each

market. After that, the weight of each market was calculated based on the ratio

between the number of the subsidiaries/acquisitions in the specific country and year

and the total number of foreign subsidiaries/acquisitions in a certain year. This weight

was multiplied by the country level board efficiency index and summed up to receive

a single index on a firm level.

The figures below represent the descriptive statistics for the index of the board

efficiency, weighted by the number of foreign acquisitions (Figure 4.25) and by the

number of foreign subsidiaries (Figure 4.26). The average index of the board efficiency

in Figure 4.25 shows that up to the year 2012, the index varied between 4.6 and 4.3.

After that period, we can see the steady increase in the index. This can be explained

by the fact that the M&A deals of the Russian firms, after which the Russian company

became the main owner, took place in the countries where the index of the board

efficiency is higher in comparison to the Russian market.

55 Definition of corporate board indicator from World Economic Forum: In your country, to what extent

is management accountable to investors and boards of directors? [1 = not at all; 7 = to a great extent]

244

Figure 4-25 Index of the board efficiency weighted by the number of foreign acquisitions.

Year

Average board efficiency

index

Std. dev. board

efficiency index

Min board efficiency

index

Max board efficiency

index

2000 4.57 0.25 4.30 4.80

2001 4.35 0.42 3.80 4.80

2002 4.30 0.34 3.80 4.80

2003 4.50 0.56 3.80 5.63

2004 4.55 0.45 3.80 5.57

2005 4.42 0.39 3.80 5.10

2006 4.53 0.43 3.79 5.09

2007 4.57 0.40 3.89 5.08

2008 4.60 0.37 3.77 5.30

2009 4.48 0.35 3.43 5.26

2010 4.37 0.33 3.64 5.19

2011 4.40 0.38 3.88 5.33

2012 4.37 0.44 3.73 5.53

2013 4.50 0.35 3.77 5.40

2014 4.62 0.36 3.87 5.36

2015 4.67 0.54 3.93 5.82

2016 4.77 0.60 3.97 6.12

2017 4.92 0.52 4.10 6.11

2018 4.92 0.52 4.10 6.11

Grand Total 4.59 0.47 3.43 6.12

Figure 4.26 illustrates the firm level index of the board efficiency weighted by the

number of foreign subsidiaries. Overall, between the year 2000 and 2018, the index

has an upward trend, during which there was a slight pullback after the year 2007,

from 4.99 to 4.70. The descriptive statistics also show that the standards deviation has

slightly increased over time, which could mean that some firms started to establish

subsidiaries in more advanced countries and not in CIS regions.

245

Figure 4-26 Index of the board efficiency weighted by the number of foreign subsidiaries.

Year

Average board efficiency index weighted by number of foreign subsidiaries

Std. Dev. board efficiency index weighted by number of foreign subsidiaries

Min board efficiency index weighted by number of foreign subsidiaries

Max board efficiency index weighted by number of foreign subsidiaries

2000 4.60 0.36 3.46 5.20

2001 4.58 0.35 3.50 5.20

2002 4.55 0.46 2.60 5.20

2003 4.66 0.49 2.68 5.37

2004 4.74 0.53 2.77 5.53

2005 4.79 0.61 2.85 5.70

2006 4.95 0.51 4.01 5.70

2007 4.99 0.51 4.13 5.92

2008 4.90 0.58 2.96 5.64

2009 4.77 0.52 2.94 5.44

2010 4.69 0.47 2.89 5.35

2011 4.69 0.46 3.11 5.33

2012 4.69 0.51 3.03 5.42

2013 4.78 0.45 3.77 5.48

2014 4.92 0.48 3.87 5.74

2015 5.14 0.59 3.98 6.01

2016 5.10 0.65 3.97 6.14

2017 5.10 0.65 3.97 6.14

2018 5.10 0.65 3.97 6.14

Grand Total 4.85 0.56 2.60 6.14

Graphical Analysis of Internationalisation and Corporate Governance

Since the focus of this thesis is internationalisation, it is important to graphically

assess its relationship with corporate governance variables. Figure 4.27 below

represents the average number of non-executive directors on the board for firms with

international activity (which either have one foreign subsidiary or one foreign

acquisition) and firms without international activity.

246

Figure 4-27 Comparison of the average number of non-executive directors on the board

between the firms with and without international activity

This graph illustrates that the average number of non-executive directors on the board

has steadily increased over time in firms with international activities. After the

intersection point of these two lines in 2002, when the Russian corporate governance

code was introduced, both types of firms increased the number of non-executive

directors on the board. However, after the year 2008, it is clear that firms with no

foreign subsidiaries or foreign acquisitions continued to introduce non-executive

directors at a decreasing rate. Figure 4.27 shows that internationalisation would have

a positive correlation with the number of non-executive directors on the board.

Figure 4.28 compared the number of firms that apply a one-tier board structure

between firms with international activity and firms without such activities. This graph

clearly shows that the one-tier board system prevails in the firms that do not operate

in foreign markets through subsidiaries or acquisitions. However, the graph also shows

that after the year 2013, there was a steady decrease in the number of firms that use

the one-tier board system. The primary reason for the decrease could be that firms

0.00

0.20

0.40

0.60

0.80

1.00

1.20

1.40

1.60

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Comparison of average number of non-executive directors on the board between the firms with and without international

activity

Firm with international activity Firm without international activity

247

changed their corporate structure to a two-tier board system due to IPO or to the fact

that the total number of shareholders became more than 50.

Figure 4-28 Comparison of 1-tier board system across firms with and without international

activity.

At the same time, Figure 4.29 represents a similar comparison, but across the firms

with a two-tier board structure. The pattern of these firms is different, and we can see

that the number of firms with the two-tier board structure was steadily increasing up to

the year 2000, regardless of internationalisation. In 2008, decoupling occurred and the

number of firms with foreign subsidiaries and acquisitions that used a two-tier board

in their corporate governance structure continued growing, while the number of firms

with no international activity started to decrease. This pattern can be justified by the

growing foreign direct investment in the Russian market between 2002 and 2008

(Figure 4.2). One of the ways to receive financing through equity would be to become

a public company and be listed on the Moscow stock exchange, and for that the board

0

5

10

15

20

25

30

35

40

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Comparison of 1-tier board system across firms with and wihtout international activity.

Firm With international activity Firm Without international activity

248

structure had to be changed from the one-tier board to the two-tier board system, or if

the firm did not have a board previously, to establish such a board. The decoupling

occurred at the same time as the FDI into Russia fell after the financial crisis of 2008,

and the trajectory of the two-tier board system among firms with or without

international activity was changed. As can be seen after 2008, there was a steady

decrease in the number of firms that used a two-tier board structure, and a continuation

of the growth in the number of firms with the two-tier board structure that operated on

the foreign markets through subsidiaries and acquisitions.

Figure 4-29 Comparison of the two-tier board system across firms with and without international activity.

Another important aspect of the corporate board that should have a positive

relationship with internationalisation is the number of foreign directors on the board.

Figure 4.30 represents the comparison of the average number of foreign directors on

the board, between firms with and without international activity. From 2002, when the

corporate governance code was introduced, we can see the spike in the number of

foreign directors on the boards of the firms with foreign subsidiaries and M&As.

0

5

10

15

20

25

30

35

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Comparison of 2-tier board system across firms with and without international activity.


249

However, a similar pattern can be seen in the firms without international activity, which

means that regardless of internationalisation, the corporate boards still hire foreign

directors. To support that statement, it is also important to look at the fact that the gap

between these two types of firms is almost unchanged after 2010. Therefore, the initial

spike in the number of foreign directors on the boards of firms with international

activities can be explained by the firms’ decision to be listed on the Moscow Stock

Exchange and to receive financing through equity, and, in this case, the foreign

director’s main role could be to represent the interest of foreign shareholders, rather

than playing a strategic role in the internationalisation process.

Figure 4-30 Comparison of the average number of international directors on the board between the firms with and without international activity

0.00

0.10

0.20

0.30

0.40

0.50

0.60

0.70

0.80

0.90

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Comparison of the average number of international directors on the board between the firms with and without international activity


250

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Peremeny], 11 (1), 84-99.

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concentration of industry in Russia”, Regional Science Inquiry, Vol. VII, (2), pp. 97-106

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Rouyer E.,, (2013). "Company Performance and the Two-Tier Board Structure: Empirical Evidence from France," International Journal of Business and Economics, School of Management Development, Feng Chia University, Taichung, Taiwan, vol. 12(1), pages 45-58, June.

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https://ideas.repec.org/s/ijb/journl.html

252

Appendix B.

Number of

Foreign

Markets of

operation

Number of

Foreign

Subsidiaries

Number of

Domestic

Subsidiaries

Total

number of

Subsidiaries

Total

number of

M&A

Total

number of

Foreign

M&A

Total

number of

Domestic

M&A

board

structure =

1 if 1-tier

BoD, 2 if

Number of

directors on

the board

Avergae

age of the

board

Number of

male

directors on

the board

Number of

female

directors on

the board

Number of

executive

directors on

the boa

Number of

non-

executive

directors on

the

Number of

russian

directors on

the board

Number of

foreign

directors on

the board

Number of Foreign Markets

of operation 1

Number of Foreign

Subsidiaries 0.8082 1

Number of Domestic

Subsidiaries 0.7409 0.5385 1

Total number of Subsidiaries0.8328 0.7178 0.9732 1

Total number of M&A0.6396 0.581 0.2872 0.3958 1

Total number of Foreign

M&A 0.6051 0.4757 0.4848 0.5304 0.7339 1

Total number of Domestic

M&A 0.6376 0.5163 0.4674 0.5271 0.8165 0.9914 1

board structure = 1 if 1-tier

BoD, 2 if 0.3474 0.2411 0.3007 0.3142 0.3576 0.4695 0.468 1

Number of directors on the

board 0.3241 0.2293 0.2808 0.2946 0.3485 0.4574 0.456 0.9482 1

Avergae age of the board0.2745 0.2039 0.2341 0.2491 0.3156 0.406 0.4059 0.9242 0.9457 1

Number of male directors on

the board 0.3261 0.2327 0.275 0.2907 0.3505 0.4491 0.4493 0.9402 0.9925 0.9384 1Number of female directors

on the board 0.1498 0.0927 0.1814 0.1752 0.1618 0.2868 0.2749 0.532 0.5547 0.5258 0.4487 1Number of executive

directors on the boa 0.2976 0.2293 0.2507 0.2697 0.3372 0.4241 0.4255 0.9192 0.977 0.9367 0.9719 0.5266 1Number of non-executive

directors on the 0.2886 0.1407 0.2743 0.265 0.2518 0.3934 0.3829 0.6792 0.6908 0.6099 0.6779 0.4355 0.5208 1Number of russian directors

on the board 0.2911 0.194 0.2773 0.2821 0.293 0.4112 0.406 0.9144 0.976 0.9218 0.9687 0.541 0.9562 0.6652 1Number of foreign directors

on the board 0.2573 0.2302 0.1223 0.1638 0.3574 0.3619 0.3765 0.5004 0.4808 0.4594 0.477 0.2685 0.459 0.3686 0.2783 1

Figure 4-31. Correlation between the dependent and independent variables.

253

Figure 4-32. Distribution of Foreign and Domestic subsidiaries by sector of economic activities.

Sector of Economic Activity (NACE Rev.2)


Subsidiaries (2000)

Total number of Domestic Subsidiaries

(2000)


Subsidiaries (2007)


(2007)


Subsidiaries (2018)


(2018)

M. Professional, scientific and technical activities 88 32 166 98 253 330

H. Transportation and storage 34 305 109 605 202 954

C. Manufacturing 56 282 88 556 174 1012

J. Information and communication 31 187 65 401 147 1010

K. Financial and insurance activities 16 74 87 340 143 677

F. Construction 18 115 40 225 74 424

G. Wholesale and retail trade; repair of motor vehicles and motorcycles 12 215 31 485 62 857

D. Electricity, gas, steam and air conditioning supply 5 50 25 508 61 932

B. Mining and quarrying 0 48 1 113 4 177

A. Agriculture, forestry and fishing 0 9 0 13 0 22

L. Real estate activities 0 5 0 11 0 18

254

Figure 4-33 Distribution of Foreign and Domestic M&A deals by sector of economic activities.

Sector of Economic Activity (Nace Rev.2) Total number

of Foreign M&As (2000)

Total Number of Domestic

M&As (2000)


M&As (2007)


M&As (2007)


M&As (2018)


M&As (20018)

C. Manufacturing 0 3 19 138 57 348

J. Information and communication 0 5 19 82 38 199

G. Wholesale and retail trade; repair of motor vehicles and motorcycles 0 0 5 20 29 87

K. Financial and insurance activities 0 0 5 42 19 87

M. Professional, scientific and technical activities 4 4 12 35 16 112

D. Electricity, gas, steam and air conditioning supply 0 1 0 16 7 192

H. Transportation and storage 0 1 0 18 7 48

B. Mining and quarrying 1 0 3 36 6 88

F. Construction 0 0 0 19 5 61

A. Agriculture, forestry and fishing 0 0 0 1 0 13

255

Figure 4-34. Histogram of log: Number of Employees

256

Figure 4-35. Histogram of log Total Assets in thousands of rubbles

257

Figure 4-36. Histogram of log” Total Fixed assets in thousands of rubbles

258

Figure 4-37. Histogram of log: Age of the firm

259

Figure 4-38. Histogram of log: Operating Revenue in thousands of rubbles.

260

Figure 4-39 What does Russia export? (2018)

56

56 Source: The Observatory of Economic Complexity https://oec.world/

https://oec.world/

261

Chapter 5 Regression analysis

This chapter of the thesis will focus on testing the four hypotheses previously

discussed in Chapter 2, Chapter 3 and Chapter 4. To test the first hypothesis,57 the

empirical analysis will focus on identifying the relationship between the dependent

variables measuring corporate governance and the independent variables measuring

foreign subsidiaries and foreign acquisitions. With regard to the second hypothesis58,

the analysis will focus on foreign markets, specifically examining whether the number

of foreign markets has a positive and significant effect on the number of foreign

directors on the board, and whether the geographical diversification of the firm leads

to a higher number of foreigners on the board. Next, to test the third hypothesis59, it is

important to focus on the index of board efficiency, a sophisticated measure weighted

by the relative importance of foreign subsidiaries and foreign acquisitions. In other

words, this hypothesis tests whether the internationalisation of the firm, from a country

with low levels of corporate governance, to a country with high levels of corporate

governance, will correlate with the restructuring of corporate governance mechanisms.

Finally, to test the fourth hypothesis,60 it is important to identify how corporate

governance mechanisms, measured by dependent variables, will vary due to

internationalisation in two groups of firms (listed and non-listed).

57 Hypothesis 1: Firm’s internationalisation, which occurs through opening a subsidiary or foreign acquisition in the

foreign market, will be positively correlated with the number of corporate governance mechanisms. 58

Hypothesis 2: Increase in the geographical diversification of the firm will be positively correlated with the share

of foreign directors represented on the board. 59

Hypothesis 3: Internationalisation of the firm, from a country with low levels of corporate governance, to a

country with high levels of corporate governance, will be correlated with a restructuring of corporate governance mechanisms.

60 Hypothesis 4: After the IPO of the firm there is a statistically significant relationship between the

internationalisation and its corporate governance restructuring.

262

Methodology

For this purpose, a panel database will be adopted and this choice has several

advantages for an empirical analysis. One of the main advantages is the possibility to

derive dynamic models (Maddala, 1993; Lee, 1998; Bond, 2002). Such dynamic

models can thus be used to determine the causal nexus between independent and

dependent variables.

The panel estimation model, for example, fully accounts for the existence of

time-invariant variables, not included in the model, correlated with explanatory

variables: correlation(X,e) different from zero, also called exogeneity assumption.

Such time-invariant omitted variables can be either observable, but not reported, or

unobservable, and hence missing by construction, and, therefore, might create biased

and inconsistent coefficients in traditional cross-section specification models. The

problem with observational data is that there are potentially an infinite number of such

unobserved variables, which could render the observed relationship endogenous (i.e.

a violation of the exogeneity assumption). This is the problem of so-called “unobserved

heterogeneity” (Green, 2002).

To resolve such drawbacks, academic literature proposes using the

fixed/random effects model which accounts for the unobserved heterogeneity. The

main assumption is that all these unobserved variables are time-invariant and they

could be potentially correlated with other regressors. In this case, the general form of

regression will be:

𝑌𝑖𝑡 = 𝛽1𝑋1,𝑖𝑡 + ⋯ + 𝛽𝑘𝑋𝑘,𝑖𝑡 + 𝛼𝑖 + 𝑢𝑖𝑡

Where 𝑌𝑖𝑡 is a dependent variable, 𝛽1 𝑢𝑝 − 𝑡𝑜 𝛽𝑘 are coefficients, 𝑋𝑘,𝑖𝑡 represents

independent variables, 𝛼𝑖 represents constant unobserved variables (also called “fixed

effect”) and 𝑢𝑖𝑡 which is an idiosyncratic error term.

263

All RHS and LHS variables are converted into natural logarithms. A log-log model

allows for easy interpretation of the effect of independent variables on the dependent

variables, in terms of elasticity.

For the robustness check, this thesis will also include a dynamic Generalised Method

of Moments model (GMM). The GMM method is particularly relevant when the panel

data have smaller numbers of years (T) in comparison to the number of groups (N),

which is the case in this data. The dynamic GMM model tests whether

internationalisation variables have a significant, positive effect on corporate board

mechanisms by lagging the internationalisation variables and considering them as

endogenous, as exemplified in the equation below:

𝑙𝑛𝑌𝑖𝑡 = 𝜑𝑙𝑛𝑌𝑖𝑡−1 + 𝛽𝑙𝑛𝑍𝑖𝑡−1 + 𝛾𝑋𝑖𝑡−1 + 𝑑𝑡 + 𝜀𝑖𝑡

Where 𝑙𝑛𝑌𝑖𝑡 is a dependent variable in logarithm; 𝑙𝑛𝑍𝑖𝑡−1 are endogenous variables

that are lagged by one year; 𝑋𝑖𝑡−1 are a set of control variables that are also lagged

by one year; 𝑑𝑡 is the time dummy; and 𝜀𝑖𝑡 is an error term.

Regression Results

Overall, there are eight dependent variables, with regard to the composition of

the board: the number of directors; the average age of board members; the number of

female directors; the number of male directors; the number of independent directors;

the number of executive directors; the number of foreigner directors; and the number

of Russian directors61. The control variables in the regressions include: the number of

61 Using the ratios too (e.g. % foreign directors), the results would be qualitatively very similar due to the granular

set of controls.

264

employees; total revenue; total assets; total fixed assets; total intangible assets;

dummy variable to identify whether the board exists; dummy variable to identify

whether the firm has the government as the main shareholder; the board dummy to

show whether the firm is listed on any stock exchange62; and the year dummies. The

categorical variable that determines the board structure (1-tier or 2-tier board) has

been omitted from the regression results having been perfectly determined by the

“board existence dummy” and the “publicly quoted” dummy. In other words, the effect

of the board structure is indirectly taken into account by using the publicly quoted

variable, which captures the effect of the firm having been listed on the exchange and,

therefore, using the 2-tier board.

The descriptive statistics for all variables used in the regressions are presented

in the appendix of this chapter, Figure 5.27. After running fixed effect and random

effect models, and performing the Hausman tests for each regression63, the best

model to use for this panel dataset would be fixed effect. The correlation matrix among

independent variables presented in Figure 5.1 does advise against the use of the

seven internationalisation variables within the same specification. In other words, the

high correlation between internationalisation variables warns against regressions with

all seven internationalisation variables all together (the so-called horse race) due to

multicollinearity. On a more general note, the full correlation table of all variables is

presented in Appendix C. The next section will investigate the regression results for

each dependent variable in turn.

62

This is not collinear with FE because it does change for some firms, which become listed in the 2000-2018 span. 63

Hausman tests to justify the use of the fixed regression model is provided in the appendix of this chapter.

265

Figure 5-1 Correlation matrix of independent variables

Variables

Log: Number of Foreign Markets

Log: Number of Foreign Subsidiaries

Log: Number of Domestic Subsidiaries

Log: Total number of Subsidiaries

Log: Total number of Acquisitions

Log: Number of Foreign Acquisitions

Log: Number of Domestic Acquisitions

Log: Number of Foreign Markets 1

Log: Number of Foreign Subsidiaries 0.9474 1

Log: Number of Domestic Subsidiaries 0.6471 0.6302 1

Log: Total number of Subsidiaries 0.7015 0.6922 0.9913 1

Log: Total number of Acquisitions 0.5991 0.5104 0.5804 0.6018 1

Log: Number of Foreign Acquisitions 0.6786 0.5623 0.3664 0.4123 0.7035 1 Log: Number of Domestic Acquisitions 0.5691 0.4938 0.5851 0.6023 0.9921 0.641 1

Board of Directors and Internationalisation

As can be seen from the regression results of the fixed effects model (Figure

5.2), the number of foreign subsidiaries has the greatest effect on the size of the board.

An increase of one percent in the number of subsidiaries leads to a 0.07% increase in

the size of the board. The second largest effect on board size is determined by the

number of domestic mergers and acquisitions, which indicates that a percentage

increase in the number of foreign mergers and acquisitions leads to a 0.056% increase

in the size of the board. The R-square, across all seven regressions, shows that

around 77% of variation in the board of directors can be explained by independent

variables. Controlling for listed and non-listed firms suggests that the former have a

greater effect on the size of the board of directors. The effect of the state on the board

size is also positive and significant. By examining the first two independent variables,

266

which represent the weighted index of the board efficiency at firm level (weighted by

the number of foreign subsidiaries and foreign mergers and acquisitions), it can be

concluded that they both have a significant and positive effect on board size. A one

percent increase in the index of board efficiency, weighted by the number of

subsidiaries, leads to a 0.028% increase in the number of directors on the board, while

a one percent increase in the index of board efficiency, weighted by the number of

mergers and acquisitions leads to a 0.014% increase in board size.

267

Figure 5-2. Regression results, dependent variable “size of the board of directors”

268

Overall, it can be concluded that expansion of the firm in domestic and foreign markets

leads to an increase in the number of board members.

Average Age of the Board

Based on the regression results in Figure 5.3, the average age of the board is

positively affected by variables measuring internationalisation and domestic growth.

All the independent variables in the model are highly significant.

Looking at the internationalisation variables, a one percent increase in the

number of foreign markets leads to an increase in the average age of the board by

0.029%. This is the highest coefficient out of all the independent variables related to

internationalisation. At the same time, a percentage increase in the number of

foreign/domestic subsidiaries (0.0268% / 0.0264% respectively) and the number of

foreign/domestic mergers and acquisitions (0.0248% / 0.0247% respectively) leads to

an increase in the average age of the board. The greater the board efficiency index,

based on the number of foreign subsidiaries and mergers and acquisitions, the higher

the average age of the board.

The explanatory power of all nine regressions is very high, with an average of

69% R-square. State-owned enterprises also have a higher average board age in

comparison to other firms. The crucial difference, however, is the dummy variable that

shows the difference between listed and non-listed firms. In this set of regressions,

the average age of the board of listed firms is not statistically different from non-listed

firms, ceteris paribus. Based on these results, it can be concluded that the

independent variables in the analysis have a positive and significant impact on the

average age of the firm.

269

Figure 5-2Regression results, dependent variable “age of the board of directors”

270

Number of Male Directors

Figure 5-3 Regression results, dependent variable “number of male directors on the board”

271

Examining the details of the regression results in Figure 5.4, it can be seen that

all the regressors have significant and positive coefficients. The main explanatory

variable is the number of foreign subsidiaries. A percentage increase in the number of

foreign subsidiaries leads to a 0.0644% increase in the number of male directors on

the board. This is followed by the number of foreign markets (0.056%) and total

number of foreign mergers and acquisitions (0.0326%). In contrast to board size and

board age, state-owned enterprises do not have a significant effect on the numbers of

male directors on the board. This could be because, following the OECD code of

corporate governance, state-owned enterprises have tried to maintain the proportion

of male and female directors on the board. Looking at the publicly quoted variable, it

can be seen that a listed firm has a much greater proportion of male directors on the

board compared to non-listed firms.

Number of Female Directors

Results of the regressions of independent variables on the number of female directors

on the board (Figure 5.5) differs when compared to the number of male directors on

the board. First, the impact that the independent variables have on the dependent

variables are, in some cases, higher. For example, a one percent increase in the

number of foreign mergers and acquisitions leads to a 0.119% increase in the number

of female directors on the board (in comparison to the previous figure 5.4) where the

percentage increase in the number of foreign mergers and acquisitions leads to an

increase of 0.0326%). Such a difference may arise from the difference between Russia

and advanced foreign countries, in terms of the percentage of female directors on the

boards.

272

Figure 5-4 Regression results, dependent variable “number of female directors on the

board”

273

Another opposing finding from the previous set of results, is that state-owned

enterprises have a significant and positive relationship on the number of female

directors on the board.

Even though all the internationalisation variables have a positive and significant

effect on the number of female directors on the board, the explanatory power of the

models represented in Figure 5.5 is significantly lower than those in Figure 5.4. The

largest R-squared in this set of regressions is 28.3%, for regression number 35, and

the lowest R-squared is 26.1%, in regression number 28.

Number of Executive Directors

Regression results in Figure 5.6 turn to the analysis of the number of executive

directors on the board. The variables index of board efficiency weighted by foreign

subsidiaries and foreign mergers and acquisitions, the number of foreign markets, the

number of foreign subsidiaries, and the number of foreign mergers and acquisitions

are not significant. This might indicate that internationalisation does not have an effect

on the number of executive directors on the board.

On the other hand, domestic expansion, measured by the number of domestic

subsidiaries and domestic mergers and acquisitions, has a positive and significant

effect on the number of executive directors.

274

Figure 5-5 Regression results, dependent variable “number of executive directors on the

board”

275

The R-square is around 66% in all regressions which means that more than

66% of variations on the number of executive directors on the board can be explained

by independent variables. The coefficients for state-owned enterprises are barely

significant, although positive in some cases (regression numbers 37, 39, 40, 43). The

publicly quoted variable shows that there is no statistical difference between listed and

non-listed firms.

Number of Independent Directors.

In the case of non-executive directors in Figure 5.7, it can be seen that

internationalisation variables are both positive and significant. The greatest effect on

the number of non-executive directors on the board is that of foreign subsidiaries,

where a rise of one percent increases the number of non-executive directors by

0.288%. This is followed by the number of foreign markets in which the firm is

operating (0.241%), showing that geographical diversification is positive and

significant. The third greatest effect on the number of non-executive directors on the

board is that of the number of foreign mergers and acquisitions: a one percent increase

leads to a 0.19% increase in the number of non-executive directors. This demonstrates

that, after a mergers and acquisitions deal, Russian firms may leave directors of an

acquired international firm as strategists in the foreign market without the execution of

day-to-day business. At the same time, it is important to highlight that state-owned

enterprise has a significant and positive effect on the number of non-executive

directors on the board. Being a listed firm also increases the number of non-executive

directors on the board.

276

Figure 5-6 Regression results, dependent variable “number of non-executive directors on the

board”

277

Number of Russian Directors on the Board

The internationalisation variables have a positive and significant impact on the

number of Russian directors on the board, except the board efficiency index, based

on the number of foreign mergers and acquisitions. This result reflects the fact that

internationalisation into foreign markets, where corporate governance levels are

higher in comparison to Russian markets, is not statistically significant for the number

of Russian directors on the board. The number of foreign subsidiaries indicates that a

one percent increase in the number of foreign subsidiaries leads to a 0.0751%

increase in the number of Russian directors on the board. This factor could be linked

to the overall growth of the company strategy; whereby Russian firms favour a majority

of Russian directors on the board.

State-owned enterprises have a higher number of Russian directors on the

board in comparison to other firms. Listed firms have more Russian directors on the

board in comparison with non-listed firms. The explanatory power of the models is

high and the adjusted R-squared shows that 74% of variation can be explained by the

model.

278

Figure 5-7 Regression results, dependent variable “number of Russian directors on the

board”

279

Number of Foreigners on the Board

Figure 5-8 Regression results, dependent variable “number of foreign directors on the

board”

280

In the last set of regressions, represented in Figure 5.9, most of the variables

linked to internationalisation have a positive and significant effect on the number of

foreign directors on the board. On the one hand, the dependent variable is most

influenced by the number of foreign subsidiaries, where a one percent increase in the

number of foreign subsidiaries leads to a 0.095% increase in the number of foreign

directors. On the other hand, the board efficiency index, weighted by the number of

foreign subsidiaries, has a positive but not significant coefficient. Such results can be

explained by the fact that most of the subsidiaries were established in countries with

similar levels of corporate governance to Russia (such as CIS or Eastern Europe). As

a result, even if Russian firms add foreign directors to their boards from these

countries, the index that represents board efficiency, weighted by the number of

subsidiaries, does not change dramatically.

Another interesting result is that the greatest positive coefficient is represented

by the number of domestic mergers and acquisitions. This is possible if a Russian firm

acquires another Russian firm which has a better international connection, in other

words, if it is a strategic decision for future internationalisation.

In contrast to all other regression results, the fact that the company is owned

by the state has a negative and significant effect on the number of foreign directors on

the board. This can be explained by the fact that state-owned enterprises dominate

the main strategic sectors of the Russian economy (such as oil and gas) and, as a

result, they favour a concentration of Russian directors on the board.

281

Robustness Checks

Running a fixed effects regression model in the section above highlights the

fact that internationalisation has a positive and significant effect on different aspects

of the board of directors. However, fixed effects regression models alone cannot

determine that improvements in corporate governance are driven by

internationalisation and not the other way around (reverse causality). To test whether

internationalisation has a causal impact on corporate governance mechanisms, it is

important to consider a different method, which should be applicable with the same

set of variables. For that purpose, this thesis will also include a dynamic Generalised

Method of Moments model (GMM).

The GMM method is particularly relevant when the panel data have smaller

numbers of years (T) in comparison to the number of groups (N), which is the case in

this data. The dynamic GMM model tests whether internationalisation variables have

a significant, positive effect on corporate board mechanisms by lagging the

internationalisation variables and considering them as endogenous, as exemplified in

the equation below:

𝑙𝑛𝑌𝑖𝑡 = 𝜑𝑙𝑛𝑌𝑖𝑡−1 + 𝛽𝑙𝑛𝑍𝑖𝑡−1 + 𝛾𝑋𝑖𝑡−1 + 𝑑𝑡 + 𝜀𝑖𝑡

Where 𝑙𝑛𝑌𝑖𝑡 is a dependent variable in logarithm; 𝑙𝑛𝑍𝑖𝑡−1 are endogenous variables

that are lagged by one year; 𝑋𝑖𝑡−1 are a set of control variables that are also lagged

by one year; 𝑑𝑡 is the time dummy; and 𝜀𝑖𝑡 is an error term.

282

Figure 5-9 Results of the GMM regression models

283

The specifications of the model used for the regressions follow. For each

regression, the dependent variable is one of the corporate governance variables,

regressed on the lag of the same variable (endogenous by construction). The

explanatory variables (all lagged) used in these regressions are the number of foreign

markets, number of foreign mergers and acquisitions, and number of foreign

subsidiaries. The control variables set includes the number of employees, operating

revenue, total assets, fixed assets, intangible assets, state-owned enterprise dummy,

board existence dummy, publicly quoted dummy. All control variables (apart from

dummy variables) were also lagged. The number of instruments used for each model

is shown in Figure 5.10 and varies between 92 and 96 and in all cases, this number is

smaller than the number of groups. The instruments also include the board efficiency

index weighted by the number of foreign subsidiaries and number of foreign mergers

and acquisitions. The GMM model in all eight regressions exploits a two-step robust

system GMM approach6465.

The results seen in Figure 5.10 confirm the findings from the fixed effects

regression models: the number of foreign subsidiaries and number of foreign

acquisitions have a positive and significant impact (at 5% significance level) on the

board structure. Considering the dependent variables one by one, it can be seen that

the size of the board is influenced by the number of foreign subsidiaries and foreign

acquisitions. A one percent increase in the number of foreign subsidiaries leads to a

0.138% increase in board size. A one percent increase in the number of foreign

acquisitions increases the board size by 0.0875%. The board size is negatively

64 The GMM model also touches on the problem of selection bias. Using a two-step robust system GMM will

attenuate selection bias. In other words, if there is some residual correlation between the errors and the independent variables (violation of orthogonality condition) the GMM model will precisely capture this effect via the IV strategy. 65

When excluding outliers (trimming, Winsorizing at the 1st and 99th percentiles the key variables), the main

results also remain unchanged. See Figure 5.30 in the appendix of the chapter.

284

correlated with the number of foreign markets in which the firm operates. This means

that geographical diversification of the firm reduces the board size, which is explained

by the fact that if the firm is entering additional foreign markets that are similar in terms

of economic environment, rules and regulations etc., it means that the firm does not

require any additional knowledge or specialisation that a new director could bring to

the firm. Therefore, the firm may not change the number of directors with an increase

in geographical diversification, or even reduce the number of directors, if the original

strategic decision of the firm was to use a specific director for a short period to facilitate

foreign market operations.66 The number of foreign acquisitions has a significant and

positive effect of the average age of the board and shows that an increase in the

number of foreign acquisitions leads to an increase in the average age of the board

by 0.0857%. The number of foreign subsidiaries and of foreign markets are, however,

not significant.67

The number of male and female directors on the board reflect very similar

results: both the number of foreign subsidiaries and the number of foreign acquisitions

have positive effects on the number of male and female directors on the board. The

only difference is that these coefficients are significant at 10% for the number of female

employees, while they are more significant (at 5% significance level) for the number

of male directors on the board. The number of foreign markets shows a negative

relationship between the independent and dependent variables. An increase in one

percent in the number of foreign markets leads to a decrease in the number of male

directors by 0.161% and a decrease in the number of female directors by 0.125%. 68

66

The Hansen test and the Arellano-Bond test for Autocorrelation (AR2) are both insignificant (p-value above

0.10), which means that the IV model is valid. 67

Furthermore, the Hansen test is highly significant (p-value below 0.10) meaning that the model is not passing

the “validity of the instruments” test. 68 Both tests (Hansen and AR2) are insignificant and validate the model.

285

If we turn to the number of executive directors and the number of non-executive

directors on the board as dependent variables, a different set of results is shown. While

the independent variables show the significant coefficients for the number of executive

directors on the board, they do not for the non-executive members. Internationalisation

does not have a significant effect on the number of non-executive directors on the

board. At the same time, the number of executive directors on the board increases by

0.109% if the number of foreign subsidiaries increases by one percent, and it

increases by 0.098% if the number of foreign acquisitions rises by one percent.69

The last set of regressions examines the relationship between

internationalisation and the number of Russian and foreign directors on the board.

Coefficients for both regressions are significant, however, they are in opposition to

each other. The effect of internationalisation on the number of Russian directors on

the board follows the same pattern as described above. There is a positive and

significant result when considering the number of foreign subsidiaries and

acquisitions, while the effect of foreign markets on the number of Russian members

on the board is negative. The number of foreign directors on the board is, however,

negatively correlated with the number of foreign acquisitions and foreign subsidiaries,

but positively correlated with the number of foreign markets. This highlights the

potential strategy of Russian companies that hire foreign directors along geographical

diversification. Such an approach could help Russian firms establish successful

operations in foreign markets.

69

Hansen test together with AR2 are insignificant for regressions 77 and 78.

286

Margin Analysis

As was mentioned earlier in the thesis, the IPO plays a vital role in the firm’s

internationalisation process and its corporate governance structure. The initial public

offering requires certain adjustments and, at the same time, can be an initial step for

foreign expansion. It is, therefore, important to understand if internationalisation after

the IPO of the firm has a positive effect on its corporate governance structure70.

To test the 4th hypothesis, it is appropriate to use the margin analysis that

represents two groups of firms (listed and non-listed). The analysis investigates the

effect of internationalisation (number of foreign markets, number of foreign

subsidiaries, number of foreign mergers and acquisitions) on the dependent variables

measuring corporate governance. The crucial step is to create the interaction between

the dummy that represents the (time-varying) status of listed and non-listed firms, and

the yearly dummies themselves. Such interaction compares the two categories of

firms in the analysis, implicitly taking into account, the year of the IPO for each

individual firm71. Fully-fledged fixed effects regression models, that were used at the

beginning of this chapter, together with the interaction term, will be used for margin

predictions.

70 At the same time predictive margins would be able to visually represent the relationship between the

internationalisation and corporate governance as a result of the timing of the IPO. 71

The year has not to be the same for all firms, but the interaction will allow to precisely account for pre vs. post

IPO CG performance. This a sort of post IPO natural experiment approach also teasing out causality and corroborating the previous analysis in chapter 5.

287

Board of Directors Figure 5-10 Margin analysis of the board size for listed and non-listed firms based on the

number of foreign markets

The graph in Figure 5.11 represents the expected size of the board of directors based

on the full factorial log-log model, which includes the independent variable (number of

foreign markets), the dummy that indicates the listed and non-listed firms, control

variables, the year dummies, the state-owned dummy variable, and, crucially, the

interaction between the publicly quoted dummy and year dummies.

The graph indicates that, based on the regression model, the expected size of

the board in listed firms constantly increases over the years. This decoupling process,

between listed and non-listed firms, started in 2002, which could be explained by the

introduction of the corporate governance code in Russia. At the same time, it is evident

that internationalisation also had a positive and significant effect on non-listed firms.

The graph shows that the predicted size of the board for non-listed firms increases

288

between 2000 and 2006, and, after that, remains almost constant for the rest of the

period.

Taking the exponent ( e(…) ) as the minimum value in the year 2000 for listed

firms gives the result of 0.79, while for non-listed firms the result is 1.02. This means

that for both groups of firms, internationalisation did not play any significant role before

the year 2002, while in 2018, the expected size of listed firms increased to 6.68 and

non-listed firms to 1.4. Such a low effect on the non-listed firm category can also be

explained by the fact that it includes firms that do not have a board of directors at all

(but are controlled for by the use of the “board presence” dummy).

Similar results can be seen for the effect of total number of foreign subsidiaries

(Figure 5.12) and total number of foreign mergers and acquisitions (Figure 5.13) on

the predicted size of the board.

Figure 5-11 Margin analysis of the board size for listed and non-listed firms based on the

number of foreign subsidiaries.

289

Figure 5-12Margin analysis of the board size for listed and non-listed firms based on the

number of foreign acquisitions

The Dominance of Russian Executive Male Directors on the Board

The graph that predicts the number of Russian directors on the board, based

on the number of foreign markets (Figure 5.14), looks very similar to the previous

graph in Figure 5.10. However, the margin predictions are slightly different (the full

table of all margin values can be found in the appendix of this chapter).

Internationalisation has a positive effect on both listed and non-listed firms, and the

effect of internationalisation on the number of Russian directors for listed and non-

listed firms is the same as for board size.

290

Figure 5-13 Margin analysis of the number of Russian directors for listed and non-listed

firms based on the number of foreign markets

Such results are mostly driven by the extremely high correlation between the

size of the board and the number of male directors on the board (the correlation of

0.9982). At the same time, looking at the detailed correlation matrix of the dependent

variables (Figure 5.15), together with the margin results (represented in the appendix

of this chapter), it can be concluded that similar results regarding the impact of

internationalisation will be observed for the number of executive directors on the

board, and the number of male directors on the board.

291

Figure 5-14 Correlation matrix of the dependent variables

Board Size

Board Age

Number of Male

directors

Number of

Female directors

Number of

Executive directors

Number of Non-

executive directors

Number of

Russian directors

Number of

Foreign directors

Board Size 1

Board Age 0.9903 1

Number of Male directors

0.9982 0.9875 1

Number of Female directors

0.5806 0.5663 0.5344 1

Number of Executives directors

0.9936 0.9854 0.9924 0.5666 1

Number of Non-executive directors

0.7153 0.6768 0.7113 0.5017 0.643 1

Number of Russian directors

0.9914 0.9806 0.9896 0.5761 0.9857 0.7037 1

Number of Foreign directors

0.5232 0.5065 0.523 0.3176 0.513 0.4415 0.4222 1

This suggests that internationalisation of Russian firms will lead to a restructuring of

the board of directors. In all cases, the predictive margins for listed firms will be higher

in relation to non-listed firms. The margin table (Appendix A), taking the exponent of

these values, suggests that the predicted average number of Russian male executives

on the board of directors in the year 2018 for listed firms was equal to 6.61, while for

non-listed firms, the average number of Russian male executives on the board of

directors was 1.3. The predictive model, therefore, suggests that non-listed firms, that

do not have a board of directors but operate in the foreign market, would be better off

if they established a board of directors.

292

Average Age of the Board

The predictive model for the average age of the firm based on the

internationalisation variables, shows a different pattern. (Figure 5.16)

Figure 5-15 Margin analysis of the average age of the board for listed and non-listed firms

based on the number of foreign markets.

Graph 5.16 indicates that the internationalisation of listed and non-listed firms has no

statistically differential effect on the average age of the board, up to the year 2013.

After that period, we see a slight decoupling in the average age of the board between

listed and non-listed firms. It seems that the number of foreign markets in which the

firm is operating, has a greater effect on non-listed firms in comparison to listed firms.

Other independent variables (number of foreign subsidiaries and number of foreign

mergers and acquisitions) demonstrate a similar pattern and are represented in

293

Figures 5.17 and 5.18 respectively. Once again, this similarity is due to the high

correlation between internationalisation variables.

The exponent of the log margin values suggests that, in the year 2018, the

average predicted board age for listed firms, based on the level of internationalisation,

is around 55.4 years. For non-listed firms it is around 57.62 years, thus demonstrating

not much difference.


based on the number of foreign

294


based on the number of foreign M&As

Number of Foreign Directors on the Board

Figure 5.19 represents the expected number of foreign directors on the board

based on the full factorial log-log model. Similar to the structure of the Russian

directors on the board, the model predicts decoupling in the number of foreign

directors in listed and non-listed firms, due to the internationalisation process. The

point of interaction between the two categories is the year 2002, when the corporate

governance code was introduced. The growth in the expected value of foreigners on

the boards of listed firms can be grouped into two periods. The first is between the

years 2003 and 2007, and the second is between 2010 and 2015. The expected

number of foreign directors on the board of listed firms in 2018 is 1.4.

295

On the other hand, the internationalisation of non-listed firms did not affect the

expected number of foreign directors on the board, suggesting marginal influence of

internationalisation on the number of foreign directors on the board of non-listed

companies. The expected number of foreign directors for non-listed firms is almost

constant and varies between 1.04 and 1.07 foreign directors. This suggests that non-

listed firms, operating outside of the domestic market, should have at least one foreign

director.

Figure 5-18 Margin analysis of the average number of foreign directors on the board for

listed and non-listed firms based on the number of foreign markets

Similar patter can be seen the other independent variables (number of foreign

subsidiaries and number of foreign mergers and acquisitions)

296


listed and non-listed firms based on the number of foreign subsidiaries.


listed and non-listed firms based on the number of foreign M&As.

297

Number of Female Directors on the Board

The expected value of the number of female directors on the board also shows

a decoupling effect between listed and non-listed firms. The model predicts that the

expected number of female directors on the board, based on the number of foreign

markets, constantly increases for listed firms up to the year 2014, after which growth

continues at a decreasing rate. The predicted number of female directors on the board

for listed firms in the year 2018 is equal to 1.61.

The expected value of the number of female directors on the board for non-

listed firms steadily increases from the year 2003 until 2014, after which it remains

almost unchanged in the region of 1.067 per board. Comparing the effect of

internationalisation on the number of female directors of listed and non-listed firms,

suggests that firms who are operating outside of the domestic market have at least

one female representative on the board of directors.

Figure 5-21 Margin analysis of the average number of female directors on the board for

listed and non-listed firms based on the number of foreign markets

298

The graphs that are based on the number of foreign subsidiaries (figure 5.23) and the

number of foreign mergers and acquisitions (figure 5.24) have a similar form and

meaning due to the strong correlation of independent variables


listed and non-listed firms based on the number of foreign subsidiaries.

299


listed and non-listed firms based on the number of foreign M&As.

Number of Non-Executive Directors on the Board

The expected value for the number of non-executive directors on the board,

based on internationalisation, shows that listed firms, once again, demonstrate a sharp

increase in prediction value in comparison to non-listed firms. The graph in Figure 5.25

shows the two intervals during which the prediction value increased (2000 till 2007

and 2011 till 2014), and the two periods of either slow growth (2007-2010) or

stagnation (2014-2018). Such patterns directly correlate with the macroeconomic

environment in Russia during these periods (the financial crisis in 2007 and Western

sanctions on the largest companies in 2014). This implies that internationalisation,

during these periods, did not necessitate additional non-executive directors.

The margin analysis also suggests that there was a steady decrease in the

expected number of non-executive directors in non-listed firms after the year 2014.

300

Such an outcome suggests that an increase in the number of independent directors at

these firms did not bring additional value during the internationalisation process. In the

year 2018, the model predicts that the average number of non-executive directors is

around 1.02. Such a decrease could be the result of experiential learning during initial

internationalisation phases. In other words, outside directors, who were guiding non-

listed firms in the internationalisation process in the year 2000, shared knowledge with

executive directors, who were later able to proceed with further successful

internationalisation without non-executive directors.

Figure 5-24 Margin analysis of the average number of non-executive directors on the board

for listed and non-listed firms based on the number of foreign markets

Due to the high correlation of independent variables, the graphs based on the number

of foreign subsidiaries and number of foreign mergers and acquisitions will have a

similar shape and interpretation.

301

Figure 5-25 Margin analysis of the average number of non-executive directors on the board

for listed and non-listed firms based on the number of foreign subsidiaries.

Figure 5-26Margin analysis of the average number of non-executive directors on the board

for listed and non-listed firms based on the number of foreign M&As

302

Discussion and conclusion

Through examining the set of fixed effects regressions, dynamic GMM

regressions, and margin analysis based on post-IPO corporate governance

restructuring, it can be concluded that the variables measuring internationalisation, in

general, have a positive and significant effect on the extent and intensity of “corporate

governance” in general, and specifically on the “mechanism of implementation of such

corporate governance” in almost all specifications. The detailed analysis also shows

that there is a clear role played by the number of foreign subsidiaries and foreign

acquisitions. They exert a positive and significant impact on the size of the board, the

number of male directors on the board, the number of executive directors on the board,

and the number of Russian directors on the board, across virtually all methods of

analysis. Internationalisation occurring through opening a subsidiary or acquisition in

the foreign market, will be positively correlated with the number of new corporate

governance mechanisms and this correlation can be interpreted causally.

Russian firms’ board structures are changing via the internationalisation

process, for example by increasing the board size (a positive outcome), or by

increasing the concentration of male Russian executive directors (a less positive

outcome). With regard to the latter example, such a high concentration of male

Russian executive directors has its roots in the characteristics of the transition period

within the Russian economy, which has not changed much over the past 15 years. Of

all the characteristics that could diversify/restructure the board (such as the number of

female directors on the board, or the number of non-executive and foreign directors),

only the number of female directors is affected by the number of foreign subsidiaries

and mergers and acquisitions.

303

The total number of foreign markets represents the geographical diversification

of the firm. The fixed effects regression model shows that this independent variable is

positive and significantly correlates with corporate governance. The GMM method also

supports the result of the fixed effect regression models. The two methods, show

similar results in terms of the number of foreign directors on the board. Both fixed

effects and GMM methods show that the number of foreign markets has a positive and

significant effect on the number of foreign directors on the board. As a result, the

analysis supports the hypothesis that geographical diversification of the firm will be

positively correlated with the share of foreign directors represented on the board and,

therefore, operations in foreign markets should be accompanied by the appointment

of foreign directors.

Another set of interesting results relates to the number of non-executive

directors on the board. The fixed effects regression model shows a positive

relationship between internationalisation variables (in particular, the number of foreign

markets, the number of foreign subsidiaries and the number of foreign acquisitions)

and corporate governance restructuring. The GMM model did not, however, show that

there was any significance between internationalisation and non-executive directors.

This could be justified by the fact that the non-executive directors on Russian boards

have the primary role of mitigating principal-agent conflicts and, therefore, play the

role of a monitoring mechanism rather than participating in the international strategic

decisions of firms.

The board efficiency index, weighted by the number of foreign subsidiaries and

number of foreign acquisitions, stays significant and positive across most

specifications with different dependent variables as proxies of corporate governance.

This means that when Russian firms have subsidiaries or make acquisitions in foreign

304

markets with a higher level of corporate governance in relation to their domestic

market, this will have a positive effect on the number of corporate mechanisms that

should be implemented on the board of directors. The restructuring of mechanisms

could be enhanced by either external factors (for example the rules and regulation of

the foreign country) or internal factors (such as expanding the board with new directors

from the acquired firm).

Furthermore, expansion outside the market of origin of Russian firms owned by

the government, has a positive and significant effect on most corporate governance

mechanisms. The only exception is the number of foreign directors on the board. As

shown by the fixed effects regression model, state-owned enterprise has a negative

relationship with the number of foreign directors on the board. Taking into account that

the Russian state owns most strategic sectors of the Russian economy that contribute

the most to the Russian GDP, it seems appropriate that the policy of state-owned

enterprise is to appoint Russian directors to the board.

Looking at internationalisation among listed and non-listed firms, it is evident

that the former has a greater positive effect on corporate board mechanisms, based

on marginal analysis. After the IPO of the firm, there is a statistically significant

relationship between internationalisation and corporate governance restructuring.

Even though the expected value of all dependent variables (apart from age, as

expected) is always higher for the listed firms in comparison to non-listed firms, the

analysis indicates that these firms will have, on average, a large board of around seven

board members, with a high concentration of Russian male executive directors on the

board. Such a conclusion highlights the underlying question of the effectiveness of

such a board during the internationalisation process.

305

The analysis also, however, indicates that non-listed firms will also benefit from

an adjustment of the board structure during internationalisation. Results suggest that

internationalisation should be accompanied by a board structure that considers gender

diversity, increasing the independence of the board, and the inclusion of a foreign

director on the board, by the minimum possible (one female director, one non-

executive director, and one foreign director).

306

Appendix C. Figure 5-27 Descriptive statistics of the key variables.

Variable Obs Mean Std. Dev. Min Max

Dependent Variable

Board Size 5,058 2.322262 3.953074 0 16

Board Age 5,058 14.09497 22.85595 0 67

Number of Male Directors on the board

5,058 2.145314 3.680384 0 14

Number of Female Directors on the board

5,058 0.1769474 0.5414648 0 5

Number of Executive Directors on the board

5,058 1.950376 3.348121 0 16

Number of Non-Executive Directors on the board

5,058 0.3718861 0.9871111 0 7

Number of Russian Directors on the board

5,058 2.071965 3.608698 0 16

Number of Foreign Directors on the board

5,058 0.2502966 0.8963623 0 8

Independent Variable

Number of Foreign Markets 5,643 1.09215 3.596201 0 27

Number of Foreign Subsidiaries

5,058 2.715105 13.61873 0 232

Number of Domestic Subsidiaries

5,058 14.66805 41.22495 0 395

Total number of Subsidiaries 5,058 17.38316 49.89575 0 444

Index of board efficiency weighted by foreing subsidiaries

5,643 0.7753555 1.791814 0 6.138008

Number of Foreign M&As 5,058 0.3513246 1.526815 0 17

Number of Domestic M&As 5,058 2.426255 7.171712 0 83

Total Numebr of M&As 5,058 2.77758 8.332553 0 93

Index of board efficiency weighted by foreing M&As

5,643 0.4307222 1.347181 0 6.124218

Control Variables

Number of Employees 4,293 7211.882 40626.09 1 969662

Age of the firm squared 5,058 1635.756 7426.517 1 99225

Operating Revenue in Th. Rubles

4,958 6.01E+07 1.30E+08 12 2.07E+09

Total Assests in Th. Rubles 4,934 8.16E+07 2.77E+08 104 6.26E+09

Fixed Assets in Th. Rubles 4,933 5.42E+07 2.42E+08 1 5.90E+09

Intangible Assets in Th. Rubles 4,388 320919 1803487 1 3.54E+07

State Owned enterprise (dummy)

5,643 0.2195641 0.413988 0 1

Board Existance (dummy ) 5,643 0.2502215 0.4331789 0 1

Publicly quoted (dummy) 5,058 0.2360617 0.4247025 0 1

307

Number of

Foreign

Markets of

operation

Number of

Foreign

Subsidiaries

Number of

Domestic

Subsidiaries

Total

number of

Subsidiaries

Total

number of

M&A

Total

number of

Foreign

M&A

Total

number of

Domestic

M&A

board

structure =

1 if 1-tier

BoD, 2 if

Number of

directors on

the board

Avergae

age of the

board

Number of

male

directors on

the board

Number of

female

directors on

the board

Number of

executive

directors on

the boa

Number of

non-

executive

directors on

the

Number of

russian

directors on

the board

Number of

foreign

directors on

the board


of operation 1

Number of Foreign

Subsidiaries 0.8082 1

Number of Domestic

Subsidiaries 0.7409 0.5385 1

Total number of Subsidiaries0.8328 0.7178 0.9732 1

Total number of M&A0.6396 0.581 0.2872 0.3958 1


M&A 0.6051 0.4757 0.4848 0.5304 0.7339 1

Total number of Domestic

M&A 0.6376 0.5163 0.4674 0.5271 0.8165 0.9914 1

board structure = 1 if 1-tier

BoD, 2 if 0.3474 0.2411 0.3007 0.3142 0.3576 0.4695 0.468 1

Number of directors on the

board 0.3241 0.2293 0.2808 0.2946 0.3485 0.4574 0.456 0.9482 1

Avergae age of the board0.2745 0.2039 0.2341 0.2491 0.3156 0.406 0.4059 0.9242 0.9457 1

Number of male directors on

the board 0.3261 0.2327 0.275 0.2907 0.3505 0.4491 0.4493 0.9402 0.9925 0.9384 1Number of female directors

on the board 0.1498 0.0927 0.1814 0.1752 0.1618 0.2868 0.2749 0.532 0.5547 0.5258 0.4487 1Number of executive

directors on the boa 0.2976 0.2293 0.2507 0.2697 0.3372 0.4241 0.4255 0.9192 0.977 0.9367 0.9719 0.5266 1Number of non-executive

directors on the 0.2886 0.1407 0.2743 0.265 0.2518 0.3934 0.3829 0.6792 0.6908 0.6099 0.6779 0.4355 0.5208 1Number of russian directors

on the board 0.2911 0.194 0.2773 0.2821 0.293 0.4112 0.406 0.9144 0.976 0.9218 0.9687 0.541 0.9562 0.6652 1Number of foreign directors

on the board 0.2573 0.2302 0.1223 0.1638 0.3574 0.3619 0.3765 0.5004 0.4808 0.4594 0.477 0.2685 0.459 0.3686 0.2783 1

Figure 5-28. Correlation matrix between the dependent and independent variables

308

Figure 5-29 winsorizing results of the GMM

1 2 3 4 5 6 7 8

VARIABLES

LN Board

Size

LN Board

Age

LN Board

male

LN Board

Female

LN Board

Executive

LN Board Non-

Executive

LN Board

Russian

LN Board

Foreing

0.148**

(0.0650)

0.00253

(0.0187)

0.151**

(0.0706)

0.934***

(0.0379)

0.169**

(0.0705)

0.910***

(0.0252)

0.380***

(0.111)

0.960***

(0.0297)

-0.188** -0.109 -0.138* -0.110** -0.173** -0.0536 -0.246** 0.135**

(0.0769) (0.0698) (0.0744) (0.0531) (0.0855) (0.0848) (0.113) (0.0596)

0.136** 0.0515 0.0949* 0.0746* 0.0989 0.0368 0.161** -0.0826**

(0.0581) (0.0463) (0.0531) (0.0382) (0.0635) (0.0584) (0.0788) (0.0397)

0.0833** 0.0853** 0.0833** 0.0388 0.0878** 0.0273 0.0956* -0.0557*

(0.0399) (0.0378) (0.0349) (0.0272) (0.0366) (0.0377) (0.0541) (0.0299)

0.0670* 0.0720** 0.0649** 0.0338 0.0610* 0.0701** 0.0791 -0.0360

(0.0365) (0.0291) (0.0313) (0.0329) (0.0356) (0.0314) (0.0495) (0.0251)

-0.0537* -0.00246 -0.0574** -0.0104 -0.0108 -0.00998 -0.0766 -0.000678

(0.0280) (0.00848) (0.0272) (0.00978) (0.00981) (0.00681) (0.0587) (0.00535)

-0.0806 -0.0451** -0.0302** -0.0294 -0.0279 -0.0370 0.0119 0.0266

(0.0520) (0.0179) (0.0126) (0.0287) (0.0174) (0.0341) (0.0563) (0.0344)

0.111 0.189*** 0.0980* 0.0506 0.0675 0.0732 -0.0115 -0.105

(0.0897) (0.0437) (0.0507) (0.0918) (0.0668) (0.0989) (0.0960) (0.0819)

-0.0486 -0.151*** -0.0761* -0.0147 -0.0547 -0.0502 -0.0110 0.0839

(0.0440) (0.0369) (0.0406) (0.0595) (0.0550) (0.0490) (0.0589) (0.0521)

-0.000436 -0.00253 -0.00157 -0.00210 -0.000163 -0.00209 -0.00403 -0.0113

(0.00304) (0.00307) (0.00276) (0.00224) (0.00213) (0.00215) (0.00360) (0.00887)

0.00943 0.0209 0.0278 -0.0130 0.0212 -0.0298 0.0566 -0.00281

(0.0287) (0.0275) (0.0205) (0.0201) (0.0219) (0.0273) (0.0366) (0.0142)

1.707*** 3.918*** 1.642*** 0.0312 1.610*** 0.0566* 1.187*** 0.0377

(0.118) (0.0717) (0.141) (0.0358) (0.146) (0.0313) (0.184) (0.0274)

0.215*** -0.0154 0.241*** -0.0246 0.0846* -0.0150 0.236 0.0163

(0.0457) (0.0279) (0.0516) (0.0271) (0.0491) (0.0278) (0.160) (0.0251)

Year Y*** Y*** Y*** Y*** Y*** Y*** Y*** Y***

0.0541 0 -0.105 -0.297 -0.169 -0.248 0.0689 0.372

(0.492) (0) (0.211) (0.403) (0.238) (0.447) (0.788) (0.362)

Observations 3,564 3,564 3,564 3,564 3,564 3,564 3,564 3,564

Number of ID 277 277 277 277 277 277 277 277

Arellano-Bond test for AR(1) 0.0118 0.0216 0.0190 6.26e-09 0.0143 7.21e-09 0.00163 9.26e-05

Arellano-Bond test for AR(2) 0.131 0.553 0.126 0.585 0.361 0.342 0.190 0.0326

Sargan test 0.00425 0 0.662 0 0.609 0.000244 0.240 6.75e-05

Hansen 0.682 0.0109 0.698 0.0279 0.771 0.388 0.407 0.268

Number of Instruments 94 95 95 92 96 95 92 95

Standard errors in parentheses

*** p<0.01, ** p<0.05, * p<0.1

bod_dummy

publicly-quoted

Constant

L.ln_firm_age_sq

L.ln_op_rev_thRUB

L.ln_tt_assets_thRUB

L.ln_fa_assets_thRUB

L.ln_int_assets_thRUB

state-owned

Lagged LN Board Russian

Lagged LN Board Foreing

Lagged Log number of

goreing markets

Lagegd log numebr of

foreign subs

Lagged log numebr of

foreing M&As

L.ln_empl

Lagged LN Board Size

Lagged LN Board Age

Lagged LN Board male

Lagged LN Board Female

Lagged LN Board Executive

Lagged LN Board Non-

Executive

309

Figure 5-30. Margin results for the size of the board.

(1) (2) (3)

Board Size


Number of Foreign

Subsidiaries

Number of Foreign M&As

Listed in year 2000 -0.223** -0.226** -0.227**

Listed in year 2001 -0.144** -0.146** -0.152**

Listed in year 2002 0.106 0.102 0.0991

Listed in year 2003 0.546*** 0.543*** 0.540***

Listed in year 2004 1.095*** 1.092*** 1.087***

Listed in year 2005 1.456*** 1.456*** 1.446***

Listed in year 2006 1.750*** 1.750*** 1.741***

Listed in year 2007 1.852*** 1.853*** 1.845***

Listed in year 2008 1.894*** 1.895*** 1.883***

Listed in year 2009 1.957*** 1.960*** 1.946***

Listed in year 2010 1.971*** 1.973*** 1.962***

Listed in year 2011 1.976*** 1.980*** 1.967***

Listed in year 2012 2.000*** 2.005*** 1.992***

Listed in year 2013 2.008*** 2.013*** 1.998***

Listed in year 2014 2.013*** 2.018*** 2.004***

Listed in year 2015 2.006*** 2.011*** 1.998***

Listed in year 2016 2.001*** 2.005*** 1.994***

Listed in year 2017 1.975*** 1.979*** 1.968***

Listed in year 2018 1.989*** 1.992*** 1.979***

Non-Listed in year 2000 0.0202 0.0179 0.0198

Non-Listed in year 2001 0.0834** 0.0812** 0.0843**


Non-Listed in year 2003 0.129*** 0.128*** 0.129***
















Observations 4,285 4,285 4,285


*** p<0.01, ** p<0.05, * p<0.1

310

Figure 5-31. Margin Results for the average age of the board

(4) (5) (6)

Board Age




Listed in year 2000

Listed in year 2001

Listed in year 2002 3.813*** 3.816*** 3.813***

Listed in year 2003 3.815*** 3.816*** 3.814***

Listed in year 2004 3.823*** 3.824*** 3.823***

Listed in year 2005 3.842*** 3.842*** 3.842***

Listed in year 2006 3.858*** 3.859*** 3.858***

Listed in year 2007 3.876*** 3.877*** 3.876***

Listed in year 2008 3.891*** 3.891*** 3.891***

Listed in year 2009 3.910*** 3.911*** 3.910***

Listed in year 2010 3.923*** 3.923*** 3.923***

Listed in year 2011 3.938*** 3.938*** 3.938***

Listed in year 2012 3.953*** 3.954*** 3.953***

Listed in year 2013 3.962*** 3.962*** 3.961***

Listed in year 2014 3.974*** 3.975*** 3.974***

Listed in year 2015 3.990*** 3.990*** 3.989***

Listed in year 2016 4.006*** 4.007*** 4.005***

Listed in year 2017 4.019*** 4.020*** 4.019***

Listed in year 2018 4.035*** 4.036*** 4.035***

Non-Listed in year 2000

Non-Listed in year 2001


















Observations 1,227 1,227 1,227 Standard errors in parentheses

*** p<0.01, ** p<0.05, * p<0.1

311

Figure 5-32. Margin Results for the number of male directors on the board

(7) (8) (9)

Number of Male directors




Listed in year 2000 -0.217** -0.220** -0.221**

Listed in year 2001 -0.162** -0.164** -0.168**

Listed in year 2002 0.0925 0.0880 0.0856

Listed in year 2003 0.525*** 0.522*** 0.519***

Listed in year 2004 1.070*** 1.067*** 1.063***

Listed in year 2005 1.433*** 1.433*** 1.425***

Listed in year 2006 1.711*** 1.712*** 1.704***

Listed in year 2007 1.813*** 1.814*** 1.808***

Listed in year 2008 1.839*** 1.842*** 1.831***

Listed in year 2009 1.900*** 1.904*** 1.892***

Listed in year 2010 1.905*** 1.909*** 1.899***

Listed in year 2011 1.904*** 1.909*** 1.898***

Listed in year 2012 1.922*** 1.928*** 1.917***

Listed in year 2013 1.920*** 1.926*** 1.915***

Listed in year 2014 1.916*** 1.923*** 1.911***

Listed in year 2015 1.909*** 1.915*** 1.905***

Listed in year 2016 1.902*** 1.908*** 1.899***

Listed in year 2017 1.878*** 1.884*** 1.875***

Listed in year 2018 1.889*** 1.895*** 1.884***






















*** p<0.01, ** p<0.05, * p<0.1

312

Figure 5-33. Margin Results for the number of female directors on the board

(10) (11) (12)

Number of Female Directros




Listed in year 2000 -0.0776 -0.0777 -0.0782

Listed in year 2001 0.0542 0.0537 0.0504

Listed in year 2002 0.0429 0.0431 0.0413

Listed in year 2003 0.0635* 0.0643* 0.0617*

Listed in year 2004 0.121*** 0.122*** 0.118***

Listed in year 2005 0.133*** 0.132*** 0.126***

Listed in year 2006 0.194*** 0.192*** 0.186***

Listed in year 2007 0.188*** 0.184*** 0.180***

Listed in year 2008 0.248*** 0.244*** 0.237***

Listed in year 2009 0.269*** 0.264*** 0.256***

Listed in year 2010 0.296*** 0.291*** 0.284***

Listed in year 2011 0.329*** 0.322*** 0.315***

Listed in year 2012 0.363*** 0.355*** 0.348***

Listed in year 2013 0.415*** 0.407*** 0.399***

Listed in year 2014 0.471*** 0.462*** 0.454***

Listed in year 2015 0.479*** 0.467*** 0.461***

Listed in year 2016 0.502*** 0.489*** 0.484***

Listed in year 2017 0.495*** 0.482*** 0.477***

Listed in year 2018 0.515*** 0.502*** 0.496***


Non-Listed in year 2001 -0.00685 -0.00220 -0.000999







Non-Listed in year 2008 0.0290* 0.0319** 0.0333**

Non-Listed in year 2009 0.0368** 0.0394** 0.0411***












*** p<0.01, ** p<0.05, * p<0.1

313

Figure 5-34. Margin Results for the number of foreign directors on the board

(13) (14) (15)

Number of Foreign directors




Listed in year 2000 -0.175*** -0.177*** -0.177***

Listed in year 2001 -0.0689* -0.0703* -0.0718*

Listed in year 2002 0.0316 0.0292 0.0280

Listed in year 2003 0.0867*** 0.0854** 0.0834**

Listed in year 2004 0.174*** 0.173*** 0.170***

Listed in year 2005 0.200*** 0.200*** 0.197***

Listed in year 2006 0.219*** 0.218*** 0.216***

Listed in year 2007 0.208*** 0.206*** 0.207***

Listed in year 2008 0.238*** 0.237*** 0.236***

Listed in year 2009 0.253*** 0.251*** 0.251***

Listed in year 2010 0.253*** 0.252*** 0.252***

Listed in year 2011 0.278*** 0.277*** 0.277***

Listed in year 2012 0.290*** 0.289*** 0.291***

Listed in year 2013 0.311*** 0.309*** 0.312***

Listed in year 2014 0.329*** 0.327*** 0.330***

Listed in year 2015 0.354*** 0.350*** 0.355***

Listed in year 2016 0.358*** 0.353*** 0.360***

Listed in year 2017 0.353*** 0.348*** 0.355***

Listed in year 2018 0.353*** 0.348*** 0.354***



Non-Listed in year 2002 0.0454*** 0.0471*** 0.0435**



















*** p<0.01, ** p<0.05, * p<0.1

314

Figure 5-35. Margin Results for the number of Russian directors on the board

(16) (17) (18)

Number of Russian Directros




Listed in year 2000 -0.184** -0.187** -0.188**

Listed in year 2001 -0.108 -0.110 -0.115*

Listed in year 2002 0.115* 0.111* 0.108

Listed in year 2003 0.518*** 0.515*** 0.512***

Listed in year 2004 1.057*** 1.055*** 1.050***

Listed in year 2005 1.409*** 1.408*** 1.399***

Listed in year 2006 1.698*** 1.697*** 1.689***

Listed in year 2007 1.801*** 1.802*** 1.795***

Listed in year 2008 1.823*** 1.825*** 1.813***

Listed in year 2009 1.884*** 1.887*** 1.874***

Listed in year 2010 1.903*** 1.906*** 1.895***

Listed in year 2011 1.899*** 1.903*** 1.890***

Listed in year 2012 1.921*** 1.927*** 1.914***

Listed in year 2013 1.921*** 1.926*** 1.912***

Listed in year 2014 1.920*** 1.925*** 1.911***

Listed in year 2015 1.897*** 1.902*** 1.890***

Listed in year 2016 1.891*** 1.894*** 1.885***

Listed in year 2017 1.872*** 1.875*** 1.866***

Listed in year 2018 1.886*** 1.889*** 1.877***






















*** p<0.01, ** p<0.05, * p<0.1

315

Figure 5-36. Margin Results for the number of executive directors on the board

(19) (20) (21)

Number of Executive directors




Listed in year 2000 -0.241*** -0.242*** -0.242***

Listed in year 2001 -0.195*** -0.196*** -0.200***

Listed in year 2002 0.0468 0.0452 0.0435

Listed in year 2003 0.459*** 0.458*** 0.456***

Listed in year 2004 0.981*** 0.979*** 0.977***

Listed in year 2005 1.316*** 1.316*** 1.309***

Listed in year 2006 1.605*** 1.606*** 1.598***

Listed in year 2007 1.707*** 1.708*** 1.700***

Listed in year 2008 1.741*** 1.743*** 1.731***

Listed in year 2009 1.801*** 1.805*** 1.790***

Listed in year 2010 1.815*** 1.817*** 1.806***

Listed in year 2011 1.819*** 1.823*** 1.808***

Listed in year 2012 1.837*** 1.842*** 1.826***

Listed in year 2013 1.826*** 1.831*** 1.814***

Listed in year 2014 1.813*** 1.818*** 1.800***

Listed in year 2015 1.800*** 1.806*** 1.788***

Listed in year 2016 1.797*** 1.804*** 1.785***

Listed in year 2017 1.772*** 1.779*** 1.760***

Listed in year 2018 1.787*** 1.793*** 1.773***


Non-Listed in year 2001 0.0581* 0.0554* 0.0615*

Non-Listed in year 2002 0.0536* 0.0510 0.0561*



















*** p<0.01, ** p<0.05, * p<0.1

316

Figure 5-37. Margin Results for the number of non-executive directors on the board

(22) (23) (24)

Number of Non-executive Directors




Listed in year 2000 0.0512 0.0448 0.0444

Listed in year 2001 0.180*** 0.175*** 0.170***

Listed in year 2002 0.201*** 0.193*** 0.189***

Listed in year 2003 0.309*** 0.304*** 0.298***

Listed in year 2004 0.457*** 0.454*** 0.445***

Listed in year 2005 0.554*** 0.553*** 0.544***

Listed in year 2006 0.590*** 0.588*** 0.582***

Listed in year 2007 0.566*** 0.562*** 0.563***

Listed in year 2008 0.595*** 0.594*** 0.589***

Listed in year 2009 0.629*** 0.628*** 0.625***

Listed in year 2010 0.631*** 0.630*** 0.629***

Listed in year 2011 0.649*** 0.648*** 0.648***

Listed in year 2012 0.683*** 0.683*** 0.687***

Listed in year 2013 0.764*** 0.762*** 0.767***

Listed in year 2014 0.830*** 0.828*** 0.834***

Listed in year 2015 0.840*** 0.835*** 0.848***

Listed in year 2016 0.837*** 0.827*** 0.847***

Listed in year 2017 0.848*** 0.839*** 0.858***

Listed in year 2018 0.855*** 0.845*** 0.862***




Non-Listed in year 2003 0.0469*** 0.0508*** 0.0415**










Non-Listed in year 2013 0.0315** 0.0315** 0.0343***




Non-Listed in year 2017 0.0210 0.0205 0.0255*

Non-Listed in year 2018 0.0202 0.0197 0.0242*



*** p<0.01, ** p<0.05, * p<0.1

317

Figure 5-38 Hausman Test for fixed effect and random effects models with Board Size as a

dependent variable

(b) (B) (b-B) sqrt(diag(V_b-

V_B))

Fixed Effects Random Effects Difference S.E.

ln_sub_bod~w -0.0009622 0.001743 -0.0027051 0.0045443

ln_acq_bod~w -0.0239181 -0.0308891 0.006971 0.0032307

ln_foreign~s -0.0406808 -0.0132871 -0.0273937 0.0066489

ln_sub_for~n 0.0475095 0.0116278 0.0358816 0.0110073

ln_sub_dom~c -0.106679 -0.0599629 -0.0467161 0.0289359

ln_num_of_~b 0.1259354 0.0737927 0.0521427 0.0284506

ln_acq_for~n 0.0783618 0.0750695 0.0032923 0.0075822

ln_acq_dom~c 0.1407973 0.1228277 0.0179696 0.0090133

ln_num_of_~s -0.0928587 -0.075496 -0.0173627 0.0088259

ln_empl 0.0055613 0.0046516 0.0009098 0.0009018

ln_op_rev_~B 0.000751 0.0009365 -0.0001855 0.0005021

ln_firm_ag~q -0.0202905 -0.0130071 -0.0072834 0.0017984

ln_tt_asse~B -0.0107904 -0.008752 -0.0020384 0.0009449

ln_fa_asse~B -0.0000917 -0.0012729 0.0011813 0.000928

ln_int_ass~k -0.0004562 -0.000816 0.0003598 0.0001464

1.soe 0.0091742 0.0155355 -0.0063613 0.0017588

1.bod_dummy 2.067668 2.064872 0.0027958 0.002099

1.pub_quoted 0.0552763 0.0922975 -0.0370212 0.004349

2001 -0.0039934 -0.0077878 0.0037944 .

2002 -0.0034795 -0.0093451 0.0058656 .

2003 -0.0052964 -0.0139071 0.0086107 .

2004 0.0064648 -0.0035018 0.0099666 0.0003954

2005 0.0132021 0.001027 0.0121752 0.0013087

2006 0.0198566 0.0068763 0.0129803 0.0018293

2007 0.0235208 0.0087442 0.0147765 0.0022805

2008 0.0203705 0.0045165 0.015854 0.0026506

2009 0.0276885 0.0117253 0.0159632 0.0029123

2010 0.0327337 0.0157805 0.0169532 0.0031049

2011 0.0388312 0.0213764 0.0174547 0.0033807

2012 0.0496269 0.0310628 0.0185641 0.0036102

2013 0.0568711 0.0375077 0.0193634 0.0038425

2014 0.0623119 0.0423625 0.0199494 0.00403

2015 0.0622849 0.0417736 0.0205113 0.0042432

2016 0.0681173 0.0471348 0.0209826 0.0045704

2017 0.0730523 0.0512614 0.0217909 0.00473

2018 0.0804706 0.0578142 0.0226564 0.0048728

b = consistent under Ho and Ha; obtained from xtreg

B inconsistent under Ha, efficient under Ho; obtained from xtreg

Test: Ho difference in coefficients not systematic

chi2(36) = (b-B)'[(V_b-V_B)^(-1)](b-B)

chi2(36) = 223.21

Prob>chi2 = 0.0000

(V_b-V_B is not positive definite)

318

Figure 5-39Hausman Test for fixed effects and random effects models with the Age of the

board as a dependent variable

(b) (B) (b-B) sqrt(diag(V_b-V_B))


ln_sub_bod~w -0.0009622 0.001743 -0.0027051 0.0045443

ln_acq_bod~w -0.0239181 -0.0308891 0.006971 0.0032307

ln_foreign~s -0.0406808 -0.0132871 -0.0273937 0.0066489

ln_sub_for~n 0.0475095 0.0116278 0.0358816 0.0110073

ln_sub_dom~c -0.106679 -0.0599629 -0.0467161 0.0289359

ln_num_of_~b 0.1259354 0.0737927 0.0521427 0.0284506

ln_acq_for~n 0.0783618 0.0750695 0.0032923 0.0075822

ln_acq_dom~c 0.1407973 0.1228277 0.0179696 0.0090133

ln_num_of_~s -0.0928587 -0.075496 -0.0173627 0.0088259

ln_empl 0.0055613 0.0046516 0.0009098 0.0009018

ln_op_rev_~B 0.000751 0.0009365 -0.0001855 0.0005021

ln_firm_ag~q -0.0202905 -0.0130071 -0.0072834 0.0017984

ln_tt_asse~B -0.0107904 -0.008752 -0.0020384 0.0009449

ln_fa_asse~B -0.0000917 -0.0012729 0.0011813 0.000928

ln_int_ass~k -0.0004562 -0.000816 0.0003598 0.0001464

1.soe 0.0091742 0.0155355 -0.0063613 0.0017588

1.bod_dummy 2.067668 2.064872 0.0027958 0.002099

1.pub_quoted 0.0552763 0.0922975 -0.0370212 0.004349

2001 -0.0039934 -0.0077878 0.0037944 .

2002 -0.0034795 -0.0093451 0.0058656 .

2003 -0.0052964 -0.0139071 0.0086107 .

2004 0.0064648 -0.0035018 0.0099666 0.0003954

2005 0.0132021 0.001027 0.0121752 0.0013087

2006 0.0198566 0.0068763 0.0129803 0.0018293

2007 0.0235208 0.0087442 0.0147765 0.0022805

2008 0.0203705 0.0045165 0.015854 0.0026506

2009 0.0276885 0.0117253 0.0159632 0.0029123

2010 0.0327337 0.0157805 0.0169532 0.0031049

2011 0.0388312 0.0213764 0.0174547 0.0033807

2012 0.0496269 0.0310628 0.0185641 0.0036102

2013 0.0568711 0.0375077 0.0193634 0.0038425

2014 0.0623119 0.0423625 0.0199494 0.00403

2015 0.0622849 0.0417736 0.0205113 0.0042432

2016 0.0681173 0.0471348 0.0209826 0.0045704

2017 0.0730523 0.0512614 0.0217909 0.00473

2018 0.0804706 0.0578142 0.0226564 0.0048728




chi2(36) = (b-B)'[(V_b-V_B)^(-1)](b-B)

chi2(36) = 774.74

Prob>chi2 = 0.0000


319

Figure 5-40 Hausman Test for fixed effects and random effects models with the number of

male directors on the board as a dependent variable


V_B))


ln_sub_bod~w -0.006041 -0.0114577 0.0054167 0.0051994

ln_acq_bod~w -0.0436257 -0.048779 0.0051533 0.0037637

ln_foreign~s 0.0075552 0.0447555 -0.0372003 0.0076653

ln_sub_for~n -0.0074937 -0.0276652 0.0201715 0.0125275

ln_sub_dom~c -0.2834655 -0.1556891 -0.1277764 0.0329061

ln_num_of_~b 0.2953284 0.1682236 0.1271048 0.0323647

ln_acq_for~n 0.0718918 0.0709775 0.0009143 0.0086999

ln_acq_dom~c 0.0887677 0.0853339 0.0034338 0.0104624

ln_num_of_~s -0.0554576 -0.0537845 -0.0016731 0.0102706

ln_empl 0.0048325 0.0049019 -0.0000694 0.0010376

ln_op_rev_~B -0.0015193 -0.0017845 0.0002652 0.0005923

ln_firm_ag~q -0.0164248 -0.0103947 -0.00603 0.0020516

ln_tt_asse~B -0.0071938 -0.0056266 -0.0015672 0.0011137

ln_fa_asse~B -0.0005738 -0.001383 0.0008092 0.0010752

ln_int_ass~k -0.0002416 -0.0006198 0.0003782 0.0001746

1.soe 0.0070605 0.012611 -0.0055504 0.0020632

1.bod_dummy 1.991211 1.985138 0.0060728 0.002456

1.pub_quoted 0.0697723 0.1072022 -0.0374298 0.0050012

2001 -0.0037869 -0.0075658 0.0037789 .

2002 -0.0025353 -0.0080428 0.0055075 .

2003 0.0000346 -0.0079425 0.0079771 .

2004 0.0142268 0.0047121 0.0095147 0.0008505

2005 0.0245444 0.0129364 0.011608 0.001662

2006 0.0313052 0.0190481 0.0122571 0.002212

2007 0.0369769 0.0228918 0.0140851 0.0027046

2008 0.0304226 0.0152995 0.0151231 0.0031147

2009 0.0357252 0.0201092 0.0156161 0.0034018

2010 0.0409917 0.0251009 0.0158909 0.0036122

2011 0.0440036 0.0271508 0.0168528 0.0039218

2012 0.0501362 0.0321045 0.0180317 0.0041798

2013 0.0546507 0.0359054 0.0187453 0.0044415

2014 0.0565215 0.0372796 0.0192419 0.0046535

2015 0.0554565 0.0358275 0.019629 0.0048948

2016 0.0622464 0.0413809 0.0208655 0.0052626

2017 0.0675099 0.0459326 0.0215773 0.0054431

2018 0.0731263 0.0508564 0.02227 0.0056054




chi2(36) = (b-B)'[(V_b-V_B)^(-1)](b-B)

chi2(36) = 170.23

Prob>chi2 = 0.0000


320


female directors on the board as a dependent variable


V_B))


ln_sub_bod~w 0.039243 0.0728554 -0.0336125 0.0109749

ln_acq_bod~w 0.1034003 0.0864874 0.0169129 0.0085312

ln_foreign~s -0.2608771 -0.2768677 0.0159906 0.0167621

ln_sub_for~n 0.274825 0.1830972 0.0917278 0.0257834

ln_sub_dom~c 0.6720292 0.3644223 0.3076069 0.0676165

ln_num_of_~b -0.6250772 -0.3543322 -0.270745 0.0666488

ln_acq_for~n 0.0980842 0.0715248 0.0265594 0.0186843

ln_acq_dom~c 0.3931701 0.284179 0.1089911 0.0234667

ln_num_of_~s -0.3403878 -0.2250024 -0.1153854 0.023231

ln_empl 0.0098837 0.0043316 0.005552 0.0022603

ln_op_rev_~B 0.0016498 0.0058336 -0.0041837 0.001389

ln_firm_ag~q -0.0195465 -0.0130765 -0.00647 0.0042995

ln_tt_asse~B -0.0100479 -0.0081333 -0.0019146 0.0026099

ln_fa_asse~B 0.0019954 0.0002411 0.0017543 0.0023998

ln_int_ass~k -0.0010124 -0.0011313 0.0001189 0.0004194

1.soe 0.028306 0.0344211 -0.0061151 0.0047719

1.bod_dummy 0.3157212 0.3309536 -0.0152324 0.005614

1.pub_quoted -0.0313243 -0.0153553 -0.015969 0.0108483

2001 -0.001486 -0.0030685 0.0015826 .

2002 -0.0059507 -0.009543 0.0035922 .

2003 -0.0247597 -0.031114 0.0063543 0.0020234

2004 -0.0281495 -0.0343233 0.0061737 0.0031192

2005 -0.0400181 -0.0477616 0.0077435 0.0043477

2006 -0.0394281 -0.0477625 0.0083345 0.0053183

2007 -0.0474547 -0.0560224 0.0085677 0.0062459

2008 -0.0367441 -0.0453567 0.0086126 0.0070431

2009 -0.0294912 -0.0358286 0.0063375 0.0075766

2010 -0.0335357 -0.0437919 0.0102562 0.0079771

2011 -0.0180879 -0.025975 0.0078871 0.0085966

2012 0.0027522 -0.0049095 0.0076616 0.0091158

2013 0.0174108 0.00943 0.0079808 0.0096443

2014 0.0378908 0.0297361 0.0081547 0.0100781

2015 0.042473 0.0336448 0.0088282 0.0105727

2016 0.0428581 0.0378445 0.0050136 0.0112985

2017 0.0429552 0.0374719 0.0054833 0.0116675

2018 0.0528358 0.0463542 0.0064816 0.0120059




chi2(36) = (b-B)'[(V_b-V_B)^(-1)](b-B)

chi2(36) = 98.16

Prob>chi2 = 0.0000


321

Figure 5-42 Hausman Test for fixed effects and random effects models with the number

executive directors on the board as a dependent variable


V_B))


ln_sub_bod~w 0.0039996 -0.0176254 0.021625 0.005089

ln_acq_bod~w -0.0396637 -0.0487834 0.0091197 0.0033356

ln_foreign~s -0.0423744 -0.0010269 -0.0413475 0.0072116

ln_sub_for~n -0.0368218 -0.0281073 -0.0087145 0.0125877

ln_sub_dom~c -0.1459612 -0.1107805 -0.0351807 0.0331933

ln_num_of_~b 0.1759207 0.1390024 0.0369183 0.0325963

ln_acq_for~n 0.0484064 0.0578502 -0.0094438 0.0083939

ln_acq_dom~c -0.007879 -0.0086651 0.0007861 0.0094735

ln_num_of_~s 0.0376668 0.0344891 0.0031776 0.0091639

ln_empl -0.0024445 -0.0005364 -0.0019081 0.0009874

ln_op_rev_~B 0.0010366 0.0011894 -0.0001528 0.0004842

ln_firm_ag~q -0.0135995 -0.00817 -0.0054296 0.0020381

ln_tt_asse~B -0.0236311 -0.0214739 -0.0021572 0.0009158

ln_fa_asse~B 0.0041697 0.003562 0.0006077 0.0009839

ln_int_ass~k 0.0011736 0.0010821 0.0000915 0.000132

1.soe 0.0088472 0.0121932 -0.003346 0.0017512

1.bod_dummy 1.95376 1.950185 0.003575 0.0021175

1.pub_quoted -0.0014466 0.0396687 -0.0411153 0.0047698

2001 0.0005227 -0.0035327 0.0040554 .

2002 0.0051326 -0.0010208 0.0061534 .

2003 0.0092136 0.0002642 0.0089494 .

2004 0.0267184 0.0158861 0.0108323 .

2005 0.0292844 0.0160251 0.0132593 0.0002552

2006 0.0392094 0.0247158 0.0144936 0.0014641

2007 0.053283 0.0364946 0.0167883 0.0021193

2008 0.0423062 0.0232817 0.0190245 0.0026061

2009 0.0503367 0.0304289 0.0199078 0.0029585

2010 0.0587166 0.039074 0.0196426 0.0032212

2011 0.065636 0.0442831 0.0213529 0.0035574

2012 0.0775572 0.0544053 0.0231519 0.0038347

2013 0.0808011 0.0565078 0.0242933 0.0041129

2014 0.0810696 0.0560118 0.0250579 0.004334

2015 0.0797092 0.0536765 0.0260327 0.0045845

2016 0.0854073 0.0581518 0.0272555 0.0049783

2017 0.090531 0.062592 0.027939 0.0051665

2018 0.0976335 0.0689757 0.0286578 0.0053311




chi2(36) = (b-B)'[(V_b-V_B)^(-1)](b-B)

chi2(36) = 4139.69

Prob>chi2 = 0.0000


322


non-executive directors on the board as a dependent variable


V_B))


ln_sub_bod~w -0.0156487 0.0389849 -0.0546336 0.0092776

ln_acq_bod~w -0.0122973 -0.0050419 -0.0072554 0.0063673

ln_foreign~s 0.0005728 -0.0284042 0.028977 0.0131516

ln_sub_for~n 0.2255277 0.1138429 0.1116848 0.022822

ln_sub_dom~c 0.0770706 0.1195927 -0.0425221 0.0593108

ln_num_of_~b -0.0850677 -0.1479645 0.0628967 0.0581136

ln_acq_for~n 0.2514909 0.2194785 0.0320124 0.0150656

ln_acq_dom~c 0.6484404 0.6045971 0.0438433 0.0176424

ln_num_of_~s -0.5653779 -0.5156675 -0.0497104 0.0172484

ln_empl 0.026265 0.0212714 0.0049936 0.0017614

ln_op_rev_~B 0.0004248 0.0013216 -0.0008967 0.0010027

ln_firm_ag~q -0.0345511 -0.0248697 -0.0096814 0.0035931

ln_tt_asse~B 0.022703 0.0246529 -0.0019499 0.0018709

ln_fa_asse~B -0.0094487 -0.0129576 0.0035089 0.0018115

ln_int_ass~k -0.005447 -0.0061503 0.0007033 0.0002971

1.soe 0.0116908 0.0215658 -0.0098751 0.0034723

1.bod_dummy 0.3929459 0.4000883 -0.0071423 0.0042027

1.pub_quoted 0.2655577 0.2616547 0.003903 0.008569

2001 -0.0179451 -0.0184275 0.0004824 .

2002 -0.0297741 -0.0313228 0.0015488 .

2003 -0.0434196 -0.0462613 0.0028417 0.0008038

2004 -0.0464153 -0.0489931 0.0025778 0.0021512

2005 -0.0262672 -0.0299262 0.0036591 0.0032958

2006 -0.0302352 -0.0332625 0.0030273 0.004187

2007 -0.0527562 -0.055773 0.0030168 0.0050079

2008 -0.0510064 -0.0516268 0.0006203 0.0057069

2009 -0.045354 -0.0442129 -0.0011411 0.0062045

2010 -0.053645 -0.0552314 0.0015863 0.006524

2011 -0.0524267 -0.0513545 -0.0010721 0.0070645

2012 -0.0402556 -0.0381279 -0.0021277 0.0075103

2013 -0.0202437 -0.0176709 -0.0025728 0.0079658

2014 -0.0004688 0.0022022 -0.0026709 0.0083334

2015 0.0057249 0.0089683 -0.0032435 0.0087527

2016 0.0090513 0.0144069 -0.0053556 0.0094251

2017 0.0118459 0.0163528 -0.0045069 0.0097347

2018 0.0168391 0.0203283 -0.0034892 0.0100112




chi2(36) = (b-B)'[(V_b-V_B)^(-1)](b-B)

chi2(36) = 86.09

Prob>chi2 = 0.0000


323


Russian directors on the board as a dependent variable


V_B))


ln_sub_bod~w 0.0125534 0.018235 -0.0056816 0.007547

ln_acq_bod~w -0.0653038 -0.0684345 0.0031307 0.0058761

ln_foreign~s -0.0071693 -0.0085491 0.0013798 0.0114946

ln_sub_for~n 0.0356066 0.0186309 0.0169757 0.0177477

ln_sub_dom~c 0.0687899 0.1244896 -0.0556997 0.0464438

ln_num_of_~b -0.0291939 -0.0995296 0.0703356 0.0457524

ln_acq_for~n 0.0718659 0.0612856 0.0105803 0.0127913

ln_acq_dom~c -0.0574479 -0.0799078 0.0224599 0.016117

ln_num_of_~s 0.0904968 0.1152309 -0.0247341 0.0159708

ln_empl 0.0076853 0.0062666 0.0014187 0.0015434

ln_op_rev_~B -0.000817 -0.000777 -0.00004 0.0009651

ln_firm_ag~q -0.0145252 -0.0079125 -0.0066127 0.0029402

ln_tt_asse~B -0.0035404 -0.0005717 -0.0029687 0.0018099

ln_fa_asse~B -0.0093258 -0.0110477 0.0017219 0.0016452

ln_int_ass~k 0.0014072 0.0009736 0.0004336 0.0002937

1.soe 0.0392576 0.0478563 -0.0085987 0.0033001

1.bod_dummy 1.940588 1.938192 0.0023962 0.0038923

1.pub_quoted 0.0873747 0.1165047 -0.02913 0.007423

2001 -0.007127 -0.0099709 0.0028439 .

2002 -0.0076088 -0.0119597 0.0043509 0.0009631

2003 -0.0088322 -0.0153948 0.0065626 0.0018828

2004 0.0045079 -0.0028036 0.0073115 0.0024845

2005 0.015761 0.0071619 0.0085991 0.0032376

2006 0.0249214 0.0162303 0.0086912 0.00386

2007 0.0305684 0.020556 0.0100124 0.0044666

2008 0.0215903 0.0110143 0.010576 0.004995

2009 0.0267677 0.0165089 0.0102588 0.0053458

2010 0.0292017 0.0178274 0.0113743 0.0055963

2011 0.0317421 0.0206772 0.0110648 0.0060126

2012 0.0327994 0.0211015 0.0116978 0.0063614

2013 0.0380029 0.0257689 0.0122341 0.0067177

2014 0.0405643 0.0280573 0.012507 0.0070109

2015 0.0354408 0.0226511 0.0127897 0.0073455

2016 0.0372934 0.0249133 0.0123801 0.00784

2017 0.0441888 0.0310374 0.0131513 0.0080889

2018 0.0511491 0.0371651 0.013984 0.0083179




chi2(36) = (b-B)'[(V_b-V_B)^(-1)](b-B)

chi2(36) = 59.69

Prob>chi2 = 0.0078


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foreign directors on the board as a dependent variable


V_B))


ln_sub_bod~w -0.0661288 -0.0541753 -0.0119535 0.0082783

ln_acq_bod~w 0.1304676 0.1197997 0.0106679 0.0057176

ln_foreign~s -0.086671 -0.0539395 -0.0327315 0.0117094

ln_sub_for~n 0.1495398 0.0601702 0.0893696 0.0203614

ln_sub_dom~c -0.2993072 -0.3721759 0.0728686 0.0526719

ln_num_of_~b 0.2732513 0.3537467 -0.0804954 0.0515685

ln_acq_for~n 0.0499778 0.0902944 -0.0403166 0.0133742

ln_acq_dom~c 0.736062 0.7584386 -0.0223766 0.0157605

ln_num_of_~s -0.6690783 -0.6935665 0.0244882 0.0154372

ln_empl 0.0023149 0.0011914 0.0011235 0.0015603

ln_op_rev_~B 0.0051934 0.00505 0.0001434 0.0009125

ln_firm_ag~q -0.0309493 -0.0223313 -0.008618 0.0031765

ln_tt_asse~B -0.0083349 -0.0092223 0.0008875 0.0016984

ln_fa_asse~B 0.0103969 0.0110186 -0.0006217 0.0016147

ln_int_ass~k -0.0010483 -0.0012911 0.0002428 0.0002734

1.soe -0.0669483 -0.0688464 0.0018981 0.0031372

1.bod_dummy 0.2616596 0.2687167 -0.0070571 0.0037991

1.pub_quoted -0.0262393 0.0027063 -0.0289456 0.007603

2001 0.0107688 0.0071676 0.0036012 .

2002 0.0162746 0.0098336 0.006441 .

2003 0.0124788 0.0031101 0.0093687 0.0015253

2004 0.0162027 0.004788 0.0114147 0.0023313

2005 0.0147387 0.0000176 0.0147211 0.0032155

2006 0.0128018 -0.0040166 0.0168184 0.0039489

2007 0.0038363 -0.014701 0.0185373 0.0046414

2008 0.0124438 -0.0074403 0.0198841 0.0052407

2009 0.0210301 0.0004896 0.0205404 0.005664

2010 0.0288198 0.0081191 0.0207007 0.0059232

2011 0.0352579 0.0133299 0.021928 0.006394

2012 0.0537918 0.0307025 0.0230893 0.0067816

2013 0.0603143 0.03619 0.0241243 0.0071789

2014 0.0670641 0.0419969 0.0250672 0.0075005

2015 0.0768685 0.0511009 0.0257676 0.0078678

2016 0.0848501 0.0583565 0.0264936 0.0084609

2017 0.0836933 0.0562237 0.0274696 0.0087304

2018 0.0867834 0.0584891 0.0282942 0.0089722




chi2(36) = (b-B)'[(V_b-V_B)^(-1)](b-B)

chi2(36) = 68.79

Prob>chi2 = 0.0008


325

Chapter 6

Conclusion In using a multi-method approach, this thesis identifies the gap in the literature,

provides a real case study of the relationship between internationalisation and

corporate governance, and provides empirical evidence of such a relationship.

Examining traditional theories of internationalisation (Johanson & Vahlne, 1977;

McDougal & Oviatt, 1994; Malhorta & Hinings, 2010) and corporate governance (Berle

& Means, 1932; Fama & Jensen, 1983; Freeman, 1984; Donaldson & Davis, 1991),

the thesis demonstrates that the literature does not address, in full, the important

strategic decisions that SME firms are faced with in the process of rapid

internationalisation, especially if the firm comes from a developing country and is

looking to expand to a developed country. Mainstream literature focuses on strategic

decisions, made by managers, who are also the owners of the SMEs, around issues

such as entry modes into foreign markets (Ripollés & Blesa, 2017), operational

strategies (Bell, Crick & Young, 2004; Crick & Spence, 2005; Martin & Javalgi, 2016),

and growth and performance beyond the inception stage (Ghannda & Ljungquist,

2005; Li et al, 2017). The literature overlooks the quick international expansion of

small- and medium-sized firms. These firms display no separation of ownership and

control, thus concealing the problem of unchanged corporate structure, because as

the corporate governance literature points out, this issue primarily relates to large firms

with separation of ownership and control. The managerial incompetence of owners

can lead to a decrease in the profitability of a business in foreign markets, or may even

result in partial or full business closure. However, internationalisation is a dynamic

process and firms may have opportunities to re-enter the same foreign market after

certain corporate restructuring.

326

An example of this rapid internationalisation was presented in this thesis in

Chapter 2. The chapter examined the real case example of the Kaspersky Lab, which

transitioned from a small Russian IT software company, into a multinational

corporation, and managed to overcome the hidden threat of unchanged corporate

governance structures along the internationalisation path. The detailed analysis of the

development path of Kaspersky Laboratory, based on an in-depth interview, confirmed

that when a firm’s internationalisation occurs through opening a subsidiary or foreign

acquisition in the foreign market, it will be followed by the creation of corporate

governance mechanisms (such as a board of directors). The corporate restructuring

of the Kaspersky Laboratory, after aggressive internationalisation, allowed the firm to

change its trajectory from failure to success. Findings from the Kaspersky case study

emphasise that an increase in geographical diversification of a firm will positively

correlate with the share of foreign directors represented on the board.

This case study was the initial step in constructing a general theoretical

framework that considered the strategic decision of corporate governance adjustment,

through the lens of game theory. The main objective of the framework was to predict

whether a firm expanding outside its domestic market, should strategically adopt new

corporate governance mechanisms, or if it could keep exploiting pre-existing internal

mechanisms.

The results of the theoretical chapter suggest that internationalisation of a firm

from a country with low levels of corporate governance, to a country with higher levels

of corporate governance, should correlate with a restructuring of corporate

governance mechanisms. The critical parameters that would determine the action of

the firm entering the foreign market, are the cost of investment into corporate

governance mechanisms, and the concentration of the foreign market. Both

327

parameters relate to the potential profit that a firm could achieve as a result of

internationalisation. These parameters would, therefore, directly affect the strategic

decisions of the entrant firm, determining whether it is worth investing in new corporate

governance mechanisms, regardless of the actions of other firms, or aligning with

other market participants for the most profitable outcome.

Both the case study and theoretical framework point to the existence of a

relationship between internationalisation and corporate governance. To check

empirically if such a relationship exists, the thesis examined a sample of 300 Russian

firms, based on a proprietorial level panel database, fully described in Chapter 4. Using

the fixed effects regression model, together with the GMM as the robustness check,

empirical analysis provided the evidence that a firm’s internationalisation process,

when occurring through opening a subsidiary or foreign acquisition in the foreign

market, is positively correlated with the number of corporate governance mechanisms

they exhibit. The regression results also confirm that an increase in the geographical

diversification of the firm is positively correlated with the share of foreign directors

represented on the board. Following the theoretical framework, the empirical results

confirm the existence of a positive relationship between internationalisation of the firm,

from a country with low levels of corporate governance, to a country with higher levels

of corporate governance, and the restructuring of its corporate governance

mechanisms.

To support the final hypothesis, the empirical analysis exploits the fixed effects

regression model, based on a pseudo post IPO natural experiment approach. The

evidence suggests that internationalisation, in terms of the number of foreign

subsidiaries and number of foreign merger and acquisition deals, has a positive and

significant effect on several aspects of corporate board structure, particularly on the

328

number of independent directors on the board and the number of foreign directors on

the board. The regression analysis also indicates that listed firms (i.e. post-IPO) are

more influenced by the number of foreign and domestic subsidiaries, and by the

number of foreign and domestic mergers and acquisitions, when compared with non-

listed firms. Further evaluation, using the margin analysis, denoted a clear decoupling

effect between listed and non-listed firms. The main result of the margin analysis

indicates that internationalisation impacts listed firms much more than non-listed firms,

in terms of changes in corporate governance. The analysis also suggests that non-

listed firms will benefit from an adjustment of the board structure during


This thesis contributes to the existing field of strategic management in three

main ways. First it provides the evidence for the existence of a relationship between

internationalisation and corporate governance for small and medium emerging

markets firms that are internationalising. Acknowledgement of such a relationship

provides a foundation for future research around emerging markets and points to the

different strategic decisions that could be taken by emerging markets firms during the

process of internationalisation.

Secondly, the theoretical framework of this thesis provides vital evidence that

corporate governance adjustments are necessary for successful internationalisation.

This, therefore, provides an analytical framework which is relevant to small and

medium firms pursuing rapid internationalisation. This framework could provide senior

managers and owners of businesses with a robust plan of action for corporate

governance restructuring, that should be taken during the internationalisation process,

while also considering the market of entry, market concentration and the current

development stage of the entrant firm. Based on the Kaspersky case study, this

329

research proves that the application of the theoretical framework could change the

trajectory of internationalisation from failure to success.

Thirdly, the unique representative panel dataset of Russian firms from 2000 and

2018 contributes to the existing literature on corporate governance and

internationalisation of Russian firms, through the fact that the dataset focuses not only

on listed firms but also on non-listed firms. At the same time, the dataset of this thesis

covers 19 years, which captures the effect of external events such as financial crises,

the introduction of a corporate governance code in 2002, and the update of corporate

governance practices code in 2014. The dataset also combines several sources while

the merging exercise itself has been a valuable addition to the existing literature.

This thesis has potential limitations. Even though this research contributes

significantly to the scarce empirical academic literature on the topic of

internationalisation and corporate governance of Russian firms, and although it used

a unique proprietorial dataset for the analysis, the sample size could still be larger in

terms of the number of firms, to improve the analysis. At the same time, the poor data

availability for Russian companies between 1995 and 2002 has a certain bias towards

misinterpretation of the effect of internationalisation on corporate board structure.

Another limitation resides within the theoretical framework. The framework is too

narrow and focuses on a single question regarding the implementation of new

corporate governance mechanisms, during the rapid process of internationalisation.

Such a narrow approach allows one to analyse the effect of internationalisation on

corporate governance in detail. It also, however, sets aside other important strategic

decisions, and the costs that are related to these decisions, could potentially lead to

misjudgement with regards the final choice on corporate governance investment.

330

To overcome these limitations, future research could focus on several aspects.

It should extend the sample size of the current thesis using the same methodology of

combining and refining several databases. Such an exercise will improve the

significance of the analysis and could shed light on other aspects of

internationalisation that could lead to changes in corporate governance of firms. At the

same time, there is evidence in the academic literature that economic activity can play

an important role in determining the strategies of internationalisation. Therefore, using

a similar theoretical framework to that which is presented in the thesis, further research

could concentrate on the effect of the internationalisation process on corporate

governance structures among firms from different sectors of economic activity.

Additionally, future research could investigate the theoretical framework itself and

expand it further. An updated theoretical framework could also examine the strategic

decisions that firms are faced with after the decision to invest in corporate governance

mechanisms. Questions could include: what should the structure of the board be and

how should particular firms select the set of mechanisms that would be optimal in their

context? One potential idea is also to look into the production function of the firm

experiencing rapid internationalisation. The production function would indicate

whether the firm is capital intense, labour intense or resource dependent. In turn, these

three aspects of production function could be linked to aspects of corporate

governance such as shareholder protection, transparency and disclosure, board of

directors, and future theoretical research could focus on the link between these

factors.

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