Toward a legitimacy-based view of political risk: the...

Strategic Management JournalStrat. Mgmt. J. (2015)

Published online EarlyView in Wiley Online Library (wileyonlinelibrary.com) DOI: 10.1002/smj.2369Received 5 October 2012; Final revision received 22 January 2015

TOWARD A LEGITIMACY-BASED VIEW OF POLITICALRISK: THE CASE OF GOOGLE AND YAHOO IN CHINA

CHARLES E. STEVENS,1* EN XIE,2 and MIKE W. PENG3

1 Department of Management, Lehigh University, Bethlehem, Pennsylvania, U.S.A.2 School of Management, Xi’an Jiaotong University, Xi’an, China3 Jindal School of Management, University of Texas at Dallas, Richardson, Texas,U.S.A.

Traditional political risk theories often focus on a developing host country government’s abilityto intervene in the activities of foreign multinationals in the extractive or infrastructure sectors.This results in inadequate understanding of (1) how a government’s motivation to intervene isinfluenced by the broader societal context, (2) the importance of multinationals’ political risk athome, and (3) the increasing political risk faced by high-tech and service firms. We argue that thereis a need to update the bargaining power and political institutions theories and further develop alegitimacy-based view of political risk. Then, we examine the political risk experienced by Googleand Yahoo at home and abroad due to their activities in China to illustrate the benefits of a holisticapproach to political risk. Copyright © 2015 John Wiley & Sons, Ltd.

INTRODUCTION

Strategic management and international businessresearch regularly examines government actionsthat have a negative impact on firm performance,a phenomenon known as political risk (Boddewyn,2005, 2014; Brewer, 1985). Revenues lost due topolitical risk can run into the billions of dollars formultinational enterprises (MNEs) each year, mak-ing it a key area of concern for researchers aswell as practitioners. This phenomenon is typicallyexplored using a bargaining power approach (BPA)or a political institutions approach (PIA), whichfocus, respectively, on (1) the balance of bargain-ing power between a firm and a government and(2) the degree of checks and balances in a country’spolitical institutions. The majority of the politicalrisk literature has focused on attributes affecting a

Keywords: political risk; government intervention; legiti-macy; bargaining power; political institutions*Correspondence to: Charles E. Stevens, Lehigh University, 621Taylor Street, Bethlehem, PA 18015, E-mail: [email protected]

Copyright © 2015 John Wiley & Sons, Ltd.

government’s ability to intervene in the specificcontext of conflicts between a developing countryhost government and foreign MNEs in the extractiveor infrastructure sectors. While this line of inquiryhas generated considerable insights, we proposethat the focus on this particular context has ham-pered the development of a more holistic and moregeneralizable approach to understanding politicalrisk faced by firms in a widening range of indus-tries in an increasingly complex and interconnectedglobal economy. In such a world, MNEs may nothave to deal with political risk only abroad in hostcountries, but also at home. What are the contoursof such a new approach? What are the new insightsfrom this approach that are above and beyond theinsights from BPA and PIA?

The purpose of this article is to take up this chal-lenge and develop such an approach. Specifically,we propose that there are benefits to examiningpolitical risk through the lens of three distinct butcomplementary perspectives. Adding to the tradi-tional BPA and PIA approaches, we suggest that the“missing link” is the nascent legitimacy-based view

C. E. Stevens, E. Xie, and M. W. Peng

(LBV), which has begun to gain attention in thefield of political risk (Henisz and Zelner, 2005; Kos-tova and Zaheer, 1999; Luo, 2001). Consequently,we (1) develop the LBV, which we believe can helpto explain governments’ motivation to intervene, incontrast to the literature’s traditional focus on fac-tors impacting governments’ ability to intervene;(2) consider the ramifications for firms’ actionsnot only on the political risk they face overseas,but also the risk they face at home; and (3) con-sider political risk in contexts ranging from firms infixed-asset intensive industries in developing coun-tries to high-tech service industries in developedcountries.

We begin with a brief overview of the BPA andPIA. Then, we introduce a legitimacy-based viewof political risk and develop it further. We then turnto a detailed example: the well-publicized case ofthe interactions of Google and Yahoo with the Chi-nese government that created political risk both inChina and at home. Although the setbacks facedby these firms have gained considerable attention inthe press, they have only recently started to receiveattention in the academic literature (Brenkert, 2009;Dann and Haddow, 2008; Scherer, Palazzo, andSeidl, 2013). Sizeable aspects of the political riskfaced by these firms are consistent with what can beexplained by the BPA and PIA. However, a num-ber of relatively unique aspects of their experiencessuggest the value in updating these traditional theo-ries and developing alternative perspectives basedon legitimacy that may shed new light on politi-cal risk.

To be clear, we do not intend to claim that thepolitical risk faced by Google, Yahoo, and fellowtech firms means that the BPA and PIA are nowobsolete, and that the LBV is the sole paradigm forpolitical risk. Instead, this article argues that a betterunderstanding of political risk will have significantramifications for future theory building and empiri-cal efforts in all three theoretical paradigms. In par-ticular, examining these firms’ experiences has con-siderable implications for several less-understoodaspects of political risk: (1) why political risk isincreasingly seen as not just a concern for firms inthe asset-intensive extractive and infrastructure sec-tors, but a highly salient issue for high-tech, inno-vative, and service-oriented firms as well; (2) howactions taken overseas can result in political risk athome; and (3) why powerful firms from a power-ful home country (e.g., Google and Yahoo) would

experience more political risk than less powerful,and presumably more vulnerable, firms.

TRADITIONAL THEORIESOF POLITICAL RISK

The bargaining power approach (BPA)

Bargaining power derives from “resources con-trolled by one party and demanded by the other”(Kobrin, 1987: 617) and “the ability to withholdresources that the other party wants” (Eden andMolot, 2002: 365). According to the BPA, anMNE’s bargaining power erodes over time as firstthe foreign entrant sinks fixed investments in thehost country and then its technological or manage-rial superiority erodes, making it easier for localfirms to replace the MNE (Poynter, 1986; Vernon,1971). As the MNE’s power to stop the govern-ment from changing the initial bargain decreases,its political risk increases (Boddewyn, 2005). High-lighting the importance of BPA logic in the polit-ical risk field, Grosse (2005: 276) states: “Thisidea of a company’s deteriorating bargaining poweronce physical facilities are committed is one of theenduring concepts that remain relevant to analyz-ing government-business relations.” Developed byVernon (1971) in the extractive sector, the BPAhas been primarily applied to this sector and otherindustries characterized by large amounts of fixedassets such as infrastructure and heavy manufac-turing (Doh and Ramamurti, 2003; Makhija, 1993;Moran, 1974; Wint, 2005).

The political institutions approach (PIA)

In addition to bargaining power, other researchersfocus on attributes of a country’s political institu-tions as a clue to better understand political risk(Henisz, 2000). Specifically, the PIA predicts thatbecause governments face the inherent temptationto alter policies to their advantage (and to the detri-ment of foreign firms), more political constraints onthe government’s ability to change existing policieswill be associated with less political risk for firms.A larger amount of political checks and balancesis posited to be associated with greater constraints.Similar to the BPA, empirical analyses using thePIA have focused on industries with large amountsof fixed assets, such as the infrastructure sector(Henisz and Zelner, 2001).

Copyright © 2015 John Wiley & Sons, Ltd. Strat. Mgmt. J. (2015)DOI: 10.1002/smj

Toward a Legitimacy-Based View of Political Risk

Strengths and limitations of traditional theories

Both approaches have generated numerous insights.The BPA has explored factors that allow firms toforestall obsolescence and maintain their bargain-ing power, such as leveraging greater intangibleresources (Gomes-Casseres, 1990; Poynter, 1982;Vachani, 1995) or hailing from a powerful homecountry (Ramamurti, 2001). The PIA provides avaluable tool for understanding why a certain coun-try may entail more risk than another. It has beenempirically associated with FDI location choices(Henisz, 2000, 2002; Henisz and Zelner, 2001), pro-tectionist policies (Henisz and Mansfield, 2006),and infrastructure development (Henisz and Zelner,2006).

Yet, both approaches face important limitationsas well. Given its focus on fixed assets and technol-ogy spillovers, the BPA has done well in explainingthe political risk faced by firms in industries charac-terized by higher degrees of fixed assets and moreeasily-learnable technology, such as mining or oilextraction. However, Kobrin (1987: 636) notes that“in other industries, characterized by changing tech-nologies and the spread of global integration, thebargain will obsolesce slowly, if at all, and the rela-tive power of MNCs may even increase over time.”This suggests that predicting political risk based onan assumption of bargaining power obsolescencemay not be appropriate for a wide swath of firms inmore globally-integrated and technology-intensiveindustries (Bremmer, 2010b; Dunning, 1997). As acountry-level theory, the PIA seems best suited forexplaining cross-country rather than within-countryvariations. In other words, political institutions mayexplain why Russia can be a riskier place to investthan Germany, but such macro-level institutionsprovide little explanation for why a particular indus-try (or even a specific MNE) would be singled outfor intervention within Russia or within Germany.

Importantly, both approaches focus on con-straints on a government’s ability to intervene,taking its desire to do so as given. At the timewhen theory on political risk was first developed,such an assumption likely was valid in many cases.During the first few postwar decades, many gov-ernments in developing countries pursued importsubstitution policies and anti-foreign sentimentwas widespread, especially in countries just yearsremoved from colonization by foreign powers(Boddewyn, 2005, 2014). However, the potentialuse of power does not necessarily translate into

its actual use in business-government relations(Dunning, 1997; Kobrin, 1987; Luo, 2001). Thishas led Henisz and Zelner (2005) to criticizetraditional political risk theory as deterministic,and Jones (1995) to call it “undersocialized” fornot considering the broader societal influencesaffecting business-government interactions andthe policy-making process. Recognizing that bothintervening and not intervening in the activitiesof firms carries risks, government intervention isno less important—but it is increasingly selective(Bremmer, 2010b; Minor, 1994; Stevens andCooper, 2010). Moreover, firms are increasinglyunder scrutiny from home country stakeholdersfor issues including the natural environment,human rights, national security, and tax inversion(Kostova and Zaheer, 1999; Scherer et al., 2013).These complex issues often involve matters beyondbargaining power and country-level checks andbalances (Henisz and Zelner, 2005) and may havepolitical risk ramifications that cross borders.

Some of these limitations can be addressed bycontinuing to augment the traditional theories, anissue we will return to later in this article. How-ever, we argue that other limitations reflect inherentaspects of these approaches’ underlying assump-tions and mechanisms, suggesting the potentialvalue in using an alternate conceptual lens to viewpolitical risk. In the next section we provide anoverview of such an approach, based on the con-struct of legitimacy.

THE EMERGENCE OF ALEGITIMACY-BASED VIEW

Responding to the changing face of political risk, anewer stream of research suggests that governmentintervention based on short-term shifts in bargain-ing power can be short-sighted and indeed counterto the government’s own goals, which often relyon FDI to be attained (Luo, 2001). Instead, thegovernment is increasingly looking at the attributesand activities of the foreign firms in the host coun-try over time and evaluating whether they appearconsistent with the government’s long-term eco-nomic, political, and social goals (Henisz and Zel-ner, 2005). When such congruence is perceived toexist, the legitimacy of these firms in the eyes of thegovernment increases (Kostova and Zaheer, 1999;Marquis and Qian, 2014; Suchman, 1995).



Suchman (1995: 574) defines legitimacy as“a generalized perception or assumption thatthe actions of an entity are desirable, proper,or appropriate within some socially constructedsystem of norms, values, beliefs, and definitions.”By “generalized,” Suchman (1995: 574) arguesthat legitimacy represents “an umbrella evaluationthat, to some extent, transcends specific adverseacts or occurrences; thus, legitimacy is resilient toparticular events, yet it is dependent on a historyof events.” Perceptions of legitimacy are sociallyconstructed within “some group of observers” (e.g.a government, organization, interest group, or anyother group of individuals), but there need not beunanimity of opinion regarding a firm’s legitimacyeither within or across these groups (Suchman,1995: 574). Indeed, Bucheli and Salvaj (2013) findthat tradeoffs can exist—gaining legitimacy fromone social group can result in a loss of legitimacyin the eyes of another. Moreover, Bitektine (2011:157) notes that the benefits of a firm’s actions orexistence may be diffuse or concentrated.

Three types of legitimacy—pragmatic, moral,and cognitive—have been identified by Such-man (1995). Pragmatic legitimacy “rests on theself-interested calculations of an organization’smost immediate audiences” (Suchman, 1995: 578).An organization achieves pragmatic legitimacyif its actions are seen as contributing value to alegitimacy-conferring stakeholder, directly or indi-rectly. Moral legitimacy also involves an evaluativecomponent. However, it rests “not on judgmentsabout whether a given activity benefits the eval-uator, but rather on judgments about whether theactivity is ‘the right thing to do’” (Suchman, 1995:579). Stakeholders confer moral legitimacy on anorganization if they believe it is contributing tothe societal welfare and acting in accordance withnorms and values shared by that society (Palazzoand Scherer, 2006). Finally, cognitive legitimacyinvolves “acceptance of the organization as neces-sary or inevitable based on some taken-for-grantedcultural account” (Suchman, 1995: 582). This typeof legitimacy is based not on conscious evaluationof the organization’s merits, but subconsciousacceptance of its actions and existence (Jepperson,1991).

The notion of legitimacy has particular saliencefor relations between foreign firms and the hostgovernment. Bitektine (2011: 156) notes that legiti-macy with government regulators is a “commonlystudied type of legitimacy,” as these government

agents are “carefully attended to in institutionalcontexts” due to “their influence on performanceand the very existence of industries and organiza-tions.” As a result, governments and governmentactors often assess the legitimacy of these firms(Baum and Oliver, 1991; Deephouse, 1996; Mar-quis and Qian, 2014; Naughton, 2007; Rao, 2004).Bitektine (2011: 152) argues that the judgmentsabout firms’ legitimacy that are rendered by govern-ment actors “can be a matter of life and death for anorganization.”

Several works have contributed to the LBV.For instance, Marquis and Qian (2014: 132) focuson the issue of corporate social responsibility inChina. They find that “by taking action in accor-dance with government policies, positions, and reg-ulations … firms and their executives maintaintheir legitimacy in the eyes of the government.”Kostova and Zaheer (1999: 65–66) explicitly linkfirms’ legitimacy with the political risk that theyface, noting that “the political processes or nego-tiations between MNEs and host governments …could affect the legitimacy of firms directly—inthe regulatory domain—or indirectly—through thesocial construction engaged in by political interestgroups.” Luo (2001) finds evidence that MNEs canbuild legitimacy in the eyes of their host govern-ments through trustworthy behaviors, social capi-tal, and investments of resources that are valuableand rare in the host economy, thus reducing theirpolitical risk. Henisz and Zelner (2005) predict (1)that MNEs’ political risk would decrease over timeas these firms’ tenure allows them to build legiti-macy and acceptance in the host environment, and(2) that firms that focus predominantly on buildingpower as opposed to building legitimacy do so attheir peril. In sum, research linking legitimacy andpolitical risk has begun to emerge. Next, we developand expand this nascent approach further.

DEVELOPING AND EXPANDINGTHE LBV

Despite researchers’ progress on the LBV, a detailedconceptual model has not yet been proposed. Doingso would enable us to expand the scope of thetheory—specifically, it helps to address threegaps in the emerging LBV: A lack of clarityabout (1) the specific mechanisms linking firms’legitimacy and their political risk, (2) the roleof legitimacy-granting actors other than the



government, and (3) the role of legitimacy in thehome country. This suggests the need to furtherdevelop the LBV to explain and predict firms’political risk in all manner of industries, both athome and abroad. Figure 1 illustrates a model ofhow we expect legitimacy to impact political risk,which we discuss below. Table 1 contrasts thislogic with the BPA and PIA approaches.

The impact of firm actions and attributeson legitimacy as perceived by governments

Although “the government” is often treated as asingle actor, the political science literature has longacknowledged that the government is itself a socialgroup made up of many individuals and subunits(Lieberthal, 1995; Miller, 1974). Thus, the higherthe degree to which governmental actors perceivea firm’s actions to be “desirable, proper, or appro-priate” (Suchman, 1995: 574), the higher the firm’slegitimacy in the eyes of the government as a whole(Marquis and Qian, 2014). Because the politicalrisk literature pays particular attention to the impactof government actions that affect firms, we start ourconceptual development by first considering firmlegitimacy from the perspective of the government.

Gaining legitimacy in the eyes of the gov-ernment may be accomplished through pragmatic

legitimacy: the degree to which a firm’s attributesand actions provide tangible benefits to an imme-diate audience—in this case individuals withinthe government (Makhija, 1993; Suchman, 1995).Alternatively, acceptance may be achieved throughmoral legitimacy, if the firm is seen as acting appro-priately and in good faith with respect to promotingsocietal welfare, regardless of the direct benefits tothe government (Aldrich and Fiol, 1994; Suchman,1995). A firm can also achieve cognitive legitimacyif its presence is seen as necessary or inevitable bygovernment officials or bureaucrats.

Given that the political, economic, and socialimpacts of a firm’s actions are tightly intertwined(Bergsten, Keohane, and Nye, 1975), from thegovernment’s perspective the three types of legiti-macy may intertwine as well. For instance, a firm’saction to hire a large number of local workerscan reduce unemployment, which helps keep thegovernment in power (raising the firm’s pragmaticlegitimacy). This may be viewed as a pro-socialbehavior (increasing moral legitimacy), and mayresult in its presence being seen as necessary andtaken for granted by the government (resultingin cognitive legitimacy). It is for this reason thatgovernments pay close attention to firms withintheir borders to determine the degree to which their

Figure 1. Legitimacy-based view of political risk



Table 1. Contrasting the three theories

Bargaining powerapproach (BPA)

Political institutionsapproach (PIA)

Legitimacy-basedview (LBV)

What it explains A government’s ability tointervene due to shifts inbargaining power.

A government’s ability tointervene based on the checksand balances in a country’spolitical institutions.

A government’s motivation tointervene based on a firm’spragmatic, moral, andcognitive legitimacy.

What it is lesssuited to explain

When a government will chooseto not exercise its power in away that is detrimental tofirms, even when it has thepower to do so.

Country-level focus results indifficulties in explainingwithin-country differences inpolitical risk at the industryor firm level.

Less suited than BPA or PIA forexplaining a government’sability to intervene in firms’activities.

Primary countrycontext

Host country. Host country. Both home and host countries.

Developing countries. Developing countries. Both developing and developedcountries.

Primary industrycontext

Extractive and infrastructureindustries.

Extractive and infrastructureindustries.

All industries.

Role of power Unclear distinction between agovernment’s potential use ofpower and its actual use ofpower.

Governments assumed to beinclined to exercise theirpower, unless politicalconstraints exist.

A government’s amount ofpower not necessarily directlyrelated to the likelihood itwill use its power; thereneeds to be a clear motivationto intervene.

Role of institutions Multilateral institutions(international organizationssuch as the WTO or WorldBank) may influence powerrelations between a firm and agovernment.

Focus on the structure of acountry’s politicalinstitutions.

Regulatory, normative, andcognitive institutionsinfluence the relationsbetween firms andgovernments.

Inclusion of civilsociety actors

Considers the bargaining powerof other actors (e.g. NGOs) toinfluence the bargain struckbetween a firm and agovernment.

Interest groups are better ableto influence policy whenpolicy change is made easierby a lack of politicalconstraints.

Societal actors (customers,competitors, the media,NGOs, etc.) evaluate thelegitimacy of firms andgovernments, influencinggovernment intervention.

presence or actions are legitimate or not (Marquisand Qian, 2014).

The political risk literature has largely focusedon a firm’s host country environment. However, theliterature on legitimacy argues that it is imperativeto acknowledge that MNEs face a large degreeof conflicting demands from key stakeholdersboth at home and abroad (Greenwood et al., 2011;Kostova and Zaheer, 1999). Globalization hasonly increased the complications a firm faces, asits actions abroad can have a direct impact on itslegitimacy at home—either positive or negative(Pache and Santos, 2010; Scherer et al., 2013).Thus, we expect a firm’s actions and attributes toimpact directly the legitimacy it gains in the eyes

of the governments it interacts with—both at homeand abroad (see Figure 1).

The impact of firm actions and attributeson legitimacy as perceived by society

A firm’s legitimacy is evaluated by a broad set ofsocial groups and stakeholders in addition to thegovernment, including interest groups, competitors,the media, NGOs, financial institutions, employees,customers, “elite” members of society, and othermembers of civil society (Bucheli and Salvaj, 2013;Suchman, 1995). These actors can also provide orwithhold their “social license to operate” from anorganization, depending on the degree to which



they perceive it as a legitimate and accepted partof the community (Thomson and Boutilier, 2011b;Henisz, Dorobantu, and Nartey, 2014; Prno andSlocombe, 2012; Thomson and Boutilier, 2011a).

Unlike the government—which has a “monopolyof legitimate coercive power” (Stoker, 1998: 1),with the ability to provide directly or revoke a for-mal, legal license for a firm to operate—the “sociallicense” granted by actors in civil society is a socialcontract, rather than a legal one (Boutilier, 2009;Thomson and Boutilier, 2011b; Prno and Slocombe,2012). Nevertheless, this social license has impor-tant consequences for firm performance and sur-vival, both directly and through its impact on policy.Thus, it is important for firms to manage relationswith such stakeholders (Henisz et al., 2014). How-ever, the political risk literature has not traditionallygiven adequate attention to these issues, leading toJones’s (1995) criticism that political risk researchis undersocialized. Thus, while the government nec-essarily plays a large role in a legitimacy-basedapproach to political risk, just focusing on the gov-ernment is not sufficient. As we indicate in Figure 1,we expect that the more the public perceives a firm’sattributes and actions to be desirable, the higher itslegitimacy in the eyes of that society.

The reciprocal nature of a firm’s legitimacyin the eyes of government and society

We also expect the degree to which a firm gainsor loses legitimacy from societal actors to impactthe legitimacy it has in the eyes of a government.As mentioned above, governments are not unitaryactors, nor do they make policy decisions in a vac-uum (Putnam, 1988; Zelner, Henisz, and Holburn,2009). Instead, they consist of individual policymakers, each with their own objectives and prior-ities (Kistruck et al., 2015; Putnam, 1988). Thesepolicy makers frequently receive information fromconstituents and interest groups that impacts howthey make policy decisions (Henisz and Mansfield,2006; Henisz and Zelner, 2006). Thus, we expectwhether these societal actors perceive a firm as ben-eficial will in turn affect how individual policy mak-ers, dominant coalitions, and the government as awhole perceive the benefit provided by the firm.

Proposition 1: The more the public perceivesa firm’s attributes and actions to be desir-able, proper, or appropriate, the higher the

firm’s legitimacy in the eyes of that society’sgovernment.

We expect that this relationship can work in thereverse direction as well. If a government viewsa firm as legitimate, it signals its support by pro-viding resources and favorable policies (Oliverand Holzinger, 2008; Pfeffer and Salancik, 1978).Marquis and Qian (2014: 130) note that “respond-ing to government signals and building legitimacywith governmental actors is critical” for firms, as“government action … is as powerful in signalingnorms and standards of legitimacy as it is in for-mally coercing compliance.” This aligns with Bod-dewyn and Brewer’s (1994: 135) notion that “part-nership with governments is more likely to generatelegitimacy … because partnering conveys a deriva-tive ‘seal of approval’ of what international firms aredoing.” Thus, governments and individual politi-cians can and often do signal to the public that afirm’s activities are likely to be beneficial and in linewith societal norms and values.

Proposition 2: The more a government per-ceives a firm’s attributes and actions to bedesirable, proper, or appropriate, the higherthe firm’s legitimacy in the eyes of the public.

In sum, our first two propositions imply a recip-rocal relationship between firm legitimacy as per-ceived by a government and firm legitimacy asperceived by society. However, governments them-selves vary in their legitimacy as viewed by theirown people, other countries’ governments and peo-ple, and international organizations (Bohman andRehg, 1997; Bonardi, Holburn, and Vanden Bergh,2006). Thus, we expect that how society viewsa firm that has gained the stamp of governmentapproval will depend on how that society views thelegitimacy of the government in question.

We expect that a positive endorsement from agovernment may be seen as desirable when thatgovernment is perceived as legitimate, increasingthe firm’s legitimacy in the eyes of society in amanner consistent with Proposition 2. However, ifthe government itself is perceived as illegitimate,the benefit a firm derives from gaining the govern-ment’s seal of approval may be reduced (Bucheliand Salvaj, 2013; Kobrin, 2005). This suggests thatthe positive relationship between a firm’s legitimacyin the eyes of a government and its legitimacy in



the eyes of society proposed in Proposition 2 couldweaken when society perceives that government’slegitimacy to be low.

Proposition 3: The positive relationshipbetween a firm’s legitimacy in the eyes of thegovernment and its legitimacy in the eyes ofthe public weakens when the government’slegitimacy is low.

Firm legitimacy and government motivationto intervene

Like other types of organizations, governmentshave goals and objectives and gather informationto gauge whether they are on track to achievingsuch goals (Cyert and March, 1963; Eisenhardt andZbaracki, 1992; Makhija, 1993). If firms’ actionsor presence in the local economy are seen aslegitimate and beneficial, we expect the governmentwill be considerably less motivated to interfere.Conversely, we expect that a government would feelthe greatest desire to intervene in the operationsof firms it deems less legitimate. This is becausea government, like other organizations, tends toengage in “problemistic search”—when a goal isnot being met or a problem is encountered, itwill be much more motivated to make changesand search for solutions (Cyert and March, 1963;Kelman, 2006; Shrivastava and Grant, 1985). Thus,a firm deemed illegitimate by the government mayexperience increased scrutiny and intervention.

Proposition 4: The lower a firm’s legitimacyin the eyes of a government, the higher thatgovernment’s motivation to intervene in thefirm’s operations.

As mentioned above, governments require legiti-macy for themselves and their policies—they can-not act without expecting consequences (positiveor negative) from their own constituents and stake-holders both at home and abroad (Henisz, Zelner,and Guillen, 2005; Palazzo and Scherer, 2006; Put-nam, 1988; Zelner et al., 2009). How society wouldreact to a policy targeted at changing a firm’s behav-ior or presence is likely to affect whether a gov-ernment would try to craft such a policy in thefirst place (Prno and Slocombe, 2012). Which mem-bers of society are most influential may dependon the nature of the political system in question.

More authoritarian governments tend to be respon-sive to a smaller circle of politically connectedelites (Bucheli and Salvaj, 2013; Langevoort, 2004).More democratic governments may be responsiveto a larger set of interest groups, ranging from themedia, to industry lobbyists, to the broader civilsociety (Brewer, 1992; Putnam, 1988). Thus, weexpect that society’s evaluation of a firm’s legiti-macy to moderate the relationship between the gov-ernment’s own assessment of a firm’s legitimacyand its motivation to intervene in its operations.

Specifically, when societal actors view a firmas less legitimate, we expect a government to bemore likely to intervene, consistent with the logic ofProposition 4 above. A failure to act may anger keyinterest groups and constituents. This may result indamage to the government’s own legitimacy in theeyes of these stakeholders. On the other hand, whensociety views a firm as more legitimate, we expect agovernment to be less motivated to intervene. In thiscase, acting to harm a firm seen as providing societalbenefits may cause key stakeholders to withholdtheir support for the government or to criticizeactively or protest against it. Even if a governmentsees the firm’s presence as providing little benefitto the pursuit of its own goals, societal supportfor the firm will likely create rifts between orwithin the dominant coalitions in the government,resulting in a bias toward the status quo (Lieberthal,1995). This suggests that the relationship proposedin Proposition 4 will become weaker the morelegitimacy a firm has in the eyes of society.

Proposition 5: The positive relationshipbetween a firm’s illegitimacy in the eyesof the government and that government’smotivation to intervene in its operationsweakens when society’s perception of thefirm’s legitimacy is high.

Government motivation to interveneand political risk

If a firm lacks legitimacy, a government motivatedto interfere in its operations will then choose amethod of intervention. Firms often do not knowthe basis or timing of these decisions, meaningthat firms typically do not anticipate such policychanges (Makhija, 1993). Moreover, firms mightnot be aware of how their legitimacy is perceived bygovernments or society, which could lead firms tomiscalculate how likely it is that new policies might



be created or existing policies might be changed.Because intervention changes the “rules of thegame” for firms, it creates an unanticipated shockto their operations and performance (Kobrin, 1979).Consequently, the more motivated a government isto intervene, the greater the likelihood it will takeactions that have an unexpected, negative impact onfirm performance.

Proposition 6: The greater a government’smotivation to intervene in a firm’s operations,the greater the likelihood that it will engagein actions that heighten political risk for thatfirm.

The role of a firm’s country of origin

We argue that the degree to which a government’smotivation to intervene in the operations of a firmtranslates into actual action will be affected by thatfirm’s country of origin—more specifically, by thelegitimacy of the firm’s home country government.Although much of the traditional political risk lit-erature has focused on host country factors (i.e.,bargaining power, political institutions), the liter-ature on legitimacy would also expect the coun-try from which a firm originates to strengthen (orweaken) a government’s motivation to intervene.Kostova and Zaheer (1999: 74) note that the stereo-types and heuristics used to judge MNEs “may arisefrom long-established, taken-for-granted assump-tions” about an MNE’s home country in general, orthat country’s government more specifically. Theyraise the case of Cargill in India, whose “arrivalin India was equated with the arrival of the Britishcolonialists,” leading to social and political frictionthat eventually led to its withdrawal from India.

Conversely, when a firm’s home country govern-ment is perceived as more legitimate, we expect thisto weaken the likelihood that a host government’smotivation to intervene would actually translate intoaction. For example, although seaport managementin the United States is politically sensitive, the U.S.government refrained from intervening in the oper-ations of P&O, a British firm managing U.S. sea-ports. However, as soon as a firm from the UnitedArab Emirates, Dubai Ports World, attempted totake over the management of these seaports fromP&O, the U.S. government intervened to block thedeal. Both firms had good reputations themselves;the only key difference was their country of origin(Gopinath, 2011). Thus, we expect the relationship

proposed in Proposition 6 to weaken when the legit-imacy of a firm’s home country government is high.

Proposition 7: The positive relationshipbetween a host country government’s motiva-tion to intervene in a firm’s operations and thepolitical risk faced by a firm weakens whenthe legitimacy of the firm’s home countrygovernment is high.

GOOGLE, YAHOO, AND A HOLISTICAPPROACH TO POLITICAL RISK

Having further developed the LBV, we want to reit-erate our belief that it complements rather than sub-stitutes for the traditional BPA and the PIA. AsGioia and Pitre (1990: 584) note, “the use of any sin-gle research paradigm produces too narrow a viewto reflect the multifaceted nature of organizationalreality.” For a phenomenon as complex as politicalrisk, we would expect such a multifaceted approachto be particularly valuable. To illustrate this, weturn the spotlight on a timely and important recentexample of political risk: the effects felt by Googleand Yahoo both abroad and at home as a result oftheir activities in China.

Background

After a long period of planning and negotiatingwith the Chinese government, Google created itsChinese domain Google.cn in January 2006. Atfirst, Google was quite successful, quickly grabbingabout one-third of the Chinese search engine mar-ket (Baker, 2006). However, just a few years afterGoogle’s entry, Google became unhappy with theChinese government’s censorship demands and sus-pected that the government might be behind hackerattacks on Google originating from China (Brem-mer, 2010a). As the conflict escalated, Google tooksteps in 2010 to reduce its presence in China afterthreatening to pull out entirely. As a result, Googlehas seen its market share in China plummet. Aftercapturing approximately 35 percent of the marketby the fourth quarter of 2009, Google droppedto under two percent of search engine volume inChina by the start of 2014, falling into fourth placebehind Chinese competitors Baidu, Qihoo 360, andSogou (Investor’s Business Daily, 2014; Market-Watch, 2012).



Google and the Chinese government were onpoor terms almost from the start. Shortly after theinitial bargain was struck, Google indicated that itviewed these terms of entry (particularly those relat-ing to censorship) not as a long-term, contractualagreement but rather as temporary terms that couldand would be revisited, perhaps with “guidance”from the Chinese government (Grogan and Brett,2006). This was likely not received favorably bythe Chinese government, which views censorshipas nonnegotiable. Google further angered the Chi-nese government by explicitly alerting users thattheir search results were being censored in accor-dance with Chinese law. An editorial in the ChinaBusiness Times rhetorically questioned, “Is it nec-essary for an enterprise that is operating within theborders of China to constantly tell your customersyou are following domestic law?” (Pan, 2006).Furthermore, Google aired its disputes with thegovernment publicly, blaming the government foralleged hacker attacks on the company and disrup-tions to its operations in China and threatening toleave the country in a widely read memo (Quelchand Jocz, 2010). Indeed, starting in January 2010the company announced it would no longer censorsearch results on its Chinese search engine.

Yahoo first entered China in 1999. It took amore conciliatory approach toward the Chinesegovernment. Yahoo signed a pledge to self-censorits services in China (Dann and Haddow, 2008)and allegedly provided sensitive information to theChinese government (Scherer et al., 2013). Dannand Haddow (2008: 229) assert that the arrest andimprisonment of two Chinese individuals “was onlypossible because Yahoo chose to give informationabout the identity of its users to the Chinese gov-ernment.”

At the same time, both firms faced considerablescrutiny at home—including calls for boycotts andtwice being called before a Congressional Commit-tee hearing—as a result of their actions in Chinaand their interactions with the Chinese government(Dann and Haddow, 2008). Even though Googlewas praised in some corners for publically con-fronting the Chinese government, others criticizedit for going too far in its complicity with the Chi-nese government (Dann and Haddow, 2008). Forexample, Amnesty International, Reporters withoutBorders, Human Rights Watch, and others accusedGoogle of violating Chinese citizens’ human rightsthrough their censorship program (Brenkert, 2009).In other words, although Google suffered from low

legitimacy in the eyes of the Chinese government,it also suffered from low legitimacy in the eyes ofhome country stakeholders.

Although Yahoo’s legitimacy in China remainedrelatively high when compared with Google,Yahoo’s legitimacy lowered back home as a resultof its activities in China. Despite—or perhapsbecause of—smoother relations with the Chinesegovernment than Google, Yahoo faced intensecriticism at home. As an example, the chairmanof the U.S. House Foreign Affairs Committee saidof Yahoo, “While technologically and financiallyyou are giants, morally you are pygmies” (NewYork Times, 2007). Due in part to these increasingconflicts with home country stakeholders andpressures from shareholders, Yahoo exited Chinain late 2013.

Actions by home and host country governmentsresulted in negative performance outcomes for thesefirms, representing a clear case of political risk.Moreover, several interesting and relatively uniqueaspects of these firms’ experiences are of note. First,the cross-border nature of these firms’ political riskstands in contrast to the traditional focus in theliterature on the risk faced by firms in a single hostcountry. Second, where the literature has generallyconsidered the home country government’s roleas supportive (Ramamurti, 2001), in this case thehome government actually represents a source ofpolitical risk for both firms. Third, the high-techindustry context stands in contrast to the traditionalfocus on extractive or infrastructure firms. Preciselydue to the nuanced and complex nature of thesefirms’ experiences, we argue that each of the threeapproaches to political risk can provide valuableinsights. Moreover, we argue that the experiences ofGoogle and Yahoo suggest avenues for conceptualdevelopment in each area.

Extending the political institutions approach

The PIA is particularly strong at identifying whyChina would be an inherently risky place to do busi-ness (Henisz, 2000). With its single party systemand lack of checks and balances, there is little tostop the government from changing policies. Thus,the PIA can explain why the political institutionsof China would allow its government to impose itswishes on firms. Note, however, that the PIA aloneis not adequate to explain why even within the samecountry and industry, two firms in similar circum-stances would face considerably different levels of



risk: Yahoo faced noticeably less hostile relationswith the Chinese government than Google did.

With respect to these firms’ home country risk,the PIA is less able to explain why the United States(which is characterized by a large degree of politi-cal constraint) would represent a significant sourceof political risk for these firms as well. In fact, inthe case of Yahoo’s decision to take a more con-ciliatory approach toward the Chinese government,it appears that its home country was as great—ifnot a greater—a source of political risk as its hostcountry. Yahoo is not unique in this regard. Similarissues arose for Talisman, a Canadian oil companyaccused of complicity in human rights violations inSudan and sued in U.S. courts under the Alien TortClaims Act (Kobrin, 2005). Specifically, Talismanwas accused of allowing the Sudanese governmentto use its airstrip to “stage military action againstboth rebel and civilian targets” (Kobrin, 2005: 207).Talisman’s close relationship with its host gov-ernment resulted in smooth operations abroad inSudan, but “considerable opposition from both theUnited States and Canadian governments” as wellas “a coalition of advocacy groups and NGOs,”resulting in a major financial loss (Kobrin, 2005:204). These examples suggest that closer ties to amore authoritarian government may result in greaterrisk not only in that country (as the PIA would tradi-tionally expect), but also at home or in other coun-tries if the “taint” of that government is perceived torub off onto a firm.

Extending the bargaining power approach

The BPA can shed light onto several key facets ofthe experiences of Google and Yahoo as well. Inparticular, a powerful host country would be in abetter bargaining position to gain what it desires.Moreover, the presence of capable, local playersin this industry (e.g., Baidu, Qihoo 360) certainlygave the Chinese government leverage. However,the BPA seems less well-suited to explain otherelements of Google and Yahoo’s experiences. Thisis certainly the case for the political risk faced bythese firms at home, but is also true with respectto their political risk abroad in China. Google andYahoo did not have large fixed investments “heldhostage” by the Chinese government and did notexperience technological obsolescence either—thetwo key BPA mechanisms triggering political risk.On the contrary, Google’s bargaining power mighthave increased once it entered China, as it provided

a valuable and popular source of innovation andtechnology with a large and growing market share,and exiting might have resulted in an embarrass-ment to the government (Chao and Back, 2010).Also, despite the traditional expectation that morepowerful firms from more powerful countries wouldexperience less risk (Ramamurti, 2001; Vachani,1995), this was not the case for Google.

Just as the experiences of Google and Yahooshed some light on the strengths and weaknesses ofthe BPA, they also have implications for its futuredevelopment. The BPA has traditionally assumedthat firms with large amounts of fixed assets (such asthose in extractive and infrastructure industries) aremost vulnerable to expropriation. However, the caseof Google and Yahoo suggests that the ability towithhold information about and access to a marketcan be a powerful asset for governments to lever-age. In particular, this would be a valuable source ofbargaining power vis-à-vis information-hungry ser-vice firms. Also, the traditional BPA assumes thatknowledge spillovers are the primary mechanismfor local firms to catch up to foreign adversaries(Poynter, 1986; Vernon, 1971). However, the rise ofBaidu and other firms suggests that the ability oflocal firms to innovate on their own cannot be over-looked. This suggests that, in contrast to traditionalthinking, knowledge spillovers may be a sufficientbut not a necessary condition for firm’s bargainingpower to obsolesce.

Extending the legitimacy-based view

We argue that the LBV can also provide uniqueinsights into the political risk faced by Google andYahoo above and beyond those provided by theBPA and the PIA. Actions and attributes of thesefirms affected their legitimacy as perceived by keystakeholders both at home and abroad. Through itsconflicts with the Chinese government over cen-sorship, Google was likely lowering its pragmaticlegitimacy in the eyes of its host government. Inter-estingly, all of these actions—credibly threateningto withhold resources, attempting to set public opin-ion against the Chinese government, and movingkey operations to Hong Kong—would traditionallybe seen as increasing Google’s bargaining power.However, these were all moves that directly causedGoogle to lose legitimacy (Grogan and Brett, 2006).In short, these actions increased Google’s politi-cal risk. This supports Henisz and Zelner’s (2005:



376) argument that “investors [should] exercise cau-tion in exploiting their initial bargaining power”and focus not only on bargaining power but alsoon legitimacy. Google’s actions might have reducedits pragmatic legitimacy with the general pub-lic in China as well, if using Google becamemore technically difficult—thanks to the govern-ment’s heightened blockage of Google sites. Thiscould have shifted the cost-benefit analysis of usingGoogle for the average citizen, further hasteningthe company’s drop in market share in mainlandChina.

With respect to moral legitimacy, the idea that thedegree to which a firm is seen as pursing “sociallyacceptable goals in a socially acceptable manner”(Ashforth and Gibbs, 1990: 177) is important fitswith the criticisms faced by companies such asGoogle and Yahoo. Unlike Google, Yahoo was con-siderably more cooperative with the Chinese gov-ernment; for example, it continued to participatein the self-censorship program mandated by thegovernment and allegedly turned over informationabout Chinese users to the government (Dann andHaddow, 2008). While these actions likely gainedYahoo greater pragmatic legitimacy in the eyes ofthe Chinese government, these same actions likelydecreased its moral legitimacy at home—resultingin concerns raised by NGOs, the media, and thegeneral public in the United States (Brenkert, 2009;Dann and Haddow, 2008). Notably, these stakehold-ers were not directly impacted by these compa-nies’ actions overseas. Instead, it was the percep-tion that these companies’ activities in China werenot in accordance with American norms and valuesthat earned them censure from these home countrystakeholders (Brenkert, 2009).

It is more difficult to gauge Google and Yahoo’smoral legitimacy in China, due to the lack oftrustworthy research and opinion polls. On theone hand, some individuals in the host countrymay have appreciated the attempt of Yahoo andGoogle to provide additional information, albeitcensored. On the other hand, others in China mayhave had reactions similar to these companies’home country stakeholders, who criticized theircomplicity with the Chinese government. More-over, Google’s public protestations possibly hurtits cause as well. For example, an editorial in theChina Business Times compares Google to “anuninvited guest telling a dinner host the dishesdon’t suit his taste, but he’s willing to eat them as ashow of respect to the host.” If a foreign company

like Google is viewed as violating the sociallyconstructed norms and expectations regarding howa guest should behave toward its host, this wouldlikely diminish its moral legitimacy in the hostcountry.

Regarding cognitive legitimacy, even thoughGoogle rapidly gained market share in China from2006 until 2010, its relatively short-lived tenure aswell as the presence of domestic competitors likelyprevented it from gaining the “taken-for-granted”status that it has achieved in other countrieswhere its dominance has resulted in “Google”representing not only a noun, but also a verb (suchas “Google it”). The quick rise and quick fallof Google in China indicates a lack of cognitivelegitimacy from the perspective of the generalpublic in China. For instance, a critical opinionpiece in the People’s Daily argued that Google “isnot just a search engine tool—it is a tool to extendAmerican hegemony” and compared Google toanother instrument of economic colonialism bycalling it “America’s British East India Company”(Zheng, 2011). While it is likely that not all Chinesecitizens agreed, many with a more nationalist bentlikely sided with their own government againstGoogle. This would make it very difficult, if notimpossible, for firms like Google and Yahoo to beviewed as “necessary” or “inevitable”—crucialingredients underpinning cognitive legitimacy (Liuet al., 2014).

These shifts in legitimacy help explain not onlythe motivation, but also the timing of governmentintervention faced by these firms both at home andabroad. Interestingly, while the political risk facedby Google and Yahoo in China has garnered con-siderable attention (especially in the period dur-ing Google’s publicized conflicts with the Chinesegovernment), these firms had been experiencingpolitical risk at home years earlier as a result oftheir actions in China. Moreover, being a legiti-mate presence in one market seemed to backfirein the other on more than one occasion: Yahoo’sattempts at conciliation with the Chinese govern-ment earned it censure at home, while Google’sprominent status at home raised suspicions about itsappropriateness overseas. In the end, the presenceand activities of firms such as Google and Yahooin China seem to have resulted in diminished legit-imacy both at home and abroad, contributing to aloss of market share, wealth, and goodwill due topolitical risk.



DISCUSSION

Heightening political risk, government interventionis driven by a complex web of economic, social, andpolitical concerns. We have argued that the BPA,PIA, and LBV each provide key insights on thesefactors. Individually, however, each has limitations.The BPA struggles to explain why governments areselective in their intervention, even when they havethe power to do so (Henisz and Zelner, 2005). ThePIA can be criticized along similar lines, as thelack of structural constraints in a country’s politicalinstitutions does not lead inevitably to political risk.The LBV helps to address the concern that the BPAand PIA are undersocialized and can help accountfor why a government may or may not desire tointervene. Yet, the LBV also has limitations: alone,it cannot account for whether a government hasthe power or ability to intervene. Individually, eachtheory is necessary but not sufficient to explainor predict political risk. Instead, we argue that amultiparadigmatic approach that incorporates mul-tiple conceptual perspectives and considers bothhome and host country factors will result in betterexplanatory and predictive power for the politicalrisk faced by firms in a broad array of industries inthe developing and developed world alike.

While Google and Yahoo represent relativelyunique cases, they are far from alone. We arguethat a more holistic approach provided by usingmultiple theoretical lenses can help to explain bet-ter and predict many different firms’ political riskexperiences. Table 2 indicates ways that the threeapproaches together can contribute to a holistic,integrative understanding of the political risk phe-nomenon.

Contributions

At least three contributions emerge from this article.First, both the government’s ability (the strengthsof the PIA and BPA) as well as its motivation tointervene (the strengths of the LBV) are now bet-ter accounted for. For intervention to occur, bothforces must be present. A government with moti-vation but not ability will be thwarted in its desireto change the status quo. Conversely, a governmentwith the ability but not the motivation to intervenewill not feel compelled to do so. Thus, these threeconceptual lenses can paint a more nuanced andaccurate picture of a government that intervenesselectively rather than indiscriminately—more in

line with how governments actually act in a glob-alized environment. We see this play out in the caseof Google and Yahoo, where the PIA and BPA doa good job of explaining why the Chinese govern-ment would have the ability to intervene in eitherfirm’s operations, but the LBV is needed to explainwhy the government was more motivated to inter-fere with Google than Yahoo. Likewise, at home,the U.S. government had both the leverage and themotivation to call both companies to task for theiractivities overseas.

Second, by considering issues of power, institu-tions, and legitimacy concurrently, a more holisticapproach allows for greater generalizability acrossindustries and countries (Peng, Wang, and Jiang,2008). This is a key development for the polit-ical risk field, given the increase in FDI acrossall sectors of the global economy—extractive,manufacturing, and services alike—as well as theincreasingly complex patterns of FDI around theworld (Boddewyn, 2014; Young et al., 2014). Asthe case of Google and Yahoo suggests, the assump-tion that service industries are largely immune frompolitical risk (Jones, 1995) no longer holds. Thisis a critical issue, as service firms now undertakemore than 60 percent of all FDI worldwide (Kolstadand Villanger, 2008; The Economist, 2013).

Google’s industry was particularly sensitivein China because search engine firms and otherinformation technology firms generate and controllarge sources of information by their very nature.However, China is not alone in this regard. Govern-ments in developing and developed countries alikeare sensitive about what information is availableto what parties. This is reflected in laws regardingcensorship and limiting foreign operations inmany information-related service sectors aroundthe globe. Events such as the Wikileaks and theSnowden revelations of the U.S. National SecurityAgency’s surveillance have only served to fan theflames of such concerns. In addition to China,in Europe, Brazil, and elsewhere, citizens andgovernments are now protesting the surveillanceactivities and involvement of U.S. firms, creatingadditional scrutiny—and political risk. Thus, asfirms in industries such as search engines, telecoms,and financial services continue to expand globally,the nature of their business is likely to result inincreased tensions with governments around theworld (The Economist, 2013).

Finally, a holistic approach allows us to considerhow a firm’s home and host country contexts affect



Table 2. A comprehensive framework for a holistic understanding of political risk

Bargaining powerapproach (BPA)

Political institutionsapproach (PIA)

Legitimacy-basedview (LBV)

Primary focus The influence of fixed assetsand knowledge spilloverson the balance of powerbetween governments andfirms.

The structural attributes of acountry’s politicalinstitutions that mayconstrain a government’sability to change policieseasily.

How the legitimacy of a firmmay influence agovernment’s motivationto intervene in itsactivities.

What this approach cancontribute to a holisticunderstanding of politicalrisk

Helps to understand thepower dynamics betweenactors with imperfectlyoverlapping wants andneeds, such asgovernments and firms,and how these dynamicscan change over time.

Recognizes that “thegovernment” is not aunitary actor, but onecomprised of differentbranches and differentactors who wield thepower to act as well as thepower to veto actiondesired by others.

Helps to unpack the “blackbox” of what influencesgovernments to desire tointervene in the operationsof some firms but notothers.

Future researchopportunities that areimplied by a holisticapproach to understandingpolitical risk

Understand when/how theexercise of bargainingpower may weakenlegitimacy.

See how the preferences ofactors at key “veto points”may change depending onthe firm, industry, or issuearea in question, due tolegitimacy issues.

Seek to understand strategiesorganizations may followto gain, maintain, andrepair legitimacy in theeyes of the governmentand societal actors.

Explore how firms mayincrease their bargainingpower over time, such asthrough increasedlegitimacy.

Explore whether changes ina country’s politicalconstraints impact firms’bargaining power orlegitimacy.

See how firms managedifferent evaluations oftheir legitimacy bydifferent actors bothwithin and acrosscountries.

Examine how the sources ofa firm’s bargaining powervis-à-vis a home countrygovernment may differfrom those traditionallyconsidered vis-à-vis a hostcountry government.

Examine how attempts byfirms to change politicalinstitutions may affecttheir legitimacy.

Examine how legitimacymay be used as a source ofpower for firms in theirrelations withgovernments.

its political risk. The case of U.S. search enginefirms such as Google and Yahoo is particularlyinstructive: due to their actions in China, they facedpolitical risk both abroad and at home. Overall,moving past the traditional focus on the host countryto also incorporate the home country will enhancethe predictive and explanatory power of politicalrisk research. The complex interactions betweenhome and host country factors, as well as thepotentially different evaluations of legitimacy byactors in these two environments, may indicate howdifficult high legitimacy at home and abroad maybe for firms to attain. As legitimacy is an importantinformal institutional driver (Suchman, 1995), theLBV helps to extend the institution-based view

(Meyer and Peng, 2005; Peng et al., 2008) andthus our understanding of how informal and formalinstitutions both at home and abroad affect firms’political risk (Peng, Sun, and Blevins, 2011).

Practical implications

Along the three dimensions of legitimacy—pragmatic, moral, and cognitive—at least threepractical implications emerge. In terms of prag-matic legitimacy, foreign investors and managersneed to demonstrate and disseminate the benefitsthey bring to the host country (e.g., jobs, taxes,and technology) through tactics such as lobby-ing, advertisements, and direct communication. To



show direct, pragmatic benefits, firms may also takeactions consistent with government preferences(Marquis and Qian, 2014). For example, in China,when the government calls for firms to “go west,”most multinationals hesitate. However, TexasInstruments (TI) has positively responded to sucha call by establishing a major semiconductor plantin Chengdu. TI has not only acquired significantfirst mover advantages in Western China, but hasalso earned a great many kudos throughout China(China Daily, 2013). Such an action thus enhancesTI’s legitimacy in the eyes of the government andthe public, ultimately reducing its political risk.

To gain moral legitimacy, firms may participatein high-profile disaster relief efforts (as firms haverecently done after hurricanes, droughts, tsunamis,and other humanitarian crises around the world,ranging from developed countries such as theUnited States and Japan to developing regions suchas Africa and Southeast Asia) (Baker, 2009; Bakerand Hill, 2013). Of course, managers need to makesure that their firms are perceived as doing “the rightthings for the right reasons,” rather than as a sym-bolic gesture or a means to increasing profitability(Suchman, 1995). Firms that are seen to be engagedauthentically with the communities they support areless likely to be perceived as purely profit-motivatedin their response to disasters. For example, Proc-tor and Gamble’s “Tide Loads of Hope” programis likely to be perceived as authentic and support-ive when it supports impacted communities, butit is unlikely to be effective—and may trigger abacklash—when it is seen as a ploy to sell morelaundry soap (Baker et al., 2014).

Enhancing cognitive legitimacy is inherentlychallenging, especially for foreign firms, whichmust overcome liabilities due to their foreignnessor their country of origin (Jimenez, Luis-Rico,and Benito-Osoria, 2014; Kostova and Zaheer,1999; Stevens and Shenkar, 2012). It will be along-term endeavor leveraging MNEs’ long tenureof operating in a host country environment (Heniszand Zelner, 2005). For example, Austrian energydrinks maker Red Bull not only sponsors sportsteams and car and motor cycle race teams aroundthe world, but it also sponsors a prime time programon the dedicated military channel of China CentralTelevision (CCTV). “Red Bull salutes the Chinesemilitary,” exclaims the Red Bull commercial everyweekday evening on CCTV. Because typically onlyChinese firms would air commercials to sponsorCCTV’s military channel, a lot of well-educated

Chinese college students whom we interviewedhave (mistakenly) taken for granted that Red Bullis a Chinese firm. While this may be an extremecase, the necessity to build cognitive legitimacy bydemonstrating loyalty to a country’s most popular(or most sacred) institutions such as sports teamsand the military is clearly shown.

Future research directions

At least four promising avenues for future researchemerge. First, continued conceptual developmentwithin each of the three conceptual approaches isneeded. For instance, opportunities exist for furtherconceptual development in the BPA, perhapsstarting with the need to revisit several commonassumptions of the theory. For example, the BPAtraditionally assumes that, over time, a host govern-ment’s bargaining power will increase and that itwill then unilaterally change the terms of a deal witha foreign firm. In the case of Google, it is the foreignfirm that threatens not to abide by the initial bargainas a result of increased bargaining power afterentry—an inversion of this classic BPA assump-tion. There is also a need for a better understandingof the antecedents of MNEs’ bargaining power athome, as these are likely to differ in some casesfrom those overseas. Moreover, although knowl-edge spillovers play a key role in traditional BPAtheory, the examples of Google and Yahoo suggestthat the role of these spillovers and their relationshipwith bargaining power obsolescence may need to bereconsidered in a globally competitive environment.

Second, we believe that a multiparadigmaticapproach creates opportunities to understand bet-ter how these conceptual approaches complementeach other. While the three approaches may notalways carry equal weight in all situations, theyare all needed to have a complete picture of firms’political risk. For example, the BPA emphasizesthat firms should maximize and act on their bar-gaining power. Yet the LBV suggests that lever-aging bargaining power vis-à-vis a governmentmay result in short-term gains but long-term dam-age to a firm’s legitimacy in that country (Heniszand Zelner, 2005). Likewise, attempts to changeor influence the political institutions of a coun-try may not only increase a firm’s ability to pre-vent political changes in the short run, but mayalso increase the likelihood of future conflicts ifits actions are seen as unwelcome meddling indomestic politics (Bucheli and Salvaj, 2013). Also,



although the PIA has acknowledged that differencesin preferences held at key veto points can constraina government’s ability to intervene (Henisz and Zel-ner, 2006), such political constraints are usuallytreated as a country-level attribute that is constantacross issue areas. Yet, the political science litera-ture argues that political dynamics within a coun-try differ greatly across issue areas (Brewer, 1992).A holistic approach may shed light on how prefer-ences of different governmental actors can align orclash with respect to how given firms or industriesare perceived, resulting in within-country variationin political constraints (Lieberthal, 1995).

Third, political risk theory continues to evolvefrom a narrow focus on a dyad between a foreignfirm and a host government in the early days ofthe BPA to a broader, multilevel, and multiactorconceptualization that is beginning to consider theimpact of society on business—and business onsociety (Boddewyn, 2014). By widening the focusof political risk studies beyond that of a single hostcountry, the LBV has the opportunity to informthe complex, nuanced, and global interplay of afirm’s political risk. The BPA has traditionallylooked at economic resources as a source of firmbargaining power (Makhija, 1993; Vachani, 1995).Yet, leveraging the ability to provide a socialbenefit as a bargaining chip in negotiations with agovernment is not inconsistent with the BPA focuson resources and capabilities one party can providethat the other desires.

Finally, the holistic approach taken here hasimplications for the specific mechanisms drivinggovernmental action as well as the issue of plural-ism in political risk research. The BPA traditionallyfocused on “the government” as a single actor. How-ever, the development of the PIA and more recentlythe LBV suggests the importance of recognizingthat, like any organization, the government is both acollective actor as well as comprised of individualsand coalitions of individuals with different prefer-ences and priorities (Cyert and March, 1963). In thisarticle, we note that governments and society aremade up of many actors and have suggested a num-ber of ways that governmental and societal actorsmay act that influence a government’s motivation tointervene in firms’ activities.

CONCLUSION

In the twenty-first century, political risk haschanged in its nature but not its importance. We

have argued that political risk does not simply“happen” to firms as a deterministic result oftheir initial bargaining position or country-levelattributes, but rather that firms’ actions can greatlyinfluence their bargaining power, legitimacy, andthe political institutions with which they interact. Toa large extent, firms can create—or mitigate—theirown political risk. In conclusion, scholars interestedin political risk may yield larger dividends if theycan leverage a more holistic approach with a newfocus on the intriguing but underexplored aspectsof legitimacy-building—both at home and abroad.

ACKNOWLEDGEMENTS

This research was supported in part by the Collegeof Business and Economics at Lehigh University,the Natural Science Foundation of China (NSFC71222202, 71172185, 71132006), and the JindalChair at UT Dallas. An earlier version was pre-sented at the Academy of Management (Boston,August 2012) and the Academy of InternationalBusiness (Washington, D.C., July 2012) annualmeetings. We thank Associate Editor Steven Floyd,the two anonymous SMJ reviewers, participants inthe Singleton Seminar at Lehigh University, andAOM and AIB reviewers and participants for theirhelpful comments.

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