Abridged Note for Class Illustration Purpose

Country Resource Environments, Firm Capabilities, and Corporate Diversification

Strategies
Journal of Management Studies 42:1 January 2005 0022-2380
William P. Wan, Thunderbird, Global Business Department, Glendale, Arizona
You can download the full paper in Ebsco

Despite their significant contributions to the corporate diversification literature, the extant
approaches are largely developed in the context of US firms. Thus, our knowledge about
corporate diversification, theories of which are developed institutionally strong economies, is
likely to be limited. With respect to ‘focus and Trade off’ being perfect strategies in arms length
developed economies; we may need major modifications in many parts of the world where
market systems deviate significantly from perfect market assumptions. For example, diversified
business conglomerates often dominate the competitive landscape in many countries outside the
United States (Khanna and Palepu, 1997). This phenomenon seems to contradict the extant
theoretical argument that high levels of product diversification are detrimental to firm
performance. Similarly, theories on international diversification have largely been developed in
the context of the developed countries (Tallman and Shenkar, 1990); however, whether such
theories would apply to other countries remains uncertain.

I adopt a cross-country comparative approach that has the potential to offer an integrative
explanation for firm capabilities and corporate diversification strategies in ways that differ from
the extant approaches. Following Wan and Hoskisson (2003), two major categories of country-
level resources are distinguished: factors (e.g. physical infrastructure) and institutions (e.g. legal
system). Variations in factors and institutions constitute different sets of opportunities and
constraints among home country environments. Viewed in the light of the resource-based view
(RBV) (e.g. Barney, 1991), I contend that when resources are plentiful in the environment, firms
have easy access to country resources and competitive advantages would mainly depend on
firms’ market capabilities to compete in the marketplace. Alternatively, when the country
resource environment is deficient, firms would find it more beneficial to emphasize the
development of non-market capabilities to secure political advantage or to better allocate scarce
resources internally. Market capabilities refer to capabilities that allow firms to compete in the
marketplace directly. Non-market capabilities refer to capabilities that allow firms to influence
the public policy or to mitigate market failures (Hillman and Hitt, 1999; Williamson, 1975).
Because competitive success is unlikely to hinge on the same set of factors in dissimilar country
resource environments, firms would emphasize developing different types of capabilities. On the
basis of this argument, I further conceptualize product and international diversification strategies
as strategic actions, based on firms’ market or non-market capabilities, to facilitate the acquisition
or utilization of country-level resources for developing competitive advantages in specific
country resource environments. Accordingly, firms would realize better performance when
pursuing different corporate diversification strategies in dissimilar country resource
environments.

In these economies, such as the USA and the UK, country resources, that is factors and
institutions, are abundant and well developed. Abundant factors imply that competitive
advantages would be mostly based on how well firms can maximize the benefits provided by
those country resources. Abundant institutions enable firms to enjoy specialization benefits
facilitated by the availability of market transaction mechanisms. Because most firms have easy
access to various kinds of factors, they possess the ability to consistently challenge one another’s
competitive positions. Strong institutions, such as antitrust regulations, facilitate the entrants of
new firms, posing constant challenges to industry incumbents to improve their products. Well-

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developed capital market has the ability to assess business operations and supplies needed capital
for promising projects. Furthermore, an active external market for corporate control facilitates the
acquisition of inefficient firms (Walsh and Seward, 1990). High levels of factors, allowing firms
to develop specialized market capabilities and subsequently transact with other efficient
producers at low costs, compel firms to develop expertise in specific product markets. Domestic
competition demands that firms keep improving their competitiveness to avoid deterioration of
market positions or the innovative edge to competitors. Therefore, firms are required to keep
sharpening their market capabilities, such as R&D skills, marketing expertise, or continuous
process improvements, to meet constant challenges.

Abundant country resources allow many firms in these economies to command competitive
advantages over most firms in other economies. Pursuing international diversification helps
leverage firms’ competitive advantages in many countries.

Because the emerging economies, such as Indonesia, Russia, Ukraine, and Venezuela, are
relatively deficient in most types of country resources (both factors and institutions), possession
of resources becomes particularly crucial for firm competition. Not only do insufficient factors
limit country resource availability, but inadequate institutions also mean that firms (or
entrepreneurs) that potentially have better transformational capabilities may experience difficulty
in obtaining needed country resources.

In these economies, a firm’s competitive advantage can be secured by constricting competitors’

inherent capabilities by monopolizing country resources. Rather than improving production
efficiency, firms can erect institutional barriers to entry, barring competitors from the resource
environments, in order to enjoy prolonged competitive advantages. This is especially the case
because the government often assumes a more direct role in resource allocation in these
economies. For example, a firm can succeed in competition by securing monopoly status in
certain product markets, thus limiting competitive entry without the need to improve market
capabilities in technological expertise or marketing skills. Gasprom, a natural gas monopoly in
Russia, represents a good example. Gasprom is described by critics as ‘a caldron of secrecy,
nepotism and corruption’. Apparently relying on its political connections in erecting institutional
barriers, it has been able to maintain monopolistic status amid calls for more competition
(Chazan, 2001). When facing the threat of foreign entry, these firms may resort to lobbying the
government to impose restrictions on foreign direct investments or at least to impose behavioural
guidelines to be observed by foreign entrants (Schuler et al., 2002).

In addition to political influence, these firms may overcome external capital market failures by
enjoying the benefits of internal financial economies by allocating capital within firm more
efficiently (Hill and Hoskisson, 1987; Williamson, 1975). Because of inadequate transaction
mechanisms in these economies, firms in these economies have the incentive to transact among
internal subsidiaries or related companies to enjoy internal product market. Substituting for an
inactive external labour market that characterizes these economies, firms often can create an
internal labour market by training and allocating talented employees internally, thus maximizing
their contribution (Khanna and Palepu, 1997).