National Culture Impacts Internalization Benefits in Cross-Border Mergers and Acquisitions

Abstract

We examine how cultural distance between bidder and target countries impacts internalization benefits in cross-border mergers and acquisitions. We expect to find internalization benefits when differences in national culture are great. This is plausible if contracting (e.g. licensing and franchising) is less expensive in culturally similar climates. If this is true, an increasing difference between two countries' cultures is likely to make contracting more costly and the purchase of a foreign company more attractive. The benefits from internalization, therefore, should increase with cultural distance. Cultural differences have previously been proxied by religion (La Porta, Lopez-de-Silanes, Shleifer and Vishny (1999)), language (Stulz and Williamson (2003)), and law (Licht, Goldschmidt and Schwartz (2005)). The most recent literature, however, has recognized the value of Hofstede's cultural dimensions (Benou, Gleason, and Madura (2007), and Licht et al. (2005)). In his seminal work, Hofstede found four distinct cultural dimensions: Power Distance Index (PDI), Individualism (IDV), Masculinity (MAS), and Uncertainty Avoidance Index (UAI). These cultural dimensions allow us to measure the similarity between national cultures. Our results suggest that shareholders are initially concerned about the acquisition in culturally distant countries, which outweighs any potential benefits from internalization. However, in the long-run we observe a significant reversal of these findings. In the second and third year following the announcement, greater cultural distance has a positive impact on the operating performance of bidder's with high intangibles, suggesting that significant internalization benefits from technological know-how are realized when cultural distance is great. Long-run calendar-time returns further support this finding. Our results add to the existing literature by highlighting the importance of cultural distance when examining internalization benefits.