Abstract
This paper examines how the external information environment in which foreign subsidiaries operate affects the investment decisions of multinational corporations (MNCs). We hypothesize and find that the investment decisions of foreign subsidiaries in country-industries with more transparent information environments are more responsive to local growth opportunities than are those of foreign subsidiaries in country-industries with less transparent information environments. Further, this effect is larger when (i) there are greater cross-border frictions between the parent and subsidiary, and (ii) the parents are relatively more involved in their subsidiaries’ investment decision-making process. Our results suggest that the external information environment helps mitigate the agency problems that arise when firms expand their operations across borders. This paper contributes to the literature by showing that the external information environment helps MNCs mitigate information frictions within the firm.
Highlights
This paper studies the role of the information environment in helping multinational corporations (MNCs) monitor and evaluate their subsidiaries’ investment decisions
Untabulated results indicate that MNCs in our sample hold three foreign subsidiaries on average, which translates into 13.2 subsidiaryyears
Prior research emphasizes that crossborder frictions lead to an increase in information frictions between parents and their subsidiaries, which creates a demand for information that parents can use to monitor and evaluate their subsidiaries
Summary
This paper studies the role of the information environment in helping multinational corporations (MNCs) monitor and evaluate their subsidiaries’ investment decisions. 1 Prior research emphasizes that cross-border frictions increase information asymmetry between parents and their subsidiaries, which increases the cost of monitoring within MNCs. We effectively compare the investment behavior of two subsidiaries located in the same country but vary in the levels of frictions between the parent and subsidiary As a result, these tests further alleviate any concerns related to cross-country differences in the subsidiary’s investing/institutional environment and measurement error in our proxies. Prior studies examine how firms deal with agency frictions when operating across borders and find that MNCs adjust their ownership structure, compensation contracts, and organizational design to mitigate these frictions (Zaheer 1995; Smith 2001; Desai et al 2004; Antras et al 2009; Siegel and Larson 2009) We extend this literature by exploring a unique dataset on subsidiary-level investment decisions by MNCs around the world. Our results suggest that the external information environment helps mitigate the agency problems that arise when firms expand their operations across borders
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