Multinational Company : 8 important Determinants, Advantages and Risks

Definition of a multinational corporation

A Multinational Firm or Transnational Corporation is a private or public commercial organization that operates on a global scale. It carries out Foreign Direct Investment (FDI) and has establishments in the form of subsidiaries, which it controls completely or in part, in several countries or even on a global scale, but whose management and administration are centralized.

A multinational company consists of a parent company that owns or controls more than 10% of its subsidiaries located abroad. It is capable of developing a global strategy.

It should be noted that the decision-making centre remains in the country of origin even if the turnover achieved there is less than the total achieved in other countries.

Type of multinational firms

Multinational companies form and grow through acquisitions, mergers, and strategic alliances. They are conglomerates that accumulate significant amounts of capital and resources.

Thus, multinational firms take several forms :

• Companies that carry out the same activity in several foreign countries.

• Firms that carry out a geographical distribution of their activities on the basis of the international division of labor.

• Companies that distribute according to the different stages of production.

Forms of investment by multinational firms 

Multinational firms access the global market in different ways:

1. Creation of a new business or the acquisition of an existing business;
2. Foreign direct investment (FDI), which consists of purchases of company securities;
3. Relocation, through the closure of a production unit located in one territory accompanied by its reopening in another territory;
4. Outsourcing, i.e. entrusting part or all of an activity or service to a foreign subcontractor whose production costs are lower;
5. Franchise, through the sale of the right to use know-how in the form of the rental of patent licenses or in the form of a franchise contract.

Determinant of a multinational firm

In general, a company has interest in expanding abroad to achieve one of these objectives:

1. The search for direct access to raw materials;
2. The need to circumvent certain barriers to trade such as import tariffs;
3. The search for external outlets following the intensification of competition on the domestic market;
4. Conquering new markets;
5. Achieving economies of scale;
6. The search for lower production costs, particularly labor;
7. The elimination of transport costs;
8. The search for less restrictive legislation than that of the country of origin.

Advantages of multinational firms

Although multinationalization is a source of risks and transaction costs for the firm, it nevertheless provides it with numerous advantages:

• Reduce production costs : by using a country where labor is cheap to carry out certain tasks in its production process.

• Savings of scale : Developing a product is a long and costly process in terms of research and development, design and fixed investment, for this reason the multinationalization of the company allows it to benefit from economies of scale through its multiple locations.

• Bypassing customs barriers : One of the primary benefits of FDI is to eliminate transportation costs and circumvent customs barriers.

• Strategic value of FDI : Strategic considerations may come into play when choosing Foreign Direct Investment. Thus, FDI may sometimes be used by certain firms to prevent the emergence of local competitors.

• Access to inputs : Multinational companies can establish themselves abroad because input prices are lower there. However, even if the price of inputs is similar to that of the country of origin, it remains interesting for the firm to have access to several input markets for one reason : to have access to alternative sources of inputs allowing to modify the bargaining power of the firm in its relations with its suppliers.

• Improve economic efficiency : by the gain due to the reduction in production costs.

• Access specific assets : through mergers and acquisitions.

Risks of multinational firms

The establishment abroad of certain production sites of the multinational is the origin of new costs that a national firm does not incur.

• Internal organization costs : The large size of the multinational generates monitoring costs on agents to avoid any loss of control of the organization.

A second organizational cost relating to difficulties due to cultural, legislative and linguistic differences, it represents the cost of adaptation.

• Nationalization : The subsidiaries created may be nationalized with compensation chosen unilaterally by the host country or be heavily taxed after their installation.

• Less protective legislation : in force in developing countries, particularly with regard to intellectual property rights for exported technologies.

• Expropriation : One of the significant risks for a firm setting up abroad is the risk of discriminatory treatment that it may suffer from the local authorities of the host country.

• Intellectual property protection and technology transferv : By opening a production site abroad, a multinational firm must train staff locally and pass on some of its expertise. Once trained, these staff may leave the firm to work for other competing firms or create competing firms.

Positive impact of the establishment of the multinational firm on the host country

The establishment of Multinational Firms generates several positive effects for the host country:

• It accelerates the development of exports from the host country.
• Through outsourcing, it enables the creation of jobs in local subsidiaries or with subcontractors.
• It contributes to the transfer of skills which ensure the training of local workers and increase their productivity which is reflected in the salary increase;
• It promotes technology transfers to host countries.
• It generates increased competition which encourages local firms to improve their competitiveness to face competition from multinational corporations through adoption of their technologies;
• It contributes to the economic growth of the host country by developing the local economic fabric through the provision of capital.

Negative impact of the establishment of the multinational firm on the host country

The establishment of MNC can have several negative effects for the host country.

• It can stifle competition by buying out or eliminating local firms. Moreover, firms that establish themselves in a poor country force the least efficient local companies to go bankrupt.

• It encourages competition between host countries. To attract multinationals, each country lowers its tax and social security contributions, thereby reducing revenue for the state budget.

• It leads to the degradation of environmental conditions in host countries by exporting their polluting industries.

• It participates in “environmental dumping”, which involves taking advantage of differences in standards to reduce production costs, but this increases pollution in host countries and globally.

• Its effect is to entrust the most arduous activities to marginalized workers who risk their health for a subsistence wage. Indeed, the existence of MNC raises the problem of the emergence of “social dumping.”

• It exacerbates social dumping, which results from competition between different countries to reduce their social regulations in order not to lose competitiveness.

Thus, the establishment of foreign firms has positive and negative aspects for the host country.

Conclusion

The multinationalization of companies is a facet of their internationalization, that is to say, the broadening of their field of activity beyond the national territory.

Multinational corporations play a driving role in the globalization process and contribute significantly to the creation of wealth in national economies.

These are also structures that enable technology transfers. They can thus produce different components in very different countries in order to optimize the potential of each production context. They can also relocate subsidiaries in order to optimize the performance of a branch or sector.