A conceptual analysis of effects of the CAGE framework

factors on liabilities and assets of multinational company.

University of Amsterdam
Faculty of Economics and Business

Name: Evgeny Evsyukhin

Student number: 11085428
Date: September 27, 2015
Word count: 2198
ABSTRACT (55 words)
Distance usually assumed to have a negative impact on doing business
abroad; however, in some cases distance has positive effects on international
business value creation. This paper suggests several propositions that should help to
evaluate the impact of distance factors of CAGE-framework on the MNEs liabilities
and assets in the host country and multinational context.

Keywords: distance, liabilities of foreignness, assets of foreignness

INTRODUCTION
The CAGE-framework developed by Ghemawat (2001) might be used by
multinational companies to evaluate the distance between home and host countries
based on four dimensions (cultural, administrative, geographic and economic).
However, this concept does not assess the impact of these particular factors on costs
and benefits for a firm doing business abroad. This paper is aimed on evaluating the
impact of different distance factors described in Ghemawats CAGE-framework
theory on liabilities and assets of a multinational firm in the host country and
multinational context. In order to do this, several propositions are introduced that will
clarify the link between factors of distance, on the one hand, and costs and benefits
of doing business abroad on the other hand. However, it should be noted that this
paper researches only the impact of distance factors on the each quadrant of Sethis
(2009) model (liabilities of foreignness, liabilities of multinationality, assets of
foreignness, and assets of multinationality). It might be revealed more effects of
distance factors on costs and benefits of a multinational company during some
additional detailed research.
This paper starts with the Ghemawats CAGE-framework theory. The focus will
be on identifying the primary distance factors that influence costs and benefits of
doing business abroad. The next theory that will be discussed in the paper is
developed by Deepak Sethi and William Judge (2009). This theory is about liabilities,
costs and benefits that the MNEs subsidiary faces in the host country and also in the
multinational context. Finally, these two concepts will be integrated in order to
develop several propositions that should help to evaluate what factors of the CAGEframework effect particular liabilities and assets of the MNE in the host countrys and
international business environment.

THEORETICAL FRAMEWORK
The two theories that are central in this paper are the CAGE-framework
developed by Ghemawat (2001) and liabilities and assets of the MNEs subsidiary
proposed by Sethi and Judge (2009). The themes in which these theories were
discussed are respectively An Inter-national Business Perspective and A Multinational Business Perspective.
The first theory that will be analyzed in this paper is CAGE-framework written
by Ghemawat (2001). He states that there is a trend to the globalization of the
worlds economy but companies face a lot of challenges and complications during the
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process of internationalization. Ghemawat (2001, p.138) supposes that most of

those costs and risks result from barriers created by distance. He also makes an
assumption that distance still matters, and companies must explicitly and thoroughly
account for it when they make decisions about global expansion. According to
Ghemawat (2001, p.138) there should be formed a clear-eyed evaluation of the
many dimensions of distance and their probable impact on foreign markets. The
Ghemawats work (2001) is not the only one that focuses on the importance of
distance between countries. For example, the internationalization theory (Uppsala
model) developed by Johanson and Vahlne (1977) points that internationalization is
rather gradual than radical and that organizations choose countries to internalize
their business where the distance is relatively low comparing to the home country.
Ghemawat (2001) notes that he does not mean only geographic separation by
the notion of distance. He states that distance should be analyzed through a set of
different dimensions. According to Ghemawat (2001, p.138) distance between two
countries can manifest along four basic dimensions: cultural, administrative,
geographic and economic. It is important to focus on the main factors of distance
that are included in these dimensions in order to make relevant propositions that
evaluate effects of these factors on costs and benefits of a multinational firm.
The main factors that make difference and create distance between countries
are presented in the table 1. These factors were introduced in the Ghemawats
CAGE-framework and expanded in Ghemewats (2007) research. All factors are
analyzed in two contexts: country pairs (bilateral) distance between home and host
country and multilateral context.
Table 1: Factors of distance
Context

Bilateral

Cultural

Administrative Geographic

Economic

distance

distance

distance

distance

1) Different

1)Lack of

1)Physical

1) Differences

languages

colonial ties

distance

in consumer

2) Lack of

2)Lack of

2)Lack of

incomes

connective

common

common

2) Differences

ethnic or social

currency

border

in cost and

networks

3)Political

3)Differences

quality of

3) Different

hostility

in time zones

natural

4) Differences

resources,

religions

4) Lack of trust

in climates

financial

5) Different

resources,

values, norms,

human

and

resources,

dispositions

infrastructure,
information or
knowledge

Multilateral

1) Insularity

1)Closed

1) Geographic

1)Economic

size

size

2)Lack of

2) Geographic

2)Low per

membership in

remoteness

capita income

international

3) Weak

organizations

transportation

3)Weak

or

institutions,

communication

corruption

links

2)Traditionalism economy

The second theory that will be analyzed in this paper is the concept of liabilities
and assets of a multinational company in the host country context and also in the
multinational environment developed by Deepak Sethi and William Judge (2009).
This theory states that the company which is entering the host country market
can face not only costs related to distance and the unfamiliarity of the foreign
environment but also a firm can possess some competitive advantages comparing to
the local organizations, such as innovative technologies or brand image of the
company. In other words, though distance is often assumed to have negative effects
on multinational firms foreign subsidiary, there is evidence that in some cases a
company can earn benefits related to expansion on foreign markets. According to
Sethi (2009, p. 405), while MNEs evaluate costs and benefits of any international
business transaction in tandem, the extant Costs of Doing Business abroad and
Liability of Foreignness concepts reflect only the costs and not the benefits of doing
business abroad. So the main impact of Sethis (2009) concept to the academic
research in the field of costs of doing business abroad is developing the previous
theories on two main points:
1) This theory covers all costs incurred by MNE subsidiary both in host country
and multinational contexts.
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2) Sethis (2009) model also includes benefits that can be achieved by a

multinational firm in the foreign environment.
To sum up the Sethis (2009) concept, he divides all cost and benefits of the
MNE operations into four categories:

Liability of foreignness: the costs related to MNEs operations in host

country context. These costs can be discriminatory comprise explicit
regulations exclusively targeting MNE subsidiaries, in order to benefit
indigenous firms (Sethi, 2009, p. 407) and incidental costs of learning
the foreign market and adapting to unfamiliar environment.

Liability of multinationality: the costs of an MNEs subsidiary related to

the international business environment (outside host country context).

Assets of foreignness: unique benefits enjoyed by an MNE subsidiary

that are unavailable to host-country rivals (Sethi, 2009, p. 409). AOF
are related with the benefits of a company only within the host-country
context.

Assets of multinationality: benefits available to a foreign subsidiary, but

outside the host-countrys context through the leveraging of the parent
MNEs global network (Sethi, 2009, p. 410).
INTEGRATION

The integration of the two theories analyzed in the previous section is mainly
about the correlation between distance factors of the CAGE-framework and various
costs and benefits related to multinational firm performance. In other words, the main
purpose of the integration of these models is to clarify the impact of different
dimensions of distance on each quadrant of Sethis (2009) model. In this section
there will be suggested several propositions concerning the abovementioned
correlation.
The first dimension of the Sethis (2009) model is Liabilities of foreigness. As
analyzed earlier, this quadrant is divided into two parts: Discriminatory and Incidental
LOF. Firstly, it can be concluded that there is the direct dependence between
administrative distance factors and Liability of Foreignness. For example, if two
countries have a large administrative distance (different currencies, host countrys
government restrictions related to foreign companies, closed type of economy of a
host country etc.) the costs of entering this market will be high. It is important to
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mention that MNE subsidiary cannot influence these costs due to the difficulty to
change policy in a host country. Therefore, the first proposition states:
P1: A large administrative distance between two countries increases the
discriminatory liabilities of foreignness.
Moving to the next part of liabilities of foreignness it can be seen the linkage
between Incidental LOF and Cultural Distance. The larger cultural distance is
between two countries (different languages, lack of connective ethnic or social
networks,

different

institutional

environments,

different

values,

norms,

and

dispositions), the higher cost will be to enter the foreign marker to MNE.
P2: A large cultural distance will influence the increase of incidental liabilities of
foreignness.
The

next

dimension

of

the

Sethis (2009)

model

is Liabilities of

multinationality. As discussed in the previous section, a multinational firm faces

these costs in the international business environment. Connecting the analyzed
theories, it can be stated that geographic and economic distance factors influence
the liabilities of multinationality. The larger geographic distance is (large spatial
distance, different time zones, absence of common borders etc.) and the larger
economic distance is (differences in consumer incomes, differences in cost and
quality of resources), the higher costs will be for a multinational company to operate
in international business environment. Thus, the third proposal states:
P3: A large geographic and economic distance increases the liabilities of
multinationality for a MNE.
The third dimension of the Sethis theory is Assets of foreignness. It can be
concluded from the observation of theories that the administrative distance factors
have the primary effect on benefits for a multinational company. For example,
political hostility or incentives from host country government will influence the
performance of an MNE. So the next proposition will be:
P4: A company will benefit in a host-country environment, while it faces short
administrative distance.
The last dimension of companys costs and benefits model is Assets of
Multinationality According to Sethi (2009, p. 410) AOF are benefits available to a
foreign subsidiary, but outside the host-countrys context through the leveraging of
the parent MNEs global network. It is evident that a company will benefit within
international business environment, while economic distance is short. For example, if
a subsidiary can use multipoint pricing, hedging and transfer pricing options within
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the MNEs network it will increase its benefits relative to local firms due to assets of
multinationality (Sethi, 2009, p. 410). The last proposition states:
P5: A company will benefit in a multinational environment, while it faces short
economic distance.
To complete the integration of the two theories, it is important to note that in
order to analyze the impacts of distance factors on costs and benefits of the MNE in
details the data-based research should be done. Then these propositions might be
proven or declined with extent of accuracy. To sum up the integration section, I want
to point that a companys decision to expand on a foreign market should be well
evaluated. First of all, company should analyze, what costs and benefit it may face in
the foreign environment.

CONCLUSION
This paper suggests the correlation between different distance factors
developed by Ghemawat (2001) in his CAGE0framework and costs and benefits of
doing business abroad proposed by Sethi and Judge (2009). The main reason for
integrating these two theories was to make an attempt to clarify some effects of
distance factors on liabilities and assets of a multinational company. Some evident
and primary linkages were revealed, however, there is still a lot of research in this
area. Suggested propositions need to be tested using data-based surveys. Then it
will be possible to make more accurate conclusions. Moreover, the paper only looks
at the effects of distance dimensions on different quadrants of Sethis (2009) model,
while analyzing the impact of particular factors on each of the costs and benefits will
give more detailed picture of the researched question. However, the paper was
aimed at identifying the primary influence of distance on costs of doing business
abroad. This question was analyzed, several propositions were given but additional
research is still desirable.

REFERENCES

Ghemawat, P. (2001). Distance Still Matters: The Hard Reality of Global

Expansion. Harvard Business Review (3), 137-147.

Ghemawat, P. (2007). Redefining Global Strategy: Crossing Borders in a

World Where Differences Still Matter, Harvard Business School Press. p 33-65.

Johanson, J. and Vahlne, J.E. (1977). The Internationalization Process of the

Firm A Model of Knowledge Development and Increasing Foreign Market
Commitment. Journal of International Business studies (8), 23-32.

Sethi, D. and Judge, W. (2009) Reappraising Liabilities of Foreignness within

an Integrated Perspective of the Costs and Benefits of Doing Business Abroad.
International Business Review, 18(4), 404-416.

Zaheer, S. (1995). Overcoming the liability of foreignness. Academy of

Management Journal, 38(2), 341360.