Entrepreneur Cognition and Going-out Strategy: Evidence from China

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1 Entrepreneur Cognition and Going-out Strategy: Evidence from China 1 Shouming Chen, 2 Jiasi Fan, 3 Jing Zhong 1,2,3 School of Economics and Management, Tongji University, Shanghai , China 1, First Author [email protected] 2 [email protected] 3, Corresponding Author [email protected] Abstract As an important component of China s opening-up, going-out strategy has aroused great attention of management academia and business practitioners but still lacks studies from the perspective of managers. Drawing on cognitive school, this study examines the effect of entrepreneur cognition on a firm s going-out strategy. Based on a sample of listed manufacturing companies in Shanghai Stock Market of China, we find that entrepreneur cognition is positively related to the degree of going-out and that firm performance moderates the relation between entrepreneur cognition and the degree of going-out, that is, the higher firm performance, the stronger positive relationship between entrepreneur cognition and the degree of going-out. The above findings complement the studies on the factors affecting going-out of Chinese firms. 1. Introduction Keywords: Entrepreneur; Cognition; Going-Out Strategy; Firm Performance Going-out strategy (outward FDI) is an important practical issue for Chinese enterprise management. With the enhancement in Chinese economy s competitiveness and the implementation of going-out strategy, China has become an emerging source of outward FDI. According to 2010 Public Announcement of China Outward FDI jointly released by the Ministry of Commerce, the National Statistical Bureau, and the State Administration of Foreign Exchange, by the end of 2010, China had established 16,000 direct invested companies across 178 countries and districts, with accumulated outward FDI amounting to $ billion which was globally ranked No. 17th. Hence, outward FDI has become a main channel for Chinese enterprises going-out. What factors drive a firm to implement going-out strategy or not? Prior research analyzed the issue in terms of economic interests, industry characteristics, corporate governance, background of managers and so on [1]. We maintain that the cognition of managers might be an important and underlying factor affecting a firm s strategic choice of going-out. Furthermore, a high cognition level of entrepreneur toward international operation may not lead to a firm s going-out behavior as going-out is constrained by resources and capabilities of the firm. Therefore, our paper explores the moderating role of a firm s financial performance on the relationship between entrepreneur cognition and the firm s going-out. 2. Theory and Hypothesis As one of essential schools of strategic management, cognitive school has aroused more and more attention. Within the scope of cognitive science, cognitive school tends to explore the process of strategy formation by referring to research findings of cognitive science [2]. The viewpoints of cognitive school can be traced back to Carnegie school, which holds that complex decision usually is the result of behavior rather than maximized economic mechanism [3][4]. In their view, bounded rationality, conflicting objectives, numerous alternatives, and different expectation levels restrict complex decision to achieve economic maximization. In general, the more complex the decision, the more appropriate behavior theory. If a strategic choice includes a large proportion of behavior, then it reflects the cognitions of a decision maker to some extent. For instance, March and Simon (1958) pointed out that each decision maker will put a series of assumptions into certain managerial scenario. These assumptions reflect the cognition base of the decision maker: 1.The cognition or assumption about Advances in information Sciences and Service Sciences(AISS) Volume4, Number20, Nov 2012 doi: /AISS.vol4.issue

2 future events; 2. The cognition of alternatives; 3. The cognition of the results of alternatives. At the same time, these assumptions reflect his value, that is, the principle to rank the results or alternatives according to his preferences. Top managers are usually confronted with far more information than they can handle [3][5]. This fact has induced much research on the cognition of managers, such as the classification of the construct of cognition, cognitive map, and cognitive complexity [6]. As a way to simulate information overload, some theorists mentioned that managers are involved with an information process including three parts: attention, interpretation, and action [7]. The interpretation of stimuli influences how much attention is devoted to those stimuli [8]. From the perspective of entrepreneur cognition, top managers are assumed to be information workers [9][10], whose cognition structure or knowledge structure is the basis of a firm s behavior. Entrepreneur cognition refers to an entrepreneur s belief and psychological model which are the basis of decision making [11]. Top managers of a firm usually confront considerable information beyond their understanding. With the human and organizational limits, attention hardly covers all the dimensions [12]. Some dimensions probably attract more attention than others. The focus of top managers attention has an impact on some specific strategy of the firm. Going-out, equivalent to an environmental change for a firm, not only influences the market environment facing the firm by transiting single domestic market into diversified international market, but also changes internal operation by forming alliances with foreign partners to acquire advanced technology and improve operational capabilities. Internationalization is a stimulus for top managers of Chinese companies. Different entrepreneurs have different cognitions toward the stimulus of international operation; therefore, the degree of their attention to international operation varies. According to the above analysis, we propose following hypothesis: Hypothesis 1: Top management s cognition of international operation is positively associated with a firm s degree of going-out. There exist a variety of moderating variables between the relationship of entrepreneur cognition and strategic behavior. Among those moderating variables, a firm s resources and capabilities are important factors [13]. Firms going-out behavior can achieve flexibility through multinational network or greater economies of scale and scope. A firm needs to utilize internal resources to coordinate subsidiaries in different districts so as to achieve economy of scope, share internal resources, and exploit market opportunities. According to resource-based view, firms going-out need to commit resources to establish and maintain capabilities of innovation. Firms with more resources and capabilities tend to have more leeway to indulge in exploratory activities [3], allowing their CEOs more discretion [14]. To some extent, firm performance reflects a firm s capabilities of possessing internal and external resources. The fact that a firm has high performance means that the firm could obtain specific resources for going-out and develop existing advantage further in the process of going-out. Good situation in resources and capabilities makes entrepreneur cognition link to going-out further. Therefore, we propose: Hypothesis 2: Firm performance moderates the relationship between entrepreneur cognition and a firm s degree of going-out, that is, the higher the performance, the more positive relationship between entrepreneur cognition and the degree of going-out. 3. Sample and Research Design 3.1. Sample and data The sample of this study comes from 474 listed manufacturing companies in Chinese Shanghai Stock Exchange (deleted ST companies, the sample is 407 companies), and after deleting those companies with incomplete information, the final sample size is 378 companies. All the companies comes from the same industry, therefore, there is no disturbance from industry factors influencing the relationship between the examined variables. The data sources of this study are as following: We identified FDI events by reading and analyzing listed companies annual reports provided by the website of Shanghai Stock Exchange; the data of entrepreneur cognition was mainly based on annual reports of listed companies and supplemented by information from finance.sina.com.cn and cninfo.com.cn; control variables related to original financial data mainly came from chinaef.com and were supplemented by information from cninfo.com.cn. 158

3 3.2. Measurement of Dependent Variable Dependent variable is the degree of going-out. Referring to Hitt et al. (2006) [15], we defined the degree of internationalization as the degree of entering different markets or districts through a firm s international expansion. It was measured by the degree of a firm s involvement of oversea markets, reflecting a firm s ability of oversea market involvement. It is usually measured by the number of oversea countries involved by a firm or oversea subsidiaries owned by a firm. We used the number of oversea subsidiaries established by a firm by the end of 2010 to measure the firm s going-out degree Measurement of Independent Variable In western countries Board of Director usually is legal person of a firm, while in China it is Chairman of Board of Director who undertakes the role of legal person for a firm. In China, Chairman of Board of Director is actual entrepreneur who has more authority in decision making than others. Therefore, this study regards Chairman of Board of Director as an entrepreneur. To measure entrepreneur cognition, we used content analysis as Cho & Hambrick [16] did, by searching annual reports of a firm with key words related to going-out strategy and counting the frequency of results. The reasons why we used annual reports of listed companies as the source of measuring entrepreneur cognition are twofold: Firstly, annual reports of a firm should be approved by top managers; therefore they reflect an entrepreneur s will. Secondly, annual reports of listed companies are required to be released in alignment with certain format, regulation, and time schedule. Based on annual reports, we can get profound and comparable information to contrast the data of different years and different firms Moderating Variable Firm performance is measured by return on equity, (ROE). As ROE has a time lag effect on going-out strategy, we used a firm s ROE in 2009 as the performance measure Control Variable Control variables are entrepreneur attributes, firm size, and corporate governance features. (1) Education level. Wierema and Bantel [17] stated that entrepreneurs with higher education level have higher ability to handle complex information, analyze new situations, and distinguish useful information. Since a firm implementing going-out strategy needs to possess a variety of knowledge and information related to host country, synthesized capability of dealing with complex information is of value to a firm involved with going-out. We classified education level of an entrepreneur into five categories, that is, PH.D., Master, Bachelor, college diploma, high school and below high school, with values from 5 to 1. (2) International experience. It refers to overseas experience in education and business practice. International experience of an entrepreneur has a fundamental effect on the firm s performance in international markets [18]. Entrepreneurs with profound international experience tend to accept high level of resource commitments and risks [19]. We summed up the number of years of entrepreneur s oversea education and work experience and the position tenure in overseas subsidiary as the proxy of international experience. (3) Tenure. Longer tenure endows an entrepreneur more time to familiarize the firm and thus more opportunities and power to promote and nominate people agreeing with his viewpoints and to get rid of dissenters [20], which increases homogeneity within the organization and reinforces the power and influence of the entrepreneur. With the recognition of top management team, an entrepreneur tends to take more risks in strategic choice and is willing to adopt strategies of high commitments and high risks. The accumulated time since an entrepreneur entered the firm was used as the tenure measure. (4) CEO-Chair duality. Supervision from Board of Director apparently affects an entrepreneur s autonomy in strategic decision-making. Prior research found that vigilance of board of director declines when CEO is Chairman of Board of Director at the same time [21]. The CEO-Chair duality makes the 159

4 power in an organization more centralized and endows the entrepreneur with more autonomy in strategic decision-making. (5) Firm size. Heterogeneity in firm size determines the differences in outward investment ability. Economy of scale has a push effect on export and going-out as it brings more market volume and cost leadership [22]. Firms with larger size usually have more advantages in capital, market power, brand building and maintaining, sales channel expansion, product upgrade, and government relations. Therefore, compared with small firms, large firms have higher tendency toward going-out and the greater degree of going-out. We used the logarithm of a firm s total asset in 2010 as the proxy of firm size. (6) Firm ownership. China is experiencing a transit economic phase in which the government plays an important role in resource allocation. State-owned enterprises enjoy the priority in the process of resource allocation and have greater ability to acquire external resources than other types of enterprises. Due to difficulties in acquiring external resources, risks related to strategic activities, and uncertainty of return, entrepreneur cognition is of greater strategic value to non state-owned enterprises than to state-owned enterprises. If a firm is state-owned, then the value for firm nature equals 1, otherwise, the value is Results Table 1 provides a summary and zero-order correlation statistics among the main variables. Table 2 illustrates the multivariate regression results. All the control variables and moderating variables were included in Model 1 and their relationships with the dependent variable were examined. Model 2 was based on Model 1 by adding entrepreneur cognition as an independent variable. Then we established Model 3 by adding the interaction between firm performance and entrepreneur cognition to Model 2. Model 1 demonstrates that except education level, CEO-Chair duality, all the variables had relationships with the dependent variable at different significant levels. We assert that the model with control variables and moderating variables has explanatory power for the dependent variable, the degree of going-out. Therefore, it is reasonable to add these control variables into the model. Entrepreneur cognition in Model 2 had a positive relationship with the dependent variable at the significant level. Hypothesis 1 was supported. Entrepreneur cognition has an impact on a firm s degree of going-out, that is, the higher entrepreneur cognition, the higher degree of going-out. In Model 3, we examined the interaction effect on dependent variable by controlling the main effect of moderating variable. As shown in Model 3, the interaction of firm performance and entrepreneur cognition had a positive relationship with dependent variable at the significant level. Hypothesis 2 was supported. Firm performance moderates the relationship between entrepreneur cognition and the degree of going-out, that is, the higher performance, the stronger relationship between entrepreneur cognition and the degree of going-out. 160

5 Variables 1. The degree of going-out 2.Entrepren eur cognition 3. Education level 4.Internatio nal experience Mea n Table 1. Descriptive statistics and correlations s.d Tenure CEO-Chair duality 7. Firm size Firm ownership 9.ROE Correlation is significant at the 0.01 level (2-tailed).. Correlation is significant at the 0.05 level (2-tailed) Table 2. Regression results Variables Model 1 Model 2 Model 3 (Constant) Education level International experience Tenure CEO-Chair duality Firm size Firm ownership ROE Entrepreneur cognition ROE Entrepreneur cognition R Adjusted R N ,p<0.1,,p<0.05,,p<0.01,,p<0.001 In order to reveal the nature of this interaction effect, we developed the graph shown in Figure 1, using one standard deviation above and below the mean to capture high and low levels of ROE and entrepreneur cognition [23]. The graph in Figure 1 shows an apparent moderating effect of firm performance, that is, the higher firm performance, the greater degree of going-out

6 Figure1. Moderating Effect of ROE 5. Conclusion This study empirically verified that entrepreneur cognition influences the degree of a firm s going-out. The higher entrepreneur cognition toward going-out, the greater degree of a firm s going-out behavior. Firm performance moderates the relationship between entrepreneur cognition and the degree of a firm s going-out. The above conclusion is of value to managerial practitioners: on one hand, it could guide a firm to select and foster top management adapting to going-out strategy; on the other hand, it helps an entrepreneur predict strategic choices and actions of competitors and adjust his or her strategic behavior in time. The relations between entrepreneur cognition and a firm s going-out strategy may vary in different contexts. In the future, we suggest that researchers explore more moderating effects by including variables related to internal organization such as firm capability and governance structure, and the variables related to external environment such as market competition. 6. References [1] Pol Herrmann, Deepak K. Datta, CEO Experiences: Effects on the Choice of FDI Entry Mode, Journal of Management Studies, vol. 43, no. 4, pp , [2] Sarah Kaplan, Research in Cognition and Strategy: Reflections on Two Decades of Progress and a Look to the Future, Journal of Management Studies, vol.48, no.3, pp , 2011 [3] Richard M. Cyert, James G. March, A behavioral theory of the firm. Englewood Cliffs, NJ: Prentice-Hall, [4] James G. March, Herbert A. Simon, Organizations. New York: Wiley, [5] Henry Mintzberg, The Nature of Managerial Work. New York: Harper and Row, [6] Michael A. Hitt, Beverly B. Tyler, Strategic decision models: Integrating different perspectives, Strategic Management Journal, vol. 12, pp , [7] Richard L. Daft; Karl E. Weick, Toward a model of organizations as interpretation systems, Academy Management Review, vol. 9, pp , [8] William Ocasio, Towards an attention-based view of the firm, Strategic Management Journal, vol. 18, pp , [9] Morgan W. McCall, Robert E. Kaplan, What it takes: decision makers at work. Englewood Cliffs, NJ: Prentice-Hall, Inc,

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