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effects are related to each other. Otherwise, casual ambiguity caused by omitted variables can mislead research findings if we only treating firm performance as consequence of either across-group effects or within-group effects. Third, our results supplement the international business literature. That is, conforming to local norms in host countries is critical to MNCs, even when they play important roles in the industry and their legitimacy is improved. In addition, we specify three types of legitimacy issues (i.e., firm-level legitimacy within both local and foreign groups and group-level legitimacy in an industry) which enhance our understanding of the complexity of the legitimacy issues MNCs typically facing.
SECTION 3.1 LITERATURE AND THEORY Collective identity and Group formation
Collective identity is a key concept that shapes, sustains, and steers collectives within any social system (Patvardhan et al., 2015). Collective identity not only helps to determine membership in the group (Benford and Snow, 2000; Rao, Monin, and Durand, 2003), but also enables external audiences to distinguish among groups (Lounsbury, 2007; Rao et al., 2003) and to perceive them as attractive and legitimate (Glynn and Abzug, 2002; Navis and Glynn, 2010; Wry et al., 2011). Since external audiences use “identity code” embedded in collective identity to assess and legitimate group member, a key touchstone for legitimacy is collective identity (Wry et al., 2011;
Glynn and Abzug, 2002).
Given that an organizational collective also consists of multiple groups, an industry typically has multiple strategic groups, and an organizational form often includes subpopulations of organizations that occupy different niches. A group is formatted as the processes of development of collective identity. In the early phases of a group formation, firms mute their individual distinctiveness and espouse a collective
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identity (Navis and Glynn, 2010). The collective cognition of “who we are” and
“what we do” is developed through the interaction and isomorphism with each other.
The collective cognition also defines a recognizable pattern of activity as rule-like and imperative standing which is called as identity code (Hannan, 2005; Hsu & Hannan, 2005; Polos, Hannan, & Carroll, 2002). Identity code is used by constitutes of a group to assess and legitimate group members (Hsu and Hannan 2005). That is, the development of collective identity among a cluster of firms within a larger organizational collective not only reflects the formation of a group, but also dictates that members could gain legitimacy in the group by following the take-for-granted identity code.
Firms are categorized as an emerging group not only due to their newness, but also because they possess the same central characteristics which are distinctive, enduring, and critical to their identity (Peteraf and Shanley, 1997). There are three reasons of why these salient central characteristics locate firms into an emerging group. First, these common characteristics enable actors who share them identify each other as “in-group” members, thus cognitively connecting managers’ mindsets and providing a basis for them to perceive each other as peers and compare with each other (Anand et al., 2013; Hogg and Terry, 2000). Second, central characteristics are the basis of categorization. When external stakeholders assess and evaluate firms that share these common characteristics, they tend to ignore other firms who lack these characteristics and hence are difficult to be compared and evaluated (Zuckerman, 1999).
Foreignness is a central characteristic that local stakeholders use to distinguish MNCs from local firms7. MNCs’ foreign status and the fact that they often need to
7
There are three established groups of local firms in China categorized by ownership type and market
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fight the liability of foreignness together constitute the common identity basis for such firms. Local stakeholders assess and evaluate MNCs based on their established and taken-for-granted stereotype of MNCs in the same industry (Kostova and Zaheer, 1999). In addition, the constituents of foreign group are often different from those of local group because of their divergent competitive positions and resource compositions (Peng, Tan, and Tong, 2004). The distinct identity code held by constituents facilitates the formation of an emerging group consisting foreign firms, and this collective identity tends to be persisting. Although the foreign status allows MNCs to develop an enduring collective identity, the liability of foreignness also suggests that MNCs often lack cognitive legitimacy as a group due to their unfamiliarity in local stakeholders’ eyes.
Intergroup versus Intragroup Judgements
The stakeholders of foreign group and local group are different not only in the composition, but also in their judgement mechanisms toward MNCs’ legitimacy. For local stakeholders, MNCs are out-group members who are perceived distinct from local peers on the central characteristics. Because local stakeholders lack of knowledge about MNCs and have no basis to compare MNCs with local peers, they often perceived that MNCs are less heterogeneity than local peers, which has been referred to as “out-group homogeneity effect” (e.g., Mullen and Hu, 1989). In the absence of specific attention to individuating information about out-group members, local stakeholders either ignore MNCs (i.e., not compare MNCs with local peers;
Zuckerman, 1999) or judge those out-group members by MNCs’ stereotype (Kostova and Zaheer, 1999). The judgement basically reflects the distinction between groups
incentive (Xu et al., 2014). Local firms in China in this study only refer to private-owned enterprises
(POEs). We will explain why we exclude the other two categories which are state-owned enterprise
(SOEs) and collective-owned enterprises (COEs) in the methods section.
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rather than the deviation between MNCs’ behaviors and local norms.
In foreign stakeholders’ eyes, MNCs are in-group members and their judgement about in-group members could be intergroup comparisons (i.e., my group compared to relevant out-groups) or intragroup comparisons between the self and other group members (Brewer, 1993). Conducting intergroup comparisons reduces perceived in-group variation, whereas engaging in self-other comparisons leads stakeholders more concern with intragroup distinctions. In other words, stakeholders less likely aware in-group members’ deviating behaviors and judge them as illegitimate when stakeholders use intergroup comparisons rather than self-other comparisons. Using which comparison by foreign stakeholders depends on the strength of collective identity and the relevance of the dimension of judgement to intergroup differences (Brewer, 1993; Simon, 1992; Kelly, 1989). When collective identity is salient, the individual firm assimilates its self-concept to that of the “typical” in-group member, thereby reducing awareness of self-other comparisons within the group. In addition, stakeholders will conduct intergroup comparisons on dimensions most relevant to group identity and perceive in-groups as more homogeneous on such dimensions. On the contrary, stakeholders will perform self-other comparisons on less relevant dimensions and more likely aware in-group variation on such dimensions.
Competition and Legitimacy within an Emerging Group
Once MNCs develop a collective identity and are identified as a coherent, emerging group, firms within this group have to conform to group norms in order to gain their legitimacy among their peers. Within group legitimacy provides multiple advantages which contribute to MNCs’ performance. First, adhering to foreign identity enables MNCs access to unique resources, especially for human capital and financial resources which favor foreign peers or reside on the under-served segments.
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For example, Yildiz and Fey (2012) suggest that MNCs have advantages such as incentive systems, promotional structures, and working cultures in employing unique talent in emerging markets. Ono (2007) shows that female finance professionals in Japan preferred foreign financial firms because of their merit-based pay. By contrast, MNCs that adopt local HRM practices find it difficult to attract and retain unique human capital (cf. Peltokorpi, 2011). Second, MNCs with foreign legitimacy may enjoy discrimination advantages (Edman, 2016). Discrimination refers to the extent to which stakeholders evaluate firms based on nationality or foreignness status. On the one hand, governments may offer benefits to MNCs exchanging for technology spill-overs, investment, and higher employment. On the other hand, local customers may have a pro-foreign bias and admire foreign firms and products (Insch and Miller, 2005). Such discrimination can also generate disadvantages which are characterized as xenophobia and nationalism (Kostova and Zaheer, 1999). The discrimination hazards including unfavorable taxation and local input requirements increase MNCs operating costs in a host country. Although such discrimination can be both beneficial and harmful, the positive aspects are more salient than the negative aspects in emerging markets where MNCs often enjoy high status.
Third, foreign identity ensures MNCs engaging in collective actions to against environmental uncertainty in a host country. For example, MNCs can enhance their bargaining power toward local governments by negotiating collectively. Investing in the same area can lower the risks and costs of building infrastructure. By reducing uncertainty and operating risks, being similar to foreign peers contributes to firm performance. Forth, foreign legitimacy enhances a MNC’s institutional standing and credibility which, in turn, improves a firm’s performance by reducing resource exchange barriers, mitigating search costs associated with obtaining resources, and
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giving access to useful information shared by in-group members (Oliver, 1997).
Learning from other MNCs’ experience and exchange information about the local market, local suppliers, and local political environments with them is especially important because MNCs confront greater uncertainty than local firms including market uncertainty and political uncertainty. Although past international business research has not paid attention to the role of this within-group legitimacy, it indeed increases MNCs’ performance.
Although within group legitimacy contributes to MNCs’ performance, the relationship between deviating from norms in foreign group and within group legitimacy subjects to in-group stakeholders’ judgement. As noted previously, the judgement depends on the strength of collective identity and the relevance of the dimension of judgement to collective identity (i.e., the foreignness status). On the one hand, the collective identity is salient because being foreign is a defining trait of the MNCs (Westney and Zaheer, 2001). The prevailing local norms, practices, and cultures signals MNCs’ “alien” stature (Hennart, 1982), so that foreignness constitutes a minority identity against local institutional logics (Edman, 2015). The minority but salient collective identity of foreignness leads stakeholders less sensitive to individual difference unless a MNC acting like an out-group.
On the other hand, the most relevant characteristic to intergroup differences is foreignness which is a defining and inherent trait shared by all MNCs. Thus, in-group stakeholders will less likely notice the different level of foreignness among MNCs.
Comparatively, strategic similarity to foreign peers is less relevant to foreign identity than foreignness. In-group stakeholders are completely capable to aware and evaluate MNCs’ non-conforming strategies. Besides, members in an emerging group come from diverse background in the early stage of group formation. Although MNCs have
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to engage an isomorphic process to build group level legitimacy together, peers within the group are generally more tolerant of deviating strategies during group formation process. Combining aforementioned influences, we argue that within group legitimacy decreases at an increasing rate. When strategic similarity to foreign peers is high, the salient foreign identity leads within group legitimacy insensitive to positioning strategies. When strategic similarity to foreign peers is moderate, in-group stakeholders begin to judge MNCs’ strategies and see non-conforming strategies as illegitimate. At low level of strategic similarity to foreign peers, the highly deviant strategies make MNCs resembling to out-group members and greatly hurt within group legitimacy.
To evaluate the overall effect of within-group strategic similarity on MNCs’
performance, one also has to consider the effect of within-group competition on a firm’s performance. MNCs typically have transferable proprietary assets and access to resources from global market which contribute to their sustainable competitive advantage. Moreover, MNCs also need to compete with each other for limited local resources such as qualified suppliers and distribution channels, which increase the competition pressures within foreign groups. Similarly, literature on strategic groups suggests that firms in the same group are recognized as direct competitors (e.g., Porac et al., 1989; Reger and Huff, 1993). Thus, the competition among MNCs is more intense than it between MNCs and local firms. Being different from other MNCs allows foreign firms to enhance their competitive positions over other competitors (D’Aveni, 1994) and to protect themselves from severe resource competition (Chen, 1996; Ketchen, Snow, and Hoover, 2004). Due to this positive competition effect, strategic dissimilarity to foreign peers benefits MNCs’ performance.
Considering within legitimacy and competition effects simultaneously, when the
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level of strategic similarity to foreign peers is high, the focal MNCs obtain legitimacy in the group and gain support from their peers. However, in this situation, MNCs need to spend additional costs to compete with other foreign peers due to high resource similarity. We argue that the competition effect is larger than legitimacy effect within the foreign group. Thus, low level of strategic deviation from foreign peers decreases MNCs’ performance. As the level of strategic similarity to foreign peers decreases, the costs of resource competition decreases. Meanwhile, MNCs still enjoy a certain level of legitimacy within foreign group. Since both legitimacy and competition effects are beneficial, MNCs’ performance is enhanced. When a MNC’s strategic dissimilarity to foreign peers exceeds the acceptable range and are seen as an outsider, however, other members of the foreign group may challenge its legitimacy, which hurts firm performance. As long as the benefits of reduced competition outweigh the costs of illegitimacy within the foreign group, an MNC’s performance still increases.
When the costs of illegitimacy surpass the benefits of the reduced competition, strategic dissimilarity to foreign peers decreases an MNC’s performance. Combining both legitimacy and competition effects of strategic similarity to foreign peers, an MNC’s performance initially increases and then decreases as its strategic similarity to foreign peers increases.
However, the true relationship between strategic deviation from foreign peers and MNCs' performance presents only after excluding the influences of competition and legitimacy effects across groups. Two possible reasons are described as below.
First, MNCs’ legitimacy in one group may spillover and enhances their legitimacy in the other group (Kulman and Li, 2009). For example, gaining legitimacy in the local group enables MNCs access to local knowledge which they could share with other MNCs to improve their legitimacy in foreign group. Second, MNCs may compete for
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the same local resources with other MNCs and local firms. Thus, the effect of reduced competition within the foreign group may also be affected by MNCs’ strategic similarity to local peers. Because of aforementioned reasons, we propose our proposition 1 as below.
Proposition 1: After taking strategic similarity to local peers into account, moderate level of strategic similarity to foreign peers benefits firm performance for foreign firms.
Competition and Legitimacy across Groups
How to gain legitimacy in the host country is a critical issue for MNCs, which is emphasized and intensively investigated in research of overcoming liability of foreignness (e.g., Kostova and Roth, 2003; Rosenzweig and Singh, 1991). The findings of these studies suggest that MNCs should conform to local norms in order to gain legitimacy. This legitimacy refers to MNCs’ acceptance by the local stakeholders, which we consider as firm-level legitimacy in the established local group in this study.
Legitimacy in the local group is critical to MNCs performance because it helps MNCs access complementary resources for efficiently operating in a host country such as understanding, relationships, and social capital needed for dealing with other entities and prevailing rules of behavior (Cuervo-Cazurra, Maloney, and Manrakhan, 2007;
Calhoun, 2002; Zaheer, 2002).
Although legitimacy in local group contributes to MNCs’ performance, it is difficult for MNCs to gain such legitimacy by conforming local norm strategies. As we discussed previously, MNCs are considered as outsiders and local stakeholders judge them mainly by MNCs’ stereotype rather than their strategic similarity to local peers. MNCs must be highly similar to local peers to conceal their outsidership and to constitute a comparative basis with local peers. In addition, local legitimacy is more
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beneficial to MNCs than to local firms since lacking complementary resources in the host country is the major disadvantage for MNCs’ profitability and market growth.
With local complementary resource, MNCs can obtain synergy and leverage their performance. Thus, the benefits of gaining access to these resources through legitimacy are much larger for MNCs than for local firms. Accordingly, MNCs’
conforming strategies barely acquire local legitimacy when strategic similarity to local peers is low and moderate. Only at high level of strategic similarity to local peers, local stakeholders recognize the comparative basis developing through conforming strategies and grant MNCs local legitimacy, which greatly increases MNCs’ performance.
From the perspective of competition effect, MNCs are often assumed to have superior competitive advantage over local firms and the advantage is sufficiently large to compensate for their liability of foreignness (Hymer, 1960; Caves, 1971). However, some studies find that local firms in developing countries can also successfully challenge foreign entrants (Dawar and Frost, 1999; Zeng and Williamson, 2003).
Some local firms in China have accumulated enough skills and resources to compete with MNCs (Chang and Xu, 2008). In addition, local firms possess local knowledge and are better embedded in the cultural and political networks, which further strengthen their competitive advantages. Therefore, MNCs also need to differentiate from local peers to some extent in order to improve their competitive positions and reduce resource competition with local firms.
When the level of strategic similarity to local peers is high, MNCs obtain legitimacy in local group and access to local complementary resources which greatly improve MNCs’ performance. However, the resource competition with local firms also adds additional costs. Since the legitimacy in the local group is critical to MNCs’
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performance, the benefit of conformity outweighs its cost at this point, suggesting high level of strategic similarity to local peers increases MNCs’ performance. At the moderate level of strategic similarity to local peers, the legitimacy challenges from local stakeholders increase promptly and heavily hurt MNCs’ performance. Although reduced competition by differentiating strategy is beneficial to MNCs’ performance, the damage of illegitimacy in local group surpasses those benefits. Overall, moderate level of strategic similarity to local peers decreases MNCs’ performance. At low level of strategic similarity to local peers, the benefits of reduced competition may start to outweigh the costs of legitimacy challenges. In this case, strategic similarity to local peers increases MNCs’ performance again. Combining both legitimacy and competition effects of strategic similarity to local peers, MNCs’ performance initially decrease and then increase as the strategic similarity to local peers increases. These arguments lead to the following proposition:
Proposition 2: After taking strategic similarity to foreign peers into account, low and high level (rather than moderate level) of strategic similarity to local peers benefits firm performance for foreign firms.
Moderation Effects of Emerging Group Legitimacy
When a foreign group is emerging, its members are desperately building group-level legitimacy within an industry in the host country (Clegg et al., 2007).
However, this emerging group-level legitimacy might vary across industries for several reasons. First, the regulatory support and constrains affecting foreign group legitimacy vary across industries. For example, in order to gain knowledge spillover, host country government may encourage FDI or merger and acquisition in specific industries, enhancing the legitimacy of foreign firms in those industries. Second, the legitimation of emerging group is a group level process depending on members’
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collective efforts (Patvardhan et al., 2015; Clegg et al., 2007), which often vary across industries.
The emerging group legitimacy not only varies across industries, but also matters to the legitimacy and competition effects within and across groups. According to organizational ecology perspective, resources available to an emerging group are limited and restrain firms’ survival and prosperity until they gain group legitimacy (Hannan and Freeman, 1977, 1989). As MNCs gain group-level legitimacy collectively, local resources supply increases. Under this circumstance, the competition pressures for local resources among MNCs are mitigated. In consequence, the reduced competition pressures decrease the positive effect of differentiation strategy from foreign peers. Since the competition effect declines and the legitimacy effect remains, the threshold which the benefits of reduced competition equal to the costs of legitimacy challenges occurs at higher level of strategic similarity to foreign peers.
Proposition 3
：Compared to industries with a low degree of group legitimacy, MNCs’ optimal strategic similarity to foreign peers occurs at higher level of strategic similarity to foreign peers in industries with a high degree of group legitimacy.
When a foreign group has gained group-level legitimacy, the acceptance of local stakeholders is enhanced and the supply of local resources is also increased. MNCs
When a foreign group has gained group-level legitimacy, the acceptance of local stakeholders is enhanced and the supply of local resources is also increased. MNCs