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The Uppsala internationalization process model revisited: From liability of foreignness to liability of outsidership The Uppsala internationalization process model revisited: From liability of foreignness to liability of outsidership Jan Johanson1 and Jan-Erik Vahlne2 1Uppsala University, Uppsala, Sweden; 2Gothenburg University, Gothenburg, Sweden Correspondence: J Johanson, Uppsala University, PO Box 513, SE-751 20, Uppsala, Sweden. Tel: þ46 859255215; E-mail: [email protected] Received: 10 July 2007 Revised: 15 October 2008 Accepted: 4 November 2008 Online publication date: 21 May 2009 Abstract The Uppsala internationalization process model is revisited in the light of changes in business practices and theoretical advances that have been made since 1977. Now the business environment is viewed as a web of relationships, a network, rather than as a neoclassical market with many independent suppliers and customers. Outsidership, in relation to the relevant network, more than psychic distance, is the root of uncertainty. The change mechanisms in the revised model are essentially the same as those in the original version, although we add trust-building and knowledge creation, the latter to recognize the fact that new knowledge is developed in relationships. Journal of International Business Studies (2009), 40, 1411–1431. doi:10.1057/jibs.2009.24 Keywords: internationalization theories and foreign market entry; network relations theory; experiential knowledge; commitment; trust; opportunity INTRODUCTION Much has changed since our model of the internationalization process of the firm was published in the Journal of International Business Studies (JIBS) ( Johanson & Vahlne, 1977). In fact, the economic and regulatory environments have changed dramati- cally. Company behavior is also different in some respects. The research frontier has moved too. There are some concepts and insights that did not exist when our model was published. The Uppsala model explains the characteristics of the inter- nationalization process of the firm. When we constructed the model there was only a rudimentary understanding of market complexities that might explain internationalization difficulties, but subsequent research on international marketing and purchasing in business markets provides us with a business network view of the environment faced by an internationalizing firm. We further develop this view and explore its implications for the internationalization process of the firm. Our core argument is based on business network research, and has two sides. The first is that markets are networks of relationships in which firms are linked to each other in various, complex and, to a considerable extent, invisible patterns. Hence insidership in relevant network(s) is necessary for successful internationalization, and so by the same token there is a liability of outsidership. Second, relationships offer potential Journal of International Business Studies (2009) 40, 1411–1431 & 2009 Academy of International Business All rights reserved 0047-2506 www.jibs.net for learning and for building trust and commitment, both of which are preconditions for internationaliza- tion. Before we look at this business network view in depth, we summarize our original model. THE 1977 MODEL Researchers in the Department of Business Studies at Uppsala University in the mid-1970s made empirical observations that contradicted the estab- lished economics and normative, international business literature of the time. According to that literature, firms choose, or should choose, the optimal mode for entering a market by analyzing their costs and risks based on market characteristics and taking into consideration their own resources (e.g. Hood & Young, 1979). However, our empirical observations from a database of Swedish-owned subsidiaries abroad, and also from a number of industry studies of Swedish companies in interna- tional markets, indicated that Swedish companies frequently began internationalizing with ad hoc exporting (Carlson, 1975; Forsgren & Kinch, 1970; Hörnell, Vahlne, & Wiedersheim-Paul, 1973; Johanson, 1966; Nellbeck, 1967). They would subsequently formalize their entries through deals with intermediaries, often agents who represented the focal companies in the foreign market. Usually, as sales grew, they replaced their agents with their own sales organization, and as growth continued they began manufacturing in the foreign market to overcome the trade barriers that were still in place in the post World War II era. We labeled this dimension of the internationalization pattern the establishment chain. Another feature of the pattern was that internationalization frequently started in foreign markets that were close to the domestic market in terms of psychic distance, defined as factors that make it difficult to understand foreign environments. The companies would then gradu- ally enter other markets that were further away in psychic distance terms (Johanson & Wiedersheim- Paul, 1975; Vahlne & Wiedersheim-Paul, 1973). This process had its origin in the liability of foreignness, a concept that originally explained why a foreign investor needed to have a firm-specific advantage to more than offset this liability (Hymer, 1976; Zaheer, 1995). The larger the psychic distance the larger is the liability of foreignness. We searched primarily in the theory of the firm for explanations for the deviations between what the extant theories prescribed and the Swedish pattern of internationalization, and developed our original model based on the work of Penrose (1966), Cyert and March (1963), and Aharoni (1966). The underlying assumptions of our 1977 model are uncertainty and bounded rationality. It also has two change mechanisms. First, firms change by learning from their experience of opera- tions, current activities, in foreign markets. Second, they change through the commitment decisions that they make to strengthen their position in the foreign market. We define commitment as the product of the size of the investment times its degree of inflexibility. While a large investment in saleable equipment does not necessarily indicate a strong commitment, unwavering dedication to meeting the needs of customers does. Experience builds a firm’s knowledge of a market, and that body of knowledge influences decisions about the level of commitment and the activities that subsequently grow out of them: this leads to the next level of commitment, which engenders more learning still (Figure 1). Hence the model is dynamic. The model does not specify the form that increased commitment might take. Indeed, commitment may decline, or even cease, if performance and prospects are not sufficiently promising. Contrary to the views expressed by some, the process is by no means deterministic. We assumed nonetheless that the process of internationalizing will continue as long as the performance and prospects are favorable. We also assumed that learning and commitment building take time. This explains why moves into more risky, but potentially rewarding, modes and moves into markets that are more distant in terms of psychic distance are made incrementally. We considered the model to be descriptive, largely because we based it on Cyert and March State Change Market knowledge Market commitment Commitment decisions Current activities Figure 1 The basic mechanism of internationalization: state and change aspects (Johanson & Vahlne, 1977: 26). The Uppsala model revisited Jan Johanson and Jan-Erik Vahlne 1412 Journal of International Business Studies (1963). It has generally been characterized in the subsequent literature as behavioral, compared with other theories that are seen as economic, such as internalization theory (Buckley & Casson, 1976), transaction cost theory (Hennart, 1982), and the eclectic paradigm (Dunning, 1980). More recent empirical studies have indicated that the interna- tionalization process as explained by our model has a positive impact on performance (Barkema, Bell, & Pennings, 1996; Delios & Beamish, 2001; Li, 1995; Luo & Peng, 1999). Our model can therefore be considered a model of rational internationaliza- tion, and can be used for prescriptive purposes. THE FIRM IN THE MARKET ENVIRONMENT: A BUSINESS NETWORK VIEW A number of studies have demonstrated the role of networks in the internationalization of firms. Coviello and Munro (1995, 1997) conducted empirical studies of the internationalization of small software firms. They found that network relationships have an impact on foreign market selection as well as on the mode of entry in the context of ongoing network processes. Their find- ings led them to develop a model that combines the process model and the network approach. In a study of the international expansion of Japanese suppliers of automotive components, Martin, Swaminathan, and Mitchell (1998) found that the inter-organizational relationships of suppliers, especially those with buyers, affected their pattern of international expansion. Other researchers have looked at networks in studies of internationa- lization strategy (Welch & Welch, 1996), the location of foreign direct investment (Chen & Chen, 1998), the first step abroad (Ellis, 2000), SME internationalization (Chetty & Blankenburg Holm, 2000), internationalization of firms from emerging markets (Elango & Pattnaik, 2007), and rapid internationalization (Loane & Bell, 2006), to name but a few. We conclude that our original model needs to be developed further in light of such clear evidence of the importance of networks in the interna- tionalization of firms. The research that has been done to date generally has studied the ways in which networks influence internationalization, without discussing how those networks have been created, and without considering the network structure in the country or countries firms entered. Based on case analyses, Coviello (2006) developed a model of ‘‘how [international new venture] networks evolve’’ during the early phase of interna- tionalization. Our aim differs from that of Coviello in that we focus on business networks as a market structure in which the internationalizing firm is embedded and on the corresponding business network structure of the foreign market. While our goal is to develop a more general business network model of firm internationalization, Coviello’s (2006) work is nevertheless of great interest, as she shows that ‘‘insidership’’ in networks, developed before entry into a new market, even before the founda- tion of the firm, is instrumental to the specific internationalization process at hand. The studies on which the 1977 model was based indicated that the received theories of markets and marketing were not useful in trying to understand the market situation of individual firms. An inter- national business-to-business marketing research program started in Uppsala in the mid-1970s in order to develop a better understanding of business markets and marketing. Early observations that firms develop lasting relationships with important customers were an important input into this research program (Forsgren & Kinch, 1970; Johanson, 1966). An interaction approach that focused on the adaptation and exchange between suppliers and customers was used as a theoretical framework for studies of business relationships (Håkansson & Östberg, 1975). A large-scale empirical study of international marketing and purchasing of industrial products (the IMP project) that was carried out in the late 1970s and early 1980s by researchers from Sweden and four other European countries was based on the interaction approach (Ford, 1997; Håkansson, 1982; Turnbull & Valla, 1986). Work done during the project demonstrated that close and lasting business relationships between suppliers and cus- tomers are indeed important, be they within a given country or between countries (Hallén, 1986). A number of studies since then have shown the importance of relationships in the internationaliza- tion process – client-following strategies for example (Bonaccorsi, 1992; Erramilli & Rao, 1990; Majkgård & Sharma, 1998; Sharma & Johanson, 1987). IMP project studies also showed that such relation- ships usually involve a number of managers who coordinate the activities of the different firms, and who together create interrelated routines (Cunningham & Homse, 1986). Moreover, these relationships seem to develop through social exchange processes in which the firms involved enact the relationship interactively and sequen- tially (Kelley & Thibaut, 1978). The result is the The Uppsala model revisited Jan Johanson and Jan-Erik Vahlne 1413 Journal of International Business Studies accumulation of knowledge and building of trust, and eventually greater commitment, as also demonstrated in channel and relationship market- ing studies (Anderson & Weitz, 1992; Dwyer, Schurr, & Oh, 1987; Morgan & Hunt, 1994). In the process, weak ties and unilateral dependence can be transformed into strong relationships and bilateral interdependence, and ultimately increased joint productivity (Hallén, Johanson, & Seyed-Mohamed, 1991; Zajac & Olsen, 1993). As with the internationalization process model, the research done in the IMP project shows that relationships develop through a process of experi- ential learning whereby firms learn about the resources and capabilities of their counterparts, and gradually increase their commitments (Hägg & Johanson, 1982). There is one important differ- ence between our model and the findings of the IMP project: relationship development is a bilateral process that involves two parties who learn interactively and make a mutual commitment to the relationship (Anderson & Weitz, 1992; Blankenburg Holm, Eriksson, & Johanson, 1999). When we constructed our original model we were not aware of the importance of mutual commit- ment for internationalization. Now our view is that successful internationalization requires a reciprocal commitment between the firm and its counterparts (Johanson & Vahlne, 1990; Vahlne & Johanson, 2002). It takes time – some data indicate as long as 5 years – and managerial effort to create working relationships, and many attempts fail (Hohenthal, 2001). Thus a working relationship is the result of considerable investment, and is an important firm resource (Dyer & Singh, 1998). While there may be some formal aspects, developing relation- ships is essentially an informal process (Powell, 1990). Intentions, expectations, and interpreta- tions are important. Relationships are basically socially constructed. The informal and subtle nature of relationships makes it almost impossible for anyone who is not personally involved to judge the scope of the investment that has gone into building it, or its value. The larger the psychic distance, other things being equal, the more difficult it is to build new relationships. This is the effect of the liability of foreignness. Two firms that are parties to a relationship are tied to each other to some extent: they share in their mutual future development, and may exercise some degree of power over one another (Granovetter, 1985). Thus, in