National Cultural Differences and Capability Transfer

National Cultural Differences and Capability Transfer in Cross-Border Acquisitions

GÜNTER K. STAHL INSEAD 1 Ayer Rajah Avenue, Singapore 138676 Phone: (65) 67995345 E-mail: [email protected] INGMAR BJÖRKMAN (Corresponding author) INSEAD Boulevard de Constance, 77305 Fontainebleau Cedex, France Phone: +33-(0) 1 60729177 [email protected] & Department of Management and Organization, Swedish School of Economics EERO VAARA E.M. Lyon 23, av. Guy de Collongue BP 174, 69132 Ecully Cedex, France Phone. (33) (0) 4 78337800 [email protected]

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National Cultural Differences and Capability Transfer in Cross-Border Acquisitions ABSTRACT Drawing on research on the value drivers in mergers and acquisitions, as well as work on knowledge transfer in multinational corporations, we present an integrative model of the socio-cultural antecedents of strategic capability transfer in cross-border acquisitions. Its basic premise is that the impact of national cultural differences on the strategic capability transfer success in acquisitions is mediated by the degree of social integration, the ability of the acquired organization to absorb capabilities from the acquirer, and the existence of capability complementarities. Under this perspective, cultural differences can be viewed as enhancing the combination potential in acquisitions, as well as a source of social integration problems and difficulties in absorbing capabilities. Furthermore, the model proposes that the perceived attractiveness of the acquirer and the use of formal and informal integration mechanisms affect the capability transfer through their impact on the social integration of the combining organizations. It is argued that this model provides us with an overall framework through which one can better understand the linkages and causal relationships between national cultural differences and capability transfer. Future empirical work is encouraged to validate and/or refine the various testable propositions.

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National Cultural Differences and Capability Transfer in Cross-Border Acquisitions Companies have spent trillions of dollars on acquisitions that have transformed industries and affected the lives of millions (Larsson and Finkelstein, 1999). In spite of their popularity and strategic importance, however, the performance of many acquisitions has been disappointing. A meta-analysis of 93 published studies with data on 206,910 acquisitions revealed that on average the post-acquisition performance of the acquiring firms fails to surpass or tends to be slightly poorer than that of nonacquiring firms (King et al., 2004). Furthermore, the four variables most commonly used in empirical research to predict acquisition performance – degree of diversification of the acquirer, the extent to which the acquirer and acquired firms are related, method of payment, and prior acquisition experience – failed to explain variance in post-acquisition performance. This led King et al. (2004) to conclude that researchers have: “not… identified those variables that impact an acquiring firm’s performance” (p. 196). More theory development is clearly needed to shed light on factors that may contribute to acquisition performance, including factors related to the process of socio-cultural integration (Shrivastava, 1986) that are currently under-represented in theory and research that seek to explain acquisition performance. Mergers and acquisitions [M&A] researchers have argued that M&A failures are often due to problems combining the different cultures and workforces during the integration phase. Differences in organizational cultures and the construction of ‘us’ versus ‘them’ among the employees in the merging organizations may lead to lack of collaboration and failed opportunities for interunit learning (Cartwright and Cooper, 1996; Marks and Mirvis, 1998; Nahavandi and Malekzadeh, 1988; Schweiger and Walsh, 1990). Problems may be exacerbated when M&As occur between companies based in different countries. Foreign language problems, different legal systems, and national cultural barriers can

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be major obstacles to achieving integration benefits (Malekzadeh and Nahavandi, 1998; Morosini and Singh, 1994; Olie, 1990). However, empirical findings about the impact of cultural differences on M&A integration outcomes are mixed, and a positive relationship between cultural distance and post-integration performance has sometimes been observed (e.g., Larsson and Risberg, 1998; Morosini, Shane and Singh, 1998). A recent meta-analysis of the existing body of research (Stahl and Voigt, 2003) revealed a non-significant statistical relationship between the cultural distance between the merging organizations and post-combination financial performance. These findings indicate that the relationship between cultural differences and post-combination integration outcomes is complex, and that further theoretical and empirical work on the impact of mediating and moderating variables is called for (Morosini et al. 1998). In this paper we build on research on the redeployment of complementary resources, as well as work on capability transfer in multinational corporations [MNCs] to develop an integrative model of the relationship between national cultural differences between the acquiring and acquired firms and the success of the post-acquisition capability transfer. We propose that national cultural differences tend to be positively associated with the units possessing complementary capabilities, the existence of which is likely to be positively associated with successful capability transfers between the acquirer and the acquired organization. It is today commonly accepted that an important competitive advantage of MNCs is their superior ability to transfer capabilities across geographically dispersed units (Doz, Santos and Williamson, 2001; Grant, 1996; Gupta and Govindarajan, 2000). This view highlights the significant role of foreign subsidiaries (Birkinshaw and Hood 1998) – units most commonly established through acquisitions – as both providers and receivers of knowledge in the ‘differentiated’ MNC (Nohria and Ghoshal, 1994). This reasoning is consistent with strategy research indicating that redeployment of complementary resources between the acquiring and acquired units subsequent to acquisitions 4

contributes to superior performance (Capron, 1999; Capron and Pistre, 2002). Hence, access to complementary capabilities (Harrison et al., 2001; King, Covin, and Hegarty, 2003) may mediate the relationship between national cultural difference and acquisition performance. However, research has also uncovered a range of barriers of interunit capability sharing across MNC units (e.g., Gupta and Govindarajan, 2000; Schulz, 2003; Szulanski, 1996). In this paper we focus on the influence of two factors on capability transfer: the degree of social integration and the ability of the acquired organization to absorb capabilities from the acquirer. We argue that both social integration and absorptive capacity mediate the relationship between national cultural differences between the parties involved in an acquisition and the post-acquisition performance. We also propose that the perceived attractiveness of the acquiring company and the integration mechanisms used by the acquiring organization affect interunit social integration and, hence, capability transfer. We begin with a review of prior research dealing with the role that cultural differences play in the acquisition process. We also review the literatures on resource complementarity in general and resource deployment in acquisitions in particular, and examine research on capability transfer in MNCs. Next, a theoretical model will be developed that attempts to explain the mechanisms through which national cultural differences affect post-acquisition performance, conceptualized in terms of capability transfer success. A number of propositions are derived from the model to guide future empirical research. The model deals with acquisitions only, although it is likely to be applicable also to mergers. THEORETICAL BACKGROUND Impact of Cultural Differences in Acquisitions In the international and cross-cultural management literatures, differences between cultural systems have frequently been conceptualized in terms of “cultural distance” (e.g., Hofstede, 1980; Kogut and Singh, 1988). The cultural distance hypothesis, in its most general form, suggests that the difficulties, costs, and risks associated with cross-cultural contact increase with growing cultural divergence between two individuals, groups, or organizations. Cultural distance, measured e.g. in terms 5

of differences in management style or work-related values, has been shown to have a profound impact on such variables as the choice of foreign entry mode and the perceived ability to manage foreign operations (e.g., Kogut and Singh, 1988), organizational learning across cultural barriers (e.g., Barkema, Bell, and Pennings, 1996), and the longevity of global strategic alliances (e.g., Parkhe, 1991). In the context of acquisitions, it has often been argued that national and organizational cultural barriers can be major obstacles to achieving post-combination integration benefits (e.g., Buono and Bowditch, 1989; Olie, 1990; Shrivastava, 1986). For example, Cartwright and Cooper’s (1993, 1996) model of culture compatibility proposes that the organizational cultures of merging firms have to be compatible in order to integrate successfully. Consistent with Cartwright and Cooper, models of the acculturation process following acquisitions suggest that cultural differences may lead to acculturative tension and negatively affect various aspects of the post-combination integration process (Elsass and Veiga, 1994; Nahavandi and Malekzadeh, 1988; Sales and Mirvis, 1984). International acquisitions may be particularly difficult to integrate because they require “double layered acculturation” (Barkema et al., 1996), whereby not only corporate cultures, but also different national cultures have to be combined. National cultural differences, and the associated stereotypes and chauvinistic biases, are frequently cited as a source of hostility and continuing conflict between members of merging organizations (Malekzadeh and Nahavandi, 1998; Olie, 1990). While extant cultural fit and acculturation models emphasize the “dark side” of cultural diversity in acquisitions, the empirical research evidence is mixed (see Schoenberg, 2000; Schweiger and Goulet, 2000; Stahl and Voigt, 2003 for recent reviews). While some studies found cultural differences to be negatively related to stock market performance, accounting-based performance measures or sociocultural integration outcomes, others found cultural differences to be unrelated or even positively related to indicators of acquisition performance. Thus, the “cultural distance” hypothesis is too simplistic an explanation for the cultural processes involved in integrating merged or acquired organizations. There is

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a need for more conceptual and empirical work on how cultural differences between the acquiring and the acquired firms may influence the success of the acquisition. Capability Transfer in Acquisitions The inconsistent findings in empirical studies of the performance implications of national cultural differences on M&A performance may in part be due to inconsistencies in the definition and measurement of the outcome variables under investigation. For example, cultural differences may have different effects on the level of social integration of the combining units, accounting-based measures of performance, the stock price performance of the acquiring firm, and the extent to which capability transfers take place among the combining units. In this section we will focus on strategic capability transfer success as the outcome variable in the post-acquisition integration process. A common theme in acquisition research is that superior performance in related acquisitions can only be achieved if the organizational combination leads to synergy, whereby in combination, the two organizations create more value than each could achieve alone (Schweiger and Walsh, 1990; Haspeslagh and Jemison, 1991). Larsson and Finkelstein (1999) argue that the synergy potential of a M&A is a function of both similarities and complementarities – different products, market access, or know-how that fit with and enhance one another – between the two firms engaged in an M&A. However, it has been forcefully argued that synergistic benefits are more likely to produce abnormal returns when based on complementarities rathan than similarities (Harrison et al., 2001). Barney (1988) suggested that M&As create value to the acquirer when it controls unique and valuable resources that can be leveraged into the target organization, and Harrison et al. (1991) provided early evidence that complementarities but not similarities was associated with superior M&A performance. Combinations of complementary capabilities cannot easily be duplicated by other firms and may hence provide the acquirer with a possibility to earn abnormal returns from the acquiisition. Hence, the focus in this paper not on the possibilities for restructuring and cost cutting that arise from overlapping activities but rather on the potential for value creation associated with complementary capabilities. 7

Our focus on capability transfer is consistent with Jemison’s (Haspeslagh and Jemison, 1991; Jemison, 1988) model of value creation in acquisitions. According to this model, the objective of related-business acquisitions is to improve the competitive position of one or both of the firms by the transfer of complementary strategic capabilities between them. In focusing on capability transfer, our model deals with both managerial and operational issues, including benefits from acquiring and assimilating operational and managerial techniques, know-how and systems from the other unit (Larsson, 1990; Larsson and Finkelstein, 1999). It should be noted that we do not propose that a capability transfer entails a ‘perfect’ replication in the receiving unit (cf. Argote and Ingram, 2000). Capron’s work on value creation in horizontal acquisitions by US and European firms renders support to this reasoning. Capron, Dussage and Mitchell (1998) found that the relative strength of the merging firms along several resource dimensions – including technical innovation capabilities, manufacturing know-how and managerial capabilities – affected the redeployment of these resources in the other firm. In a separate paper, Capron concludes that the post-combination use of resources from the acquirer in the target organization and to some extent vice versa contributed to acquisition performance (Capron, 1999). Capron and Pistre (2002) found that transfers of resources from the acquirer to the target were associated with abnormal returns, while transfers from the target to the acquirer did not ensure value creation. Overall, these results suggest that firms involved in acquisitions tend to transfer complementary capabilities to the target and/or acquiring unit, and that these transfers are important for M&A performance. This paper concentrates on capability transfers from the acquiring to the acquired unit, the case where the possibilities for superior performance from the acquisition is most likely (Barney, 1988; Capron and Pistre, 2002). However, most of the reasoning applies also to capability transfers in the opposite direction. Apart from the existence of complementary capabilities, which factors contribute to successful post-acquisition capability transfer? During recent years, scholars within strategy, management, and international business research have extensively studied transfers of capabilities/knowledge within and 8

between corporations. International business researchers have increasingly moved towards viewing the MNC as an interorganizational network of geographically dispersed and differentiated units (Bartlett and Ghoshal, 1989; Ghoshal and Bartlett, 1990; Nohria and Ghoshal, 1997; Hedlund, 1986), whose raison d’être lies in the ability to exploit resources – especially capabilities– more efficiently internally than would be possible through external market mechanisms (Zander and Kogut, 1995). In exploring this issue, a range of barriers to and enablers of capability transfer has been uncovered (Gupta and Govindarajan, 2000; Schulz, 2001, 2003; Szulanski, 1996). In addition to factors related to the type of knowledge involved, barriers to transfer include motivational factors associated with both the sending and the receiving unit (Gupta and Govindarajan, 2000; Szulanski, 1996), indicating that cooperative and cohesive behavior of foreign subsidiaries involved in interunit capability transfers is crucial for the effective functioning of an MNC. In the conceptual model developed in this paper, we posit that, first, the levels of social integration between the acquiring and the acquired firms and, second, the acquired firm’s potential capacity to absorb capabilities from the acquirer will mediate the relationship between national cultural differences and interfirm capability transfer. A central aim of social integration, or socialization, is to establish a shared set of values and objectives across MNC units (Nohria and Ghoshal, 1994), providing them with a strong sense of a shared identity and mission (Hedlund and Kogut, 1993; Kostova, 1999). The existence of extensive and strong interpersonal relationships across MNC units also facilitates social integration (Kostova and Roth, 2003). From a knowledge sharing perspective, the underlying rationale is that to the extent that different units are socially integrated, they are more likely to engage in transfer of resources, and also more likely to exchange complementary knowledge needed to pursue their shared vision (Nahapiet and Ghoshal, 1998). In an important conceptual paper, Zahra and George (2002) proposed that two subsets of absorptive capacity exist, potential absorptive capacity and realized absorptive capacity. Potential absorptive capacity consists of the organization’s capacity to acquire and assimilate knowledge, while 9

realized absorptive capacity centers on knowledge transformation and exploitation. We propose that potential absorptive capacity is an important intermediate variable between cultural differences and strategic capability transfers following acquisitions. To the extent that successful transfers of capabilities are to take place, this requires sufficient capacity on the part of the receiving unit to acquire knowledge that is important to its operations and to analyze, process, interpret and understand this knowledge. Although a number of general components of potential absorptive capacity are likely to be of significance in acquisitions, we emphasize here the receiver’s capacity to assimilate capabilities from the acquiring organization. CONCEPTUAL MODEL Figure 1 presents the model developed in the following sections. Proceeding from left to right, the model suggests that national cultural differences can affect post-acquisition capability transfer through their impact on social integration, target absorptive capacity, and capability complementarity. Furthermore, the model proposes that acquirer attractiveness and the use of formal and social integration mechanisms are important antecedents of social integration and, indirectly, the capability transfer success in acquisitions. ________________ Insert Figure 1 here ________________

Factors Influencing Social Integration Next, we will discuss the factors that are proposed to impede or enhance the social integration of the organizations or units involved in an acquisition. For the purpose of this paper, social integration is conceptualized as the creation of a shared identity, the establishment of trusting relationships, and the absence of conflicts between the combining organizations.

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There is extensive evidence in social psychology that perceived similarity tends to result in a higher degree of attraction towards the other party (Darr and Kurzberg, 2000). Differences in national cultures tend to strenghten the in-group versus out-group biases and result in an increased level of distrust (Sitkin and Roth, 1993) – the frequently observed ‘us’ versus ‘them’ syndrome in M&A (Elsass and Veiga, 1994; Marks and Mirvis, 1998; Empson, 2001; Stahl and Sitkin, 2001). Social Identity Theory explains how, under conditions of perceived external threat such as in cross-border acquisitions, individuals strive to maintain their positive social identity by idealizing their own group and/or denigrating the other group (Ashforth and Mael, 1989; Tajfel, 1981; Turner, 1982). Support for this proposition can be found in research findings indicating that takeover attempts increased target firm members’ resistance, with them becoming a more cohesive unit in response to the perceived external threat (Hogan and Overmyer-Day, 1994; Larsson, 1990; Ulrich et al., 1989). National cultural barriers and the associated stereotypes and chauvinistic biases are likely to augment this tendency and impede social integration. Sitkin and Roth (1993) have suggested that distrust is engendered when an individual or group is perceived as not sharing key cultural values, because that person or group is perceived as operating under values so different that their world views is suspect. Because individuals are more likely to perceive out-group members as untrustworthy than they are to so perceive in-group members, trust in a person or group will be greater when the two are culturally or ethnically similar (McAllister, 1995). Studies of cooperative alliances have found that shared values or other sources of cultural similarity facilitate the creation and maintenance of trust (Anderson and Weitz, 1989; Gulati, 1995; Sarkar et al., 1997; Young-Ybarra and Wiersema, 1999). In the context of M&As, cultural differences are frequently cited as a source of hostility and distrust between members of merging organizations (Cartwright and Cooper, 1996; Elsass and Veiga, 1994; Olie, 1990). The communication problems often found in crossborder acquisitions may further impede the development of trusting relationships between the parties involved (Vaara, 2003). 11

In addition, cultural differences can be a major source of inter-organizational conflict. Fundamentally different values, goals and beliefs concerning what constitute appropriate organizational practices may lead to covert or overt political struggles between the two parties (Vaara, 2001, 2003). In international settings, such politicization tends to be fueled by increasing nationalism or even xenophobia. This international confrontation often unite people on the same side of national boundaries, a tendency that is further strengthened when specific issues are discussed in the national media (Risberg, Tienari, and Vaara, 2003; Tienari, Vaara, and Björkman, 2003). Furthermore, the actions taken and the messages sent by the acquiring organization are particularly likely to be misinterpreted by employees in culturally distant countries, creating false impressions that in turn trigger political behavior and conflicts (e.g., Vaara, 2003). Furthermore, there is reason to suspect that cultural differences become overly easy attribution targets, meaning that perceived internal politics or power struggles are seen or portrayed as caused by cultural differences even in circumstances where this is not the case. The foregoing discussion suggests the following proposition: Proposition 1: The greater the national cultural differences between the acquiring firm and the acquired firm, the lower the level of social integration following the acquisition. The model presented in Figure 1 proposes that, in addition to national cultural differences, two sets of variables will affect the post-acquisition level of social integration: the perceptions held by people in the acquired firm of the attractiveness of the acquirer as the new owner of their organization, and the way in which the acquirer manages the integration process through the use of social and formal integration mechanisms. While the perceived attractiveness of the acquirer is likely to be a major influence on acquiring firm members’ reactions immediately after the announcement of the takeover, the social and formal integration mechanisms discussed below are likely to influence the social integration dynamics during the entire post-acquisition integration phase. We propose that the perceived attractiveness of the acquiring firm is strongly influenced by prior inter-firm contacts or, in the absence of a cooperative history, the reputation of the acquirer. A reputation 12

represents a cumulative record of past behaviors, and can serve as a reliable signal of the integrity and dependability of a counterpart. As has been shown in research on strategic alliances, the behavior of firms in alliances with other partners may allow potential partners to infer their future behavior and thus develop trust (Johnson et al., 1996; Parkhe, 1998). Even more powerful than reputation is a common history of interaction. Alliance researchers have shown that trust evolves over time through repeated interactions between partners (Gulati, 1995; Ring and Van de Ven, 1992; Young-Ybarra and Wiersema, 1999). Furthermore, partners come to learn each other’s idiosyncrasies and to develop deeper mutual understanding over time, which improves the affective quality of the relationship (Parkhe, 1993). In the context of acquisitions, if the combining firms have prior positive collaborative experience, this common history of interaction may result in lower barriers for the emergence of a shared identity, greater mutual trust and less conflict between the members of the two firms. Conversely, if members of the two organizations involved in an acquisition had a conflict-rich or inequitable exchange prior to the takeover – and employees in the acquired firm thus hold negative opinions of the acquirer – this condition may limit the potential for trust to emerge, hamper the creation of a shared identity, and increase the likelihood of post-combination conflicts. Several other determinants of acquirer attractiveness have been discussed in the M&A literature. It has been proposed that the acquired firm employees’ perceptions of the culture of the acquiring firm is an important factor (Nahavandi and Malekzadeh, 1988). If members of the target firm do not feel attracted to the acquirer’s culture and are unwilling to adopt its culture, it is likely that the acculturation process will be characterized by a high degree of conflict. If, on the other hand, members of the target firm feel attracted to the acquirer’s culture, this will reduce the potential for conflict and increase the chances for successful social integration. Further, we propose that relative firm performance and the quality of post-acquisition reward and job security changes will affect perceptions of acquirer attractiveness. For example, Bastien (1987) found that the overall mood of the employees and managers in one of the companies in his study was 13

celebratory and optimistic after a “white knight” acquisition by a healthy buyer. When a successful company acquires a poorly performing firm, employees in the acquired firm may see this as a chance for greater job security, and enhanced self-esteem and pride. Being liberated from weak and ineffective management may thus enhance employee morale and reduce the potential for conflict during the integration process (e.g., Hunt, 1990; Larsson, 1990). Professional respect for the acquirer’s staff is also an important element in the target unit’s attitude towards the buyer organization (Bresman et al., 1999; Empson, 2001). In general, where members of a target firm welcome an acquisition because of the acquirer’s superior innovation capabilities, business model, or financial results, the relationship is more likely to be one of trust and cooperation rather than conflict and resistance. In a similar vein, the perceived quality of the human resource management practices and reward system of the acquiring firm is likely to affect target firm members’ reactions to the takeover and the subsequent integration process (Evans, Pucik, and Barsoux, 2002; Schweiger and Walsh, 1990). For instance, an acquirer that has a reputation for paying high salaries, investing heavily in the development of its employees, and providing good career opportunities can be expected to meet a workforce in acquired units that is more inclined to become socially integrated with the acquiring organization (Graves, 1981; Hunt, 1990; Larsson, 1990). Based on the discussion above we suggest that: Proposition 2: The greater the perceived attractiveness of the acquiring firm, the higher the level of social integration following the acquisition. While pre-combination factors such as cultural differences between the companies involved in an acquisition and acquirer attractiveness are likely to be important antecedents of the social integration following the acquisition, a “process perspective” on M&A suggests that post-combination integration outcomes depend to a large extent on the management of the integration process (Haspeslagh and Jemison, 1991; Jemison and Sitkin, 1986; Pablo, Sitkin, and Jemison, 1996). Larsson and Lubatkin (2001) propose that two integration mechanisms or forms of control, “social” and “formal” controls,

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influence post-acquisition acculturation. These two forms of control are likely to affect not only acculturation outcomes, but also the post-acquisition social integration in general. The importance of social or informal integration mechanisms, such as personnel rotation, shortterm visits, participation in joint training programs and meetings, and membership in cross-unit teams, task forces and committees has been stressed in research both on control and coordination of the MNC in general (Bartlett and Ghoshal, 1989; Doz and Prahalad, 1981; Edström and Galbraith 1977; Roth, Schweiger, and Morrison, 1991) and in M&A in particular (Birkinshaw, Bresman, and Håkanson, 2000; Haspeslagh and Jemison, 1991; Larsson and Lubatkin, 2001). Through the use of social integration mechanisms between headquarters and foreign subsidiaries as well as between subsidiaries, individuals are likely to develop interpersonal networks as well as open and positive attitudes towards other nationalities and cultures (Edström and Galbraith 1977). In the context of acquisitions, reliance on social controls is likely to contribute to increased interunit trust and the development of shared vision, objectives and cultural values (Larsson and Lubatkin, 2001). As noted by Buono, Bowditch, and Lewis (1985), “[s]ince subjective culture evolves over time as a product of shared experience, when attempting to merge two firms, the greater the number of these shared experiences … the faster a repertoire of symbols and shared meanings will develop with which the merged group of members can begin to identify, and a new culture can begin to take hold” (p. 498). Involvement of the acquired employees in discussions concerning the post-acquisition management and quality of communication are also likely to influence interunit social integration (Hubbard and Purcell, 2001; Kim and Mauborgne, 1998). Conversely, over-reliance on formal integration or control mechanisms may hamper the social integration process. By changing e.g. the name of the acquired firm, formal structure, top management team, and operations and reward systems, the acquirer can try to impose control upon the target firm. Imposed control refers to a situation in which the acquirer removes autonomy from the target firm and imposes a rigorous or standardized set of rules, systems, and performance expectations upon it in order to gain quick control – a situation that Datta and Grant (1990: 32) have termed the “conquering army 15

syndrome.” These structural assaults represent win/lose scenarios that are often resisted by the acquired firm members as they signal a general disregard for the legitimacy of the acquired firm’s culture (Larsson and Lubatkin, 2001). Moreover, because controls tend to signal the absence of trust, their use typically hampers its emergence (Sitkin and Roth, 1993). Close monitoring and tight control may thus lead to feelings of helplessness, hostility, and distrust on the part of the acquired firm members, and may impede the social integration process (Buono and Bowditch, 1989; Hambrick and Cannella, 1993; Jemison and Sitkin, 1986). The foregoing discussion suggests the following propositions: Proposition 3: The more extensively social integration mechanisms are used by the acquiring firm, the higher the level of social integration following the acquisition. Proposition 4: The more extensively formal integration mechanisms are used by the acquiring firm, the lower the level of social integration following the acquisition. Absorptive Capacity The problems involved in transferring knowledge among organizations located in culturally distant environments have been widely acknowledged in the literature. The potential absorptive capacity (Zahra and George, 2002) can be considered an important intermediate variable between cultural diversity and knowledge transfer in acquisitions. The focus here is on the receiving unit’s potential capacity to acquire and assimilate capabilities from the acquiring unit (cf. Lane and Lubatkin, 1998) rather than its potential capacity to absorb capabilities from other sources or in general. Following Minbaeva et al. (2003) we argue that absorptive capacity requires both motivation and ability on the part of the receiving organization to acquire and assimilate capabilities, including knowledge. Several factors may account for the proposed negative relative relationship between national cultural differences and recipient potential absorptive capacity. First, the greater the cultural distance between the sender and the recipient unit, the less likely the acquiring and acquired units are to search for possibilities to transfer capabilities from one unit to the other. Instead of looking for ideas in the other unit (cf. Cyert and March, 1963), the search for 16

possibilities for knowledge sharing is more likely to take place among units that are culturally closer to the own organizational unit. In other words, attention to and thus knowledge of the capabilities residing in their other unit are likely to be negatively related to the cultural distance between the acquiring and acquired organizations, leading to a lack of motivation to initiate processes of interunit capability transfer. Second, in cases when people in the two organizations do possess knowledge of the capabilities of the other unit, the cultural distance between the two units is likely to influence the extent to which the acquired unit perceives the nature of knowledge residing in the acquirer organization as unambiguously valuable for its own operations (Simonin, 1998). The longer the national cultural distance the greater difficulties people in the receiving unit may have in evaluating the potential advantages stemming from the adoption of certain organizational practices from the acquiring firm (Szulanski, 1996; Kostova, 1999). The difficulties are in part due to communication problems. Lack of language proficiency may severely hamper communication but also in situations when most of the persons interacting are fluent in a common language, there may be communication barriers in terms of different interpretations of explicit and implicit messages (Vaara, 2003). Given the propensity of managers and firms to avoid uncertain projects (Cyert and March, 1963), the units are less likely to initiate processes of capability transfer when there is a great national cultural distance between the parties in the acquisition. Third, even if employees in the receiving unit see the value in adopting certain organizational practices from the acquirer, the costs involved in doing so are likely to be higher when they are located in culturally distant countries (Kostova, 1999). Differences in cognitive structures, value systems as well as in behavioral norms all contribute to raising the costs involved in capability transfer. Lack of language proficiency in the interaction between people from cultural distant organizations may also significantly raise capability transfer costs (Grant, 1996). As a consequence, the parties are less likely to engage in processes of acquiring and assimilating capabilities.

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Fourth, organizations located in distant countries are less likely to have a history of collaboration. To the extent that two units collaborate, over time they develop organizational routines for interacting with the other party. Individuals in the two units are also likely to develop cognitive structures that facilitate further absorption of knowledge and other organizational capabilities. Based on these arguments we suggest the following proposition: Proposition 5: The greater the national cultural differences between the acquiring firm and the acquired firm, the lower the potential absorptive capacity of the acquired firm. Capability Complementarities The model presented in Figure 1 suggests that the combination potential increases with growing cultural differences because the combined organizations have recourse to a broader range of capabilities. Human capital-based resource advantages of firms often lie in the administrative routines and repertoires that firms develop to make decisions, to govern the allocation of resources, to formulate strategy, to interact with stakeholders, or to make use of assets. These routines and repertoires are often embedded in national culture (Fiol, 1991; Morosini et al., 1998). Cross-cultural acquisitions provide the acquirer and the acquired unit acces to a valuable repository of capabilities that are embedded in the local environment (Jemison and Sitkin, 1986; Ghoshal, 1987). A cross-border acquisition can thus be interpreted as “a mechanism for the acquiring (or the target) firm to access different routines and repertoires that are missing in its own national culture, and which have the potential to enhance the combined firm’s competitive advantage and performance over time” (Morosini et al., 1998: 141). According to Morosini et al. (1998), acquisitions in culturally distant countries are more valuable, because a greater cultural distance makes it more likely that the target firm will have a set of routines and repertoires that are significantly different from the acquirer’s own set. Further evidence comes from research on “cultural synergies” and sources of competitive advantages in culturally diverse organizations (e.g., Adler, 2002; Cox and Blake, 1991). Potential advantages of cultural diversity related to knowledge transfer and organizational learning, and that might 18

also apply to acquisitions include the potential for enhanced creativity, flexibility, and problem-solving skills, a heightened awareness of the dynamics of cross-cultural interactions, improved effectiveness in working with culturally distinct individuals and groups, and increased ability of the organization to adapt to complexity and change. Thus, there is direct and indirect evidence to suggest the following proposition: Proposition 6: The greater the national cultural differences between the acquiring firm and the acquired firm, the greater the capability complementarity between the two firms. Next, we will examine how social integration, target absorptive capacity, and capability complementarity affect post-acquisition capability transfer. Factors Influencing Capability Transfer A large body of research suggests that in corporations characterized by high levels of social integration, employees in different organizational units are more likely to engage in behavior compatible with the interests of the overall organization. MNC scholars have forcefully argued that social integration is an important predictor of resource sharing and transfer across units (e.g., Bartlett and Ghoshal, 1989; Hedlund, 1986; Nahapiet and Ghoshal, 1998; Kostova, 1999). Moreover, the level of social integration has been shown to be positively associated with inter-unit capability transfer. For instance, Szulanski (1996) identified the perceived reliability of the sending organization as a determinant of knowledge transfer. Tsai and Ghoshal (1998) found that trust was a strong determinant of resource exchange and combination among units belonging to the same MNC. As Bresman et al. (1999: 442) noted in their study of knowledge transfer following international acquisitions, “individuals will only participate willingly in knowledge exchange once they share a sense of identity or belonging with their colleagues.” The accumulated evidence suggests the following proposition: Proposition 7: The greater the level of social integration, the more successful the capability transfer from the acquiring firm to the acquired firm.

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An acquired unit with a high potential absorptive capacity is by definition receptive to acquire and assimilate knowledge from the acquirer (Zahra and George, 2002). Although a high level of potential absorptive capacity does not automatically translate into successful inter-unit capability transfers, we expect the level of realized strategic capability transfer to be higher in acquisitions that are characterized by a high level of potential absorptive capacity than in cases where the acquired unit has a low level of potential absorptive capacity. Proposition 8: The higher the potential absorptive capacity of the acquired firm, the more successful the capability transfer from the acquiring firm to the acquired firm. Prior M&A research suggests that the existence of capability complementarities tends to be positively associated with inter-unit capability transfers. The results of a case survey of 61 M&As conducted by Larsson and Finkelstein (1999) suggest that resource or capability complementarities, such as different products, market access, or knowledge that fit with and enhance one another, create opportunities for various synergistic outcomes, including transfer of current know-how and the creation of new know-how. In a study of horizontal acquisitions in Europe and North America, Capron et al. (1998) found that the relative strength of merging firms along several resource dimensions – including technical innovation capabilities, manufacturing know-how and managerial capabilities – affected the redeployment of these resources in the other firm. Similar results have been obtained in studies of subsidiaries of MNCs in general (Holm and Pedersen, 2000). Therefore, we propose that: Proposition 9: The greater the interunit capability complementarity, the more successful the capability transfer from the acquiring firm to the acquired firm.

DISCUSSION AND CONCLUSIONS While the “dark side” of national cultural differences has been extensively discussed in the M&A literature, the potentially beneficial effect of cultural diversity on M&A outcomes has been largely 20

neglected. Even scholars who have pointed to positive aspects of national cultural differences in M&As (e.g., Morosini et al., 1998; Larsson and Risberg, 1998; Very et al., 1996) have failed to theorize the various mechanisms through which national cultural differences may impact M&A performance. As a step towards developing a more elaborate understanding of the role of national cultural differences in M&As, this paper has focused on capability transfer, an important motive and objective in M&As. The model developed in this paper delineates the mechanisms through which national cultural differences affect the transfer of strategic capabilities and, thus, the performance of cross-border acquisitions. We propose that national cultural differences can be both an asset and a liability in cross-border acquisitions, and explicate some of the key variables and processes through which we can understand these dual effects. In brief, national cultural differences can be beneficial because they may enhance the combination potential and thus be a source of synergy in M&A. However, they can also create major obstacles to reaping envisaged integration benefits by exacerbating social integration problems and diminishing the acquired firm’s capacity to absorb capabilities from the acquirer. For managers, the model developed in this paper points to mechanisms that enhance and hamper post-acquisition capability transfers. Managers may influence the likelihood of successful capability transfers by directing their efforts on augmenting the enhancing factors and by reducing the factors that inhibit capability acquisition and assimilation. For instance, the use of appropriate social integration mechanisms can improve social integration and, hence, the likelihood of successful interunit capability transfers. Companies may also attempt at enhancing the perceived attractiveness of the acquiring company. Our intention has been to develop a conceptual model of the key factors that mediate the relationship between the national cultural distance between the acquiring and acquired firms and the extent to which capability transfer takes place from the former to the latter. We have also incorporated some other factors viewed as important for the model to be comprehensive enough to explain a significant variance in post-acquisition capability transfers while at the same time aiming at developing 21

a model that is as parsimonius as possible. In spite of the relative comprehensiveness of the model, additional factors may of course be included. For instance, moderating factors could be added, such as the performance management system implemented by the acquiring organization or the degree to which the focal capabilities include tacit elements embedded in non-formalized but routinezed actions and interactions as well as knowledge residing in the memories of individuals (Empson, 2001; Chaudhuri, 2004). In addition to national cultural diversity, the effects of corporate cultural differences on M&A performance warrents further theoretical and empirical research attention (Morosini et al., 1998). Scholars may also model factors that influence the overall performance of the M&A. Based on previous research on both M&As (Capron, 1999; Capron and Pistre, 2002) and MNC units in general (e.g., Tsai and Ghoshal, 1998) a positive relationship between capability transfer and overall performance is to be expected, but also additional factors influencing overall M&A overall performance may be modelled. Another way to further develop the model presented in this paper is to incorporate more explicitly dynamic elements. Successful capability transfers may have positive effects on the level of social integration in terms of closer interunit social relationships and increased trust. The interunit interaction necessary to transfer capabilities is also likely to augment the potential absorptive capacity of the acquired unit through a convergence of cognitive structures and behavioral norms as well as the development of procedures used to transfer capabilities. Another likely result of past interunit capability transfers is improved knowledge of the potentially valuable capabilities residing in the other unit. A longitudinal research design is needed to conduct a proper test of the possible effects of such feedback loops. One of the issues that scholars will need to address in empirical research on M&A performance is the question of level of analysis. In this paper as well as in most previous research, theorization and empirical research has been conducted at the firm level of analysis. However, capability transfers often take place at a functional level or even at the level of specific teams of employees. For instance, acquisitions of high technology companies may be carried out with the primary objective to integrate 22

teams of researchers in the acquiring and acquired firms with the vision of sharing capabilities among the research teams (Chaudhuri and Tabrizi, 1999). In such cases, most of the constructs in the proposed model – including acquirer attractiveness, use of social integration mechanisms, and use of formal integration mechanisms - are most appropriately examined at a functional rather than firm levels of analysis. In other words, when most of the capability transfer takes place within one functions also the mediating factors are likely to operate at this level of analysis. We hope that the propositions developed in this paper are a useful basis for future empirical investigations into factors that contribute to acquisition performance. Such studies are needed to corroborate the hypothesized relationships as well as for developing our understanding of the various contextual variables that moderate their impact. In conclusion, time is ripe to take additional steps towards opening up of the “black box” of the relationship between cultural diversity and cross-border acquisition performance.

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FIGURE 1 Model of Antecedents and Mediators of Capability Transfer Success in Acquisitions

Use of Social Integration Mechanisms

Acquirer Attractiveness

+

National Cultural Differences

-

Use of Formal Integration Mechanisms

+

-

+

Social Integration

Target Absorptive Capacity

+

+

Capability Transfer Success

+

Capability Complementarity

28