Relationship between Foreign Direct Investment and Corporate Social Responsibility - Essay Example

The more international a company becomes, the more complex its stakeholder responsibility becomes Executive Summary The purpose of this report is to determine the relationship between foreign direct investment and corporate social responsibility. It seeks to establish how corporate social responsibility practices of a company change when the company goes international. This report uses a wide range of research, including journal articles and books, to explain some theories and align them to practice in international business. The information is analysed through description and objective evaluation of resources to arrive at the conclusions. It is clearly shown in this report that foreign direct investment complicates the CSR practices of multinational corporations and other businesses operating internationally. This shows that there is a strong relationship between CSR and FDI. The relationship is influenced by several factors. First, stakeholder legitimacy problems cause international businesses to adapt to local CSR practices because stakeholders in host countries exert pressure on them to behave according to their interests in order to be considered legitimate. Secondly, international human resource management policies in host countries may complicate CSR practices of the foreign country due to the difference between HRM practices of the host and home country. Expatriate problem also results in complex CSR practices because expatriates may experience new cultures and behaviours in the host country that may change their CSR practices. Institutional distance is also considered as another factor affecting the relationship between CSR and FDI. A high institutional distance between hoe and host country usually leads the multinational corporation to adapt to the local CSR practices. Table of Contents Executive Summary 1 Introduction 3 CSR Concept 4 The Impact of Foreign Direct Investment 5 The Relationship between CSR and Foreign Direct Investment 6 Stakeholder Legitimacy Problems 6 International human resource management 9 The Expatriate Problem 9 Institutional Distance 10 Conclusion 11 References List 13 Introduction Recent research indicates that a company operating in host countries with different institutional environment and demanding stakeholders are likely to adapt local practices in order to legitimize their foreign direct investment in host countries (Yang and Rivers, 2009). This can be explained using the institutional theory and stakeholder theory which explain internal and external motivations for legitimacy in multinational corporations. Foreign Direct Investment is the acquisition of assets by an international company in another country. Foreign Direct Investors face the challenge of integrating home country CSR practices and the demands of stakeholders in the host country. Understanding these legitimacy pressures for foreign direct investment requires a link between corporate social responsibility and foreign direct investment. In this report, corporate social responsibility is defined from a stakeholder perspective – initiatives and strategic approach towards the achievement of stakeholder interests (McWilliams and Siegel, 2001). The stakeholders of an international company include all individuals who are directly or indirectly affected by the actions of the company. Sometimes companies operating in foreign countries experience situations in which CSR practices in the host country are different from those of foreign countries. Therefore, the more a company becomes international, the more complex its stakeholder responsibility becomes. According to Rodriguez et al (2006), CSR is an important tool for understanding how international companies adapt to the changing dimensions of international political and economic environments. This report will discuss the link between CSR and corporate social responsibility, and how international companies use CSR as a tool for achieving legitimacy in their foreign direct investments in the host country. It also explains how international human resource management can be used to manage corporate social responsibility in international business and how expatriation affects the CSR policies of international companies in foreign direct investment. CSR Concept CSR is a situation in which a company goes beyond the ordinary compliance to participate in activities that advance social cause (Rodriguez et al, 2006). Companies operating in foreign countries are usually likely to be highly publicized, receiving a lot of public attention and greater demands from stakeholders than local companies. This calls for international companies to promote social performance. Multinational corporations also cause human right violations, labour infringements, and environmental pollution. These activities are against the principles of corporate social responsibility and may cause public pressure in the host country. For example, Samsung operations in China attracted public outcry from stakeholders who alleged that Samsung’s manufacturer in China uses child labour and several deaths are reported in their mining sites. This means that the interests of the host communities are undermined and the community rises to demand its rights and protection of their interests (Blonigen and O'Fallon, 2011). In order to obtain legitimacy in China, Samsung had to respond to the demands of the stakeholders by taking action against their Chinese manufacturer. Corporate social responsibility can also be explained in an ethical perspective as the ethical responsibility for an organisation beyond corporate profits and considers the society. Ethical responsibilities include norms, standards and practices that show concern, fairness and justice to consumers, shareholders, employees and the community. Corporate social responsibility also requires organisations to act in the best interest of the community and to protect the environment (Sundaram and Black, 1992). Protecting the environment requires organisations to reduce carbon gas emissions, pollution and all forms of environmental degradation. Climate change is also an important environmental issue today and organisations corporate social responsibility can be demonstrated by supporting programmes that limit the impact of climate change. Furthermore, CSR is enhanced through philanthropic responsibilities (McWilliams and Siegel, 2001). This involves giving resources back to the community through charity, supporting community projects, and offering scholarship to children throughout their education. From this analysis of CSR, it is clear that the concept is of great importance to corporations, the society and stakeholders. Multinational corporations can use corporate social responsibility policies to set their priorities and strategies towards stakeholders in order to develop a good working relationship with them (Dufey et al, 2008). CSR strategies may also be used in organisations to improve social impact and increase profits in the long term. Multinational corporations may also work with communities through CSR to enhance sustainable development and promote shareholder profit. CS, especially in stakeholder perspective promotes partnership throughout the organisation in order to enhance a win-win situation in which the company’s objectives as well as those of stakeholders are achieved. The Impact of Foreign Direct Investment The major role of foreign direct investment is to add value in the economy (Meyer, 2004). When this monetary objective overlaps or coincides with the corporate social responsibility demands from the host country, the multinational corporation faces dilemma. Multinational corporations are the ones largely responsible for foreign direct investment. They affect host economies in a number of ways, including the transfer of technology and creation of linkages with local firms (Dufey et al, 2008). Infusion of technology into the host country leads to value addition because new technologies can be used to enhance new production mechanisms and improvement of product quality and value in the host country. Fortanier and Kolk (2007) suggest that direct foreign investment enhances growth in the host countries, especially less developed countries (LDCs). This may occur as a result of structural effects caused by the entry of foreign direct investors or MNCs in the host country. Vertical and horizontal structural changes may occur when a multinational corporation invests in a foreign country. In terms of horizontal influence, MNCs may increase competition and improve economic efficiency and resource allocation (Meyer, 2004). However, the entry of multinational corporations with large financial bases and economies of scale may cause crowding out effect on small local companies. This may lead to monopolies which results in inefficiencies in the long run. Furthermore, financing multinational corporations in the local market may cause an increase in credit constraints for local firms. Backward and forward spillovers may also occur through foreign direct investment, leading to increased productivity in the economy (Dufey et al, 2008). For instance, the linkage between foreign investors and local suppliers through the purchase of raw materials from local firms may lead to increased output and productivity of the local supplier firms. MNEs provide technical and managerial assistance to suppliers due to the positive sourcing relations between them. Forward linkages with buyers also occur as business and individual customers buy products from multinational corporations. MNCs usually have large scale in everything, and they can provide marketing knowledge, low prices and quality products to customers. Foreign direct investment also enhances transfer of knowledge and skills from the home country to the host country (Meyer, 2004). Multinational corporations create and control technologies that enable them to spread managerial skills and knowledge about products and production processes to host country firms. This enables local firms to improve their production capacity. Knowledge and skills transfer can also be achieved through movement of labour from the home country to the host country. The Relationship between CSR and Foreign Direct Investment As multinational corporations engage in foreign direct investments in foreign countries, they are likely to experience different CSR practices in the host country than those of the home country. This challenge is caused by stakeholder influence because stakeholders demand concern and ethical practice from the foreign investors (Vinten, 2001). Foreign investors also face a challenge of dealing with international human resource management, expatriate assignments and institutional distance in foreign countries. These issues are addressed below. Stakeholder Legitimacy Problems An international company comes into contact with several stakeholders who depend on its practices in one way or another. The key stakeholders affected by foreign direct investments include: government institutions; community served by the international company; industry players; non-governmental organisations (NGOs); shareholders; parent firms; employees; and consumers. These stakeholders are classified as organisation specific (internal) or external stakeholders (social context). Company specific (internal) stakeholders include consumers, shareholders, parent firms and employees. On the other hand, external stakeholders (social context) include community, NGOs, and government institutions. These categories are shown in the figure below Figure 1: Social and Organizational Factors Affecting Foreign Direct Investment (Yang and Rivers, 2009) In the figure above, the innermost rectangle represents the CSR practices of the subsidiaries of an international company operating FDI in a foreign country. The middle circle represents the influences of internal stakeholders while the arrows pointing to the inner rectangle are the influences of the external stakeholders on the CSR practices of the company, and they include: community voice; activities of NGOs; industry bodies; and formal institutions. According to the stakeholder perspective, the stakeholders affect the CSR practices of the organisation by controlling the flow of resources to the firm in order to affect their strategies (Yang and Rivers, 2009). One of the ways of controlling resources is by stopping the flow of resources to the organisation in order to withhold strategy. For example, a consumer can limit the flow of resources into the company by using his power not to buy products from the international firm, and instead buy them from a local firm to influence the behaviour of the international company if it lacks legitimacy in host country (Yang and Rivers, 2009). The second method is by limiting the use of resources by the firm in order to affect usage strategy of the firm. For example, the stakeholder like a government institution may exercise its power by requiring the international company to achieve certain regulations such as quotas and custom duties. In order to obtain external legitimacy, international companies have to satisfy various stakeholders in the host country (Osuji, 2011). This brings a challenge when the demands of the host country are different from those of the host country because the international company also has to comply with the CSR practices of their home country parent company. Organisation-specific stakeholders affect the complexity of CSR practices in foreign direct investment. When a company enters a foreign country, they do so by acquiring assets of another company. If the parent company provides the largest amount of resources and legitimacy to the subsidiary in the host country, then the company is less likely to adapt to the local CSR practices of the host country (Yang and Rivers, 2009). A company usually achieves internal legitimacy through CSR policies and regulations within the company (Sundaram and Black, 1992). If the subsidiary depends on its parent company for technology, knowledge and capital access, it will depend on the legitimacy provided by the parent company to survive. The action of the consumer also affects the corporate social responsibility practices of companies in foreign direct investment. Foreign companies usually have a problem adapting to the attitudes, values and culture of local consumers in the host country because socially responsible consumers in the host country avoid buying purchasing products and services from foreign investments that cause harm to the society or the environment (Eden and Molot, 2002). Therefore, for a company to invest successfully in a foreign country it should seek legitimacy from the local customers in the foreign country. However, the differences of culture between home country and host country make it difficult for the foreign company to adopt appropriate CSR practices that will meet the needs and interests of customers in the host country. Lastly, the power of employees influences the complexity of corporate social responsibility in foreign investment. One of the ways of seeking legitimacy from customers is by employing people from the host country to work in a foreign investment because local employees understand the legal, cultural, social and economic interests and situations of the host country. However, the challenge of these employing local employees is that they will also give their own legitimacy demands that may conflict the internal legitimacy of the human resource management of the parent company. International human resource management HRM policies should always be in line with the firm’s strategy and the right people should be hired and placed in the right place at the right time. The functioning of employees is then complicated by differences that exist between the host and home countries. For instance, staffing policies of one country may differ from the staffing policies of other countries. In the home country, individuals with certain skills may be a required for the job but the host country does not give restrictions on skills with the assumption that skills are developed through experience at work. Staffing policies are ethnocentric, polycentric or geocentric. In ethnocentric policies, people are selected by parent country nationals. This enables the company to achieve unified culture, transfer of core competences and attraction of qualified staff. Polycentric policy occurs when the host country nationals are responsible for managing foreign investments (Eden and Molot, 2002). This eliminates cultural myopia. Lastly, geocentric staffing policies look for the most qualified individuals regardless of their nationality. This enables the company to make the best use of human resources. These different policies make corporate social responsibility practices complicated in foreign direct investments. Part of the principles of corporate social responsibility is that the company should take care of interests of all stakeholders including employees. The staffing policies of a company may not be acceptable in host country and it may look unfair to select employees using such policies. The Expatriate Problem An expatriate is someone who is sent to work in an international assignment. Expatriate failure usually occurs when the expatriate is not able to complete the assignment and returns home prematurely. Some of the factors that may cause expatriate failure include: hostility, incompetence, cultural differences and difficult weather conditions. An expatriate undergoes some phases of adaptation in the host country like that of boom and recession in economic cycle, as shown in the diagram below. Fig 2: Expatriate phases From the figure, it is clear that an expatriate experience moments of good feeling and moments of bad feeling in an international assignment. The upper feelings above the horizontal line are good feelings such as fascination, surface adjustment, integration/acceptance and reintegration. On the other hand, the lower feelings below the horizontal line are good feelings such as anxiety, initial culture shock, mental isolation, and reverse culture shock upon returning home. Institutional Distance The institutional distance between a home country and the host country refers to the similarities and differences between the two countries in terms of cognitive, normative, and regulatory aspects of the two countries (Yang and Rivers, 2009). Companies operating foreign direct investments in foreign countries that have different institutional environment than their home country, they are likely to adapt to the local CSR practices. This ensures that the company responds appropriately to the needs of stakeholders in the host country and achieves greater legitimacy to operate there. Institutional distance causes legal liabilities for foreign direct investment (Bardy et al, 2012). As noted earlier, corporate social responsibility includes the ability to comply with regulations in the business environment. However, a multinational corporation may not be familiar with the regulation institutions of the host country, leading to unpredictable costs to the business. Sometimes institutional distance in terms of legal differences between host and home countries may be caused by the use of stereotypes and standards by host countries to make judgments on foreign companies (Bardy et al, 2012). For example, a western company may face the liability of foreignness when it establishes a foreign investment in emerging economies such as China and India. Another example is the ongoing xenophobia in South Africa where foreigners and their investments in South Africa are destroyed by the local citizens who claim that foreign businesses have denied them their opportunities (BBC News, 2015). The stereotypes of the local people cause an institutional distance that limits functioning of corporate social responsibility in foreign businesses. Regulation has a great impact on the development of corporate social responsibility towards the society and the environment. Stone et al (2004) stated that high levels of regulation lead to high levels of corporate social responsibility. The argument for this proposition is that companies are more likely to pay attention to legislation if it is associated with penalties and incentives. Foreign investment enables an international company to operate in more than one country with different laws and regulations. As a result, CSR practices are likely to change from one country to another depending on the level of regulation in the host country. Conclusion Foreign direct investment has been seen as an important aspect in international business because it enhances growth and increases productivity through forward and backward spillovers. It also enhances transfer of knowledge and skills to the host country. Corporate social responsibility has been described in two perspectives: as an ethical responsibility towards the environment and as a way of achieving stakeholder legitimacy. Corporate social responsibility practices become completely complicated when companies go international. Foreign direct investment brings a lot of challenges that multinational corporations and other foreign investors face in the host country. This has been examined in terms of the relationship between corporate social responsibility and foreign direct investment. Corporate social responsibility is influenced by various factors when foreign direct investment is initiated. Some of these factors include: stakeholder legitimacy problems, international human resource management, expatriate problems and institutional distance. Stakeholder legitimacy problems occur when different stakeholders have different perspectives in different countries. According to the definition of CSR from the stakeholder perspective, international companies need to meet the interests of stakeholders through their activities. However, parent legitimacy may differ from the legitimacy requirements of stakeholders in the host country. Legitimacy problems in foreign direct investment cause foreign investors to adapt local CSR practices. This makes corporate social responsibility in foreign investments to become complicated. International human resource management also involves different policies in the host country and the home country. The host country employees may consider the parent company’s HRM policies to be unfair and irresponsible. Expatriate problems also affect corporate social responsibility problems because the expatriate may not understand the culture of the people and behave irresponsibly and return home prematurely. Lastly, institutional distance causes complexities of CSR practices in FDI. Higher institutional distance between the host country and the home country causes foreign investors to adapt local CSR practices. References List Bardy, R., Drew, S., and Kennedy, T.F. 2012, “Foreign Investment and Ethics: How to Contribute to Social Responsibility by Doing Business in Less-Developed Countries”, Journal of Business ethics, Vol. 106, No. 3, pp. 267-282. BBC News 2015, South Africa xenophobia: Anger over Nigeria envoy recall, BBC News, Accessed April 27, 2015 from http://www.bbc.com/news/world-africa-32473934. 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Yang, X. and Rivers, C. 2009, “Antecedents of CSR Practices in MNCs’ Subsidiaries: A Stakeholder and Institutional Perspective”, Journal of Business Ethics, Vol. 86, pp.155– 169. Read More