World Investment Report 2009: Transnational Corporations - Unctad

CHAPTER III 109
Box III.4. The OLI paradigm and international production in agriculture
The OLI paradigm (Dunning and Lundan, 2008)
is a simple but effective framework for understanding
the factors that determine the internationalization
choices of firms. It explains the choice of FDI over
other forms of internationalization (such as trade or
contractual arrangements) in terms of the presence
or otherwise of: a) ownership-specific advantages of
firms; b) location-specific advantages of countries
abroad; and c) internalization advantages from cross-
border transactions within firms rather than through
markets or contractual arrangements.
The basic rationale for internationalization
by firms is to increase or protect their profitability
and/or capital value, usually triggered by threats or
opportunities such as for example those related to the
food crisis or the rise of biofuels and the related price
increases in the case of agriculture (section B.3). In
order to compete effectively in foreign host economies,
TNCs normally need to possess and utilize competitive
or ������������������
������������������ (O) advantages, which may
derive from a number of sources. Most commonly,
these ownership advantages consist of the possession
of “strategic” created assets, such as technology and
R&D capabilities, production-related expertise, ability
to finance large-scale operations, brands, distribution
networks, production related expertise, business
models and managerial competences. For instance,
for a firm to engage in agricultural production abroad,
the ability to establish, manage and run plantations or
farming operations to a high standard of performance
that can compete with host-country farming enterprises,
requires a number of such assets, both explicit (e.g.
financial strength, technical expertise on, say, oil palms
or tea) and tacit (e.g. effective management of a large-
scale workforce).
The possession of ownership advantages does
not necessarily lead to FDI. For example, instead of
FDI, an agricultural enterprise might sell or provide
its ownership advantages to host country companies
in a number of ways. Technological knowledge can
Source: UNCTAD.
sales take place. This necessitates the coordination of
planting, growing, harvesting, transportation, packing
and delivery. Product quality in retail markets is often
associated with branding, and TNCs derive profits
by guaranteeing the consistent quality represented
by key brands. This is strongly linked to the second
factor, namely the control and use of critical
information throughout the TNC-controlled value
chain. Information on consumer tastes and on relative
costs of production, transportation and delivery from
the major sources of agricultural production to key
markets is a vital element in TNC strategy (Buckley,
2009; Gereffi, 2007; boxes III.3 and III.4).
The degree and form of TNC participation in
agricultural production is likely to differ according
to a company’s stage in a GVC, as suggested by
be made available through sales of intermediate goods
and the licensing of technology to host-country firms,
which then establishes production facilities and pays
the TNC (the licensor) a royalty. Under conditions
where the host-country firm does not possess the
capabilities to absorb the technological (or other)
knowledge, or where the knowledge is of a tacit nature
and not easily transferable, the agricultural TNC can
enter into a management contract: the host-country
firm puts up the capital and owns the plantation or other
facilities (thereby bearing much of the risk), while a
team from the TNC manages them for a fee. For the
TNC, returns may be lower, but so are the risks. The
decision whether to internalize (I) operations (i.e. FDI)
or exploit ownership advantages externally through the
market for goods, services or knowledge (e.g. through
licensing or management contracts) depends on various
factors. The most important factor is the relative return
versus the relative risks (e.g. FDI can be expensive and
is beset by commercial and political risks; in contrast,
sale of knowledge, even on a contractual basis, runs the
risk of the TNC’s very ownership advantages being lost
to the buyer.
The specific choice of locating production
abroad, rather than exploiting competitive advantages
through international trade, will depend on the presence
of locational l (L) advantages in a country or countries
abroad, including economic determinants (e.g. market
size, natural resources and created assets), policy
framework, business facilitation measures, and business
conditions. The presence of host-country advantages
is the third condition necessary for international
production. Differences between locational advantages
of different countries are important determinants of the
international location pattern of FDI or other types of
TNC activity. In the case of agricultural production,
agricultural endowments, historical legacies (e.g.
the introduction of coffee production to Brazil) and
government policies can all affect the location of TNC
activity.
examples from the GVC in floriculture (table
III.6). For instance, large ����������� ������ have
the coordinating ability and the power to enforce
standards/specifications in order to secure supplies of
quality cut flowers directly from growers in developing
countries, in circumstances where they cannot secure
them from traders, or, if it is more profitable, to cut out
the “middle man”. Enforcement of standards suffices
in most cases of direct procurement from growers
(sometimes through agents), but contract farming
does occur to some extent in order to ensure security
of supply (the supermarkets have a large number of
outlets which need to receive equivalent products).
In contrast to supermarkets, most retail
outlets are not able to procure cut flowers directly
from developing countries and are not involved in