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Institutional Relatedness: What Determines The Scope of The Firm?

The document discusses institutional relatedness and how it determines the scope of firms. It explains that institutional relatedness refers to a firm's informal linkages with dominant institutions that provide resources and legitimacy. The optimal scope of a firm is determined by balancing the economic benefits of diversification with the bureaucratic costs, and this balance shifts over time and based on a country's level of economic development and institutional frameworks. The importance of both product relatedness and institutional relatedness are explored, with institutional relatedness found to be particularly important for firms in emerging economies with less developed formal institutions.

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33 views11 pages

Institutional Relatedness: What Determines The Scope of The Firm?

The document discusses institutional relatedness and how it determines the scope of firms. It explains that institutional relatedness refers to a firm's informal linkages with dominant institutions that provide resources and legitimacy. The optimal scope of a firm is determined by balancing the economic benefits of diversification with the bureaucratic costs, and this balance shifts over time and based on a country's level of economic development and institutional frameworks. The importance of both product relatedness and institutional relatedness are explored, with institutional relatedness found to be particularly important for firms in emerging economies with less developed formal institutions.

Uploaded by

chinmayee behera
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PPTX, PDF, TXT or read online on Scribd
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INSTITUTIONAL RELATEDNESS

WHAT DETERMINES THE SCOPE OF THE FIRM?


WHAT IS INSTITUTIONAL RELATEDNESS?

 Defines as an organization’s informal linkages with dominant institutions that confer resources and legitimacy.
 The first stream highlights the importance of organizational integration and disintegration over time. In developed
economies unrelated product diversification(conglomeration) tends to destroy value, conglomeration has been
found to add value in earlier era. This stream suggests to ask “What determines the scope of the firm over time?”
 The second stream of research posits that conglomeration may help firms overcome institutional imperfections
prevalent in emerging countries.
 The third stream focuses on the changes in the rules of the game as economies develop putting a great deal of
emphasis not only on markets but also on institutional transitions that influence corporate scope. It is argues that,
during an early phase of transitions a relationship-based strategy would be preferred whereas a market-centered
strategy would surface during a late phase of transitions characterized by more formal market-supporting
institutions.
IMPORTANCE OF PRODUCT AND INSTITUTIONAL RELATEDNESS

Cells 1 & 2 boils down to whether firms


pursue an efficient operation of internal
capital or sharing of core competencies
respectively.
Firms in cell 3 are most likely to be
found in emerging economies where
institutional relatedness is very
important to generate profits andvalue
added through product relatedness is
relatively small.
Firms in cell 4 are most likely to be
found in economy where formal
institutions are well developed and
informal institution are still influential
DIVERSIFICATION AS A FUNCTION OF ECONOMIC BENEFITS AND
BUREAUCRATIC COSTS

Optimal scope is at point A where the level of


Diversification is D1.
If the level of diversification is D2, there are some
economic benefits to gain by moving up to D1.
Conversely, if a firm overdiversifies to D3,
downscoping to D1 be- comes necessary.
When MBC constant, the MEB curve shifted upward
between 1950 and 1970. Consequently, the optimal
scope expanded from D1 to D2.
By early 1980s, the legitimacy enhancing informal
norms in favour of conglomeration diminished.
D2 moved back to a point near D1, noted as D3
by1990 approximately.
CROSS SECTIONAL ANALYSIS BETWEEN EMERGING AND
DEVELOPED ECONOMIES

This analysis relies on two critical assumptions. The first is that


MEBE> MEBD . Underdeveloped formal institutional
frameworks in emerging economies suggest this assumption.
Politically, instability plagues many emerging economies

The second assumption is that, at a given level of diversification,


MBCE MBCD. This primarily draws on the informal aspects of
the institutional frameworks. In emerging economies, because
of the weaknesses of formal institutions, “informal constraints
rise to play a larger role in regulating economic exchanges”.
LONGITUDINAL ANALYSIS IN EMERGING ECONOMIES

Figure shows how firms


may derive or lose values
at a high level of
diversification.
The increase in MBC may
be because of
1.overdiversification
beyond the optimal point
C due to agency motives
and abuses
2. The lack of cohesion
among top executives
due to professional
infights and family duels, 3.
The arrival of Western or
Western trained
managers
CONCLUSION

 The article explains the methods of understanding of the scope of the firm question by highlighting the
importance of institutional relatedness in an institution based theory of corporate diversification.
 How institutional transitions matter for deciding upon strategic choices is articulated.
 Specific institutional conditions for a conglomeration strategy which may or may not add value.
 Integrated research from both developed as well as emerging economy was done.
 Product relatedness is often paid more attention and institutional relatedness is not. This paper discusses the
missed role of institutional relatedness in driving diversifications decisions and outcomes both across time and
around the world.

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