MNCs’ Offshore R&D Networks in Host Country’s Regional Innovation System:

The Case of Taiwan-based Firms in China

Chung-Hua Institution for Economic ResearchMeng-chun Liu and Shin-Horng Chen

(Accepted by Research Policy on 11 March, 2012)

17, March, 2012

Preface (1/2)

陳信宏（ 2004年），「研發國際化與地主國區位優勢：旗艦級跨國企業在兩岸研發中心之比較」，《臺灣管理學刊》，第四卷，第三期（創新專刊）， 289-316 頁 (TSSCI觀察名單 )

Chen, S.-H. (2004), “Taiwanese IT firms’ offshore R&D in China

and the connection with the global innovation network”, Research

Policy. Vol. 33, 337-349 (SSCI; 國科會一級期刊 ) Liu, M.-C. and S.-H. Chen (2005), “International R&D deployment

and locational advantage: A case study of Taiwan”, in Takatoshi Ito

and Andrew K. Rose (eds.), International Trade in East Asia.

Chicago: University of Chicago Press (Econlit). 劉孟俊與陳信宏（ 2007年），「跨國研發網絡與研發國際化：海外子公司的分析觀點」，《台大管理論叢》，第十八卷，第一期， 211-238 頁 (TSSCI)

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Preface (2/2)

Chen, S.-H. (2007), “The national innovation system and foreign R&D: The case of Taiwan”, R&D Management. Vol.37, No.5, 441-453 (SSCI)

Liu, M.-C. and S.-H. Chen (2008), “Cross-border R&D networks and international R&D: A study of Taiwanese firms”, in Henry S. Rowen (ed.), Greater China's Quest for Innovation. CA: Stanford University Press.

Chen, S.-H., Y.-C. Chen and P.-C. Wen (2009), “MNCs’ offshore R&D mandates and host countries’ locational advantages: A comparison between Taiwan and China”, China Information. Vol. XXIII, No.1, 159-187

Chen, S.-H., P.-C. Wen and M.-C. Liu (2011), Trends in Public and Private Investments in ICT R&D in Taiwan. Seville: Institute for Prospective Technological Studies (Joint Research Centre, European Commission).

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Content

Introduction Conceptual Framework: MNCs’ Offshore

R&D Networks and the Host Country’s Regional Innovation System

Construction and Measurement of Key Indexes Offshore R&D Networks of Taiwan-based

MNCs in China The Empirical Model and Results Discussions Conclusions

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1. Introduction (1/2)

China: A hot spot of R&D internationalization, even for Taiwan-based firmsGiven China’s substantial regional variations in economic

development, innovation capacity, and knowledge productivity, such notions as regional innovation system (RIS) and local innovative milieu becoming more relevant to the study on relationships between China and its inward R&D internationalization

The key issue for this paperWhat locational advantages of an RIS within a host country affect

the network linkages and networking strategy of MNCs’ offshore R&D units.

In what way R&D subsidiaries of Taiwan-based firms in different Chinese regions interact with their local innovative milieu, in terms of local knowledge linkages

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1. Introduction (2/2)

To enrich the current understanding of R&D internationalization in several waysTo examine the R&D networking underlying R&D

internationalization by Taiwan-based firms in China, with particular reference to the sub-national level inside China

To establish a link between the literature of R&D internationalization and that of RIS, with a modified version of Dunning’s eclectic paradigm.

To map the relationship between foreign subsidiaries’ local R&D networks and their host RISs inside China

Taking advantage of a government databank to adopt a quantitative approach, with foreign subsidiaries as the unit of analysis, to highlight the role played by some aspects of the RIS in determining the local R&D networking of Taiwanese subsidiaries in China

The Seemingly Unrelated Bivariate Probit Regression model6

2. Conceptual Framework: MNCs’ Offshore R&D Networks and the

Host Country’s Regional Innovation System

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The existing literature on R&D internationalization

Major focus The location of offshore R&D, motivations, the management and

organization of offshore R&D The location-specific R&D strategies of MNCs’ offshore R&D and

hence the patterns of offshore R&D networks referred to the intra-country context of a host economy

Since MNCs represent only half the R&D internationalization story, what the host countries/regions possess as the locational advantages should form the other side of the coin for R&D internationalization, thus bringing about the interplay of the MNCs’ offshore R&D and the host countries’ innovation system. Leading to the interaction of MNCs’ offshore R&D facilities with the

host countries’ RISs and local stakeholders in one way or another Home-based Technology exploitation (TE) and home-based technology

augmenting (TA)8

The existing literature on RIS

The RIS seen as an adaptation of national innovation system to a regional settingAll the innovation actors in a regional setting integrated in

socio-cultural environments Within an RIS, two subsystems of actors, which are

systematically engaged in interactive learning, identified from the main body of the literature Regional production network or knowledge exploitation

subsystem, which consists mainly of firmsRegional supportive infrastructure or knowledge generation

subsystem, which consists of public and private research laboratories, vocational training organizations, etc.

These two subsystems of RIS can each fit into the classification of HBE and HBA, derived from the literature of R&D internationalization

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A conceptual framework of MNCs’ offshore R&D networks and the host country’s RIS

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MNCs

Ownershipadvantages

Internalization advantages

A host country’s locational advantages in the context of regional innovation system

Knowledge application & exploitation subsystem

(KAES)

Knowledge generation & diffusion subsystem (KGDS)

Offshore R&D networks Home-based Technology Exploitation (HBE)Home-based Technology Augmenting (HBA)

Source: The study.

Key hypotheses

The cross-border technology linkages consist of both home-country and host-country technology linkages, referring to MNCs’ knowledge transfers or flows between the home and host countries/regions.

Two specific main hypothesesHypothesis 1: MNCs’ offshore R&D units that purse home-

based technology exploitation strategy, the mainstream strategy regarding the developing host country, tend to be located in a host region with a strong knowledge application and exploitation subsystem.

Hypothesis 2: A host region with a strong knowledge generation and diffusion subsystem, within such a developing country as China, may induce MNCs’ local R&D units to pursue home-base technology augmenting strategy.

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3. Construction and Measurement of Key Indexes

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Construction of RIS indexes

Following Autio’s (1998) and Tödtling and Trippl’s (2005) framework in characterizing China’s RISs Two subsystems: the KGDS and the KAES.

In the KGDS, local research institutes, higher education institutes, technology trading units, and other institutes play critical roles, while the KAES is organized around firms, clients, suppliers, as well as competitive and cooperative firms. The main actors in China’s RISs include not only firms but also

universities and research institutes; quite different from many other developing countries (Guan and Liu, 2005; Li, 2009).

Drawing on the data for 2002-05 released by the Research Group on Development and Strategy of Science and Technology for various years and adopt a simple average score to measure two RIS indexes across China The KGDS index: a knowledge generation index and a knowledge access

index The KAES index: the corporate innovation capability index, innovation

reward index, and innovation environment index13

Construction of offshore R&D networking index

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Home-based Technology Exploitation (HBE), TEI

Home-based Technology Augmenting (HBA), TAI

Clients

Material Suppliers

Production Networking Partners

Universities

R&D Institutes

Technology Consultants

Source: The study.

4. Offshore R&D Networks of Taiwan-based MNCs in China

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Technology sources of Taiwan-based firms’ subsidiaries in China, 2002-05

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All BTH YRD PRD- Technology transfers

from the parent companies

84.40 86.89 83.18 86.17

- In-house R&D by overseas subsidiaries in host countries

23.45 26.23 23.51 23.87

- Local licensed technologies

2.98 4.10 2.51 3.55

- Joint venture firms 6.26 9.84 6.79 4.16- Technology licensing

by research institutes in 8.20 9.84 6.06 9.55

- Technology licensing by research institutes in host countries

2.33 0.82 2.09 2.20

- OEM, ODM 7.00 6.56 5.12 9.18

Source: Calculated by the study, based on the databank of Investment Commission, MOEA.Note: Multiple answers were possible. # of observations is 2,013.

Average score of Regional Innovation Indexes of China for 2002-05

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Knowledge Generation and Diffusion Subsystem

Knowledge Application and Exploitation

Subsystem- BTH 36.70 40.92

- YRD 39.91 50.37

- PRD 30.98 42.07

Source: Calculated by the study.Note: These indexes are calculated from the Research Group on Development and Strategy of Science and Technology for 2002-05, and the Annual Report of Regional Innovation Capability of China.

Motivations of Taiwan-based MNCs’ offshore R&D in China, 2002-05

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All BTH region YRD PRD

- Production cost reductions 26.01 30.83 22.37 29.58

- New product development 25.38 32.50 24.05 24.44

- Accessing new markets 8.48 5.00 7.46 11.39

- Catching up on rivals’ technological capabilities

2.83 5.00 2.10 3.47

- Business diversification 13.34 15.83 10.61 17.50

- Others 0.37 0 0.21 0.69

Source: Calculated by the study, based on the databank of Investment Commission, MOEA.Note: Multiple answers were possible. Number of observations is 1,911. Only firm with performing R&D are included. “Others” refers to open options.

Offshore R&D partners of Taiwan-based firms in China, 2002-05

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All BTH YRD PRD

Clients 43.60 33.80 42.41 46.43

Suppliers 25.59 25.35 25.67 25.42

Production Networking Partners

7.30 8.45 6.70 7.98

Technology Consultants 3.51 4.23 4.69 2.10

Technology Institutes 8.53 15.49 11.16 5.25

Higher Education Units 3.51 2.82 5.58 1.26

Others 7.58 15.49 8.48 4.20

Source: Calculated by the study, based on the databank of Investment Commission, MOEA.Note: Not all firms responded to this question and multiple answers were possible. # of observations is 1,055. Only subsidiaries with local R&D partners are included. “Others” refers to open options.

Taiwan-based firms’ R&D networking for BTH, YRD and PRD, 2002-05

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Technology Exploitation Index Technology Augmenting Index

BTH 0.24 0.08

YRD 0.23 0.07

PRD 0.31 0.03

Nonparametric mediate Test χ2(1)=

BTH vs. YRD 0.0001 1.682

BTH vs. PRD3.936**

(PRD > BTH)

11.053***

(BTH > PRD)

YRD vs. PRD16.867***

(PRD > YRD)

9.583***

(YRD > PRD)

Source: Calculated by the study, based on the databank of Investment Commission, MOEA.Note: *** and ** refer to statistical significance at the 1% and 5% levels, respectively.

Some observations

The BTH is found to show a stronger knowledge generation and diffusion system but a weaker KAES. By contrast, the PRD has a stronger KAES but a weaker knowledge generation and diffusion system. The YRD’s subsystems are stronger at both aspects.

Although Taiwan-based firms’ R&D networks are shown to be related more to HBE (TEI) than HBA (TAI), there seems to be a relatively higher proportion of Taiwanese subsidiaries in the BTH in cooperation with technology institutes, as compared to the YRD and the PRD.

By contrast, Taiwanese subsidiaries in the PRD seem to be inclined to cooperate in R&D with their clients, suppliers, and production networking partners.

In the BTH and YRD, the R&D networks are stronger in terms of TA and weaker in terms of TE than their counterparts in the PRD.

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5. The Empirical Model and Results

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The structural equation model

Dependent variablesThe technology-exploitation index (TEI)The technology-augmenting index (TAI)

Independent variablesThe local KEAS index (KEAS) and the local KGDS

index (KGDS)Variable TEI for an attempt to examine the role

played of TEI in determining the magnitude of TAIFirm i’s R&D intensity (RD), its parent company’s

R&D network in the home country (HEi & HAi), the intensity of international sales (Exporti), and joint venture with local firms owned by China (JVi) 23

The methods

In our analyses, actual beliefs are not directly observable from the elicited responses. Thus, we apply latent variable techniques to specify and estimate the model.Seemingly Unrelated Ordered Probit Model derived from the

latent variable model The databank of the Investment Commission in Taiwan

for 2002-05, which were investment case-specificSince 2006, the survey conducted by the Investment

Commission changed its focus from individual outbound investment cases (the subsidiary level) to individual firms (the firm level) with outbound investment to China, making it not possible to identify the exact locations of the investment cases

The sample: 3,105 observations24

Estimation results for Seemingly Unrelated Bivariate Ordred Probit model

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Model 1 Model 2(1) TEI (2) TAI (3) TEI (4) TAI

KEAS 0.278***(2.83)

0.482***(3.69)

KGDS 0.561***(3.61)

0.286**(2.10)

RD 0.961***(4.31)

1.170***(4.63)

1.117***(4.80)

0.972***(3.80)

KEASRD -0.187***(-3.16)

-0.228***(-3.72)

KGDSRD -0.270***(-3.84)

-0.211***(-2.94)

HE 1.436***(18.84)

1.403***(15.22)

HES -0.267***(-11.98)

-0.250***(-9.56)

HA 1.537***(14.28)

1.555***(9.57)

HAS -0.375***(-6.88)

-0.374***(-4.38)

JV 0.144(1.14)

0.344***(3.58)

0.135(1.46)

0.353**(2.34)

EXPORT 0.002***(3.13)

0.0007(0.52)

Cons a 0.394***(7.90)

0.332***(4.86)

cutoff11

2.867***(7.45)

3.775***(7.48)

cutoff 12

3.710***(9.74)

4.626***(9.31)

cutoff 13

4.755***(13.02)

5.714***(11.00)

cutoff 21

4.502***(7.53)

3.623***(7.29)

cutoff 22

5.195***(8.87)

4.422***(8.48)

cutoff 23

5.887***(8.62)

5.015***(8.02)

ρ 0.375***(8.75)

0.321***(5.23)

Wald test of indep. eqns.: χ2(1) 62.42*** 23.64***# of ObsLn pseudolikelihood

3,105-1940.722

2,340-1505.424

Wald χ2(6)=1134.03*** Wald χ2(7)=905.41***

Source: The study.Note: ***, **, and * denote statistical significance at the 1%, 5%, and 10% levels, respectively. The figure in parenthesis is robustness adjusted t-value.

6. Discussions (1/3)

Taiwan-based MNCs relatively new players in R&D internationalization Due to path dependence, their offshore R&D networking may tend

to follow the routine of the parent firms in the home country. Their “convoy migration” takes place not only in production

(Brookfield and Liu, 2005) but also R&D, at least at the very beginning.

However, over time Taiwan-based MNCs may extend their R&D networks to the technology-augmenting dimension usually based on their technology-exploitation experiences, even in such a host country as ChinaIn Taiwan-based firms’ extension of technology-exploitation

networking strategy to technology-augmenting strategy in China, the locational advantages at the sub-national level matters.

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6. Discussions (2/3)

Previous studies showing a mixed picture about the way in which MNCs conduct offshore R&D in China Bruche (2009): Cautious about China’s position within MNCs’

R&D networks and mandatesChen (2008): Some MNCs conducting advanced research in such a

locality as Beijing Our evidence regarding Taiwan-based MNCs shows a broader

picture than the previous views.A Chinese region with a significant flavor of local KAES can

facilitate Taiwan-based firms’ subsidiaries there to form their R&D networks with their upstream and downstream business partners.

To a significant degree, many Taiwan-based firms also take advantage of dynamic KGDS of the Chinese RISs to engage in technology-augmenting strategy, in terms of their local R&D linkages.

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6. Discussions (3/3)

This, together with an increasing trend towards localization of Taiwan-based firms in China, may have profound implications for the operational and hierarchical relationships within Taiwan-based firms’ cross-strait corporate networks. To the extreme, fertile ground provided by China’s massive

market may furnish their Chinese subsidiaries with strengths to pursue “autonomous” strategy in a relatively independent manner hence challenge the traditional hierarchical notion of “superior and central home” versus “inferior and periphery overseas” in terms of R&D capability and organizational control.

The R&D units in the parent country or located near/within the parent company are not necessarily central laboratories in the traditional sense; some of them are just first amongst equal in a network of laboratories.

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7. Conclusions (1/3)

An extensive inquiry into the relationships between MNCs’ offshore R&D strategies and their host regions in China

To highlight a common trend for offshore subsidiaries from Taiwan (perhaps even from some other countries) to form their local R&D networks in China by replicating their parent’s R&D networks in the home country. However, the replication strategy, though commonplace it is, can be changed, especially when and where the local RIS and innovative milieu provides fertile ingredients for technological upgrading and technology augmentation.

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7. Conclusions (2/3)

Certain aspects regarding RIS becoming more relevant to the study on the relationship between China and its inward R&D internationalization Not to neglect China’s substantial regional variations in

economic development and innovation capacity The relationship between MNCs’ offshore R&D

and the developing host countries is changing, to some extent, shifting from technology transfer and technology exploitation towards technology sourcing and technology augmentation, which can be captured at a sub-national, as well as the national, levelEven for such a catch-up home country as Taiwan.

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7. Conclusions (3/3)

To present serious efforts to establish a constructive dialogue between the literature of R&D internationalization and that of RIS, though further exploration and analyses still neededThe geographical scope of China’s RISs may need

further breakdown, rather than just the three well-developed regions in China, which however requires a larger quantity of data for statistical analyses.

Advisable for future studies to examine further the impacts of MNCs’ offshore R&D networks on the host regions as well as home economies

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Appendix

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Share of Taiwan’s approved manufacturing outward investment to China, by sector

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0

1,000,000

2,000,000

3,000,000

4,000,000

5,000,000

6,000,000

7,000,000

8,000,000

9,000,000

10,000,000

1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

The Other Sectors

Computers, Electronic and Optical Products Manufacturing

Electronic Parts and Components Manufacturing

Source: Investment Commission (http://www.moeaic.gov.tw/); compiled by the authors.

Appendix Table 1 Summary of descriptive statistics

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Variable Mean Std. Dev. Min Max N

TA 0.05 0.28 0.00 3.00 3,105

TE 0.26 0.61 0.00 3.00 3,105

KGDS 3.62 0.27 2.28 4.12 3,105

KEAS 3.86 0.22 2.72 4.11 3,105

RD 1.31 0.92 1.00 6.00 3,105

KGDSRD 4.74 3.34 2.28 24.70 3,105

KEASRD 5.08 3.60 2.72 24.63 3,105

HA 0.13 0.44 0.00 3.00 3,105

HE 0.33 0.68 0.00 3.00 3,105

EXPORT 59.53 44.73 0.00 100.00 2,340

JV 0.17 0.37 0.00 1.00 3,105

Source: The study.