Let’s start with a few observations. Foreign-controlled firms in the EU

  • generate almost 20% of value-added (Eurostat 2008) and
  • are typically more productive than the average domestic-controlled firm in the same industry.

Common wisdom puts the productive gap down to the transfer of foreign firms’ superior productivity and practices to subsidiary firms. Nevertheless, 89% of such FDI takes the form of mergers and acquisitions of existing firms (Barba Navaretti and Venables 2004).

Improvement or selection?

This raises the question of whether the observed productivity advantage of the subsidiaries reflects

  • improvements due to the multinational companies (MNCs) or
  • acquisition by MNCs of the most productive domestic performers.

Our recent work (Guadalupe et al 2011) investigates these questions.

Data from Spanish manufacturing firms reveal that up to two-thirds of the performance premium associated with multinational control is due to the fact that multinational firms acquire domestic firms that were initially more productive. The remaining one-third is due to changes made within the subsidiary after acquisition. Specifically, we show that acquired firms undertake more process innovation – simultaneously investing in new machinery and adopting new organisational practices.

We ask why multinationals acquire the best firms, and why these firms subsequently undertake more innovation once they are under multinational control. We find that the optimal amount of innovation is larger when an acquired firm is more productive to start with, because the benefits associated with technology upgrading are proportional to initial firm productivity.

We then show how these benefits are further amplified when the acquired firm accesses export markets through its multinational parent. Empirically, we find evidence for this mechanism. The extent of technology upgrading is significant in firms that use the foreign parent to increase their exports. Taken together, these results suggest that the multinational advantage that results from acquisition is not necessarily due to a transfer of technology from a sophisticated parent firm with lower costs of innovating to a newly acquired subsidiary. It can come about because acquired firms that are part of multinationals gain access to integrated global product markets, even when all firms have the same costs of innovating.

The mechanism explaining both acquisition patterns and technology upgrading

The mechanism explaining both acquisition patterns and innovation after acquisition relies on the simple assumption that a firm chooses to invest to upgrade its technology as long as the marginal benefits to the firm – in terms of future production profits – exceed the marginal cost of technology investment. The key insight of our paper is that the ownership structure can lower the costs of investment in technology, for example, because a foreign parent firm has proprietary production processes, but can also affect the benefits of technology investment. If the parent firm has large-scale sales and marketing operations, perhaps in other countries, then this may increase the incremental profit from technology upgrading since it increases the average per-unit production profit for a larger volume of sales. In either case, a firm will make more profits from a given improvement in technology under foreign ownership, and will also choose to upgrade technology to a higher level. The additional value created by any technology upgrade is positively related to the initial productivity of the firm. This means that the value-added of foreign ownership relative to domestic control is increasing in initial productivity and, hence, multinationals will opt to acquire the best-performing domestic firms in an economy.

Empirical evidence from Spain

We use data on an array of internal technological and organisational choices, as well as on foreign ownership and productivity, for around 1,800 Spanish manufacturing firms per year between 1990 and 2006. A firm is defined as foreign-owned if it reports that a foreign company owns at least 50% of its capital. 83.5% of the firms are domestic in the first year they appear in the data, while 16.5% are foreign-owned. Firm performance, or productivity, is measured by the value of its sales and its labour productivity. The data also contain other information on these firms’ activities that sheds light on whether the mechanism outlined above helps to explain the observed relationships between foreign ownership and performance. In particular, it records whether a firm exports, as well as its volume of exports. Interestingly, the data reveal whether the firm uses the foreign parent as a channel for its exports, or exports via other means.

Regardless of the productivity measure used and controlling for other factors, the data show that more productive firms are more likely to become foreign-owned between 1990 and 2006. As an example, a one standard deviation increase in initial firm sales means a firm under domestic control in 1990 is six percentage points more likely to be acquired by the end of the sample. The distribution of acquired firms’ productivity lies to the right of those that remain domestic – a fact that remains true even within each industry studied in the data.

An analysis of the changes that take place within firms over time shows that process innovation is positively and significantly associated with foreign ownership. This pattern is robust to controlling for industry trends and lagged firm characteristics, including innovation levels in the firm prior to acquisition. While foreign-acquired firms are not more likely to introduce new machinery without new ways of organising production, or vice versa, they are significantly more likely to undertake both forms of process innovation simultaneously. There is also some evidence that product innovation and the assimilation of foreign technologies also increase after acquisition.

We then examine the consequences of the fact that multinational parent companies often grant their subsidiaries access to a larger global market (Hanson et al 2005 and Ekholm et al 2007). Among foreign-acquired firms, the subset that also start to access export markets through their parent are significantly more likely to undertake process innovation, product innovation, and assimilate foreign technologies. Our analysis controls for the association between exporting in general and innovation that has been studied in recent international economics papers such as Verhoogen (2008), Bustos (2010), Lileeva and Trefler (2010), Aw et al (2010), and Atkeson and Burstein (2010). It finds that access to export markets through a parent firm is particularly strongly associated with innovation. Since it is necessary to have a foreign parent in order to export through them, this finding identifies an important role for firm ownership in explaining the relationship between exports and productivity growth.


What are the implications of the findings for the evolution of the distribution of productivity within industries? Our key result is that foreign firms are more likely to acquire the most productive firms within industries, and acquired firms start to innovate more on acquisition.

Taken together this implies that acquisition activity can lead to an increase in the dispersion of the productivity distribution.

Under this mechanism, foreign entry does not lead to productivity convergence, but, on the contrary, could lead to further divergence. Of course, there could be other reasons (such as spillover effects or other externalities) why multinational entry may improve less productive firms’ productivity, and their entry could drive out of business the least productive firms, thus increasing the minimum level of productivity in the industry. However, the direct effect of the foreign acquisition process is an increase in productivity heterogeneity.

A novel result in the paper is to show that an important underlying reason for this divergence in productivity in the Spanish data is not just that the newly acquired firms may have access to superior technologies, but that technology upgrading is also significantly related to firms’ differential access to new export markets.

One important policy implication of the findings, then, is that other channels that reduce the fixed cost of export-market access and open up markets for domestic-controlled firms could lead to some of the productivity improvements documented in foreign-acquired Spanish manufacturing firms.


Atkeson, Andrew and Ariel Burstein (2010), "Innovation, Firm dynamics, and International Trade", Journal of Political Economy, 118(3):433-484.

Aw, Bee Yan, Mark Roberts, and Daniel Yi Xu (forthcoming), "R&D Investment, Exporting, and Productivity Dynamics", American Economic Review.

Barba Navaretti, Giorgio and Anthony Venables (2004), Multinational Firms in the World Economy, Princeton University Press.

Bustos, Paula (2011), "Trade Liberalization, Exports, and Technology Upgrading: Evidence on the Impact of MERCOSUR on Argentinean Firms", American Economic Review, 101(1):304-340.

Ekholm, Karolina, Rikard Forslid, and James Markusen (2007), "Export-Platform Foreign Direct Investment", Journal of the European Economic Association, 5(4):776-795.

Eurostat (2008), “Foreign-controlled enterprises in the EU”, Industry, trade and services (Author: Michaela Grell).

Guadalupe, Maria, Olga Kuzmina, and Catherine Thomas (2011), “Innovation and Foreign Ownership”, CEPR Discussion Paper No. 8141.

Hanson, Gordon, Raymond Mataloni, and Matthew Slaughter (2005), "Vertical Production Networks in Multinational Firms", Review of Economics and Statistics, 87(4):664-678.

Lileeva, Alla, and Daniel Trefler (2010), "Improved Access to Foreign Markets Raises Plant-Level Productivity ... for Some Plants", Quarterly Journal of Economics, 125(3):1051-1099.

Verhoogen, Eric (2008), "Trade, Quality Upgrading, and Wage Inequality in the Mexican Manufacturing Sector", Quarterly Journal of Economics, 123(2):489-530.

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