Foreign direct liability

Foreign direct liability 

Critically analyse what you understand by foreign direct liability 

And

Critically evaluate the legal obstacles in regulating the activities of multinational companies.

An analysis of Multinational corporation operations and foreign direct liability.

Foreign direct liability 

Introduction

Over time, parent companies mostly in developed countries have set their sights on foreign markets. This has led to an increased number of multinational companies. Multinational companies (MNCs) are defined as enterprises that have production and delivery services in more than one country.[1]  Thus, the location of the company’s headquarters is referred to as the home country while the host countries are the other countries that it has invested in. This has been facilitated by increased competition and globalization. Driven by the motivation to maximize profits, these companies have extended their boundaries all over the world. Most of them have even penetrated what would be termed as high risk areas. These are mostly war torn countries or those that have poor governance relating to dictatorial leadership.

In their quest to set base in foreign markets, these companies have to interact with the locals.  Foreign direct Investment has experienced exponential growth in developing countries. World trade has exceeded $15 trillion over the last three decades. In the 1990s, a large portion of external finance in developing countries was attributed to foreign direct investment.[2]Their presence in these markets has led to great benefits. Not only do the people benefit from employment, but impartation of new skills. Moreover, the multinational companies introduce new technology and knowledge[3]. In addition to this, the entry of multinational companies into these markets has put the developing nations on the trade map. Their entry has also contributed to the utilization of a country’s resources.[4]

In order for these companies to establish themselves, they consider certain factors. These are known as the push and pull factors. The push factors force the companies from their home countries whereas pull factors lure them to new locations. Market based factors consider labor costs, information skills, investment incentives and management prowess. Efficiency based factors include common governance, economy of scope, production incentives and product specialization. Strategic based factors on the other hand consider market access, distribution of the product, customer access and performance and input quality protection. Lastly, resource based factors are another key consideration. These include availability of capital and natural resources, supply stability and market controls.

In choosing to establish themselves in host countries, the MNCs are forced to adapt to the standards set by the jurisdiction they’ve chosen to operate in. Hence they align their production processes to the demands of the host country. With regards to labor costs, MNCs trend over the years is to pay the workers in the developing countries low wages. It should be noted that once MNCs establish enter foreign markets, they become vulnerable to arbitrary government actions such as sudden contract renegotiations, being forced to but licenses or arbitrary withdrawal of the same or in some instances, expropriation.

Nevertheless, MNCs play a major role in any market they enter. They impact government policy significantly. They influence how the government formulates policies regarding the country’s economy. Where the policy does not favor the multinational corporations, they threaten to withdraw from the market.[5] This is especially common with MNCs that have monopoly in a particular sector. Countries like the United States however, have managed to curb this through the presence of domestic market competitors. Another avenue provided for MNCs to influence government decision is through lobbying. In the United States, an individual or group’s ability to lobby is enshrined in the right of petition contained in the Amendment to the United States Constitution.[6] Lobbying in the United Kingdom is considered as a way of promoting democracy. A statutory register for lobbying and lobbyists was recommended by the House of Commons Public Administration Select Committee.[7] In the European Union, lobbying is done with the aim of influencing the European Parliament, the Council and the Commission.[8] Multinational corporations lobbying is directed at a range of issues such as the tariff structures and environmental regulations. Their purpose for lobbying on some of these issues is to filter out competitors. For instance, if a multinational company pushes for stringent standards on environmental safety, any other competitor that is unable to meet the requirements is automatically locked out. Wal-Mart, a multinational corporation in the USA benefited from the zoning laws that created barrier to entry for other companies.[9] The zoning laws spelled out the areas that could be developed and for what purpose, regulating building heights, lot coverage and other aspects pertaining to land use.[10]

In maintaining monopoly in a given sector, these corporations acquire patents. For instance, Adidas, renowned shoe manufactures, holds a patent to protect its shoe designs whereas Microsoft holds a software patent.[11]

International law and treaties.

Besides the individual national laws that govern sovereign states, the public international law was instituted to govern the relationship among sovereign states.[12] Hence, multinational corporations are affected by the international law. Increased global trade, environmental degradation and human rights violations have increased the importance of international law which is used to govern these issues. In addition to this, international law is used to solve disputes that arise from the interpretation of and implantation of national laws.[13] The sources of international law are customs and treaties.  Treaties result from consent to follow them by a number of countries while customary international law emerge from practices carried out by nations that believe they ought to be part of international law.[14] Customary law has been used by environmentalists to affirm the need for countries and corporations to take care of the environment. This is clearly outlined in Principle 21 of the Stockholm Declaration and Principle 2 of the Rio Declaration.[15] These principles give the countries the right to exploit their resources but not to the extent of damaging the environment of areas beyond their jurisdiction. Several treaties have also been established in relation to environmental protection. For instance, 2001 Stockholm Convention on Persistent Organic Pollutants prohibits the use of certain chemicals while putting restrictions on the use of others.[16] Nuclear and air pollution is also regulated by the International Convention on Oil Pollution Preparedness. Voluntary Corporate Codes of Conduct have also been established. The ISO 14000 established by the International Organization for Standardization is a set of environmental management standards that corporations voluntarily adopt to prevent pollution.[17]

Foreign Direct Liability.

The negative impacts of multinational companies have led to the emergence of the foreign direct liability concept. The negative impacts have driven the locals to seek legal action against the multinational companies in their home countries.[18] The claims often relate to negative environmental and health impacts on the locals caused by a company’s operations in the area. For instance, in the US, cases have been brought forth against Union Carbide, Texaco, Unocal and Freeport McMoRan.

Union Carbide, a US based corporation invested in India. On December 3, 1984, the plant experienced a gas leak that killed 3,787 people and another 8000 that died from gas related diseases. [19] Immediately after the catastrophe, the company, Indian and U.S governments embarked on legal proceedings. The CEO of Union Carbide, Warren Anderson was summoned to the US Congress. Not satisfied, in March 1985, the Indian government formulated the Bhopal Gas Leak Act that mandated it to be the legal representative of the victims.[20] The case was later transferred to India for hearing. This was challenged by Union Carbide management but was not supported by the US courts. In June 2010, 7 of the former UCC employees were convicted for negligence that caused the deaths. 

This is just one of the cases where foreign citizens have sought litigation in the home countries. As seen in the Bhopal case, due to failure to determine under which law the case was to be heard, there was a lot of back and forth between the Indian and the US government. Consequently, those responsible for the 1984 disaster were convicted sixteen years later. This clearly outlines the need to harmonize the legal systems between the home and host countries. Whenever a multinational company invests in another country, there should be clear guidelines on how cases involving the locals will be handled.

Foreign direct liability may have an impact on corporate performance.[21] Since the litigation process is an expensive course and in the event that the corporation losses against the plaintiffs and are forced to compensate them, then this is a factor that would cause the corporations to rethink their actions in the host country. Therefore, foreign direct liability may push them towards implementing risk management strategies.

In addition to this, the home countries can however play a role in regulating the influence of multinational corporations in the host countries in terms of the foreign direct investment.[22] The home country governments can limit the amount of investments an MNC can have. This will help to reduce their monopoly in foreign markets.

However, the MNCs have devised other means of avoiding foreign direct liability.[23] Among the measures they use is contracting what they view as the risky parts of their activities to subcontractors. Secondly, they insulate the parent company from any claims by separating the day to day management of the parent company from those of its subsidiaries.

Another factor to be considered is the involvement of the local government in the corporations’ activities. They take part as business partners or beneficiaries. Hence, the host governments are likely to turn a blind eye on the MNCs activities.[24] This makes the victims’ quest for justice a big challenge. Worse yet is that even if the victims win and are to be compensated, the local subsidiaries may not be in a position financially to fulfill their obligations. 

When analyzed from a corporate social responsibility (CSR) point of view, it ought to be the responsibility of these corporations to ensure that their workers have favorable working conditions.[25] By this, they should apply the same standards they apply at home in the host country. The issue of different standards at home and abroad should not arise. Hence, the best environmental and health standards should be applied wherever they choose to invest.

On the other hand, foreign direct liability opens up the host country to impositions by the home country.[26] The home country courts are likely to demand to have their way with regards to the host government’s choices. They may demand very high standards that the host government may not be in a position to meet based on the developing countries’ status. In the event that a disaster occurs, then the company together with the home government absolve themselves from any responsibility laying the blame on the host government for failure to implement their recommendations.

Political, legal and social risks.

Besides this, multinational corporations face a lot of risks in their foreign operations. They are forced to deal with additional costs arising from their unfamiliarity with the foreign market, discrimination from the customers, suppliers or government entities[27]. Moreover, other costs are associated with international operations.

Multinationals also stand the risk posed by political decisions arrived at by a country’s governance.[28] Political changes that alter the expected outcome of a given economic action determine the probability of a company’s prosperity in the given country. These risks may be classified as micro-level political risks and macro-level political risks. Macro-level political risks do not only refer to country level political risks, rather it is a coupling of local, national and regional political events. These risks may result in confiscation or seizure of a businesses’ property. Micro-level political risks on the other hand may be termed as project-specific risks. These risks tend to favor the local industries compared to multinational companies.

Micro risks arise from prejudicial actions or corruption. A good example of how companies can suffer from political risks is illustrated by Cuba. Following Fidel Castro’s takeover of Cuba in 1959, American owned assets and companies were expropriated as explained by Simon.[29] These companies incurred losses to the tune of hundreds of millions of dollars.

Macro level risks can be mitigated by the company understanding the political uncertainties of the host country. At the micro level, political risks can be mitigated through political risk insurance and hedges.  Institutions such as Multilateral Investment Guarantee Agency (MIGA) and Overseas Private investment Corporation (OPIC) are just but a few of the public sector insurers that provide project specific political risk insurance. Through insuring investors, MIGA promotes foreign direct investment in developing countries[30].  OPIC is an American based agency that mobilizes the private sector to invest in new and emerging markets. Portfolio of investments can be covered by private market insurers. Political risk insurance covers a variety of risks that the investor may face. These are currency inconvertibility, expropriation; loss of an investment due to confiscation by the host government; and political violence.

In addition to this, legal risks are another challenge for MNCs. This results from a lack of clear guideline on the law applicable when a legal matter arises. For instance, the foreign direct liability cases prove to be a challenge as to which law to apply in determining the cases. The difference in the legal cultures of the host and home countries become barriers to the resolving of such cases.

Social risks on the other hand arise from crimes, violence and racial discrimination.[31] Multinational companies tend to be victims of crimes. This may be attributed to lack of confidence by the locals in their operations.[32] To add to this, people’s perception about a company influences the decisions they make. Multinational companies fall prey to this menace especially from customers who may view a company in a particular way. Wrong perception may also arise from lack of information about a company’s operations.[33]

Wal-Mart Company has faced a series of criticism from labor organizations, human rights activists and other entities.[34] This has given their consumers a negative perception about the company. Apart from this, multinational companies face racial discrimination from locals in the host countries. The domestic markets have a higher tendency of favoring the local industries compared to the foreign companies. 

One of the ways of mitigating social risks is through corporate social responsibility.[35] Creating programs that help the MNCs keep in touch with the locals serves a good strategy to deal with the perceptions the locals may have about it. Some of these programs include creating social events where both parties can interact such as fun days for the employees. In addition, some MNCs have gone ahead to engage in programs that meet the needs of the locals such as establishing schools, providing water and other social amenities. Moreover, transparency about the companies’ operations also contributes to mitigating social risks.

Conclusion. 

In conclusion, multinational corporations are companies that have extended their operations from the home countries to foreign markets that are referred to as the host countries. These companies take into consideration the viability of the foreign markets before they establish themselves. Their entry into the host country implies involvement of the locals in the company’s operations. In addition to these, international laws have been put in place to govern the management of resources with respect to health and environmental safety. Multinational countries tend to have different standards in the home and host countries. This gives rise to foreign direct liability. Access to justice is the underlying issue in foreign direct liability. The victims in most instances seek justice in the home country. However, this is still a foreign concept to many countries. As seen, multinational companies face several risks including legal, political and social. All in all, there is a need to develop a strategy where foreign direct liability is handled amicably and justice is served. Moreover, multinational companies need to not only be driven by the desire to make profits but work towards corporate social responsibility.

BIBLIOGRAPHY

Book sources:

  Aitken J.Brian and Harrison E. Anne, “Do Domestic Firms Benefit from Direct Foreign Investment? Evidence from Venezuela,”, p.1, June 1999.

Barber, Jeffrey, “Responsible Action or Public Relations? NGO Perspectives on Voluntary Initiatives,” Industry and Environment, 1998.

Barnett, Richard, Global Reach: The Power of the Multinational Corporations, 1975.

Broughton, Edward  “The Bhopal disaster and its aftermath: a review”Environmental Health, 2005.

“Chronology”. Bhopal Information Center, UCC. November 2006.

Donovan, P. J. “Creeping Exportation and MIGA” 2004

Enneking , F.H. Liesbeth,  “Crossing the Atlantic? The political and legal feasibility of European Foreign Direct Liability Cases,” The George Washington International Law Review, p 903, 2009.

 Handl Gunther and Lutz, E. Robert Transferring Hazardous Technologies and substances: The International Legal Challenge, 1989.

 Helleiner, K. Gerald, “Transnational Corporations and Direct Foreign Investment Handbook of development economics. Amsterdam: North-Holland, 1989.

Henkin, Louis, How Nations Behave. 1968, pp. 47.

 Holzmann, Robert; Steen Jorgensen (2000). “Social Risk Management: A new conceptual framework for Social Protection, and beyond”World Bank. 2006.

How managing political risk improves global business performance,” PwC Advisory and Eurasia Group, 2006.

Hymer, S, The International Operations of National Firms: A Study of Direct Investment,

MIT Press, Cambridge, MA. 1976.

Jenkins, Beth; Kutle Beth and Bekefi, Tamara, ‘Social Risk as Strategic Risk’, Corporate Social Responsibilty Initiative, December 2006

Lefcoe, George, “The Regulation of Superstores: The Legality of Zoning Ordinances Emerging from the Skirmishes between Wal-Mart and the United Food and Commercial Workers Union,” April 2005.

Luo, O. Shenkar, and Nyaw,M.,  “Mitigating liabilities of foreignness: defensive versus

offensive approaches”, Journal of International Management, Vol. 8 No. 3, pp. 283-300. 2002.

Luo, Y., “Market-seeking MNEs in an emerging market: how parent-subsidiary links

shape overseas success”, Journal of International Business Studies, Vol. 34 No. 3,

pp. 290-309, 2003.

Mezias, J.M., “Identifying liability of foreignness and strategies to minimize their effects:

the case of labor lawsuit judgments in the United States”, Strategic Management Journal,

Vol. 23, pp. 229-44, 2002.

Magraw, Barstow Daniel International Law and Pollution, 1991.

Pitelis Christos & Sugden Roger, The nature of the transnational firm 2000.

Holzmann, Robert; Lynne Sherburne-Benz and Emil Tesliuc. “Social Risk Management: The World Bank Approach to Social Protection in a Globalizing World”.World Bank., 2006.

Santoro, M., Should LDCs love MNCs? Foreign Policy, 128, 94-96, 2002.

Sethi,D  and S. Guisinger,S., “Liability of foreignness to competitive advantage: how

multinational enterprises cope with the international business environment”, Journal of

International Management, 2002

Shaw, M. N.  International Law 5th edn, Cambridge University Press, 2003

Weiss, Brown Edith; Barstow Daniel and Szasz, C.Paul, International Environmental Law: Basic Instruments and References, 1992.

Journal and other publications:

Kierkegaard, Sylvia, How the Cookie (almost crumbled). Computer Law and Security Report Vol.21 Issue 4, 2005.

Kyle, Beth and Ruggie, G. John, “Corporate Social Responsibility as Risk Management” Corporate Social Responsibility Initiatice Working Paper, Cambridge MA: John F. Kennedy School of Government, Harvard University, 2005.

Simon, D.J., “A Theoretical Perspective on Political Risk”,), Journal of International Business Studies, Vol. 15, No. 3,Winter, 1984.

“The Right to Petition”. Illinois First Amendment Center.

Town and Country Planning Act 1990

Ward, Halina,”Foreign Direct Liability’: A New Weapon in the Performance Armoury?” AccountAbility Quarterly, Issue14, 2000.

Web sources:

Kevin Carson, Tucker‘s Big Four: Patents., Mutualist.Org,

http://www.mutualist.org/id74.html> (accessed on 30 Nov 2011) 

The Economic Impact of Wal-Mart,” Global Insight, http://www.globalinsight.com/gcpath/Wal-Mart 2006, (accessed on 30 Nov 2011)

Public Administration Select Committee,

 < http://www.parliament.uk/business/committees/committees-a-z/commons-select/public-administration-select-committee/>2005, (accessed on 30Nov 2011)

Seun Oluwanisola, Ezine articles, < http://ezinearticles.com/?Benefits-and-Challenges-of-Multinational-Companies->,2011, ( accessed on 30 Nov 2011)


[1] Christos Pitelis & Roger Sugden, The nature of the transnational firm 2000.

[2]  Brian J. Aitken and Ann E. Harrison, “Do Domestic Firms Benefit from Direct Foreign Investment?

Evidence from Venezuela,” June 1999, p.1

[3]  Gerald K. Helleiner,“Transnational Corporations and Direct Foreign Investment Handbook of development economics. Amsterdam: North-Holland, 1989.

[4] Seun Oluwanisola, Ezine articles, < http://ezinearticles.com/?Benefits-and-Challenges-of-Multinational-Companies-> ,2011, ( accessed on 30 Nov 2011)

[5] Barnett, Richard, Global Reach: The Power of the Multinational Corporations, 1975

[6] “The Right to Petition”. Illinois First Amendment Center.

[7] Public Administration Select Committee < http://www.parliament.uk/business/committees/committees-a-z/commons-select/public-administration-select-committee/> (accessed on 30Nov 2011)

[8] Kierkegaard, Sylvia, How the Cookie (almost crumbled). Computer Law and Security Report Vol.21 Issue 4, 2005.

[9] Lefcoe, George, “The Regulation of Superstores: The Legality of Zoning Ordinances Emerging from the Skirmishes between Wal-Mart and the United Food and Commercial Workers Union,” April 2005.

[10] Town and Country Planning Act 1990

[11] Kevin Carson, Tucker‘s Big Four: Patents., Mutualist.Org < http://www.mutualist.org/id74.html> (accessed on 30 Nov 2011) 

[12] M. N. Shaw, International Law 5th edn, Cambridge University Press, 2003

[13] Henkin, Louis, How Nations Behave. 1968, pp. 47.

[14]Daniel Barstow Magraw, International Law and Pollution, 1991.

[15] Edith Brown Weiss, Daniel Barstow and Paul C. Szasz, International Environmental Law: Basic Instruments and References, 1992.

[16] Gunther Handl and Robert E. Lutz, Transferring Hazardous Technologies and substances: The International Legal Challenge, 1989.

[17] Jeffrey Barber, “Responsible Action or Public Relations? NGO Perspectives on Voluntary Initiatives,” Industry and Environment, 1998.

[18]Halina Ward,”Foreign Direct Liability’: A New Weapon in the Performance Armoury?” AccountAbility Quarterly, Issue 14, 2000.

[19] Broughton, Edward, “The Bhopal disaster and its aftermath: a review”Environmental Health, 2005.

[20] “Chronology”. Bhopal Information Center, UCC. November 2006.

[21] D. Sethi,  and S. Guisinger, “Liability of foreignness to competitive advantage: how

multinational enterprises cope with the international business environment”, Journal of

International Management,  2002.

[22] Santoro, M., Should LDCs love MNCs? Foreign Policy, 128, 94-96, 2002.

[23] J.M. Mezias, “Identifying liability of foreignness and strategies to minimize their effects:

the case of labor lawsuit judgments in the United States”, Strategic Management Journal,

Vol. 23, pp. 229-44, 2002.

[24] Liesbeth F.H. Enneking , “Crossing the Atlantic? The political and legal feasibility of European Foreign Direct Liability Cases,” The George Washington International Law Review, 2009, p 903.

[25]Y. Luo, O. Shenkar, and  M. Nyaw,  “Mitigating liabilities of foreignness: defensive versus

offensive approaches”, Journal of International Management, Vol. 8 No. 3, pp. 283-300. 2002.

[26] Y. Luo,,“Market-seeking MNEs in an emerging market: how parent-subsidiary links

shape overseas success”, Journal of International Business Studies, Vol. 34 No. 3,

pp. 290-309, 2003.

[27] S. Hymer, , The International Operations of National Firms: A Study of Direct Investment,

MIT Press, Cambridge, MA. 1976.

[28] How managing political risk improves global business performance,” PwC Advisory and Eurasia Group, 2006.

[29] D.J.,Simon, “A Theoretical Perspective on Political Risk”, (Winter, 1984),  Journal of International Business Studies, Vol. 15, No. 3. (pp. 123–143).

[30] P. J. Donovan, “Creeping Exportation and MIGA” 2004.

[31] Holzmann, Robert; Lynne Sherburne-Benz and Emil Tesliuc. “Social Risk Management: The World Bank Approach to Social Protection in a Globalizing World”World Bank., 2006.

[32] Holzmann, Robert; Steen Jorgensen (2000). “Social Risk Management: A new conceptual framework for Social Protection, and beyond”World Bank. 2006.

[33] Beth Jenkins, Beth Kutle and Tamara Bekefi, ‘Social Risk as Strategic Risk’, Corporate Social Responsibilty Initiative, December 2006.

[34] The Economic Impact of Wal-Mart,” Global Insight, http://www.globalinsight.com/gcpath/Wal-Mart 2006, (accessed on 30 Nov 2011)

[35] Beth Kyle and John G. Ruggie, “Corporate Social Responsibility as Risk Management” Corporate Social Responsibility Initiatice Working Paper, Cambridge MA: John F. Kennedy School of Government, Harvard University, 2005.

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