The theory of internalization itself is based on the transaction cost theory. This theory says that transactions are made within an institution if the transaction costs on the free market are higher than the internal costs. This process is called internalization.
For Dunning, not only the structure of organization is important. He added 3 more factors to the theory:
Ownership advantages (trademark, production technique, entrepreneurial skills, returns to scale) Ownership specific advantages refer to the competitive advantages of the enterprises seeking to engage in Foreign direct investment (FDI). The greater the competitive advantages of the investing firms, the more they are likely to engage in their foreign production.
Location advantages (existence of raw materials, low wages, special taxes or tariffs) Locational attractions refer to the alternative countries or regions, for undertaking the value adding activities of MNEs.The more the immobile, natural or created resources, which firms need to use jointly with their own competitive advantages, favor a presence in a foreign location, the more firms will choose to augment or exploit their O specific advantages by engaging in FDI.
Internalization advantages (advantages by own production rather than producing through a partnership arrangement such as licensing or a joint venture) Firms may organize the creation and exploitation of their core competencies. The greater the net benefits of internalizing cross-border intermediate product markets, the more likely a firm will prefer to engage in foreign production itself rather than license the right to do so.
Dunning (1981) Categories of advantages
advantages Location... [continues]
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