Entry in Foreign Markets under Asymmetric Information and Demand Uncertainty

Abstract

This paper examines the mode of entry of a multinational firm that has less information about the host market stochastic demand than the local firm. The foreign firm can enter the market either through direct investment or exports. Each entry mode entails different costs and has different informational implications. Entry through foreign direct investment (FDI) is favored by greater variability in demand. Interestingly enough, strategic behavior by the incumbent firm, which deviates from its first period monopoly output, might be aimed at increasing the probability of foreign entry through FDI despite having to compete against an equally informed and efficient entrant; this never happens in a symmetric information environment. Such host firm behavior is aimed at reducing the strategic uncertainty derived from the foreign firm's beliefs. Compared with the symmetric information setting, entry via direct investment may occur in more cases.