International expansion, diversification and regulated firms' nonmarket strategy

Previous studies have shown that regulated firms tend to diversify for different reasons than unregulated ones. This is the case for product but also for geographical diversification, i.e. international expansion. The logic generally advanced is that regulated firms tend to diversify when they face costly and difficult relationships with the regulatory authority in charge of their sector. This approach, however, does not explain (1) what is really at the core of the problem in regulated firms’ relationships with regulators, (2) why these firms cannot overcome part of the problem by developing nonmarket strategies –lobbying, campaign contributions, etc.– to influence regulatory decisions, and (3) why they sometimes opt for international expansion rather than product diversification. In this paper, we propose a theoretical model that provides potential answers to these questions. We start by considering the firm-regulator relationship as an incomplete information problem, in which the firms know things that the regulator does not, but can cannot convey hard information about these things. In this setting, we show that when firms face tough nonmarket competition domestically, going abroad can create a mechanism that makes information transmission credible and therefore strengthen their position in their home market. International expansion, in consequence, can be a way to solve some of the problems that regulated firms face at home in addition to a way for these firms to grow their business abroad