Institutional experience, formal institutional quality, and firm performance: An analysis of firms from the European Union

Oliveira, Alexandre; Carvalho, Fernando Manuel Pereira Oliveira; Reis, Nuno Rosa Article Institutional experience, formal institutional quality, and firm performance: An analysis of firms from the European Union BRQ Business Research Quarterly Provided in Cooperation with: Asociación Científica de Economía y Dirección de Empresas (ACEDE), Madrid Suggested Citation: Oliveira, Alexandre; Carvalho, Fernando Manuel Pereira Oliveira; Reis, Nuno Rosa (2025) : Institutional experience, formal institutional quality, and firm performance: An analysis of firms from the European Union, BRQ Business Research Quarterly, ISSN 2340-9444, Sage Publishing, London, Vol. 28, Iss. 2, pp. 371-385, https://doi.org/10.1177/23409444241301067 This Version is available at: https://hdl.handle.net/10419/327074 Standard-Nutzungsbedingungen: Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden. 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If the documents have been made available under an Open Content Licence (especially Creative Commons Licences), you may exercise further usage rights as specified in the indicated licence. https://creativecommons.org/licenses/by/4.0/ Creative Commons CC BY: This article is distributed under the terms of the Creative Commons Attribution 4.0 License (https://creativecommons.org/licenses/by/4.0/) which permits any use, reproduction and distribution of the work without further permission provided the original work is attributed as specified on the SAGE and Open Access pages (https://us.sagepub.com/en-us/nam/open-access-at-sage). https://doi.org/10.1177/23409444241301067 Business Research Quarterly 2025, Vol. 28(2) 371 –385 © The Author(s) 2024 Article reuse guidelines: sagepub.com/journals-permissions DOI: 10.1177/23409444241301067 journals.sagepub.com/home/brq Introduction Firms’ success depends on their ability to adapt to the quality of the institutional environment (Cuervo-Cazurra, Mudambi, & Pederson, 2019; Jackson & Deeg, 2008). If institutions are the rules of the game (North, 1991), then how firms adapt to the rules of the game remains an important question (Dau et al., 2020; Kostova & Hult, 2016; Peng et al., 2008). The general idea is that if firms adapt to the quality of institutions, following transaction costs theory prescriptions, firms will perform well over the long run (Argyres & Zenger, 2022; Williamson, 1991). Since institutions influence transaction costs, institutional quality can greatly affect how firms conduct their activities and organize for economic success (Hennart & Verbeke, 2022). Thus, firms should focus on how to efficiently adapt to the circumstances at hand by addressing the institutional opportunities and challenges to improve their performance (Argyres & Zenger, 2012, 2022). However, Williamson’s “efficiency-as-strategy” logic does not fully and satisfactorily explain persistent performance differences between firms (Argyres & Zenger, 2012, Institutional experience, formal institutional quality, and firm performance: An analysis of firms from the European Union Alexandre Oliveira1,2 , Fernando Carvalho2 and Nuno Rosa Reis1,3 Abstract Firms’ success depends on their ability to deal with formal institutional quality. Specifically, firms exposed to a diversified set of institutional profiles can achieve institutional competitive advantage that provides firms with diverse knowledge and broader learning opportunities. While prior studies argued that being exposed to a diversified set of institutional profiles negatively influences firms because institutional knowledge can only be replicated in similar institutional profiles, they missed the point of learning from diversity. The purpose of this study is to further understand how firms’ institutional experience moderates the relationship between formal institutional quality and firms’ performance. We argue that firms with higher and more diverse institutional experience will adapt more efficiently to formal institutional quality, thus improving firms’ performance. We test the hypotheses on 4,011 publicly traded firms from the European Union between 2010 and 2021, and our results show that firms that develop higher institutional experience are better able to efficiently adapt to and leverage formal institutional quality and achieve higher firm performance. We contribute to the ongoing discussion on how formal institutions influence firms’ performance by acknowledging the importance of developing a diversified institutional experience. JEL CLASSIFICATION: F23 Keywords Formal institutional quality, firms’ performance, institutional diversity, institutional experience, European Union 1 Centre of Applied Research in Management and Economics, Polytechnic Institute of Leiria, Leiria, Portugal 2 Centre for Business and Economics Research, Faculty of Economics, University of Coimbra, Coimbra, Portugal 3 School of Technology and Management, Polytechnic Institute of Leiria, Leiria, Portugal Corresponding author: Alexandre Oliveira, Centre of Applied Research in Management and Economics, Polytechnic Institute of Leiria, Morro do Lena–Alto do Vieiro, 2411-901 Leiria, Portugal. Email: [email protected] 1301067BRQ0010.1177/23409444241301067Business Research QuarterlyOliveira et al. research-article2024 Regular Paper 372 Business Research Quarterly 28(2) 2022; Barney et al., 2023). Firms may develop resources and capabilities that improve firms’ adaptation to formal institutional quality, which may create persistent performance differences among firms (Grøgaard & Verbeke, 2012; Hennart & Verbeke, 2022; Narula & Verbeke, 2015). Specifically, by being exposed to a diversified set of institutional profiles, firms benefit from diverse knowledge and broader learning opportunities that can translate into institutional competitive advantages (Fuentelsaz et al., 2022; Lundan & Li, 2019). Nonetheless, prior research arguably missed the point of learning from diversity (Lumineau et al., 2021; Lundan & Li, 2019; Pattnaik et al., 2021) by positing that institutional knowledge can only be replicated if obtained from similar institutional profiles (Perkins, 2014; Trąpczyński & Banalieva, 2016). Despite acknowledging that the institutional experience, which is a multidimensional concept to account for the similarity, breadth, and depth of involvement in institutional environments (Perkins, 2014), is an important source of institutional competitive advantages (e.g., Domínguez et al., 2023; Fuentelsaz et al., 2022; Lundan & Li, 2019; Trąpczyński & Banalieva, 2016), there is still limited knowledge on how firms gain an advantage by learning from a diversified set of institutional profiles and benefit from institutional experience (Lumineau et al., 2021; Pattnaik et al., 2021). The purpose of this study is to further understand how firms’ institutional experience moderates the relationship between formal institutional quality and firms’ performance. We build upon the theoretical approach that firms learn from being exposed to diversified set of institutional profiles (Lumineau et al., 2021; Pattnaik et al., 2021; Perkins, 2014). More importantly, firms’ institutional experience can evolve into a firm-specific resource (Perkins, 2014), such as diversified knowledge, adaptative firm processes, and more arbitrage opportunities (Lundan & Li, 2019), thus granting firms institutional competitive advantages capable of generating persistent performance advantages (Fuentelsaz et al., 2022). We argue that firms with higher levels of institutional experience will adapt more efficiently to the level of formal institutional quality of the host country by overcoming institutional inefficiencies, while benefiting from the institutional opportunities, thus improving firms’ performance. We test the hypotheses on an unbalanced panel of 4,011 publicly traded firms from the European Union (EU) between 2010 and 2021. Our results show that formal institutional quality has a positive effect on firms’ performance through the minimization of transaction costs. Also, we confirm that firms that have a higher level of institutional experience are better able to efficiently adapt to formal institutional quality and thus achieve higher firm performance. We contribute to the International Business (IB) literature by adding to the ongoing discussion on the effect of formal institutional quality on firms’ performance in two ways. First, we contribute to further understand why previous research on this relationship yielded mixed results (e.g., Banalieva et al., 2018; Chari & Banalieva, 2015; Cuervo-Cazurra & Dau, 2009) by adding to the argument that firms differ in their ability to benefit from the formal institutional quality (Cuervo-Cazurra, Mudambi, & Pederson, 2019; Dau et al., 2020; Kafouros & Aliyev, 2016a, 2016b; Kafouros et al., 2022, 2024). We follow a call from Dau et al. (2020) to further delve into the starting position of the firm that allows firms to efficiently adapt to the formal institutional quality, by combining the institutional approach with firms’ resources that are developed as a consequence of firms’ transactions (Argyres & Zenger, 2012, 2022; Barney et al., 2023). We argue that firms that develop superior resources (Grøgaard & Verbeke, 2012; Narula & Verbeke, 2015), such as higher institutional experience, are better able to adapt to the formal institutional quality and achieve performance advantages (Hennart & Verbeke, 2022). Second, we contribute to shed light on the ongoing debate regarding the importance of developing a diversified institutional experience. We follow a call from Trąpczyński and Banalieva (2016) to further address the mixed findings on the influence of institutional experience on firms’ performance. Learning from similar environments provides increased synergies from similar routines, while learning from dissimilar environments may cause penalty effects from unrelated learning (Perkins, 2014; Trąpczyński & Banalieva, 2016). We contribute to the theoretical view of learning from diversity (Lumineau et al., 2021; Lundan & Li, 2019; Pattnaik et al., 2021), by arguing and confirming that firms exposed to a diversified set of institutional profiles are able to achieve institutional competitive advantage that provides firms with diverse knowledge and broader learning opportunities (Fuentelsaz et al., 2022; Lundan & Li, 2019). Empirically, we propose a multidimensional measure of institutional experience that combines the depth and breadth of firms’ institutional experience, by accounting for the intensity, diversity, and distance of institutional experience, that overcomes shortcomings of previous measurements of institutional experience (see the review by Trąpczyński & Banalieva, 2016). Literature review Institutional economics considers institutions as constraints guiding economic actions and behaviors (CuervoCazurra, Mudambi, & Pederson, 2019). Formal institutions are defined as a set of explicit and codified rules of the game (North, 1991). As market transactions are deemed imperfect due to bounded rationality, opportunism, and information asymmetries, market transactions require guidance to be efficient (North, 1990, 1991; Williamson, 1975, 2000). Consequently, institutions have been devised to create order and reduce uncertainty in exchange (North, 1990, 1991). Together with the standard constraints of Oliveira et al. 373 economics, institutions determine the transaction costs (North, 1991). Therefore, institutional economics focuses on the transaction costs associated with either using markets or firms as alternative instruments for completing a related set of transactions (Williamson, 1975). A country is considered to have higher formal institutional quality when the laws and regulations facilitate market relationships among economic actors (Cuervo-Cazurra, Mudambi, & Pederson, 2019). Formal institutional quality is defined as the overall effectiveness and efficiency in helping firms engage and gain from market transactions (Kafouros et al., 2022). Thus, formal institutional quality is reflected in the quality of the written rules of the game, and the effectiveness of enforcing mechanisms during economic transactions (Williamson, 2000). For example, formal institutional quality includes efficient written laws, the quality of government regulation, the existence of property rights, judicial independence and effectiveness, the efficacy of the legal system, and execution of undue influence by government officials (Kafouros et al., 2022; North, 1991). Formal institutional quality is broadly acknowledged to influence firms’ performance (Banalieva et al., 2018; Dau et al., 2020; Kafouros et al., 2024). On the one hand, market transactions under higher formal institutional quality occur in the form of more efficient written rules of the game, with more efficient enforcement mechanisms, thereby providing firms with reduced opportunistic behavior and less information asymmetries (Banalieva et al., 2018; Kafouros & Aliyev, 2016a, 2016b; Kafouros et al., 2022). Thus, higher formal institutional quality influences positively firms’ performance, as more efficient market mechanisms reduce transaction costs (Cuervo-Cazurra & Dau, 2009; Kafouros & Aliyev, 2016a; Kafouros et al., 2022). On the other hand, higher formal institutional quality may also negatively influence firms’ performance (Chari & Banalieva, 2015; Chari & David, 2012), as efficient market mechanisms increase firms’ competition, thus leading to the redistribution of income rather than increased income (Chari & Banalieva, 2015; North, 1991). Therefore, the relationship between formal institutional quality and firms’ performance yields mixed and inconclusive results (Chan & Du, 2021; Cuervo-Cazurra, Mudambi, & Pederson, 2019; Fuentelsaz et al., 2022). Several theoretical insights advance possible explanations for the extant mixed and conflicting results regarding formal institutional quality. Motives such as the conceptualization and measurement of institutions (Aguilera & Grøgaard, 2019; Cuervo-Cazurra, Mudambi, & Pederson, 2019), the dynamics of institutional theory (e.g., institutional change, synchronization, predictability, and fragility; Banalieva et al., 2018; Cuervo-Cazurra, Gaur, & Singh, 2019; Fuentelsaz et al., 2022; Shi et al., 2017), and, arguably more importantly, the firms’ characteristics define firms’ ability to deal with formal institutional quality (Dau et al., 2020). Thus, previous mixed findings suggest that not all firms benefit the same way from formal institutional quality (Cuervo-Cazurra, Mudambi, & Pederson, 2019; Dau et al., 2020; Kafouros et al., 2022). As transaction costs theory does not fully explain why some firms might operate more efficiently than others (Argyres & Zenger, 2012, 2022; Barney et al., 2023), IB scholars have been shifting focus to the development of firm resources and capabilities, as competitive advantages to efficiently adapt to formal institutional quality (Argyres & Zenger, 2012, 2022; Barney et al., 2023; Hennart & Verbeke, 2022) to explain firms’ performance. The strategic theory of the firm offers a novel view of the combination between institutional approaches and firms’ resources and capabilities as the direct outgrowth of firms’ transactions, capable of creating persistent performance differences among firms (Argyres & Zenger, 2022; Barney et al., 2023). It complements prior studies that found that specific firms’ characteristics distinguish more successful firms from less successful ones depending on the level of formal institutional quality (Kafouros & Aliyev, 2016a, 2016b; Kafouros et al., 2022). For example, larger firms that internalize market functions that are not efficiently acquired through market mechanisms obtain a competitive advantage over rivals in lower quality institutional environments (Kafouros et al., 2022). Also, subsidiaries’ capabilities were found to be a useful mechanism in lower institutional quality, since subsidiaries’ intangible assets were found to enhance firms’ growth in higher institutional quality (Kafouros & Aliyev, 2016b). And firms that operated internationally were found to adapt more efficiently to the institutional quality because firms that acquired market knowledge and capabilities abroad were able to use the knowledge in home country (Dau, 2013; Fuentelsaz et al., 2022). However, the organizational learning literature has also provided mixed findings regarding how institutional experience affects firms’ performance (Trąpczyński & Banalieva, 2016). The potential benefits are related to the learning synergies from similar memorized routine from similar institutional profiles, while the potential hindrances are related to the penalty effect from unrelated learning (Perkins, 2014; Trąpczyński & Banalieva, 2016). Thus, it is not clear how firms can learn from institutional diversity (see Lumineau et al., 2021; Pattnaik et al., 2021), specifically considering the diversified knowledge, adaptative firm processes, and more arbitrage opportunities (Lundan & Li, 2019) that grant firms with institutional competitive advantages capable of generating persistent performance advantages (Fuentelsaz et al., 2022). Although recent studies distinguished between the depth and breadth of institutional experience, and between similar and dissimilar institutional experience, there is a misconception that the degree of firms’ internationalization equals to institutional experience. There is a need to acknowledge that two firms with the same number of foreign subsidiaries and operating in the same number of foreign countries can be exposed 374 Business Research Quarterly 28(2) to different levels of institutional diversity (Lundan & Li, 2019; Wu et al., 2015). Therefore, the role of firms’ institutional experience in the relationship between formal institutional quality and firms’ performance requires additional attention. Conceptual model Formal institutional quality and firms’ performance Significant differences in the quality of formal institutions can notably affect how firms operate and organize for economic success (Hennart & Verbeke, 2022). However, how one firm adapts more efficiently than another to the environment depends on the given circumstances at hand. Therefore, we first need to define the circumstances at hand based on the level of formal institutional quality (the effectiveness of laws and regulations combined with the formal enforcement) that consequently define the level of institutional hazards (e.g., opportunism and information asymmetry) that firms must cope with. Hence, as formal institutions attain higher quality, we expect all firms to minimize transaction costs under more effective formal institutions, thereby increasing firms’ performance. In the context of lower formal institutional quality, the written rules of the game are inefficient and unclear, accompanied by ineffective enforcing mechanisms, thus decreasing the overall effectiveness of engaging and gaining from market transactions. According to wealth-maximizing behavior and asymmetric information, practically every individual has some advantage over all others by possessing unique information (Williamson, 1975). As a result, not only do contractual relations run under greater levels of information asymmetry but also contractual relations face higher risks of opportunistic behavior (North, 1991; Williamson, 2000), thus making contractual relations increasingly costly, incomplete, and without any contract enforcement mechanism. Moreover, lower formal institutional quality presents limited opportunities to generate income, since inefficient institutions—such as poor protection of property rights—prevent appropriation of value and deter investments. Therefore, in the context of lower formal institutional quality, we expect transaction costs to increase due to higher levels of opportunism and information asymmetries, thus diminishing the firm’s performance. In the context of higher formal institutional quality, the written rules of the game are efficient and clearer, accompanied by effective enforcing mechanisms, thus increasing the overall effectiveness and quality of engaging and gaining from market transactions. Efficient formal institutions will decrease information asymmetries and uncertainties, while also diminishing the potential for opportunistic behavior. For example, firms are no longer expected to face additional costs for obtaining information and enforcing contracts, since more efficient transparency requirements and efficient court systems reduce the costs involved in contracts. Moreover, higher formal institutional quality also creates opportunities for more income—even if efficient market mechanisms increase firms’ competition (Chari & Banalieva, 2015; Chari & David, 2012). The institutional opportunities include the public investments in infrastructure such as education that facilitates the development of human capital and knowledge transfer (Kafouros et al., 2022). For example, effective protection of property rights, such as patents and copyrights, will help firms appropriate value from their innovations (Kafouros et al., 2022), by using efficient market mechanisms to sell or license their innovations. Consequently, higher formal institutional quality allows firms to employ their competitive advantages in market transactions. Therefore, we argue that in the context of higher formal institutional quality, firms will be more capable of benefiting from the market opportunities, with lower transaction costs, thus enhancing firms’ performance (Figure 1). Hence, we hypothesize the following: Figure 1. Conceptual model. Oliveira et al. 375 Baseline hypothesis 1 (H1). Formal institutional quality has a positive effect on firms’ performance. Formal institutional quality and firms’ institutional experience The strategic theory of the firm (Argyres & Zenger, 2012, 2022; Hennart & Verbeke, 2022) offers an explanation as to how firms, by developing firms’ resources (e.g., institutional experience), can efficiently adapt to formal institutional quality and create persistent performance differences (Lundan & Li, 2019; Perkins, 2014). We define institutional experience as the experiential learning derived from knowledge acquired by being exposed to host country’s institutional profile (Perkins, 2014). Our theoretical approach emphasizes learning from institutional diversity (Lumineau et al., 2021; Pattnaik et al., 2021), meaning being exposed to a diversified set of institutional profiles that allow firms to adapt more efficiently to formal institutional quality (Dau, 2013; Fuentelsaz et al., 2022; Perkins, 2014). Thus, institutional competitive advantages are the distinctive knowledge and rationality, obtained from the interaction with a diversified set of institutional profiles, capable of generating future economic value (Fuentelsaz et al., 2022). We expect firms with higher institutional experience to better adapt to formal institutional quality and increase firms’ performance. In the context of lower formal institutional quality, the written rules of the game are inefficient and unclear, accompanied by ineffective enforcing mechanisms, thus decreasing the overall effectiveness of engaging and gaining from market transactions. We argue that firms with higher institutional experience will be better able to protect against the increased risks and uncertainty, and the market failures provided by lower formal institutional quality. Since lower formal institutional quality increases the risk and uncertainty associated with the lack of contract enforcement, information asymmetry, and the potential for opportunistic behavior, taking efficient strategic decisions becomes a challenging task (Fuentelsaz et al., 2022). Thus, firms may need to protect themselves against the risk of incurring additional transaction costs. Firms with lower institutional experience will not be able to avoid the existing transaction costs, since they fail to put in place additional contract enforcement mechanisms, to access additional information, or even to identify market transactions that are about to be made under opportunistic behavior. Hence, we argue that the performance-consequences disadvantages of lower formal institutional quality will be stronger for firms with lower institutional experience than for firms with higher institutional experience. In the context of higher formal institutional quality, the written rules of the game are effective and clearer, accompanied by effective enforcing mechanisms, thus increasing the overall effectiveness and quality of engaging and gaining from market transactions. As it depends on the firm’s ability to benefit from the institutional opportunities, firms with higher institutional experience will be better able to capitalize on the opportunities and maximize value creation. For instance, higher formal institutional quality increases the effectiveness of laws and regulations, which provide opportunities for firms to engage in market transactions with lower transaction costs. The reduced transaction costs provide firms with additional resources that can be further augmented in the favorable institutional opportunities identified by the firms with higher institutional experience. Thus, the improved knowledge and learning will further benefit firms from the performance-enhancing mechanisms that the cooperative solutions in the market provide. We argue that the positive effect of formal institutional quality on firms’ performance will be stronger for firms with higher institutional experience than for firms with lower institutional experience. In sum, we hypothesize that a higher level of firms’ institutional experience positively moderates the relationship between formal institutional quality and firms’ performance, such as firms with higher institutional experience will benefit from greater maximization of value creation while minimizing transaction costs in both lower and higher formal institutional quality when compared to firms with lower institutional experience. Hence, we hypothesize the following: Hypothesis 2 (H2). The firms’ institutional experience positively moderates the relationship between the formal institutional quality and firms’ performance, such as the higher the level of firm institutional experience, the stronger the positive effect of formal institutional quality on firms’ performance. Method Research on the topic of institutional quality and firms’ performance has largely assumed that developed economies are not prominent in setting the field for theoretical developments (Dau et al., 2020; Miroshnychenko et al., 2023), thus most research focused on emerging (Banalieva et al., 2018; Chari & Banalieva, 2015; Kafouros et al., 2022, 2024), developing economies (Cuervo-Cazurra & Dau, 2009; Dau, 2013), and transition economies (Kafouros & Aliyev, 2016a, 2016b). However, this assumption led to specific characteristics of the countries not properly accounted for. Especially in the EU, where the recent major expansions (e.g., CEE countries) led to the application of convergent mechanisms (Blevins et al., 2016) imposed by other governments or supranational entities, with limited ability to refuse or adopt another institutional model (Cuervo-Cazurra, Gaur, & Singh, 376 Business Research Quarterly 28(2) 2019). Nonetheless, the emergence of a convergent institutional environment appears to be illusive as the institutional divergence between EU members remains significant (Blevins et al., 2016; Jaklič et al., 2020; Meyer & Peng, 2016), thus making the EU a still promising research area for providing research outputs beyond the EU (Jaklič et al., 2020). Data collection and sample We constructed a dataset of publicly traded firms from the EU. The countries that are EU members are Austria, Belgium, Bulgaria, Croatia,1 Republic of Cyprus, Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Ireland, Italy, Latvia, Lithuania, Luxembourg, Malta, the Netherlands, Poland, Portugal, Romania, Slovakia, Slovenia, Spain, Sweden, and the United Kingdom.2 We identified a total of 13,356 publicly active available firms in the EU between 2010 and 2021. We selected firms’ unconsolidated accounts to exclude the financial effect of firms’ subsidiaries. Furthermore, we excluded observations with missing information and financial type firms. The final valid N listwise consisted of 48,132 total observations, from a total of 28 countries from the EU and 4,011 total companies, for a time window of 12 years, between 2010 and 2021. The data were obtained from the Orbis Europe Database, which is compiled by Bureau van Dijk (BvD) and includes comparable financial data for EU firms. Dependent variable The dependent variable was the firm’s performance, defined as the firm’s profitability each year. We used single accounting-based measures because the single accounting-based measures were found to be significant in the relationship between institutions and firms’ performance (see Kostova et al., 2020). Thus, we used return on equity (ROE), which is the ratio between yearly net income and shareholders’ equity, in percentage, with data collected in the Orbis Europe database. Independent variables The independent variable formal institutional quality refers to the overall effectiveness and efficiency of the country’s formal institutions guiding economic transactions (Kafouros et al., 2022). While both the Economic Freedom Index (EFI) and Worldwide Governance Indicators (WGI) are commonly used to measure institutional quality (see Kostova et al., 2020), we argue that the WGI is better suited for our research question as it captures the perceptions of country’s formal institutional quality regarding the quality of laws and regulations and the effectiveness of enforcement mechanisms. The WGI comprises six pillars: (1) Voice and accountability, (2) Regulatory quality, (3) Political stability and absence of violence/terrorism, (4) Rule of law, (5) Government effectiveness, and (6) Control of corruption (World Bank). Each of the six pillars of WGI is graded on a scale from −2.5 to 2.5, such that a higher value means a higher formal institutional quality. To aggregate the data of the six pillars, we ran a confirmatory factor analysis, which retained a single factor with 86.35% total variance explained (KMO = 0.92, p-value = .00). Moderating variable The moderating variable institutional experience refers to the experiential learning derived from knowledge acquired from being exposed to host country’s institutional profile (Perkins, 2014). Our theoretical approach emphasizes learning from contextual heterogeneity while being exposed to a diversified set of institutional profiles (Lumineau et al., 2021; Pattnaik et al., 2021) that allow firms to adapt more efficiently to formal institutional quality (Dau, 2013; Fuentelsaz et al., 2022; Perkins, 2014). We build upon the ideas of Perkins (2014) and Trąpczyński and Banalieva (2016) to define a multidimensional measure that considers both the breadth and depth of firms’ institutional experience. To do so, we adapted the approach of Miller et al. (2016) to propose the three facets of firm’s institutional experience, namely institutional intensity, institutional diversity, and institutional distance. Institutional intensity captures the depth of firms’ institutional experience defined as the degree of firms’ foreign operations, measured by the total number of foreign subsidiaries (Trąpczyński & Banalieva, 2016). Institutional diversity captures the breadth of firms’ institutional experience defined as the degree of variance between the host countries’ formal institutional profiles (Zhao et al., 2020). We measured institutional diversity by the standard deviation of the set of host countries’ formal institutional profiles that firms have been exposed to (Wu et al., 2015; Zhao et al., 2020). Institutional distance captures the degree of cross-national differences of formal institutional quality between the firm’s home country and the set of host countries of its foreign subsidiaries (Miller et al., 2016). We measured institutional distance by calculating the distance between the home country and each host country WGI indicator, which produced a single factor with a total variance explained of 89.25% (KMO = 0.92, p-value = .00) when using a principal component factor analysis with varimax rotation. Finally, we constructed a multidimensional measure of institutional experience consisting of the three facets, that by using principal component factor analysis with varimax rotation, produced a single factor with a total variance explained of 65.90% (KMO = 0.58, p-value = .00; see Supplemental Appendix A1 for additional information). Oliveira et al. 377 Control variables The control variables capture variations at the country level and firm level. At the country level, we included the country size (measured using the natural logarithm of the country’s GDP in constant dollars) and country growth (as a percentage of total GDP growth year over year) to account for the domestic markets’ opportunities, in constant USD, to isolate the effects of price changes. Larger markets may provide firms with greater opportunities, thus influencing firms’ performance (Banalieva et al., 2018; Fuentelsaz et al., 2022; Shi et al., 2017). We also included the country FDI defined as the foreign direct investment received by the home country, measured as a percentage of net FDI inflows over total GDP. Higher inward FDI may bring about greater competition, thus hindering firms’ ability to perform (Banalieva et al., 2018; Shi et al., 2017). The data were obtained from the World Bank Database. Finally, we included countries’ dummies (28 country dummies). At the firm level, firm size captures the scale of resources, measured using the natural logarithm of the firm’s total assets in thousands of dollars. We expect larger firms to have greater levels of resources, thus benefiting from internalization advantages (Kafouros & Aliyev, 2016b; Kafouros et al., 2022). We included firm age, which relates to the firm’s experience in the country, measured using the natural logarithm of the number of years since foundation plus one (Banalieva et al., 2018; Shi et al., 2017). Older firms may be more profitable because they are more established in the market (Banalieva et al., 2018; Fuentelsaz et al., 2022). We included firm liquidity, which is the firm’s ability to pay its short-term debt. Firms with greater debt may be more prone to pursue more shortterm strategies with certain payoffs to cover their liabilities (Banalieva et al., 2018). We included foreign firm defined as the majority of a firm’s capital being foreign capital. To identify whether a firm is foreign, we used the information on the Global Ultimate Owner (GUO). We created a binary variable where we classified with foreign firm = 1 when the country of the GUO was different than the firm’s home country, and zero otherwise. Finally, we included industry dummies using the NACE rev. 2 main categories for the firms’ industry (category A to U, a total of 21 industry dummies were included; Shi et al., 2017). The data were obtained from the Orbis Europe database. Finally, we included the year dummies (12 years) to control for year-fixed effects in all our models (Fuentelsaz et al., 2022; Shi et al., 2017). Procedure of analysis Our dependent variable firms’ performance may present inertia over time, as current values may be affected by the performance of prior periods. For this reason, we use dynamic panel data analysis to control possible endogeneity by including the lag of the dependent variable (e.g., Fuentelsaz et al., 2022). The Generalized Method of Moments (GMM) estimator produces dynamic estimates that are consistent in the presence of endogeneity problems (Arellano & Bond, 1991). We followed the validation of GMM estimators used in Fuentelsaz et al. (2022) and it requires three tests: (1) the Hansen test, (2) the test for AR(2), and (3) the Wald-Chi tests. First, the Hansen statistic of excessive identification restrictions is used to prove the absence of correlation between the instruments and the error term. The result of the test is statistically nonsignificant, with levels of significance between 0.15 and 0.16, therefore there is no overidentification (the instruments are valid). Second, to prove that error terms are uncorrelated, the model’s error terms are required to not be second-order correlated (as evidenced by the lack of significance for the AR(2) test). Third, the Wald-Chi tests are presented to measure the joint significance of the variables in the models, thus all the Wald tests support the joint importance of the coefficients. Results Table 1 provides the descriptive statistics—means and standard deviations—and the correlations matrix. We provide additional unstandardized descriptive statistics for the variables that were mean centered in Table 1. Related to firms’ performance, we note that firms have on average 1.87% (SD, 48.93) on ROE. We note that formal institutional quality has a mean value of 1.03, with a standard deviation of 0.53. Related to the firm’s institutional experience, we note that firms have on average 20.12 (SD, 82.86) total foreign subsidiaries, with an average institutional diversity of 0.25 (SD, 0.35), and an average institutional distance of each formal institutional dimension between 0.30 and 0.47. We note that firms have an average firm size of 433.67 million dollars of total assets (SD, 161.18 million dollars of total assets) and an average firm age of 33.24 years old (SD, 33.87). Finally, we did not identify any high correlations in our data (Table 1), suggesting that our results are absent of multicollinearity. Hypotheses testing We start our analysis by estimating a dynamic regression model of the predictive variable firms’ performance. Thus, Table 2 reports the obtained results. In model 1, we include only the control variables. In model 2, we include the independent variable formal institutional quality. In model 3, we include the moderating variable institutional experience, and we provide the full model with all the variables and interactions included in the conceptual model, where we test H1 and H2. In model 3 of Table 2, we tested the H1. We argued that formal institutional quality has a positive effect on firms’ performance. A positive and significant coefficient in 378 Business Research Quarterly 28(2) Table 1. Descriptive statistics and correlations. Variable M SD VIF12345678910 1. Firms’ performance 1.87 48.93 1.00 2. Firms’ performancet-1 1.77 49.48 0.34* 1.00 3. Formal institutional quality 0.01 1.06 1.33 -0.02* -0.03* 1.00 4. Institutional experience 0.00 1.00 1.37 0.05* 0.04* 0.30* 1.00 5. Foreign firm 0.08 0.28 1.01 0.01 0.01 -0.04* -0.01 1.00 6. Firm size 12.06 2.83 1.29 0.08* 0.06* 0.24* 0.39* 0.02* 1.00 7. Firm age 3.06 1.02 1.10 0.04* 0.04* -0.01 0.23* 0.03* 0.19* 1.00 8. Firm liquidity 3.68 8.89 1.02 0.03* 0.02* 0.08* -0.03* 0.04* -0.03* -0.05* 1.00 9. Country size 27.12 1.31 1.33 -0.01 -0.01 0.39* 0.27* -0.04* -0.02* 0.03* 0.04* 1.00 10. Country growth 1.70 3.23 1.04 0.03* 0.00 -0.09* -0.12* 0.01 0.05* -0.03* -0.01* -0.18* 1.00 11. 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