International Business 7e

by Charles W.L. HillMcGraw-Hill/Irwin Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

Chapter 12

The Strategy of International Business

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Introduction What actions can managers take to compete more effectively as an international business?How can firms increase profits through international expansion?What international strategy should firms pursue?

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Strategy And The FirmA firms strategy refers to the actions that managers take to attain the goals of the firmProfitability can be defined as the rate of return the firm makes on its invested capitalProfit growth is the percentage increase in net profits over timeExpanding internationally can boost profitability and profit growth

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Strategy And The FirmFigure 12.1: Determinants of Enterprise Value

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Value CreationThe value created by a firm is measured by the difference between V (the price that the firm can charge for that product given competitive pressures) and C (the costs of producing that product)The higher the value customers place on a firms products, the higher the price the firm can charge for those products, and the greater the profitability of the firm

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Value CreationFigure 12.2: Value Creation

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Classroom Performance SystemWhat is the rate of return the firm makes on its invested capital?

a) Profit growthb) Profitabilityc) Net returnd) Value created

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Value CreationProfits can be increased by: adding value to a product so that customers are willing to pay more for it a differentiation strategylowering costs a low cost strategy

Michael Porter argues that superior profitability goes to firms that create superior value by lowering the cost structure of the business and/or differentiating the product so that a premium price can be charged

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Strategic PositioningMichael Porter argues that firms need to choose either differentiation or low cost, and then configure internal operations to support the choice

To maximize long run return on invested capital, firms must:pick a viable position on the efficiency frontier configure internal operations to support that positionhave the right organization structure in place to execute the strategy

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Strategic PositioningFigure 12.3: Strategic Choice in the International Hotel Industry

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Operations: The Firm As A Value ChainA firms operations can be thought of a value chain composed of a series of distinct value creation activities, including production, marketing, materials management, R&D, human resources, information systems, and the firm infrastructureValue creation activities can be categorized as primary activities (R&D, production, marketing and sales, customer service) and support activities (information systems, logistics, human resources)

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Classroom Performance SystemWhich of the following is not an example of a primary activity?

a) Logistics b) Marketing and sales c) Customer service d) Production

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Operations: The Firm As A Value ChainFigure 12.4: The Value Chain

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Global Expansion, Profitability, And Profit GrowthInternational firms can:expand the market for their domestic product offerings by selling those products in international marketsrealize location economies by dispersing individual value creation activities to locations around the globe where they can be performed most efficiently and effectivelyrealize greater cost economies from experience effects by serving an expanded global market from a central location, thereby reducing the costs of value creationearn a greater return by leveraging any valuable skills developed in foreign operations and transferring them to other entities within the firms global network of operations

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Expanding The Market: Leveraging Products And CompetenciesFirms can increase growth by selling goods or services developed at home internationallyThe success of firms that expand internationally depends on the goods or services they sell, and on their core competencies (skills within the firm that competitors cannot easily match or imitate)Core competencies enable the firm to reduce the costs of value creation and/or to create perceived value in such a way that premium pricing is possible

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Location EconomiesWhen firms base each value creation activity at that location where economic, political, and cultural conditions, including relative factor costs, are most conducive to the performance of that activity, they realize location economies (the economies that arise from performing a value creation activity in the optimal location for that activity, wherever in the world that might be)

By achieving location economies, firms can:lower the costs of value creation and achieve a low cost positiondifferentiate their product offering

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Location EconomiesFirms that take advantage of location economies in different parts of the world, create a global web of value creation activitiesUnder this strategy, different stages of the value chain are dispersed to those locations around the globe where perceived value is maximized or where the costs of value creation are minimized

A caveat: transportation costs, trade barriers, and political risks complicate this picture

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Classroom Performance SystemWhat is created when different stages of a value chain are dispersed to locations where value added is maximized or where the costs of value creation are minimized?

a) Experience effects b) Learning effects c) Economies of scale d) A global web

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Experience EffectsThe experience curve refers to the systematic reductions in production costs that have been observed to occur over the life of a productLearning effects are cost savings that come from learning by doingSo, when labor productivity increases, individuals learn the most efficient ways to perform particular tasks, and management learns how to manage the new operation more efficiently

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Experience EffectsFigure 12.5: The Experience Curve

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Experience EffectsEconomies of scale refer to the reductions in unit cost achieved by producing a large volume of a product

Sources of economies of scale include:spreading fixed costs over a large volumeutilizing production facilities more intensivelyincreasing bargaining power with suppliers

By moving down the experience curve, firms reduce the cost of creating valueTo get down the experience curve quickly, firms can use a single plant to serve global markets

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Leveraging Subsidiary SkillsIt is important for managers to:recognize that valuable skills that could be applied elsewhere in the firm can arise anywhere within the firms global network (not just at the corporate center)establish an incentive system that encourages local employees to acquire new skillshave a process for identifying when valuable new skills have been created in a subsidiary

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SummaryManagers need to keep in mind the complex relationship between profitability and profit growth when making strategic decisions about pricingIn some cases, it may be worthwhile to price products low relative to their perceived value in order to gain market share

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Cost Pressures And Pressures For Local ResponsivenessFirms that compete in the global marketplace typically face two types of competitive pressures:pressures for cost reductionspressures to be locally responsive

These pressures place conflicting demands on the firmPressures for cost reductions force the firm to lower unit costs, but pressure for local responsiveness require the firm to adapt its product to meet local demands in each marketa strategy that raises costs

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Cost Pressures And Pressures For Local ResponsivenessFigure 12.6: Pressures for Cost Reductions and Local Responsiveness

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Pressures For Cost ReductionsPressures for cost reductions are greatest:in industries producing commodity type products that fill universal needs (needs that exist when the tastes and preferences of consumers in different nations are similar if not identical) where price is the main competitive weaponwhen major competitors are based in low cost locationswhere there is persistent excess capacitywhere consumers are powerful and face low switching costs

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Pressures For Local ResponsivenessPressures for local responsiveness arise from:differences in consumer tastes and preferences - strong pressures for local responsiveness emerge when consumer tastes and preferences differ significantly between countriesdifferences in traditional practices and infrastructure - pressures for local responsiveness emerge when there are differences in infrastructure and/or traditional practices between countries

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Pressures For Local Responsivenessdifferences in distribution channels - a firm's marketing strategies needs to be responsive to differences in distribution channels between countrieshost government demands - economic and political demands imposed by host country governments may necessitate a degree of local responsiveness

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Classroom Performance SystemWhich of the following is not a pressure for local responsiveness?

a) Excess capacity b) Host government demands c) Differences in consumer tastes and preferences d) Differences in distribution channels

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Choosing A StrategyThere are four basic strategies to compete in the international environment: global standardizationlocalizationtransnationalInternational

The appropriateness of each strategy depends on the pressures for cost reduction and local responsivness in the industry

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Choosing A StrategyFigure 12.7: Four Basic Strategies

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Global Standardization StrategyThe global standardization strategy focuses on increasing profitability and profit growth by reaping the cost reductions that come from economies of scale, learning effects, and location economiesThe strategic goal is to pursue a low-cost strategy on a global scale

The global standardization strategy makes sense when:there are strong pressures for cost reductionsdemands for local responsiveness are minimal

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Localization StrategyThe localization strategy focuses on increasing profitability by customizing the firms goods or services so that they provide a good match to tastes and preferences in different national markets

The localization strategy makes sense when:there are substantial differences across nations with regard to consumer tastes and preferenceswhere cost pressures are not too intense

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Transnational StrategyThe transnational strategy tries to simultaneously:achieve low costs through location economies, economies of scale, and learning effectsdifferentiate the product offering across geographic markets to account for local differencesfoster a multidirectional flow of skills between different subsidiaries in the firms global network of operations

The transnational strategy makes sense when:cost pressures are intensepressures for local responsiveness are intense

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International StrategyThe international strategy involves taking products first produced for the domestic market and then selling them internationally with only minimal local customization

The international strategy makes sense whenthere are low cost pressureslow pressures for local responsiveness

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Classroom Performance SystemWhich strategy tries to simultaneously achieve low costs through location economies, economies of scale, and learning effects, and differentiate the product offering across geographic markets to account for local differences?

a) Internationalizationb) Localizationc) Global standardizationd) Transnational

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The Evolution of StrategyAn international strategy may not be viable in the long termTo survive, firms may need to shift to a global standardization strategy or a transnational strategy in advance of competitorsSimilarly, localization may give a firm a competitive edge, but if the firm is simultaneously facing aggressive competitors, the company will also have to reduce its cost structures, and the only way to do that may be to shift toward a transnational strategy

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The Evolution of StrategyFigure 12.8: Changes in Strategy over Time

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Classroom Performance SystemWhich strategy makes sense when pressures are high for local responsiveness, but low for cost reductions?

a) Global standardization strategy b) International strategy c) Transnational strategy d) Localization strategy

Managers can increase the profitability of the firm by pursuing strategies that lower costs or by pursuing strategies that add value to the firms products, which enables the firm to raise prices. Managers can increase the rate at which the firms profits grow over time by pursuing strategies to sell more products in existing markets or by pursuing strategies to enter new markets. As we shall see, expanding internationally can help managers boost the firms profitability and increase the rate of profit growth over time.

The value of a product to an average consumer is V; the average price that the firm can charge a consumer for that product given competitive pressures and its ability to segment the market is P; and the average unit cost of producing that product is C (C comprises all relevant costs, including the firms cost of capital). The firms profit per unit sold () is equal to P C, while the consumer surplus per unit is equal to V P (another way of thinking of the consumer surplus is as value for the money; the greater the consumer surplus, the greater the value for the money the consumer gets). The firm makes a profit so long as P is greater than C, and its profit will be greater the lower C is relative to P. The difference between V and P is in part determined by the intensity of competitive pressure in the marketplace; the lower the intensity of competitive pressure, the higher the price charged relative to V.4 In general, the higher the firms profit per unit sold is, the greater its profitability will be, all else being equal.

The answer is b. The strategy, operations, and organization of the firm must all be consistent with each other if it is to attain a competitive advantage and garner superior profitability. Operations refers to the different value creation activities a firm undertakes.

The convex curve in Figure 12.3 is what economists refer to as an efficiency frontier. The efficiency frontier shows all of the different positions that a firm can adopt with regard to adding value to the product (V) and low cost (C) assuming that its internal operations are configured efficiently to support a particular position (note that the horizontal axis in Figure 12.3 is reverse scaledmoving along the axis to the right implies lower costs). The efficiency frontier has a convex shape because of diminishing returns. Diminishing returns imply that when a firm already has significant value built into its product offering, increasing value by a relatively small amount requires significant additional costs. The converse also holds, when a firm already has a low-cost structure, it has to give up a lot of value in its product offering to get additional cost reductions.

The answer is a.The operations of a firm can be thought of as a value chain composed of a series of distinct value creation activities including production, marketing and sales, materials management, R&D, human resources, information systems, and the firm infrastructure. We can categorize these value creation activities, or operations, as primary activities and support activities (see Figure 12.4). If a firm is to implement its strategy efficiently, and position itself on the efficiency frontier shown in Figure 12.3, it must manage these activities effectively and in a manner that is consistent with its strategy.

The answer is d. The answer is a.Management Focus: Vodafone in Japan

Summary

This feature explores the strategic decisions of Vodafone, the worlds largest provider of wireless telephone service, in Japan. Vodafone acquired J-Phone, the number three player in Japans wireless market, in 2002. However, after a series of questionable decisions, Vodafone sold J-Phone at a loss in 2006. Discussion of the feature can revolve around the following questions:

1. Why type of strategy was Vodafone trying to pursue when it acquired J-Phone? How did it hope this strategy would boost profitability and profit growth?Answer: Vodafones vision was to build a global brand using a phone that would work anywhere in the world. To achieve that vision, the company offered consumers a standardized product with the same technology regardless of where they were located. In theory, by offering the same basic product everywhere, Vodafone would not only capitalize on a brand name, it would also capitalize on a streamlined production process. Most students twill recognize this as a global standardization strategy.

2. Why did the strategy fail in Japan? What should Vodafone have done differently? Answer: Vodafone failed to recognize that consumers in different locations values different features. In Japan, the company was selling primarily to younger people who did not travel much, and did not value the global portability of the companys phones. Instead, Japanese consumers were more interested in other features like games and cameras. In retrospect, Vodafone probably should have paid more attention to local preferences. The company delayed introduction of phones using 3G technology that would allow users to watch video clips and teleconference because it wanted to launch the technology only when it had a phone that would work inside and outside Japan.

Management Focus: The Evolution of Strategy at Procter & GambleSummaryThis feature explores the evolution of Procter & Gambles global strategy. In 1915, Procter & Gamble opened its first foreign operation in Canada. In the 1950s and 1960s, Procter & Gamble expanded into Western Europe, and then, in the 1970s, into Japan and other parts of Asia. Throughout this expansion, the company maintained all product development at its Cincinnati, Ohio headquarters, while each subsidiary took on the responsibility for manufacturing, marketing, and distributing the products. Procter & Gamble shifted its strategy in the 1990s, closing several foreign locations and moving to a more regional approach to global markets. More recently, the company implemented a business unit approach whereby different units are entirely responsible for generating profits for a product group. Discussion of this feature can begin with the following questions.Suggested Discussion Questions1. Discuss the evolution of Procter & Gambles strategy. Do you think Procter & Gamble was reactive or proactive in its approach to strategy in the late 1990s and early 2000s?Discussion Points: Many students will probably suggest that Procter & Gamble took a reactive approach to its strategy in the early 1990s, but was more proactive in the late 1990s and early 2000s. The companys initial reorganization was a reaction to a changing marketplace and sluggish profits, however, when it became apparent that the reorganization attempt was not really fixing the problems that existed, the company embarked on a new strategy. This time, rather than simply trying to adjust its existing strategy as the company had done in 1993, Procter & Gamble completely dismantled the structure that had been in place for a quarter of a century and reorganized as a company ready to operate in a global marketplace. 2. How would you characterize Procter & Gambles current strategy? What challenges do you foresee with the new strategy?Discussion Points: Students will probably suggest that Procter & Gamble is trying to take a transnational approach to markets. The company has reorganized into business units, each responsible for its own profits. Each unit has been directed to develop global brands where possible, and keep costs low. While this new approach eliminates many of the problems facing the company under its old structure, it does introduce a new challenge in that there is little communication between business units which effectively minimizes the possibility of cross-unit learning and information sharing. Another Perspective: Students can explore Procter & Gambles strategy in more depth by going to the companys web site at {http://www.pg.com/en_US/index.jhtml}. Click on P&G Global Operations to compare the domestic site to those in numerous foreign locations. The answer is d.The answer is d.