chapter 11

169

CHAPTER 11Strategies for Analyzing and Entering

Foreign Markets

After studying this chapter, students should be able to:

> Discuss how firms go about analyzing foreign markets.> Outline the process by which firms choose their mode of entry into a foreign

market.> Describe forms of exporting and the types of intermediaries available to assist

firms in exporting their goods. > Identify the basic issues in international licensing and discuss the advantages

and disadvantages of licensing.> Identify the basic issues in international franchising and discuss the advantages

and disadvantages of franchising.> Analyze contract manufacturing, management contracts, and turnkey projects

as specialized entry modes for international business.> Characterize the greenfield strategies and acquisition as forms of FDI.

LECTURE OUTLINE

OPENING CASE: Heineken Brews Up a Global Strategy

The opening case explores Heineken NV’s global strategy. In particular, it considers the strategic moves and selection of entry modes Heineken is making in the U.S. and Europe to increase its competitiveness.

Key Points

Heineken NV, the world’s second largest beer producer, earns more than 85 percent of its revenues outside of the Netherlands. The company is a market leader in every European country, and sells its beer in North and South America, Africa, and Asia.

Heineken began exporting beer to the U.S. in 1914, temporarily halted its sales during Prohibition, and successfully reestablished sales after Prohibition. Heineken’s distributor in the U.S. was Van Munching & Company.

> Chapter 11

Today, Heineken brews beer in more than 50 countries. The company expanded into the soft drink and wine businesses in the 1970s to exploit its bottling technology and global distribution networks.

Heineken’s current strategy is to achieve in Europe the same sort of market dominance Anheuser-Busch has in the U.S. To that end, Heineken has bought breweries in several European countries as a way of expanding its product lines and facilitating distribution throughout Europe. In addition, the company has closed or modernized older breweries.

Heineken has avoided establishing a brewery in the U.S., however, because it wants to retain its imported image. Heineken knows that from a cost standpoint, local production might make sense, but notes that Lowenbrau actually saw a decrease in sales after establishing a U.S. operation.

Heineken has, however, bought its U.S. distributor, Van Munching & Company, to cut costs and increase profits. The move also enables Heineken to coordinate its U.S. marketing campaigns with its global ones.

Case Questions

1. Why is it so important for Heineken to maintain its export sales to the U.S.?

The U.S. has been an important export market for Heineken for nearly a century. Heineken recently acquired the distributor, Van Munching & Company, that has been responsible for importing and distributing its products in the U.S. from the beginning. Although Heineken considered establishing a brewery in the U.S. to cut costs, it decided to maintain its current export strategy because it believes the imported image Heineken beer carries is an important selling point in the U.S.

2. Heineken earns the majority of its revenues outside of its home country, yet both Anheuser-Busch and Miller sell 95 percent of their output locally. What factors could explain this difference?

Most students will quickly point out that if Heineken wanted to be one of the world’s major producers of beer, it had to expand outside of its home country, the Netherlands, because its local market is so small. Miller and Anheuser-Busch, on the other hand, had the luxury of producing beer in one of the world’s larger markets, and thus could rely on domestic sales for most of their earnings. Later, Heineken continued its global expansion in order to capitalize on its distinctive competencies, its bottling technology, and its global distribution networks.

Additional Case ApplicationToday, Budweiser is one of the hot (or should one say cold?) beers of choice in Britain. Much of its current appeal to the British appears to be related to the fact that it is imported. Students can be asked to compare and contrast Budweiser’s strategy in Britain with Heineken’s strategy in the U.S. Issues to consider include whether Budweiser should establish a British brewery or form a joint venture with a

170

Strategies for Analyzing and Entering Foreign Markets >

local company, whether exporting is a sustainable strategy, and how Heineken should respond to Budweiser’s recent success in Britain.

CHAPTER SUMMARY

Chapter Eleven examines the various entry modes available to companies as they expand internationally. The chapter begins with the choice of entry modes, and then proceeds to discuss the advantages and disadvantages of each one.

I. FOREIGN MARKET ANALYSIS

To successfully increase foreign market share, firms must assess alternative markets; evaluate the respective costs, benefits, and risks of entering each; and select those that hold the most potential for entry or expansion.

Assessing Alternative Foreign Markets

A firm must consider a variety of factors, including market potential, levels of competition, the legal and political environment, and sociocultural influences when

assessing alternative foreign markets. Discuss Table 11.1 here. Information on some of the factors is easily obtainable from published sources in

the firm’s home country. Other information may be subjective and difficult to obtain. In fact, it may be necessary to visit the foreign location in question.

Market Potential. The first step in foreign market selection is assessing market potential. Variables a firm might wish to consider include population, GDP, per capita GDP, public infrastructure, and ownership of goods such as automobiles and televisions. Students should refer to Building Global Skills in Chapter 2 for a list of publications that provide this type of information.Next, a firm must collect information relating to the specific product line under consideration. It may be necessary for a firm to use proxy data in some cases. The potential for growth in a particular market can be estimated using both objective and

subjective measures. Show map 11.1 here. Levels of Competition. Firms must also consider the current and future level of

competition in foreign markets. Firms assessing their competitive environment should identify the number and size of firms already competing in the potential market, their relative market shares, their pricing and distribution strategies, and their relative strengths and weaknesses. Continual monitoring can help firms identify new opportunities. (See Chapter 10's closing case, The New Conquistador.)

Legal and Political Environment. It is important that a firm understand the host country’s policies toward trade as well as its general legal and political environment prior to making an investment. Students should refer to Chapters 6 and 8 for a review of these concepts.Trade barriers, for example, might induce a firm to enter a market via FDI as opposed to exporting. In some countries, legal and political issues will impact both entry methods and the repatriation of profits. A country’s tax policies and government stability may also affect a firm’s strategy. The text provides specific examples of how these factors affected the international strategies of various firms.

171

> Chapter 11

Sociocultural Influences. Sociocultural influences should also be considered when assessing foreign market opportunities. The role of culture in international business was discussed in Chapter 9. In many cases, firms will attempt to minimize the potential impact of sociocultural differences by initially focusing on countries that are culturally similar to their home markets.Depending on the proposed type of internationalization effort, certain sociocultural variables may be more important than others. For example, if the proposed strategy is to export goods to a new market, the sociocultural factors of most importance are those that relate to consumers. In contrast, if a firm is considering establishing a factory or distribution center in a foreign country, the firm should evaluate sociocultural factors associated with its potential employees.

Evaluating Costs, Benefits, and Risks

Costs. There are two types of relevant costs at this point: direct and opportunity. Direct costs are incurred when entering the foreign market in question and include costs associated with setting up a business operation, transferring managers to run it, and shipping equipment and merchandise. A firm incurs opportunity costs when entering one market precludes or delays its entry into another. The profits it would have earned in the second market are opportunity costs.

Benefits. Benefits from entering a foreign market include expected sales and profits, lower acquisition and manufacturing costs, foreclosing of markets to competitors, competitive advantage, access to new technology, and the opportunity to achieve synergy with other operations.

Risks. A firm entering a new market incurs the risks of opportunity costs, additional operating complexity, and direct financial loss due to misassessment of market potential. In some extreme cases a firm may also risk loss due to government seizure of property, war or terrorism.

It is important that firms carefully assess foreign markets prior to making strategic decisions. Poor strategic judgments may rob a firm of profitable operations, while a continued inability to reach the right strategic decisions may threaten the firm’s existence.

Teaching Note:Instructors may want to begin their discussion of entry methods by asking students how a hypothetical (or real)

firm should sell its product in other markets. Students can usually quickly name the various choices, but are uncertain as to the pros and cons of each method.

II. CHOOSING A MODE OF ENTRY

Dunning’s eclectic theory (see Chapter 5) can be helpful in providing insight as to the best means of penetrating foreign markets. The theory considers three factors: ownership advantages, location advantages, and internalization factors, which in addition to other factors such as the firm’s need for control, the availability of resources, and the firm’s global strategy, help a firm decide between exporting, FDI,

joint ventures, licensing, and franchising. Show Figure 11.1 here. Ownership advantages are the tangible or intangible resources owned by a firm

that grant it a competitive advantage over industry rivals. The text provides

172


examples of both tangible (Inco, Ltd’s nickel-bearing ore) and intangible (the luxury appeal of LVMH Moet Hennessy Louis Vuitton’s products) ownership advantages. The nature of a firm’s ownership advantage will play a role in the firm’s selection of entry mode.

Location advantages are those factors that affect the desirability of host country production relative to home country production. The choice of home country versus host country production is affected by factors such as relative wage rates, land acquisition costs, capacity in existing plants, access to R&D facilities, logistical requirements, customer needs, the administrative costs of managing a foreign

subsidiary, political risk, and government restrictions. Present Map 11.2 here. Internalization advantages are factors that affect the desirability of a firm

producing a good or service itself rather than relying on an existing local firm to handle production. Transaction costs (see Chapter 3) will play a role in this decision. If transaction costs are high, the firm may select FDI or a joint venture as an entry method. If transaction costs are low, franchising, contract manufacturing, or licensing may be a better choice. The text illustrates this concept with an example of the factors affecting choice of entry mode in the pharmaceutical industry.

Other factors that affect a firm’s choice of entry method include its need for control, the availability of resources, and the firm’s overall global strategy. In sum, the choice of an entry mode will be a tradeoff between risk and reward, the level of resource commitment necessary, and the level of control the firm seeks.

III. EXPORTING TO FOREIGN MARKETS

The most common international business activity is exporting, or the process of sending goods or services from one country to other countries for use or sale there

(see Chapter 1). Discuss Table 11.2 here. There are many advantages to exporting. It allows a firm to control its financial

exposure in the host country; in fact, in most situations the risk is limited to basic start-up costs and the value of the goods or services involved in the transaction. Exporting also allows a firm to enter a market on a gradual basis, gain experience in operating internationally, and obtain information about certain markets without any investment expense.

Discuss Venturing Abroad: Jumping on a Japanese Jam DealChivers Hartley, a UK firm producing fruit preserves, after two years of negotiation landed a deal to export its products to

Japan. The deal required changes in recipes and packaging, as well as the creation of a new brand name.

Firms may have a proactive motivation for entering a foreign market, and in effect be pulled into the market as a result of the opportunities available there. The text provides several examples of firms that have exported as a result of a proactive motivation.

173

> Chapter 11

Firms may also export as a result of a reactive motivation whereby they are pushed into exporting because domestic opportunities are shrinking, or production lines are running below capacity, or they are seeking higher profit margins.

174


Forms of Exporting

There are three forms of exporting: indirect exporting, direct exporting, and

intracorporate transfer. Discuss Figure 11.2 here.

Indirect exporting occurs when a firm sells its products to a domestic customer, which in turn exports the product, in either its original form or a modified form. Because indirect exporting is usually not done on a conscious basis, the process does not provide the firm with experience in international business and does not allow the firm to capitalize on potential export profits.

Direct exporting involves sales to customers located outside the firm’s home country. Although one-third of firms exporting for the first time are responding to an unsolicited order, subsequent efforts are usually the result of a deliberate effort, allowing a firm to gain valuable international business experience.

An intracorporate transfer is the selling of goods by a firm in one country to an affiliated firm in another. Intracorporate transfer has become more important as the sizes of MNCs have increased, and today represents some 35 percent of all U.S. merchandise exports and imports. The text provides several examples of intracorporate transfer, and the topic will also be discussed in more depth in Chapter 17.

Additional Considerations

In additional to considering which form of exporting to use, a firm must also assess government policies, marketing considerations, logistical considerations, and distribution issues.

Government policies such as export promotion policies, export financing programs, and other forms of home country subsidization encourage exporting. However, tariff and nontariff barriers may discourage firms from selecting exporting as an entry mode. The text illustrates this concept with the example of how voluntary export restraints on Japanese automobile exports encourage Japanese producers to manufacture in the U.S.

Marketing concerns including image, logistics, distribution, responsiveness to the customer, and the need for quick feedback may also affect a firm’s choice of entry method. The text provides several examples of products, which are successful as exports because of their image.

Logistical Considerations. A firm must consider the logistical costs of exporting such as the physical distribution costs of warehousing, packaging, transporting and distributing goods, and inventory carrying costs when selecting an entry mode.

Distribution issues may also influence a firm’s decision to export. Many firms are forced to use distributors in foreign markets, and the selection of the distributor can be critical to the firm’s international success. In some cases, the best distributor may already be handling a competitor’s products and a firm will be forced to weigh the costs of using a less experienced distributor with the costs of using a distributor that will not handle its products on an exclusive basis. In addition, compensation decisions must be made, the firm may find that its business judgment differs from the distributor’s, and pricing strategies may differ.

175

> Chapter 11

Export Intermediaries

A firm may market and distribute its goods via an intermediary, a third party specializing in the facilitation of exports and imports. There are several types of export intermediaries including export management companies, Webb-Pomerene associations, and international trading companies.

An export management company (EMC) is a firm that acts as its client’s export department. Several thousand EMCs operate in the U.S., providing clients with information about the legal, financial, and logistical details of exporting. Some EMCs act as commission agents, while others take title to the good.

A Webb-Pomerene association is a group of U.S. firms that operate within the same basic industry and that are allowed by law to coordinate their export activities without fear of violating U.S. antitrust laws. Fewer than 25 associations exist today, providing market research, overseas promotional activities, freight consolidation, contract negotiations, and other services for members.

An international trading company is a firm directly engaged in trading a wide variety of goods for its own account. Unlike an EMC, an international trading company participates in both exporting and importing. Japan’s sogo sosha are the most important trading companies in the world. The success of the sogo soshas is a result of several factors. First, they are able to continuously obtain information about economic conditions and business opportunities anywhere in the world. Second, they have a ready source of financing from the keiretsu, and a built-in

source of customers (fellow keiretsu members.) Discuss Table 11. 3 here. Other Intermediaries. Manufacturers’ agents solicit domestic orders for foreign

manufacturers while manufacturers’ export agents act as an export department for domestic manufacturers. Finally, export and import brokers bring together international buyers and sellers of standardized commodities, and freight forwarders specialize in the physical transportation of goods.

IV. INTERNATIONAL LICENSING

Licensing is an arrangement whereby a firm, the licensor, sells the rights to use its intellectual property to another firm, the licensee, in return for a fee. Firms operating in countries with weak intellectual property protection are not advised to use licensing. However, in cases where tariff and nontariff barriers, restrictions on the repatriation of profits, or restrictions on FDI discourage other alternatives, licensing may be the only option. Show Figure 11.3 here.

Teaching Note:Instructors may wish to raise the issue of why intellectual property protection is so important to firms, and why it is difficult to enforce. Instructors may wish to use the

example of Polaroid and Kodak to illustrate the concept.

Licensing is attractive because it requires few out-of-pocket costs, and because it allows a firm to capitalize on location advantages of foreign production without incurring any ownership, managerial, or investment obligations. The text provides

176


an example of why the Kirin Brewery company chose licensing as a means of international expansion.

Basic Issues in International Licensing

The actual licensing agreement is a critical part of the licensing process, and reflects the bargaining power and skills of the licensor and licensee. The contract should consider the boundaries of the agreement; compensation, rights, privileges, and constraints; dispute resolution; and duration of the contract.

Specifying the Agreement’s Boundaries. The first step in negotiating a licensing contract is specifying the boundaries of the agreement. The text provides an example of how Pepsi sets the boundaries in its licensing agreement with Heineken.

Determining Compensation. Compensation under a licensing agreement is called a royalty. Both parties have an interest but opposing views in the determination of an agreement’s compensation. The licensor wants to receive as much compensation as possible, while the licensee wants to pay as little as possible. Royalties of 3-5 percent are common.

Establishing Rights, Privileges, and Constraints. A licensing contract should spell out the rights and privileges of the licensee and the constraints the licensor may impose. Typically, licensees are prohibited from divulging information learned from the licensor to third parties, are required to keep specific records on the sale of products or services, and must follow specified standards regarding product and service quality.

Specifying the Agreement’s Duration. Finally, a licensing agreement specifies the duration of the arrangement. Licensors who have chosen licensing as a low-cost means of gaining information about a foreign market may seek a short-term agreement. However, a licensee will seek an agreement that is long enough for it to recoup its investments in market research, the establishment of distribution networks, and/or production facilities. The text notes, for example, that the licensees that built Tokyo Disneyland required a 100-year agreement with Walt Disney Company.

Advantages and Disadvantages of International Licensing

A primary advantage of licensing is its relatively low financial risk. In addition, licensing permits a company to investigate foreign market sales potential without making significant investment in financial and managerial resources. Licensees benefit from the arrangement by being able to make and sell products with a proven track record, yet incur relatively little R&D cost.

A primary disadvantage of licensing is that it limits market opportunities for both the licensee and the licensor. In addition, there is mutual dependence between the licensor and the licensee, and costly and tedious litigation to resolve disputes may hurt both parties. Finally, firms must carefully word their licensing agreements to minimize problems and misunderstandings, and also guard against creating a future competitor.

177

> Chapter 11

V. INTERNATIONAL FRANCHISING

A franchising agreement allows an independent entrepreneur or organization, called the franchisee, to operate a business under the name of another, called the franchisor, in return for a fee. Franchising is one of the fastest growing forms of international business today.

Basic Issues in International Franchising

International franchising is more likely to succeed when the franchisor has already achieved considerable success in franchising in its domestic market; the franchisor has been successful domestically because of unique products and advantageous operating systems; the factors that contributed to its domestic success are transferable to foreign locations; and there are foreign investors who are interested in entering into franchise agreements. The text illustrates this concept by examining the franchise agreements of McDonald’s.

A formal contract is associated with franchise agreements. A typical contract specifies the fee and royalties paid by the franchisee for the rights to use the name, trademarks, formulas, and operating procedures of the franchisor. In addition, under a franchise contract, the franchisee typically agrees to adhere to the franchisor’s requirements for appearance, reporting, and operating procedures. Usually, the franchisor agrees to help the franchisee establish the new business.

U.S. firms are the leaders in the international franchise business, perhaps because franchising is more common in the U.S. than in other countries. The text provides examples of U.S. and non-U.S. firms that have been successful at franchising.

Discuss Wiring the World: Advice from AfarCendant Corporation, a hotel franchising company that controls such brands as Days Inn, Howard Johnson, Ramada, Travelodge, and Super 8, relies heavily on the Internet to

manage its operations. It uses e-mail to give advice and guidance, helps with web design and online training, and provides overall real time support to its franchisees. The Internet has allowed Cendant to improve the quality while lowering the cost of its services.

Advantages and Disadvantages of International Franchising

Primary advantages of international franchising are that it allows franchisees to enter a business with a proven track record, and allows franchisors to expand internationally at relatively low cost and risk. Franchisors also have the opportunity to obtain information about local markets that they might otherwise have difficulty acquiring.

As with licensing, a primary disadvantage of franchising is that profits are shared between the franchisor and the franchisee. International franchising may also be more complex than domestic franchising. The text provides an example of some of the problems McDonald’s had with a franchisee in Moscow.

VI. SPECIALIZED ENTRY MODES FOR INTERNATIONAL BUSINESS

178


Firms may also use specialized entry modes such as contract manufacturing, management contracts, and turnkey projects.

Contract Manufacturing is used by firms that outsource most or all of their manufacturing needs to other companies in an effort to reduce the amount of resources needed in the physical production of their products. The text notes that both Nike and Mega Toys use contract manufacturing in the production of their goods.

A management contract is an agreement whereby one firm provides managerial assistance, technical expertise, or specialized services to a second firm for some agreed-upon time in return for a fee. In many cases, management contracts are arranged as a result of government activities. For example, the text notes that when Saudi Arabia nationalized Aramco, it hired the former owners to manage the firm. Management contracts are attractive because they allow firms to earn additional revenues without incurring investment risks or obligations. The text illustrates this concept with an example of Hilton Hotel’s management contracts.

A turnkey project is a contract under which a firm agrees to fully design, construct, and equip a facility and then turn the project over to the purchaser when it is ready for operation. International turnkey projects typically involve large, complex, multiyear projects such as the construction of a nuclear power plant or airport. In some cases, turnkey projects are used when firms fear difficulties in procuring resources locally. The text provides an example of the latter concept by exploring PepsiCo’s operations in the former Soviet Union.

Some firms today are using a B-O-T project in which the firm builds a facility, operates it, and later transfers ownership of the project to another party. The text provides an example of such a project involving the country of Gabon.

VII. FOREIGN DIRECT INVESTMENT

Some firms choose to establish operations in a host country at the beginning of their internationalization effort, while others prefer to use one of the other entry methods initially, and later invest in facilities in the host country.

FDI is attractive not only for its profit potential, but also because a firm has increased control over its foreign operations. Control is important to firms because it allows firms to closely coordinate the activities of its foreign subsidiaries to achieve strategic synergies, and because control may be necessary to fully exploit the economic potential of an ownership advantage. FDI is also attractive if host country customers prefer to deal with local factories.

However, FDI is riskier and more complex than other types of entry strategies. In some cases, government actions encourage firms to invest in local operations (through such policies as the availability of political risk insurance), while in other cases, government actions discourage FDI (through direct controls on foreign capital or repatriation of profits).

The three basic methods of FDI are greenfield strategies, whereby a firm builds new facilities; acquisitions strategies (also known as "brownfield strategies"), whereby a firm buys existing assets in a foreign country; and joint ventures.

A greenfield strategy involves starting from scratch: buying or leasing and constructing new facilities, hiring and/or transferring managers and employees, and launching the new operation. The greenfield strategy is attractive because the firm

179

> Chapter 11

can select the site that meets its needs best, the firm starts with a clean slate, and the firm can acclimate itself to the new national business culture at its own pace. The main disadvantages of the greenfield strategy include the time and patience necessary for successful implementations; the fact that land in the desired location is not available, or is only available at an unreasonable price; local and national regulations must be complied with during the building of the new factory; the firm must recruit and train a local workforce; and the firm may be perceived as a foreign enterprise. The text provides an example of the difficulties Disney had with some of these issues when it opened its European operations.

Acquisition strategies (or brownfield strategies) are popular because, unlike other entry methods, an acquisition quickly gives the purchaser control over the firm’s factories, employees, technology, brand names, and distribution networks. The text provides examples of several recent acquisitions made by firms including Proctor and Gamble, Arabia Oil Co., and Komomklijke PTT Netherland. The main disadvantage of an acquisition strategy is that the purchaser assumes all liabilities of the acquired firm. In addition, the purchasing firm must also spend substantial sums up front. In contrast, a greenfield strategy allows a firm to spread its investment over an extended period of time.

Discuss Bringing the World into Focus: A Bubbly BusinessWhen Plantagenet, based in San Francisco, tried to buy a French champagne maker, they became embroiled in a variety

of legal problems and tax issues. Eventually the problems were worked out, however they now make their international deals through a company incorporated in Luxembourg.

The joint venture involves an arrangement whereby a new enterprise is created by two or more firms working together for mutual benefit. Joint venture creation is on the rise, in part because of rapid changes in technology, telecommunications, and government policies. Joint ventures will be explored in more depth in Chapter Twelve.

Teaching Note:Instructors may wish to create a “master chart” of the different entry modes, their advantages and

disadvantages, when and where each mode is most appropriate, and so forth, so that students can easily compare the various options for entering a new market. The charts can then be used as reference material when discussing future topics.

180


reference material when discussing future topics.

David vs. Goliath

The case describes the success of Ricardo.de, a German online auction company in establishing itself despite eBay's dominance in the field.

Key Points

Ricardo.de was established by three young German entrepreneurs in 1997.

eBay, the U.S. based online auction company, began in 1995 and went public in 1997. Unlike many dot.com businesses, eBay has been profitable for quite some time.

Ricardo.de grew through the establishments of strategic alliances with key firms throughout Europe and through the publicity gained by auctioning off high-profile items such as visits to the submerged Titanic and Steffi Graf's tennis racket.

In 2000 Ricardo.de was acquired by the British firm QXL (Britain's largest online auctioneer) for QXL stock worth $261 million.

Case Questions

1. Turn back the clock to 1997. Suppose you were hired by Ricardo's founders to map out an entry strategy for the firm. What advice would you have given them? Would you have done anything differently?

This question allows students a lot of latitude. There is not a "right" answer. Students will consider that Ricardo's founders originally intended to create an online publishing business and should demonstrate an understanding of how strategies change (sometimes radically) over time. Another key issue is the decision to sell only new items. Given eBay's success in used and collectible items, students will probably suggest that Ricardo's founders might have been more successful if they had not limited the firm in this manner.

2. Why did Ricardo.de strive to grow quickly? Do you agree with this strategy? Should it have grown more slowly?

Dot.com success depends largely on name recognition. Given the large numbers of dot.com start-ups in the late 90's it was important that Ricardo.de establish itself quickly. The speed with which they moved created legal and financial problems. It appears, however, that Ricardo's founders were interested in building the business and then selling it. If that is true, the strategy to build it quickly and then get out seems appropriate. Had the business grown more slowly it might not have attracted

181

CLOSING

CASE

> Chapter 11

QXL's eye and Ricardo's founders may have had a harder time finding a partner interested in acquiring the firm.

3. What advantages does eBay possess over upstart competitors like Ricardo?

eBay has tremendous name recognition and a solid reputation. It also has a huge variety of products being sold, which attracts additional buyers and sellers alike.

4. What advantages does a combined Ricardo-QXL have over eBay?

A key advantage of Ricardo-QXL is their European emphasis. As noted in the case, eBay seems to have almost abandoned Europe and allowed Ricardo to establish a strong presence in Germany. Also, it could be argued that Ricardo's focus on new merchandise helps enhance buyers' confidence in the goods purchased. Finally, in many countries (like France, for example) there is a backlash against the dominance of U.S. firms in the global marketplace. The fact that Ricardo-QXL is a European alternative to a U.S. firm will give it an advantage with some customers.

5. Do you agree with Ricardo's decision to be acquired by QXL?

It all depends on the objectives of the owners. To the extent that it netted $261 million for three years of work, students will tend to say it was a good decision. Given the difficulties that e-commerce firms have faced recently, their decision to be acquired seems even more prudent.

1. What are the steps in conducting a foreign market analysis?

A market analysis usually is comprised of three steps: (1) assessing alternative markets; (2) evaluating respective costs, benefits, and risks of entering each; and, (3) selecting those that hold the most potential for entry or expansion.

2. What are some of the basic issues a firm must confront when choosing an entry mode for a new foreign market?

When choosing an entry mode for a new foreign market, a firm must confront issues relating to ownership advantages, location advantages, internalization advantages, the need for control, the availability of resources, and the firm’s global strategy.

3. What is exporting? Why has it increased so dramatically in recent years?

Exporting, the most common form of international business activity, is the process of sending goods or services from one country to other countries for use or sale there. There are three forms of exporting: indirect exporting, direct exporting, and intracorporate transfer. Many firms are pushed into exporting because of shrinking domestic

182

CHAPTER REVIEW


marketplaces, but other firms are pulled into exporting because of foreign market opportunities.

183

> Chapter 11

4. What are the primary advantages and disadvantages of exporting?

One of the primary advantages of exporting is its relatively low level of financial exposure. A second advantage of exporting is related to speed of entry. Exporting allows a firm to expand into a foreign market gradually, and therefore allows a company to assess the local environment and adapt its products to local consumers. The disadvantages of exporting include a lack of presence in the local marketplace, vulnerability to trade barriers, and potential problems with trade intermediaries.

5. What are the three forms of exporting?

The three forms of exporting are indirect exporting, direct exporting, and intracorporate transfer. Indirect exporting involves selling a product to a domestic customer, which then exports the product in its original form or a modified form. Direct exporting involves selling directly to distributors or end-users in other markets. Intracorporate transfer occurs when a company sells its product to a foreign affiliate.

6. What is an export intermediary? What is its role? What are the various types of export intermediaries?

An export intermediary is a third party that specializes in facilitating imports and exports. There are various types of export intermediaries, including export management companies, the Webb-Pomerene association, international trading companies, manufacturer’s agents, and export and import brokers. The role of an export intermediary can range from simply handling transportation and documentation to taking ownership of foreign-bound goods and/or assuming total responsibility for marketing or financing exports. Export intermediaries are third parties that specialize in facilitating trade. There are several types of export intermediaries. An export management company is a firm that acts as the client’s export department, while a Webb-Pomerene association handles market research, overseas promotion, freight consolidation, contract negotiations, and other services for its members. An international trading company trades a variety of goods for its own account. A manufacturer’s agent, acting on a commission basis, solicits domestic orders for foreign manufacturers, while a manufacturer’s export agent acts as an export department for domestic manufacturers. Export and import brokers bring together buyers and sellers of standardized commodities, and freight forwarders handle the physical transportation of goods.

7. What is international licensing? What are its advantages and disadvantages?

International licensing occurs when a firm, the licensor, sells the right to use its intellectual property to another firm, the licensee. The primary advantages of international licensing are its relatively low financial risk and the opportunity it provides the licensor to learn about sales potential in foreign markets. Licensees like the arrangements because they are able to make and sell products with proven success tracks, yet incur low R&D costs. However, the agreements limit market opportunities for both the licensor and the licensee, and there is mutual dependency between the two parties. Further, there is potential for problems and misunderstandings. Finally, licensors must be careful to avoid creating a future competitor.

184


8. What is international franchising? What are its advantages and disadvantages?

International franchising involves an agreement whereby the franchisee operates a business under the name of the franchisor in return for a fee. International franchising agreements are attractive because they allow franchisees to enter a business that is established and has a proven track record. Franchisors benefit from the agreements because they can expand internationally at relatively low cost and risk. In addition, they can obtain critical information about the local marketplace from franchisees. However, an international franchising agreement requires both parties to share profits and may be more complicated than domestic franchisee agreements.

9. What are three specialized entry modes for international business, and how do they work?

Three specialized entry modes for international business are management contracts, turnkey projects, and contract manufacturing. Under a management contract agreement, one firm provides managerial assistance, technical expertise, or specialized services to a second firm in exchange for a fee. A turnkey project is an agreement whereby a firm agrees to fully design, construct, and equip a facility and then turn the key over to the purchaser when it is ready for operation. Contract manufacturing involves outsourcing manufacturing needs to other companies.

10. What is FDI? What are its three basic forms? What are the relative advantages and disadvantages of each?

FDI is foreign direct investment. The three basic forms of FDI are greenfield investments, acquisitions, and joint ventures. Greenfield investments involve the construction of new facilities. It is attractive because its allows a firm to select the most suitable site for construction, the firm starts with a clean slate, and the firm can adapt to its new surroundings at its own pace. However, greenfield investments take time and patience, may be expensive, require the firm to comply with local regulations and recruit a workforce, and may result in a firm being perceived as a foreigner. Acquisitions, in contrast, allow a firm to generate profits even as it integrates the new company into its overall strategy. However, acquisition requires a firm to assume all of the acquired firm’s liabilities, and spend substantial money up front. Joint ventures involve the creation of a new firm by two or more companies working together for mutual benefit.

Questions for Discussion

1. Do you think it is possible for someone to make a decision about entering a particular foreign market without having visited that market? Why or why not?

The response to this question probably depends in part on the market in question and the degree of risk one is willing to assume. Typically, mangers will not be able to obtain all of the information needed to make a decision about a foreign market from secondary sources. Thus, managers have two options: they can visit the market in person and obtain information directly from local experts, embassy staff, and chamber of commerce officials, or, hire consulting firms to provide the necessary information.

185

> Chapter 11

2. How difficult or easy do you think it is for managers to gauge the costs, benefits, and risks of a particular foreign market?

In general, it is probably easier to gauge the costs, benefits, and risks of developed country markets than it is to gauge the same variables in a developing economy. However, there is a fair amount of subjectivity involved regardless of the market in question. For example, managers must estimate not only the costs involved in establishing a foreign operation, but also opportunity costs. In addition, future benefits and risks must be estimated.

3. How does each advantage in Dunning’s eclectic theory specifically affect a firm’s decision regarding entry mode?

Dunning’s eclectic theory considers three factors: ownership advantages, location advantages, and internalization advantages. Ownership advantages affect a firm’s decision regarding entry mode in that certain types of advantages are more easily transferred through certain modes than others. For example, imbedded technologies are best transferred through equity modes, while simple technology is more suited to a licensing mode. In addition, ownership advantages will affect a firm’s bargaining power, and therefore the outcome of entry mode negotiations. Location advantages affect a firm’s decision regarding entry mode because they affect the desirability of host country production relative to home country production. For example, if home country production is more desirable, perhaps because of low wage rates, a firm will probably choose exporting as an entry mode. Finally, internalization advantages affect a firm’s decision regarding entry mode because they affect the desirability of producing a good or service in-house versus farming it out to another firm. For example, when transaction costs are low, and the firm believes that it can farm out production without jeopardizing its interests, the firm may use licensing as an entry mode.

4. Why is exporting the most popular initial entry mode?

Exporting is the most popular initial entry mode because of its simplicity and its low risk relative to other types of entry modes. Exporting typically requires little or no capital investment, and the dollar amount of risk is limited to the value of a particular transaction. Exporting also allows a firm to enter a foreign market on a gradual basis, and gain experience in the market.

5. What specific factors could cause a firm to reject exporting as an entry mode?

There are several factors which could cause firms to reject exporting as an entry mode, including the presence of trade barriers, logistical issues, and distribution issues. Firms facing high tariff or nontariff barriers may find host country production preferable to home country production. Logistical considerations may also affect the desirability of exporting. For example, the higher transportation costs associated with exporting, and the longer supply channel and difficulty communicating with customers may encourage a firm to choose an alternative entry method. Finally, firms that face difficulty finding appropriate distributors may turn to one of the other entry modes.

186


6. What conditions must exist for an intracorporation transfer to be cost-effective?

An intracorporate transfer occurs when one firm sells goods to an affiliate in another country. Firms engage in intracorporate transfers to lower their production costs and use their facilities more effectively. Therefore, for an intracorporate transfer to be cost-effective, it must be cheaper to buy the product in question from the affiliate firm than from an alternative source, and the affiliate firm must have the capacity necessary to produce the product in question, while the buying firm does not.

7. Your firm is about to begin exporting. In selecting an export intermediary, what characteristics would you look for?

Export intermediaries are third parties that specialize in the facilitation of trade. Depending on the particular circumstances of a firm, employing certain types of intermediaries is more appropriate than employing others. For example, a small firm may select an export management company because it will essentially act as the firm’s export department. However, a larger firm that has an in-house export department might engage a freight forwarder on a product-by-product basis.

8. Do you think trading companies like Japan’s sogo sosha will ever become common in the United States? Why or why not?

Sogo soshas acquire goods either by importing them or having them produced, and then resell them in both domestic and foreign markets. Most students will probably agree that sogo soshas will never become common in the United States, in part because of antitrust laws in effect, and in part because the close relationships with other firms that the sogo soshas imply go against the individualistic culture of the U.S. Other students, however, may point to export trading companies in the U.S. that provide many of the same services as a sogo sosha, and suggest that a form of sogo sosha is already common in the U.S.

9. What factors could cause you to reject an offer from a potential licensee to make and market your firm’s products in a foreign market?

There are several reasons why a firm might reject the offer of a potential licensee to make and market the firm’s product in a foreign market. First, such an arrangement would limit the market opportunities for the firm, and create a situation of mutual dependency. Second, if the licensee violated the licensing agreement, the licensing firm could face costly and time-consuming litigation. Third, the firm would face a risk of problems and misunderstandings related to the agreement, which could affect the speed of entry into the foreign market. Finally, the firm may be concerned that if it licensed its proprietary information it may create a future competitor.

10. Under what conditions should a firm consider a greenfield strategy for FDI? An acquisition strategy?

A greenfield strategy involves setting up an operation from scratch. It is attractive to firms because it allows them to select the site that is most appropriate for their needs, start with a clean slate, and acclimate to the local environment at a gradual pace. However, because successful implementation takes time and patience, firms that are facing time constraints

187

> Chapter 11

should probably select an alternative option. In addition, firms using this method of expansion may find that the desired location is too expensive, or even unavailable; that workforces must be hired and trained; and that various governmental regulations must be complied with. Finally, greenfield investment is probably not appropriate in cases where it is important for a firm to be perceived as a local firm. Under an acquisition strategy, a firm acquires an existing firm doing business in a foreign country. This strategy makes sense when the purchaser needs to generate revenues from its expansion immediately. Through acquisition, a purchasing firm has an immediate market presence, a distribution system in place, as well as trained employees, brand names, and technology. This strategy would not make sense for a company that is short of capital since it requires substantial sums up front.

Essence of the exerciseThis exercise is designed to allow students to become experienced with using the Internet to assess foreign markets. Students, acting as owners of a chain of computer accessory stores, are asked to consider possible countries for international expansion.

Essence of the exerciseThis exercise begins with a description of Heineken’s global strategy, and then asks students to identify other products or brands that could or could not use Heineken’s strategy for entering markets. Students should be assigned to groups for this exercise because it requires that groups exchange lists of companies that could or could not use the Heineken approach to international expansion.

Answers to the follow-up questions.

1. What are the specific factors that enable Heineken to use the approach described and simultaneously make it difficult for some other firms to copy it? What types of firms are most and least likely to be able to use this approach?

Students will probably identify several factors that enable Heineken to use its three-step approach to foreign market expansion, including its international experience, its deep pockets, its ability to enter a market on a gradual basis, and the presence of local producers in most markets. In addition to certain consumer products, students will probably identify other beer companies that could use this approach. Firms that would find this approach difficult include auto producers, steel producers, and clothing producers.

2. What does this exercise teach you about international business?

188

BUILDING GLOBAL SKILLS

WORKING WITH

THE WEB:

Assessing

Foreign

Market

Entry

Conditions


Students should recognize from this exercise that an international strategy that works well for some companies might not be effective for other companies. Students should also recognize that successful global companies such as Heineken might achieve their success in a very methodical manner, first by testing a market and then learning about it before actually investing in it. In addition, students should recognize that firms might use a variety of modes to enter a foreign market. Finally, through the exchange of lists (steps 3 and 4 of the exercise), students should recognize that not all managers think alike.

Other ApplicationsHeineken follows a very precise strategy of expanding into new markets. Students can debate the merits of the particular strategy it follows (exporting, then licensing, then investing directly), and suggest alternative strategies. Instructors should play the role of a devil’s advocate, bringing up issues such as the importance of speed in entering a new market, the potential of creating a future competitor and/or the potential loss of quality if a firm engages in a licensing agreement, and the problem of finding a good joint venture partner.

189

chapter 11

Documents

Transcript of chapter 11