Understanding Foreign Direct Investment (FDI)

Definition

Foreign direct investment (FDI) plays an extraordinary and growing role in global business. It can provide a firm with new markets and marketing channels, cheaper production facilities, access to new technology, products, skills and financing. For a host country or the foreign firm which receives the investment, it can provide a source of new technologies, capital, processes, products, organizational technologies and management skills, and as such can provide a strong impetus to economic development. Foreign direct investment, in its classic definition, is defined as a company from one country making a physical investment into building a factory in another country. The direct investment in buildings, machinery and equipment is in contrast with making a portfolio investment, which is considered an indirect investment. In recent years, given rapid growth and change in global investment patterns, the definition has been broadened to include the acquisition of a lasting management interest in a company or enterprise outside the investing firm’s home country. As such, it may take many forms, such as a direct acquisition of a foreign firm, construction of a facility, or investment in a joint venture or strategic alliance with a local firm with attendant input of technology, licensing of intellectual property, In the past decade, FDI has come to play a major role in the internationalization of business. Reacting to changes in technology, growing liberalization of the national regulatory framework governing investment in enterprises, and changes in capital markets profound changes have occurred in the size, scope and methods of FDI. New information technology systems, decline in global communication costs have made management of foreign investments far easier than in the past. The sea change in trade and investment policies and the regulatory environment globally in the past decade, including trade policy and tariff liberalization, easing of restrictions on foreign investment and acquisition in many nations, and the deregulation and privitazation of many industries, has probably been been the most significant catalyst for FDI’s expanded role.

The most profound effect has been seen in developing countries, where yearly foreign direct investment flows have increased from an average of less than $10 billion in the 1970’s to a yearly average of less than $20 billion in the 1980’s, to explode in the 1990s from $26.7billion in 1990 to $179 billion in 1998 and $208 billion in 1999 and now comprise a large portion of global FDI.. Driven by mergers and acquisitions and internationalization of production in a range of industries, FDI into developed countries last year rose to $636 billion, from $481 billion in 1998 (Source: UNCTAD)

Proponents of foreign investment point out that the exchange of investment flows benefits both the home country (the country from which the investment originates) and the host country (the destination of the investment). Opponents of FDI note that multinational conglomerates are able to wield great power over smaller and weaker economies and can drive out much local competition. The truth lies somewhere in the middle.

For small and medium sized companies, FDI represents an opportunity to become more actively involved in international business activities. In the past 15 years, the classic definition of FDI as noted above has changed considerably. This notion of a change in the classic definition, however, must be kept in the proper context. Very clearly, over 2/3 of direct foreign investment is still made in the form of fixtures, machinery, equipment and buildings. Moreover, larger multinational corporations and conglomerates still make the overwhelming percentage of FDI. But, with the advent of the Internet, the increasing role of technology, loosening of direct investment restrictions in many markets and decreasing communication costs means that newer, non-traditional forms of investment will play an important role in the future. Many governments, especially in industrialized and developed nations, pay very close attention to foreign direct investment because the investment flows into and out of their economies can and does have a significant impact. In the United States, the Bureau of Economic Analysis, a section of the U.S. Department of Commerce, is responsible for collecting economic data about the economy including information about foreign direct investment flows. Monitoring this data is very helpful in trying to determine the impact of such investments on the overall economy, but is especially helpful in evaluating industry segments. State and local governments watch closely because they want to track their foreign investment attraction programs for successful outcomes.

How Has FDI Changed in the Past Decade?

As mentioned above, the overwhelming majority of foreign direct investment is made in the form of fixtures, machinery, equipment and buildings. This investment is achieved or accomplished mostly via mergers & acquisitions. In the case of traditional manufacturing, this has been the primary mechanism for investment and it has been heretofore very efficient. Within the past decade, however, there has been a dramatic increase in the number of technology startups and this, together with the rise in prominence of Internet usage, has fostered increasing changes in foreign investment patterns. Many of these high tech startups are very small companies that have grown out of research & development projects often affiliated with major universities and with some government sponsorship. Unlike traditional manufacturers, many of these companies do not require huge manufacturing plants and

immense warehouses to store inventory. Another factor to consider is the number of companies whose primary product is an intellectual property right such as a software program or a software-based technology or process. Companies such as these can be housed almost anywhere and therefore making a capital investment in them does not require huge outlays for fixtures, machinery and plants.

In many cases, large companies still play a dominant role in investment activities in small, high tech oriented companies. However, unlike in the past, these larger companies are not necessarily acquiring smaller companies outright. There are several reasons for this, but the most important one is most likely the risk associated with such high tech ventures. In the case of mature industries, the products are well defined. The manufacturer usually wants to get closer to its foreign market or wants to circumvent some trade barrier by making a direct foreign investment. The major risk here is that you do not sell enough of the product that you manufactured. However, you have added additional capacity and in the case of multinational corporations this capacity can be used in a variety of ways.

High tech ventures tend to have longer incubation periods. That is, the product tends to require significant development time. In the case of software and other intellectual property type products, the product is constantly changing even before it hits the marketplace. This makes the investment decision more complicated. When you invest in fixtures and machinery, you know what the real and book value of your investment will be. When you invest in a high tech venture, there is always an element of uncertainty. Unfortunately, the recent spate of dot.com failures is quite illustrative of this point.

Therefore, the expanded role of technology and intellectual property has changed the foreign direct investment playing field. Companies are still motivated to make foreign investments, but because of the vagaries of technology investments, they are now finding new vehicles to accomplish their goals. Consider the following:

Licensing and technology transfer. Licensing and tech transfer have been essential in promoting collaboration between the academic and business communities. Ever since legal hurdles were removed that allowed universities to hold title to research and development done in their labs, licensing agreements have helped turned raw technology into finished products that are viable in competitive marketplaces. With some help from a variety of government agencies in the form of grants for R&D as well as other financial assistance for such things as incubator programs, once timid college researchers are now stepping out and becoming cutting edge entrepreneurs. These strategic alliances have had a

serious impact in several high tech industries, including but not limited to: medical and agricultural biotechnology, computer software engineering, telecommunications, advanced materials processing, ceramics, thin materials processing, photonics, digital multimedia production and publishing, optics and imaging and robotics and automation. Industry clusters are now growing up around the university labs where their derivative technologies were first discovered and nurtured. Licensing agreements allow companies to take full advantage of new and exciting technologies while limiting their overall risk to royalty payments until a particular technology is fully developed and thus ready to put new products into the manufacturing pipeline.

Reciprocal distribution agreements. Actually, this type of strategic alliance is more trade-based, but in a very real sense it does in fact represent a type of direct investment. Basically, two companies, usually within the same or affiliated industries, agree to act as a national distributor for each other’s products. The classical example is to be found in the furniture industry. A U.S.-based manufacturer of tables signs a reciprocal distribution agreement with a Spanish-based manufacturer of chairs. Both companies gain direct access to the other’s distribution network without having to pay distributor support payments and other related expenses found within the distribution channel and neither company can hurt the other’s market for its products. Without such an agreement in place, the Spanish manufacturer might very well have to invest in a national sales office to coordinate its distributor network, manage warehousing, inventory and shipping as well as to handle administrative tasks such as accounting, public relations and advertising.

Joint venture and other hybrid strategic alliances. The more traditional joint venture is bi-lateral, that is it involves two parties who are within the same industry who are partnering for some strategic advantage. Typical reasons might include a need for access to proprietary technology that might tip the competitive edge in another competitor’s favor, desire to gain access to intellectual capital in the form of ultra-expensive human resources, access to heretofore closed channels of distribution in key regions of the world. One very good reason why many joint ventures only involve two parties is the difficulty in integrating different corporate cultures. With two domestic companies from the same country, it would still be very difficult. However, with two companies from different cultures, it is almost impossible at times. This is probably why pure joint ventures have a fairly high failure rate only five years after inception. Joint ventures involving three or more parties are usually called syndicates and are most often formed for specific projects such as large construction or public works projects that might involve a wide variety of expertise and resources for successful completion. In some cases, syndicates are actually easier to manage because the project itself sets certain limits on each party and close cooperation is not always a prerequisite for ultimate success of the endeavor.

Portfolio investment. Yes, we know that you’re paying attention and no we’re not trying to trip you up here. Remember our definition of foreign direct investment as it pertains to controlling interest. For most of the latter part of the 20th century when FDI became an issue, a company’s portfolio investments were not considered a direct investment if the amount of stock and/or capital was not enough to garner a significant voting interest amongst shareholders or owners. However, two or three companies with "soft" investments in another company could find some mutual interests and use their shareholder power effectively for management control. This is another form of strategic alliance,

sometimes called "shadow alliances". So, while most company portfolio investments do not strictly qualify as a direct foreign investment, there are instances within a certain context that they are in fact a real direct investment.

Why is FDI important for any consideration of going global?

The simple answer is that making a direct foreign investment allows companies to accomplish several tasks:

Avoiding foreign government pressure for local production.

Circumventing trade barriers, hidden and otherwise.

Making the move from domestic export sales to a locally-based national sales office.

Capability to increase total production capacity.

Opportunities for co-production, joint ventures with local partners, joint marketing arrangements, licensing, etc;

A more complete response might address the issue of global business partnering in very general terms. While it is nice that many business writers like the expression, “think globally, act locally”, this often used cliché does not really mean very much to the average business executive in a small and medium sized company. The phrase does have significant connotations for multinational corporations. But for executives in SME’s, it is still just another buzzword. The simple explanation for this is the difference in perspective between executives of multinational corporations and small and medium sized companies. Multinational corporations are almost always concerned with worldwide manufacturing capacity and proximity to major markets. Small and medium sized companies tend to be more concerned with selling their products in overseas markets. The advent of the Internet has ushered in a new and very different mindset that tends to focus more on access issues. SME’s in particular are now focusing on access to markets, access to expertise and most of all access to technology.

What would be some of the basic requirements for companies considering a foreign investment?

Depending on the industry sector and type of business, a foreign direct investment may be an attractive and viable option. With rapid globalization of many industries and vertical integration rapidly taking place on a global level, at a minimum a firm needs to keep abreast of global trends in their industry. From a competitive standpoint, it is important to be aware of whether a company’s competitors are expanding into a foreign market and how they are doing that. At the same time, it also becomes important to monitor how globalization is affecting domestic clients. Often, it becomes imperative to follow the expansion of key clients overseas if an active business relationship is to be maintained.

New market access is also another major reason to invest in a foreign country. At some stage, export of product or service reaches a critical mass of amount and cost where foreign production or location begins to be more cost effective. Any decision on investing is thus a combination of a number of key factors including:

assessment of internal resources,

competitiveness,

market analysis

market expectations.

From an internal resources standpoint, does the firm have senior management support for the investment and the internal management and system capabilities to support the set up time as well as ongoing management of a foreign subsidiary? Has the company conducted extensive market research involving both the industry, product and local regulations governing foreign investment which will set the broad market parameters for any investment decision? Is there a realistic assessment in place of what resource utilization the investment will entail? Has information on local industry and foreign investment regulations, incentives, profit retention, financing, distribution, and other factors been completely analyzed to determine the most viable vehicle for entering the market (greenfield, acquisition, merger, joint venture, etc.)? Has a plan been drawn up with reasonable expectations for expansion into the market through that local vehicle? If the foreign economy, industry or foreign investment climate is characterized by government regulation, have the relevant government agencies been contacted and concurred? Have political risk and foreign exchange risk been factored into the business plan?

Financing Your Venture

Overview

Deciding to engage in an international business venture of any kind will necessarily involve some kind of financing. In most cases, small and medium sized companies will primarily be involved in import-export financing, which is generally handled by the international department of your bank. However, there has been an increase in the capability of smaller companies to become involved in more types of global business ventures with the growth of the Internet. Such business ventures will involve a wide variety of financing methods, some of which are becoming more complicated.

Import-Export Financing

Most companies that are newly entering international trade will do so via import or export transactions. There are three primary ways to finance an import-export transaction:

Letter of credit

Documentary draft or bill of exchange

Open account transactions

Letters of Credit

The letter of credit is the oldest known method of financing international business transactions. It has been in active use since the 12th century in Europe and may have been used in other parts of the world even before that. Basically, a letter of credit is a contract between the buyer and seller in a transaction that is assured by a third party that remains independent. In the beginning, merchant associations and

shipping companies were the primary guarantors of the letter of credit. In today’s world, the bank is the guarantor of the letter of credit.

Many newcomers are immediately confused by the letter of credit. This is understandable given its complexity in the modern context. It is important to understand that the letter of credit, most commonly known as the L/C, is really a contract between the buyer and seller. Many believe that the banks are at fault for creating such complexities, but the reality is that both the buyer and seller in any transaction are trying to use the L/C not only as a method of getting paid, but also as a method of protecting their interests. Therefore, each party will add layers of complexity in order to protect their vested interests. These complexities can become even more profound when the L/C is used for actually financing the entire transaction.

Here is how an L/C works. My company, LaCasta Verde Trading Company (real company), wants to import umbrellas from Xiang Ho Trading Company in the People’s Republic of China. We contact Xiang Ho (fictional name) and ask for a price quotation by sending them what is commonly known as an RFQ, request for a quotation. Xiang Ho represents the Jiangsu Manufacturing Co. (fictional name), which actually makes the umbrellas. Xiang Ho will send me a price quotation CIF. This CIF price quotation, which is the most common and familiar price quotation, means that the price quoted for the umbrellas will include the actual cost (C) of the umbrellas (the price quoted by Jiangsu Manufacturing plus a commission or margin for Xiang Ho) plus the cost for insuring the cargo (I) and the freight cost (F) from the port of debarking, most likely Hong Kong in this instance, to the Port of Philadelphia or even to my warehouse in Philadelphia in some cases. This price quotation will come to me via fax or e-mail in a document known as a pro forma invoice, which is actually nothing more than a fake or mock commercial invoice that details the cost for the umbrellas. If I agree to the price, Xiang Ho will then instruct me to open a letter of credit on its behalf and it will detail its terms of sale. If I agree to the terms of sale, I will contact my bank and instruct it to open an L/C on behalf of Xiang Ho Trading Company or Jiangsu Manufacturing Co, depending upon the instructions sent to me. My bank, known as the opening bank, will then open a letter of credit on behalf of Xiang Ho, and then send it to the specified bank, probably in Hong Kong. This bank, often known as the notifying bank, will notify Xiang Ho that an L/C has been opened in its favor. In many cases, this bank will also confirm the L/C, and will therefore be also known as the confirming bank. That is, this bank will confirm the L/C, which is very important in order for Xiang Ho to get paid.

Once the L/C has been opened and confirmed, Xiang Ho now has confirmation. What this means is that Xiang Ho’s bank will pay it for the umbrellas once it has presented to the bank the specified documentation. This documentation is commonly known as the required documents and will vary slightly in form from country to country. Xiang Ho will then notify Jiangsu manufacturing that a sale has been made to LaCasta Verde Trading Company in Philadelphia and it will send instructions to Jiangsu as to what the packing requirements are and how the cargo should be marked for identification. Jiangsu will then pack the cargo according to these instructions, usually given by me the buyer and commonly known as shipping instructions. Its trucking company will pick up the shipment and deliver it to the port for shipment, once Xiang Ho has notified Jiangsu that it has arranged for cargo space on a steamship. Xiang Ho’s shipping department might have contacted the steamship company or its agent directly or it

might have used a local freight forwarder for this task. When the cargo is loaded upon the steamship, the ship’s captain or first mate will then issue what is known as a bill of lading. The bill of lading will list the contents of the cargo, the name of the shipper, in this instance Xiang Ho or Jiangsu and the name of the company to receive the cargo, LaCasta Verde. This document, the bill of lading, commonly symbolized and known as the B/L, then becomes title to the actual cargo. That is, the bill of lading serves to show that its holder is the rightful owner of the cargo. Xiang Ho will then take possession of the bill of lading and it will take it along with the other required documents to its bank. Its bank will examine these documents to make certain that all of the documents comply with the L/C issued for this transaction.(these documents can include such things as commercial invoice, packing list, phyto-sanitary certificates, licenses for export, insurance documents, inspection certificates and will vary from one country to another) This process is handled by a documentation expert known as a documentation reviewer or letter of credit examiner. If the bank is satisfied that Xiang Ho has complied with the requirements of the L/C, it will pay Xiang Ho the amount specified in the L/C upon presentation of the documents and then send the documents onward according to the instructions in the L/C.

The steamship will then make its way to San Francisco and my cargo of umbrellas will be transferred to a railroad or a truck to make the journey across the United States to me in Philadelphia. In order for this to happen, however, the cargo must first clear U.S. Customs. To do this, LaCasta Verde will use what is known as a Customs House Broker. Normally, we will designate this broker in the shipping instructions that we originally sent to Xiang Ho. Once the shipment is cleared, its documents will then be forwarded to me or my bank for settlement. That is, ownership of the cargo is transferred to my company immediately if we have paid for the L/C already or have credit with the bank. If not, the documents are forwarded to my bank and I will receive them upon paying the bank. Once I pay the bank, it will then pay the bank in Hong Kong that paid Xiang Ho. When I pay my bank, that is when this L/C is settled, I will receive the documents that will entitle me to pick up my shipment. Both banks are paid a fee by their respective clients for arranging for this transaction via the letter of credit.

This is a very basic explanation of how an L/C works. There are variations on this basic premise and therein lie the complexities associated with the letter of credit. Some manufacturers will use the L/C as a financing tool by a process known as discounting. In this instance, a manufacturer will take an L/C to its bank and discount it that is it will receive slightly less than the face value of the L/C in order to be able to pay a supplier or otherwise be capable of fulfilling the order. Discounting involves the bank paying the seller in advance of shipping the products and that is why it is an important tool for actually financing global business sales because many manufacturers can’t fulfill an order without paying significant upfront costs for raw materials or components. Discounting allows these manufacturers to accept orders and helps them grow their businesses. Banks, of course, receive hefty service fees for acting as guarantors in this aspect of letter of credit transactions.

Documentary Draft

A documentary draft or bill of exchange is very similar to a letter of credit in as much as it is an agreement between a buyer and seller. (a simple check is the most familiar type of draft to most people.) In this instance, one party writes a draft, or an order for payment, in favor to another party. A seller would write out a draft in its own favor, that is to its own account. If I as the buyer accepted this draft, that is I signed to accept for payment, this draft would then become what is called a trade acceptance, a form of commercial paper that is both endorsable and liquid. My company, LaCasta Verde, accepted this obligation to pay a designated beneficiary a specific sum within a designated time limit. Documentary drafts are still widely used in many countries whose commercial law is based upon the Napoleonic Code. They were primarily used in domestic commerce as a way of facilitating transactions between individuals and companies who had faith in one another. In many countries, failure to satisfy a trade acceptance can lead to an immediate seizure of the personal assets of the acceptor. Use of documentary drafts in global commerce began as a result of trade between companies in countries whose commercial law is based upon the Napoleonic Code, but they were also used in the United States as well. In order for the documentary draft to work, a third party acts as a guarantor of the draft, that is this third party will guarantee payment of the draft upon presentation of the proper documents. While some companies would act as guarantors as a favor to special customers or clients, banks became involved as the third party. In certain letter of credit transactions, documentary drafts are also used as a backup to create additional assurance that the buyer will pay its obligations to the seller via the third party, in most instances a bank.

Open Account

Many companies do business with one another by way of what is commonly known as open account transactions. Here again, open account transactions are an agreement between the buyer and the seller. In this instance the seller agrees to grant significant credit to the buyer in order to facilitate greater flexibility and increase sales. Normally, the seller will try to ascertain the credit status of the buyer via commercial credit reports, bank references and trade references because of the inherent risk of default. Some open credit transactions in international trade are covered by export credit insurance.

Venture Financing

Global business ventures can also be financed via traditional methods such as syndicated bank loans, venture capital financing by private placement, strategic alliances, Initial Public Offerings, commercial paper such as bond offerings and government backed projects such as those guaranteed by the Overseas Private Investment Corporation (http://www.opic.gov)

The Internet has facilitated global business communications and therefore more companies are searching for international business opportunities. Due to the success of increasingly smaller companies, more businesses are not allowing their size to temper their competitive zeal. Import-export has been the traditional method of entry into international business, but more hybrid business ventures are beginning

to become commonplace. Your choice of a method to enter global business will depend largely upon the strength of your ideas, the cohesiveness of your business and its strategic plan and the breadth of your global vision.

Assessing Your Potential

Overview

Becoming engaged in international business activities, typically known as “going global”, is a process. By definition and for sake of simplicity it is a series of steps, which when undertaken correctly can lead your company towards achieving its international goals. The process of going global will vary slightly from company to company and by industry as well. Therefore, the actual steps of “the process” are not etched in stone, so to speak. Most companies decide to engage in international business activities for one of the following reasons:

To develop export sales in overseas markets

To find less expensive sources of raw materials and/or components

To license technology

To sell franchises

To raise capital funds

To find strategic partners or venture partners

Choosing which method to use will depend upon a variety of factors such as what type of company and to some extent the dynamics of the particular industry. Unfortunately, too many companies decide to make the move into global markets because of a downturn in sales and/or other business activities in their principal domestic market. This is not advisable. The best time to go global is when your principal market is strong. On the procurement side, it is always better to seek new sources for components when you have excellent sources already. By adding possible new sources for components or raw materials, you are assuring yourself that you are not too dependent upon one or two primary vendors and it is also possible that you will inadvertently create some price competition as well.

Assessing your potential is an essential phase in getting started and it has three very important steps.

Self Analysis

The very first step in this phase is an internal in-house self-analysis. Many business executives will use the SWOT chart (StrengthsWeaknessesOpportunitiesThreats) to begin their in-house analysis and depending upon the specific skills within management , this method is perfectly appropriate. However, if your company is unfamiliar with the SWOT chart method, there are other ways to approach this task. Self-analysis is difficult under the best of circumstances because organizations and companies are like people. We tend to amplify our strengths and minimize our weaknesses. While it is possible for people to get through life in spite of a flawed self-awareness, organizations and companies are generally not so fortunate. Nothing is quite so unforgiving as the global marketplace. An entity that does not clearly recognize its strengths will fail to take advantage of good opportunities when they are presented. An entity which has failed to understand its weaknesses will be likely unable to compete effectively in a global marketplace that changes rapidly. Obviously, it is very important to recognize and enhance your strengths while constantly improving upon your weaknesses.

In the self-analysis phase, there are three key questions that need to be answered:

,/p> What is our position in our primary industry? This is an extremely important issue for several reasons. Most important of these, however, is the fact that it dictates how foreign organizations will perceive your entity. This is just as true for a trade organization as it is for a company. Position generally implies rank, but in this case it involves more than just rank. How many years has your company or organization been in existence and how much goodwill has it accrued as a result? Do you have any significant relationships that give you some amount of leveraged clout? What is your relationship with the industry leaders? Can you count upon the support of local government officials and the local business community? You're trying to draw a picture of your entity and its overall relationship to the big picture of its industry. Remember that most foreign businesses are accustomed to dealing with larger companies. This is especially true in the case of the United States. Therefore, these foreign companies have developed their own perception of what is important to them in terms of developing new relationships. How you address this perception will determine in large part how you present your company and in turn will have an impact upon whether or not you achieve success.

What are the skill sets of my employees? This is important because many small and medium sized companies do not have employees with significant international experience. Before you take any action, it is often quite helpful to list your employees' relevant international skills because they will definitely begin to add up and can become significant strengths later on. Foreign language capability is by far the single most important employee skill that could have an immediate impact on your capacity to quickly develop an international business capability. Next in priority would be knowledge of a specific foreign marketplace and after that comes social and/or business connections in the form of family, friends or business acquaintances. If you are uncomfortable with the lack of international business skills in your company or organization and need help assessing your employees, you have two options: a) hire an

international business consultant that also has some human resources experience or b) visit an international business specialist at your local, state or federal government office.

What is our budget for going global? Going global costs money, time and human resources. Too often organizations do not factor in the human resources and time involved to launch a global presence. Yes, there will be some fixed costs that any entity would have to pay. But the failure to adequately assess the human resources needed is a very serious error that can push an entity towards failure before it has an opportunity to start. Some person or group will have to act as an internal liaison to top executives and other departments while some person or group does the same for foreign inquiries. Responding to both postal and electronic mail and sending out collateral materials will require a significant investment in time and will be an addition to the regular workload. Not budgeting properly for going global is a very fundamental mistake that too many companies make.

Conducting the Research

The second phase of the assessment process is conducting the research. Companies or organizations that ignore this step or fail to take it seriously, do so at their own peril. If you want to go global, your company or organization is going to have to do research in at least two areas: 1) international commercial practices and 2) market feasibility studies. Depending upon what you're trying to accomplish, you might have to do additional research in any of the following areas: intellectual property rights; country specific laws concerning enterprise formation and taxes, banking and securities law; and treaties and trade agreements. No matter how much the importance of research is emphasized, people almost always ignore it and always with disastrous results.

Why is research so important? Better yet, if research is so important, then why do companies try to avoid it? The answer is quite simple: money. Of all of the costs incurred when an organization decides to go global, research is probably the highest. “Work up” is the basic preparation work which is required to properly orient a company to be able to do all of the correct things when entering global markets. Because of budgetary concerns and incorrect assumptions, many companies frequently choose to spend less than an appropriate sum on doing the proper research and in the end spend more money instead of less. Traditional advisers such as a lawyer, banker, or an accountant can often help by offering sound advice, but in the end, there still remains the task of going to the public library or sitting at your computer and surfing the Internet. In order to properly finish the task one must know that for which one is searching and this requires knowledge of international business and some experience. This type of expertise costs a fair amount of money.

Strategic Assessment

The final step before getting started is to develop a strategic plan for assessment.

Two companies that might be very similar in size and goals will have very different strategic plans because there is no recipe for developing a strategic plan. For a company entering into global markets for the first time, the most important function of the strategic assessment plan is to act as a map. A map has clearly marked highways and roads with distance markers to tell you how far you have traveled and how far you have to go. So does a strategic assessment plan. The only difference being that a map will seldom change and a strategic assessment plan will almost always change along with marketplace conditions and changes within the organization.

When you start looking at how you're going to structure your strategic assessment plan, you should be looking at the following issues:

allocation of human resources

budget limits

The most immediate effect upon a company or organization which has just undertaken a move into global business is the effect upon its people because going global does affect the roles of individuals within an organization. There is very often shifting of the hierarchy in unforeseen ways. People who might have been considered marginal suddenly become very important to the overall success of the organization because of a special skill. Others who previously were in more dominant roles might find themselves somewhat expendable. It is not at all unusual for top key executives to become more dependent upon even the lowest level employee to assume new responsibilities, which could ultimately determine the success or failure of the company. A good strategic plan must take all of these things into account and devise a management strategy which allows those employees with special talents to assume a more significant role while reshaping the roles of displaced employees to minimize disruptions and assure a smooth transition into global marketing.

Equally as important as managing disruptions to morale is monitoring the progress of the retraining of employees. Global business demands continually improving skills from everybody, starting with the top executive. A good strategic plan will set reasonable goals for the re-deployment of employees and will implement new programs as needed to accomplish this task. In some instances, emergency remedial assistance will be required to help an employee or group that is lagging in their development. At each step of the way, the strategic plan should provide a framework for assessing the employees' abilities, progress and demeanor and it should match its assessment to the long run goals of the company.

Probably the most difficult thing to do in implementing a strategic plan for going global is to estimate the budget. For numerous reasons, international trade requires an increased transaction time or business cycle. Because of this, the initial budget set aside should be very conservative in sales forecasts and should be structured to expect modifications as the effort to go global proceeds. It is extremely hard to anticipate all of the contingencies in global marketing. This is especially true when you consider that you're new at what you are doing and have little if any experience to guide you.

In all things, there is always an intangible. In assessing your potential for going global, the intangible is patience in setting your goals. International business involves an increased transaction time or business cycle. Therefore, sales and deals are not likely to occur as quickly as they might in your domestic market. While aggressive marketing & promotion can to some extent influence success in any marketplace, it is less likely to be a significant factor in global markets. Such things as local economic conditions, product localization, competitive factors or market penetration by local sales force and trade policy are more relevant.

Analyzing Markets

Overview

How you decide to go about analyzing foreign markets will depend in large part upon your reason for going global. All of the six principal reasons why companies decide to go global share similar characteristics in terms of how to organize the methods for doing the market analysis. What is important to recognize is the fact that your company has to develop a unique design based upon its specific goals and more importantly, its budget and existing capacity. The actual process of doing the analysis will be extremely subjective. Unfortunately, too much of what is written in general business publications about this issue is too vague and often makes assumptions that are not very closely related to your company's specific circumstances.

While it seems intuitive, the reality is that many business executives facing a decision about going global too often fail to understand one very basic fact: you can not do an analysis, if you have nothing to analyze. In some ways, deciding which markets to pursue is a very easy decision because those markets that are highly developed will almost always be preferable. The bulk of the analysis task is in gathering the information first and then understanding how this information is relevant to your company's specific goals and its circumstances. In Assessing Your Potential, we listed six of the most common reasons why companies make a decision about going global. There is a seventh reason that is often forgotten: receiving foreign inquiries. In fact, it is unclear as to how many companies who either import or export or who become engaged in some other type of international business activity, do so because they received an unsolicited inquiry from a foreign company.

Choosing Markets to Analyze

We would like to add a brief word about choosing foreign markets to analyze. The most important criteria for choosing which markets to analyze is very simple: can consumers and/or end users afford your product or service or does the proposed business venture have any real potential for success? In

some instances, especially in the case of products that fit into the mature industry category, your choices will be limited because of price competition from foreign manufacturers. In other cases, there will be existing barriers to entry.

One very common mistake made by many executives is what we shall call, "foreign vacation syndrome". Foreign vacation syndrome comes in two types. Type# 1 is when an executive goes on vacation and notices that his/her product is not being widely sold in the foreign country. Type# 2 is when an executive falls in love with a particular country while on vacation and then decides to try to make contacts with locals so that he/she can anticipate doing business in this country with an eye for using this as a way to write off trips for business purposes that are really for pleasure. Both types are disastrous reasons for choosing a foreign target market. Type# 1 assumes that nobody locally is smart enough to recognize a demand for a particular product and be successful at importing and selling it. This is wrong for many reasons, but two stand out: 1) this assumes that you are smarter than the local business people who live there and know the market dynamics and 2) it furthermore assumes that there is in fact a demand for your product or service. If it is not being sold, there is very probably a good reason why this is the case. Type# 2 is bad because it violates simple business principles at best. Worse, it could lead to illegal business activities that could have very serious consequences.

The other common mistake is what we shall call "foreign contact syndrome". This syndrome is usually the result of a social meeting, usually one at which alcohol is being served. The executive meets somebody who claims to know somebody who can help him/her enter the market and "get around" existing laws and/or market players. Besides the fact that this almost always adds another channel or layer to any transaction, it assumes that the contact has the capability to perform specific tasks that are essential to any international business transaction. This person usually does not have a business card and almost always answers all basic questions with "no problem". It would surprise many to know just how many otherwise intelligent business people fall into this trap. Such things as charm and attractive looks influence some executives. Others are fooled simply because they have had too much to drink.

Gathering Information

This is really the essential aspect of analyzing markets. You have to gather as much information as possible about those markets where you might have an opportunity to do business. In spite of the fact that there are many free or low cost information sources available to you, there is a significant cost in time and resources in gathering information about foreign markets. The following sub-headings are both relevant topics and sources of information.

Domestic Government Agencies

The largest compiler of data about foreign markets in the world is the U.S. Department of Commerce. Some of this information is available free and some involves paying a small fee. Other federal agencies also provide significant amounts of data that is available on their websites (some of which will be listed below) or by way of CD-ROM or printed publications available through the Government Printing Office. Some business executives, eager to reduce costs, tend to want to rely primarily upon government sources of data because of price considerations. One problem with this approach is that most of the information is dated, that is it might be 2-3 years old depending upon which government agency is responsible for collecting it. For the sake of efficiency, locate the nearest library to you that functions as a government depository. It will have on hand many hard to locate Government Printing Office publications that will be very helpful. You should familiarize yourself with Business America, because it has excellent how-to articles about exporting and other international business issues.

The following U.S. government agency websites provide a variety of useful information to assist you in analyzing foreign markets:

FedWorld Information Network

International Trade Administration

U.S. Small Business Administration

Small Business Administration International Hotlist

The World Bank

Private Agencies and Other Private Sources

There are several private agencies both here and abroad that collect and disseminate market analysis and other important data about foreign markets. Such groups as industry & trade organizations, local chambers of commerce and other business development groups provide a wealth of information about foreign markets. Probably the most neglected resources are industry associations and industry-focused publications. Your local library will have many publications such as trade directories and statistics from different foreign sources in print format that are not yet available online. There are also some company-sponsored websites that provide access to many little known but valuable resources, both printed and online. There are thousands of websites on the Internet that can provide you with access to free or low cost information. We are listing a few of the best sites below:

Economic Resources on the Internet

Emerging Markets Directory

Export-Import Bank of the United States

Federation of International Trade Associations

Getting Through Customs

International Business Resources on the WWW (an Internet legend and all around excellent resource sponsored by Michigan State University Center for International Business Education and Research)

International Chamber of Commerce Directory

Kompass (publisher of foreign trade directories)

PIERS

Stat-USA

Communicating with International Business Professionals

Unless you hire somebody in-house, at some point along the way, you will have to speak with an international business specialist. What type of specialist will depend upon what type of business activity in which your company has chosen to engage. Generally speaking, however, you will be dealing with an international business specialist who is a generalist. This person might refer to you to another international business specialist who focuses on one specific area and can better assist you in analyzing foreign markets. Following is a brief explanation of some of the specialists that you might encounter in the analysis phase of going global:

· International trade intermediary. This is by far the most familiar international business professional to people who really do not understand global business. Unfortunately, this specialist is also the most misunderstood. Typically, trade intermediaries perform their function as part of a global trading company. Actually, a global trading company is the intermediary or serves the intermediary function, that is it facilitates the sale and distribution of goods and services from its client to foreign customers. Its name aptly describes its role; namely, it facilitates trade on a global basis. Many people believe that the trade intermediary is merely a middleman who serves as a go between for the buyer and seller and who maintains this position while keeping both parties ignorant of each other's identities. Not true. In most cases, the buyer and seller are aware of each other but need the intermediary to securely and successfully settle the transaction. Many executives considering exporting come to know about what is called an export management company. An export management company is nothing more than a specialized global trading company. Successful global trading companies maintain global networks of distributors and other facilitator contacts worldwide and are very knowledgeable about

whether or not your product or service is appropriate for a particular foreign market based upon their own and others' experiences in that market. · International or foreign freight forwarder. One of the most important people that you will ever meet especially if you are importing or exporting goods. The foreign freight forwarder is responsible for actually assisting your company to ship its goods from the factory or warehouse to its foreign destination. As such, it is normally the logistics specialist. Foreign freight forwarders are usually specialists in trade laws and understand such things as quotas, restrictions, phyto-sanitary regulations, packing requirements and hidden trade barriers. Because they track shipments to various markets as part of their transport function, they compile piles of statistics about what products are being shipped where, at what price and in what quantities. They deal with trucking companies, airlines, steamship lines and railroads. The Journal of Commerce, http://www.joc.com, the daily newspaper most known for its cargo and shipping information is actually an excellent resource for a wide variety of foreign market analysis. The paper is must reading for anybody actively involved in import-export and the website has an excellent search engine which gives you access to back issues of the newspaper. · International freight consolidator. Actually, a specialized type of international freight forwarder that is also very helpful, especially to the small shipper/exporter. International freight consolidators buy large of amounts of cargo space at the premium rate, which is lower than that for small shipments. They then consolidate several smaller shipments from different customers and allow these customers to ship their cargo at lower prices that would normally be unavailable to them. International freight consolidators like their counterparts have a wide knowledge of foreign markets and can offer you a lot of assistance in analyzing different foreign markets. ·

International accounting firms. A stalwart for multinational corporations who face different laws and tax issues in different jurisdictions. However, most of the big firms also have international business practices that offer services to small and medium sized companies who need assistance in going global. It would not be unusual, for example, to consult an accounting firm if your company was going to license technology overseas or wanted to sell franchises. While all of the major firms do provide some free information, PriceWaterhouseCoopers, http://www.pwcglobal.com/, excels as it publishes several how-to guides as well as detailed analysis of most foreign markets. These guides provide unique insights gathered by local PriceWaterhouseCoopers offices around the world and furthermore help the reader to discern the relevance of what is often considered very complex data. Many of these guides are available free of charge by contacting a local PriceWaterhouseCoopers office. · International law firms. Too many companies have neglected to obtain good legal advice about their global activities and have paid a very heavy price for their negligence. You should consult an attorney for any global transaction not covered by a letter of credit or documentary draft. Licensing technology, selling franchises, entering strategic alliances, any foreign real estate transaction or trying to raise capital funds in foreign markets would all be examples of matters best handled by a qualified international law firm. You may initially gasp at the hourly fees, but gasping is better than choking on silly mistakes that could actually bring down your company. · International insurance companies. Most import-export transactions require cargo insurance and it is not optional. Other types of business activities may require a wide variety of insurance. Many companies typically want some type of credit insurance in order to be able to sell to foreign clients on open account, which is often considered more favorable. · International banks. International banks are the primary means by which most import-export transactions are settled, usually by way of letter of credit or documentary draft. The international department of your bank will employ a

letter of credit reviewer, import-export clerk or documents examiner. All are qualified international specialists who know how to review the documents required for most import-export transactions. International banks also handle certain types of foreign exchange transactions and help companies to manage their exposure to risk that the value of a transaction will change unexpectedly. International banks are also well known for publishing numerous how-to guides about international business transactions. International banks also publish foreign country analysis booklets that discuss market and trade statistics as well as giving in-depth overviews of various markets.

Assessing Political Risk

For many smaller companies, political risk is an afterthought. One reason for this, especially in the United States, is the excellent work done by OPIC, the Overseas Private Investment Corporation, http://www.opic.gov/. OPIC is a federal government agency that sells political risk insurance to American companies to cover export transactions and direct investments in over 140 countries.

While it is true that political risk is well managed by OPIC, it's not just a question of money. All aspects of going global require time, money and human resources. While it may be possible to cover your financial risk in terms of money, political risk has far reaching effects that go beyond any financial consequences. First of all, risk is a regional phenomenon. That is to say, the risk for one country can be adversely affected by its regional risk. This means that it is likely that other countries in the region that are perhaps not as risky as country X may become riskier as X becomes riskier. More importantly, however, is the human toll of political risk. Political risk can jeopardize people's personal safety and endanger their lives. In certain regions, this very real danger can follow people home and also jeopardize friends and relatives. Such personal tragedy as can happen in some regions of the world will have a demoralizing effect on the psyche of all employees in a company. It is now a fact that smaller companies can become involved in transactions and/or ventures that make their participation very worthwhile from a financial viewpoint and that makes analyzing political risk more than just an academic exercise anymore. Therefore, political risk becomes a question of balancing the cost benefit analysis against the very real personal dangers that exist in some regions of the world. You can replace the equipment and you can always make more money. You cannot replace the people or easily repair the spirits of those left to pick up the pieces. Be prudent.

The Process of Analysis

OK. You've spent time, money and resources gathering up every bit of information that you could find about several foreign markets. You've consulted international business professionals and by now you're

sick of the update meetings to discuss everybody's progress. Now you have to do the actual analysis. Scary thought isn't it? Not to worry.

Essential Factors To Consider

There are some very basic factors that must be considered in making your decision about going global:

1. Size of the market. This is simple enough. Is the demand in a specific market for your product large enough to act as an incentive to enter? 2. Are there significant barriers to entry? Are there regulatory issues that make the cost of entry prohibitive? Is the market easily accessible for transport? Do the channels of distribution add too many layers and make the price non-competitive? 3. What is the competition? How many other companies sell similar products and with what amount of success? How skilled are local distributors in penetrating the market? 4. Can you sell to other markets nearby? Some markets are going to present thin profit margins, but compensate for this fact by being gateways to other local markets. This is also true of transport issues as well for landlocked markets. 5.

Product/service localization issues. Is your product or service OK to sell as is or do you need to invest in localizing it for local tastes? 6. Business infrastructure. Is there a sufficient business infrastructure to support sale and distribution of your product and/or services? Are there good port facilities? How are the highways? Is there easy access by air? What kind of telephone service is available and how good is it? Is there local Internet access available? If you are buying or selling perishables, how good are port area refrigeration facilities? 7. Local business customs. In spite of our continued head-in-the-sand attitude in the United States, petty bribery is a fact of life in many parts of the world. How does this fact affect your ability to do business and compete with foreign companies who are not hampered by anti-bribery laws? Are there any local customs that could be perceived as a particular competitive advantage for your company? 8. Political risk. Is the government stable? Is there unrest there because of income distribution inequities or other similar factors? Is the government friendly to our country? 9. Banking and financial institutions. Is the central bank stable? Does it have a history of measured behavior or does it intervene often? Are currency rates stable or fluctuating within a reasonably small range? Are local banks trustworthy enough and capable enough to handle letter of credit transactions or documentary drafts?

Analyzing a foreign market is only one aspect of making the final decision about going global. It will balance all of the above-mentioned factors with your company's international business capability and its budget. How much weight is given to any one factor is very subjective and will vary from one company to another. However, it is important to realize that if you answer the questions regarding these factors and there are more negatives than positives, you might want to look at other opportunities. As a rule, you want to investigate market opportunities in the largest, strongest and best-developed economies first. You then want to consider emerging economies and finally less developed economies.