Week 3: Internationalization Process INSTRUCTOR: MC ARON J. MONREAL, CPA RESOURCE: INTERNATIONAL BUSINESS: THIRD EDITION WALL, S. MINOCHA, S. REES, B. Reasons why Firms Internationalize 1. Diversification (minimizing competitive risks) 2. Economies of Scale (acquiring resources) 3. Government incentives 4. Market Growth (expanding sales) 5. Joint Venture Opportunities (increase in global competition) 6. Saturated Domestic Market 7. Development and Expansion of Technology 8. Liberalization of Cross-border Movements 9. Development of Supporting Services at the lowest cos Issues in Internationalizing Business Legal-Political Environment every country in the world is a sovereign entity with its own laws and political systems When laws differ greatly from those at home, a firm may encounter substantial operating problems abroad. Economic Environment Generally, poor countries have smaller markets on a per capita basis, less educated populations, higher unemployment or underemployment, poor health conditions, greater supply problems, higher political risk, and more foreign exchange problems. When laws differ greatly from those at home, a firm may encounter substantial operating problems abroad. Because of poverty in poorer countries, there is a greater incidence of civil disorder and a greater tendency for governments to treat foreign firms as scapegoats for the economic ills their citizens face. Issues in Internationalizing Business Cultural Environment “Culture” refers to the specific learned norms of society based on attitudes, values, beliefs, and frameworks for processing information and tasks. These norms vary from one country to another, and they are reflected in attitudes toward certain products, advertising, work and relationships among the people of a given society. Tips in Internationalizing Business 1. Identify the Target Market • The firm’s sales efforts will be most effective if they focus on a group of prospects with common characteristics and similar problems • Developing a list of all the characteristics the firm is expecting to find in good customers or clients and also the characteristics that make the product and/or service valuable to them could be a good idea 2. Find the Most Appealing Customer Benefit. 3. Develop a Motivating Offer 4. Decide How to Publicize the Firm’s Business (Promotions & Ads) 5. Establish a Plan to Promote Customer Loyalty. International Business in Essence An international company is a business that engages directly in any form of international business activity such as exporting, importing, or international production Cross-border transactions also require that money be converted from the firm’s home currency into a foreign currency and vice versa. Why should we study international business? A simple answer is that international business comprises a large and growing portion of the world’s total business. A more complex answer is that a company operating in the international business field will engage in modes of business, such as exporting and importing, that differ from those it is accustomed to on a domestic level. Managing an international business differs from that managing a purely domestic business in many ways. One such fundamental difference is the fact that countries are different. Conducting business transactions across national borders requires an understanding of the rules governing the international trading and investment system. International Business in Essence Because of different cultural, political, economic, and legal systems, and so on, countries are different. The issues at the international business level are more complex than those at the domestic level International business transactions involve converting money into different currencies. International business must find ways to work within the limitations and constraints imposed by the various governments Why do Companies Go International? Because of different cultural, political, economic, and legal systems, and so on, countries are different. The issues at the international business level are more complex than those at the domestic level International business transactions involve converting money into different currencies. International business must find ways to work within the limitations and constraints imposed by the various governments The Internationalization Method Internationalization Methods Export-based method Direct Exporting Indirect Exporting Non-equity based method Licensing Franchising Equity-based Joint Ventures Foreign Direct Investment (fdi) Consortium, Keiretsus, and Chaebols Export-based Methods for Internationalization Export Involve physical movements of products by air, sea, road, or rail, and it increasingly involves the cross-border transfer of less tangible items such as computer software, graphics, images, and the written word. it is the oldest and most straightforward way of conducting international business. Some notable changes in the field of exporting are: 1. Significantly reducing tariff rates and quotas imposed on most imports 2. Other protectionist measures are gradually being phased out or lowered at the regional level in free trade areas such as NAFTA, ASEAN, APEC, and in customs unions such as the Andean Pact and Mercosur, and economic unions such as the European Union. 3. Host of bilateral free trade treaties has been concluded, providing further direct exporting opportunities. 4. International transportation costs are still falling and cultural barriers to trade are now more readily recognized and overcome than has previously been the case Export-based Methods for Internationalization 2 Export-based Methods of Internationalization 1. Direct Exporting - typically involve a firm in distributing and selling its own products to the foreign market. Advantages of Direct Exporting • allows the exporter to closely monitor developments and competition in the host market; • promotes interaction between producer and end-user; • involves long-term commitments, such as providing after-sales services to encourage repeat purchases. Disadvantages of Direct Exporting • More expensive • Takes time to establish 2. Indirect Exporting - happens when a firm does not undertake any special international activity but rather operates through intermediaries. The role of the intermediary may be played by export houses, confirming houses, and buying houses: Export-based Methods for Internationalization Export House – buys products from a domestic firm and sells them abroad on its own account Confirming House - acts for foreign buyers and is paid on a commission basis, brings sellers and buyers into direct contact (unlike an export house) and guarantees payment will be made to the exporter by the end-user; Buying House - performs similar functions to those of the confirming house but is more active in seeking out sellers to match the buyer’s particular needs. Advantage of Indirect Exporting • No additional costs need be incurred or expertise acquired in order to access the overseas market • Faster transaction • Creation of unexpected alliances Disadvantages of Indirect Exporting • Having little or no control over local marketing issues and little contact with the end-user, so there is no feedback for product development or marketing. Export-based Methods for Internationalization Export House – buys products from a domestic firm and sells them abroad on its own account Confirming House - acts for foreign buyers and is paid on a commission basis, brings sellers and buyers into direct contact (unlike an export house) and guarantees payment will be made to the exporter by the end-user; Buying House - performs similar functions to those of the confirming house but is more active in seeking out sellers to match the buyer’s particular needs. Advantage of Indirect Exporting • No additional costs need be incurred or expertise acquired in order to access the overseas market • Faster transaction • Creation of unexpected alliances Disadvantages of Indirect Exporting • Having little or no control over local marketing issues and little contact with the end-user, so there is no feedback for product development or marketing. Export-based Methods for Internationalization Export Processing Zones - designated geographical areas within a country that provide appropriate infrastructure and incentives to encourage inward FDI that is focused on direct exporting. It provides incentives for direct exporting activities: e.g. Lower or zero taxes on profits and/or imported components, government subsidies, better infrastructures, less restrictive regulations, etc. It is widely used by countries to encourage inward FDI specifically targeted towards increasing direct exports. Non-equity based Internationalization In this form of internationalization, firms sell technology or know-how under some form of contract, often involving intellectual property rights. 1. Licensing - mean permission granted by the proprietary owner to a foreign concern (the licensee) in the form of a contract to engage in an activity that would otherwise be legally forbidden. Common licensed IPRs are patent, trademarks and copyrights. 2. Franchising – here, the franchisee purchases the right to undertake business activity using the franchisor’s name or trademark rather than any patented technology. 3. Management Contracting - where a supplier in one country undertakes to provide to a client in another country certain ongoing management functions, which would otherwise be the responsibility of the client. Non-equity based Internationalization In this form of internationalization, firms sell technology or know-how under some form of contract, often involving intellectual property rights. 1. Licensing - mean permission granted by the proprietary owner to a foreign concern (the licensee) in the form of a contract to engage in an activity that would otherwise be legally forbidden. Common licensed IPRs are patent, trademarks and copyrights. 2. Franchising – here, the franchisee purchases the right to undertake business activity using the franchisor’s name or trademark rather than any patented technology. 3. Management Contracting - where a supplier in one country undertakes to provide to a client in another country certain ongoing management functions, which would otherwise be the responsibility of the client. 4. Technical Service Agreements 5. Contract-based Partnerships Equity-based Internationalization essentially refer to the use of fdi by the firm as a means of competing internationally in the modern global economy. 1. Joint venture - involve creating a new identity in which both the initiating partners take active roles in formulating strategy and making decisions. 2. Alliances - can take many forms and is much less structured than a joint venture or an acquisition. 3. Consortia, keiretsus, and chaebols Consortium – a pooling of firms’ resources into an integrative organizational design. Keiretsus – a combination of 20–25 different industrial companies centered around a large traditional company and financed from group banks and run by professional managers. Chaebols - are usually dominated by the founding families which usually get their funding from the government and are managed by family members who have been groomed for the job. Equity-based Internationalization JOINT VENTURES It can help: • to share and lower the costs of high-risk, technology-intensive development projects; • to gain economies of scale and scope in value-adding activities that can only be justified on a global basis; • to secure access to a partner’s technology, its accumulated learning, proprietary processes, or protected market position; 2 forms of Joint Venture 1. Specialized Joint Venture - brings a specific competency. 2. Shared value-added Joint Ventures - contribute to the same function. Equity-based Internationalization ALLIANCES Four Is of Collaboration 1. Infeasibility 2. Information asymmetry 3. Investment in options 4. Indigestibility GREENFIELD INVESTMENT - a kind of consortium of wholly owning foreign affiliates that can be achieved through acquisition of, or merger with, an existing firm or through establishing an entirely new foreign operation. Why Invest Abroad? the ‘bottom line’ may simply be an estimated higher present value of future profits from establishing a production facility in a foreign country as opposed to the alternatives (e.g. continuing to export to the foreign country). consider the motivating factors in investing particularly supply factors, demand factors and political factors. SUPPLY FACTORS – includes production costs, distribution costs, availability of natural resources and access to key technology DEMAND FACTORS the major objective is to internationalize with a view to accessing new markets and greater sales. Take the form of Horizontal Integration rather than Vertical Integration Marketing advantages includes preservation of brand names and trademarks and customer mobility Why Invest Abroad? POLITICAL FACTORS avoid trade barriers erected by governments (or regional trading blocs) to take advantage of economic development incentives offered by the government in the host country Taking advantage of the economic development incentives includes creating new employment opportunities, raising the technological base and generally increasing the economic welfare of its citizens. OTHER FACTORS This includes the role of management, motives of the organization, a saturation of the home market, the bandwagon effect, and the international product life cycle. The Eclectic Theory John Dunning (1993) suggests that firms transfer their ownership-specific assets to locational settings which offer the most favorable opportunities for their sector of activity while seeking wherever possible to internalize these processes in order to retain control of the subsequent revenue generation. Dunning concluded that companies will only become involved in overseas investment and production (fdi) when the following conditions are all satisfied companies possess an ‘ownership-specific’ advantage over firms in the host country (e.g. via assets which are internal to the firm, including organisation structure, human capital, financial resources, size and market power); it must be more profitable for the multinational to exploit its ownership-specific advantages in an overseas market than in its domestic market. In other words, there must additionally exist ‘location-specific’ factors which favour overseas production (e.g. special economic or political factors, attractive markets in terms of size, growth or structure, low ‘psychic’ or ‘cultural’ distance, etc.); and The Sequential Theory of Internationalization Adherents of this approach (sometimes called the ‘Uppsala model’) include Johanson and Widersheim-Paul who examined the internationalisation of Swedish firms. They found a regular process of gradual change involving the firm moving sequentially through four discrete stages: (1) intermittent exports; (2) exports via agents; (3) overseas sales via knowledge agreements with local firms, for example by licensing or franchising; (4) foreign direct investment in the overseas market. The Network Theory of Internationalization the process of internationalization is seen as building on existing relationships or creating new relationships in international markets The series of networks can be considered at three levels: Macro, Inter-organizational, and Intraorganizational. The Simultaneous Theory of Internationalization The suggestion here is that the pattern and extent of internationalization achieved by the firm, and future prospects for the continuation of that process, will depend in part on the stage in the IPLC reached by the firm. Barriers to Internationalization Arguments against Internationalization 1. Are there potential benefits for our company? ■ Where and when would the benefits of globalization show up in our financial statements? ■ What is the expected economic value of each benefit? ■ How detailed and solid is our understanding of each one? ■ What is the hard evidence that other companies in similar circumstances have been able to realize these benefits in practice? 2. Do we have the necessary management skills? ■ What skills are required to realise these benefits? ■ Do we have a clear track record of exhibiting them in the past? ■ Do we know how to further develop them? 3. Will the costs outweigh the benefits? ■ What will it cost, in terms of management time and business process investment, to realise the benefits of our globalisation strategy? ■ What would sceptics inside our various business units say about the cost of globalisation and its potential impact on their local performance? ■ What would be the most productive alternative use of all the resources that we plan to devote to our globalisation strategy?
