INTERNATIONAL BUSINESS MANAGEMENT
UNDERSTANDING GLOBAL BUSINESS
FOR
ENHANCING ORGANISATIONAL
COMPETITIVENSESS
"a way to stay ahead of competition"
Prof. Dr. Colin Thompson
1
PROFILE
Dr. COLIN THOMPSON
Colin Thompson has over 25 years experience as Managing Director and
Director. His career to date has given him a complete exposure to business
management and management of people. He has wide experience in PLC and
private company’s in top level management of increasing sales/profit. Also,
turnaround and re-engineering experience linked to new corporate identities and
successful mergers/take-overs. Plus, developed many business models to raise
the `bottom-line`.
Technical skills/knowledge
•
Directorships
Managing Director
Director-Print Management and Workflow Solutions
Director-Operations/Customer Service and Marketing
Director-Financial and Administration
Non-Executive Director
•
Professor at the European Business School, Cambridge, UK
•
Initiated New Corporate Identities, also Managing Director:
Datagraphic Inc. UK, division of USA Group
Forms UK plc
WH Smith PLC-Print/Distribution and Workflow Solutions
Kenrick & Jefferson Group Ltd
Mail Solutions Group Ltd, division of SSWH PLC
2
•
Able to successful bring new Products and Services to market i.e.
a) Set up new UK `green field` manufacturing/distribution/workflow systems
operations and market new Products and Services.
b) Research, development and design of a Print Management Service,
including writing a book `Print Management and Workflow Solutions`,
plus many other publications.
c) Produced CD-ROM, `Interpreting Accounts for the Non-Financial
Manager`d) Produced business models, `Valuer`- Business Valuation software,
`The Enterprise Business Model` and `Managing for Customer Care`.
Education: BA, MBA, DBA, CPA, FFA, MCIPD, MCIOJ, FIOP
My training and knowledge has enabled me to take an overall view of an
organisation, its operations and strategy. Also, to understand with a degree of
competence in a wide variety of business skills and functions. I have dealt with
challenges at a high level of complexity, especially those that cut across the
common functional divisions of business. Developed several business models to
raise the `bottom-line`.
My experiences and knowledge have enabled me to write and have published
over 400 articles, several books, research reports, business models on
CD’s/Software. Plus speaking at International Conferences, Seminars and
Visiting University Professor.
3
UNDE RS T ANDI NG GL OB A L B U S IN E SS
- a way to stay ahead of competition”
A fundamental shift is occurring in the world economy.
We
are moving progressively further away from a world in which
national economies were relatively isolated from each other
by barriers to cross-border trade and investment, distance,
time zones, language and national differences in government
regulation, culture and business systems and toward a world
in
which
national
economies
are
merging
into
an
interdependent global economic system.
Commonly referred
to
a
as
globalisation,
the
trend
toward
more
integrated
global economic system has been in place for many years.
However, the rate at which this shift is occurring has been
accelerating recently and it looks set to continue to do so
during the early years of this millennium.
In view of the importance of
this
rapid
emerging
global
economy in business, we have included this topic as part of
this update.
We hope it will bring you new understanding of
how businesses operate globally in order for your business
to stay ahead of the competition.
“Success
discipline
frightened
are just as
in business requires training and
and hard work. But if you are not
by these things, the opportunities
great today as they ever were.”
Prof. Dr. Colin Thompson
October 2006
4
Chapter 1: Business World
Learning objectives:
1. To explain on competition and entrepreneurship in the
private enterprise system.
2. To
understand
the
six
eras
of
business
and
how
it
influences contemporary business.
3. To justify the impact of technology on overall businesses
operations.
4. To
understand
the
importance
of
customer
centered
organization.
5. To explain how productivity affects competitiveness in the
global market.
6. Discuss the importance of good business ethics and social
responsibility in business decision- making.
1.1 Introduction - What is Business?
Business consists of all forms of profit seeking activities and
enterprises, which provide goods and services necessary to
an economic system.
goods,
such
as
Some businesses produce tangible
automobiles,
breakfast
cereals,
and
computer chips; others provide services such as insurance,
dental care, auto rentals, and entertainment ranging from
Safari theme parks to music concerts.
5
At the heart of every business endeavor is an exchange
between a buyer and seller.
The seller participates in the
process
gaining
with
the
hope
of
profits
–
a
critical
ingredient in accomplishing the goals necessary to maintain
constant improvement in standards of living.
Profits represent rewards for businesspeople who take the
risks
involved
in
blending
people,
technology,
and
information to create and market want – satisfying goods
and services.
More generally, however, profits serve as
incentives for people to start companies, expand them, and
provide
consistently
high
quality
competitive
goods
and
services.
Although the quest for profits is a central focus of business,
businesspeople
also
responsibilities.
recognize
their
social
and
ethical
To succeed in the long run, companies
must deal responsibly with employees, customers, suppliers,
competitors, government, and the general public.
1.1.1 Factors of Production
Capitalism, like other economic systems, requires certain
inputs
for
factors
of
natural
effective
operation.
production
resources,
entrepreneurship.
to
refer
capital,
Economics
to
the
human
four
use
the
basic
resources,
term
inputs:
and
Table 1.1 identifies each of these inputs
and the type of payment received by firms and individuals
who supply them.
6
Table 1.1: Factors of Production and Their Factor Payments
Factors of Production
Corresponding Factor Payment
Natural Resources
Rent
Capital
Interest
Human Resources
Wages
Entrepreneurship
Profit
Natural resources include all productive inputs that are
useful
in
building
their
sites,
natural
state,
forests,
and
including
mineral
agricultural
deposits.
land,
Natural
resources are the basic inputs required in any economic
system.
Capital, another key resource, includes technology, tools,
information, and physical facilities.
term
that
refers
to
such
Technology is a broad
machinery
and
equipment
as
production lines, telecommunications and basic inventions.
Information,
frequently
improved
by
technological
innovations, is another critical success factor because both
managers and operating employees require accurate, timely
information
for
effective
performance
of
their
assigned
tasks.
Technology plays an important role in the success factor of
many businesses.
Sometimes technology results in a new
product, such as the device introduced by OmniSonics that
uses sound waves rather than drugs or tools to clear blocked
arteries in heart patients.
The new method is not only
effective, but it also results in no damage to artery walls.
7
Sometimes
smoothly
technology
by
tracking
communication
with
helps
a
company
operate
deliveries,
providing
more
efficient
sales
figures,
suppliers,
analyzing
more
compiling marketing data and training employees.
Money is necessary to acquire, maintain, and upgrade a
firm’s
capital.
investments
by
A
its
company’s
owners,
funds
profits
may
plowed
come
back
from
into
the
business or loans extended by others.
Money then goes to
work
raw
building
component
workers.
factories;
parts;
and
purchasing
hiring,
training
materials
and
and
compensating
People and firms that supply capital receive factor
payments in the form of interest.
Human resources represent another critical input in every
economic system.
Human resources include anyone who
works, from the chief executive officer (CEO) of a huge
corporation
category
to
a
self-employed
encompasses
intellectual
inputs
pharmaceutical
both
contributed
giant
behind
auto
the
by
such
mechanic.
physical
workers.
blockbuster
This
labor
and
Pfizer,
the
drugs
as
Lipitor, Viagra, and Zoloft, relies on the skills, knowledge,
creativity and passion of its employees to achieve success.
“At Pfizer, the people we’re proud to call colleagues are
some
truly
exceptional
individuals
dedicated
to
helping
people live longer, healthier, and happier lives,’ says an ad.
8
Entrepreneurship is the willingness to take risks to create
and operate a business.
An entrepreneur is someone who
sees a potentially profitable opportunity and then devices a
plan to achieve success in the marketplace and earn those
profits.
“No sale is really complete until the product is worn out and
the customer is satisfied”
…. Leon Leonwood Bean, founder of L.L. Bean
1.2 The Private Enterprise System
No business operates in a vacuum.
larger
economic
services
are
system
produced,
that
All operate within a
determines
distributed,
and
how
goods
consumed
and
in
a
society.
In the U.S., businesses function within the private enterprise
system (also known as capitalism), an economic system that
rewards businesses for their ability to perceive and serve
the needs and demands of consumers.
system
minimizes
government
A private enterprise
interferences
in
economic
activity.
Adam Smith, often identified as the father of capitalism, first
described the concept in his book “The Wealth of Nations”
published in 1776.
Smith believed that the invisible hand of competition, the
battle
among
businesses
regulate an economy.
for
consumer
acceptance
best
To compete successfully, each firm
must find a basis for competitive differentiation, the unique
9
combination of organizational abilities and approaches that
sets
a
company
apart
from
competition
in
the
minds
of
consumers.
1.2.1 Basic rights in the private enterprise system
Certain
rights
critical
to
the
operation
of
capitalism
are
available to citizens living in a private enterprise economy.
These include the rights to:
•
Private property
•
Profits
•
Freedom of choice and
•
Competition
One of the exciting career options offered by capitalism is
entrepreneurship.
In fact, the entrepreneurial spirit beats at
the heart of every private enterprise.
An entrepreneur is a
risk taker in the private enterprise system.
Individuals who
recognize marketplace opportunities are free to use their
capital, time, and talents to pursue those opportunities for
profit.
Besides
creating
jobs
and
selling
products,
entrepreneurship provides the benefits of innovation.
1.3 Six eras in the History of Business
In
the
roughly
settlements
four
appeared
centuries
on
the
since
North
the
first
American
European
continent,
10
amazing changes have occurred in the size, focus, goals and
the use of technology in U.S. businesses.
As Table 1.2 indicates, U.S. business history is divided into
six distinct time periods:
Table 1.2: Six Eras in Business History
Era
Main Characteristics
Time Period
Colonial
Primarily agricultural
Prior to 1776
Industrial Revolution
Mass
1760 – 1850
production
semiskilled
by
workers,
aided by machines
Industrial
Advances
in
entrepreneurs
technology
Late 1800s
and
increased demand for
manufactured
leading
to
goods,
enormous
entrepreneurial
opportunities
Production
Emphasizing
on
Prior to 1920s
producing more goods
faster,
leading
to
production
innovations
like
assembly lines
Marketing
Consumer orientation,
sights
to
Since 1950s
understand
and satisfy needs and
preferences
of
customer groups
Relationship
Benefits derived from
deep,
ongoing
with
Began in 1990s
links
individual
customers,
11
employees, suppliers,
and other businesses
Contemporary business has entered a new age, driven by
advances in information technology.
online
connections,
and
other
Powerful computers,
technologies
are
helping
businesses to form deep, direct links with their customers,
employees,
and
suppliers.
During
relationship
era,
business has begun to focus on developing and leveraging
relationships for mutually beneficial returns.
Businesses gain several advantages by developing ongoing
connections with customers.
to
service
existing
Since it is much less expensive
customers
than
to
find
new
ones,
businesses that develop long-term customer relationship can
reduce
their
customers
overall
costs.
enables
Long-term
businesses
relationship
to
improve
with
their
understanding of what customers want and preferences from
the
company.
As
a
result,
businesses
enhance
their
chances of sustaining real advantages through competitive
differentiation.
“People
compete
until
their
last
breath”…Michael
Eisner,
Chairman and CEO, Walt Disney Co.
1.4 Managing the Technology Revolution
Technology can make products obsolete, just as contact lenses and laser
surgery reduced the eyeglass market, and DVDs are rapidly replacing
12
videocassettes. Technology also opens up new business opportunities. First
there was the creation of DVDs, now there is the creation of self-destructing
DVDs. Changes in technology can also create whole new industries and new
ways of doing business. Perhaps the most significant of these changes is the
Internet.
The Internet is a worldwide network of interconnected computers that, within
limits, let anyone with access to a PC or other computing device send and
receive images and data globally. What does the Internet mean to business?
First, it represents a huge community of prospective customers. Internet is being
used for retail spending, job hunt, college scholarships and many other purposes.
The
Internet
facilitates
direct,
interactive
between businesses and their customers.
relationships,
Instead of relying
on intermediaries such as retailers, agents, and brokers to
reach customers, businesses can now connect directly with
the people who buy and use their products.
1.5
From
transaction
management
to
relationship
management
Since
the
Industrial
Revolution,
most
businesses
have
concentrated on building and promoting products and then
hoping that enough customers would buy them to cover costs
and earn acceptable profits, an approach called transaction
management.
In contrast, in the relationship era, businesses were taking a
different,
customers.
longer-term
Firms
approach
now
seek
to
their
ways
to
interactions
actively
with
nurture
customer’s loyalty by carefully managing every interaction.
13
They earn enormous payback for their efforts.
business
focuses
collection
of
on
relationship
activities
that
build
Increasingly,
management,
and
maintain,
beneficial ties with customers and other parties.
the
mutually
At its core,
relationship management involves gathering knowledge of
customer
needs
and
preferences
and
applying
that
understanding to get as close to the customer as possible.
Businesses are also finding that they must form partnerships
with other organizations to take full advantage of available
opportunities.
A partnership is an affiliation of two or more
companies with the shared goal of assisting each other in
the achievement of their common goals.
1.6
Creating
value
through
quality
and
customer
satisfaction
Value is the customer’s perception of the balance between
the
positive
traits
of
goods
or
service
and
its
price.
Customers who think that they have received value – that is,
positive benefits for a fair price – are likely satisfied and
continue their relationships with a firm.
important
way
to
differentiate
competing offerings.
customers
often
goods
Value is also an
and
services
from
A firm that provides real value to
enjoys
superior
advantages
and
wider
opportunities in the marketplace.
More people buy their personal computers from companies
like
DELL,
which
customize
their
offerings,
than
from
industry pioneers like IBM.
14
Customers’ value perceptions are often tied to quality, the
degree of excellence or superiority of a firm’s goods and
services.
such
as
includes
Quality can be viewed to physical product traits,
durability
customer
and
performance
satisfaction,
the
reliability,
ability
of
and
a
also
good
or
service to meet or exceed buyer needs and expectations.
Firms that do not keep up with customer expectations lose
customers to rivals that do.
Stephen and Bo Kline, owners
of Typhoon, a small chain of Thai restaurants in the Pacific
Northwest,
have
learned
how
to
harness
technology
improve their customers’ dining experience.
to
Wait staff at
Typhoon carry handheld computers to take dinner orders at
each table and transmit them directly to the kitchen.
Using
new system can cut as much as 15 minutes off the waiting
time per table, meaning that customers receive their dinner
more quickly, which increases their satisfaction.
“Quality in a product…is not what the supplier puts in.
what
the
customer
gets
out
and
is
willing
to
It is
pay
for…Customers pay only for what is of use to them and what
gives
them
value”….
Peter
Drucker,
American
business
philosopher and author.
1.7 Competing in a Global Market
Businesses can no longer limit their insights to events and
opportunities within their own national borders.
The world’s
15
economies are developing increasingly interdependence.
To
remain competitive, companies must continually search for
both the most efficient manufacturing sites and the most
lucrative markets for their products.
Global
competitiveness
requires
nations,
industries,
and
individual firms to work efficiently at producing goods and
services.
Productivity describes the relationship between
the number of units produced and the number of human and
other production inputs necessary to produce them.
So, productivity is a ratio of output to input.
When a
constant amount of inputs generates outputs, an increase in
productivity occurs.
Total productivity = Output / Input
Output = goods or services produced
Input = human/natural resources, capital
Productivity is a widely recognized measure of a company’s
efficiency.
In
turn,
the
total
productivity
of
a
nation’s
businesses has become a measure of its economic strength
and standard of living.
1.8 Developing and sustaining a World-Class Workforce
Employers need reliable workforce to foster strong ties with
customers and partners.
They
must
needed
to
workforce
build
workforce
compete
can
be
the
in
capable
global
of
the
productivity
markets.
A
world-class
firm’s
competitive
foundation
of
a
16
differentiation,
providing
important
advantages
over
competing businesses.
1.8.1 Preparing for changes in the workforce
In the coming decades, companies will face several trends
that
would
challenge
their
skills
for
managing
and
developing human resources such as:
a) Aging of the population – because of these changes,
companies are increasingly seeking and finding talent
at
the
extreme
ends
of
the
working
age
spectrum.
Teenager are entering the workforce sooner, and some
seniors are staying longer or seeking new career after
retiring from their primary careers.
Companies that
once encouraged early retirement are now developing
incentives to keep workers on longer.
b) Shrinking labor pool – the challenge of a shrinking
labor pool is especially great in developed nations,
where the birthrate has shrunk to less that the rate of
death.
c) Increasingly diverse workforce – managers must also
learn to work effectively with diverse ethnic groups,
cultures, and lifestyles to develop and retain a superior
workforce for their company.
To benefit from diversity, executives of many companies
develop
explicit
strategies
to
encourage
and
manage
multiculturalism.
17
d) The
changing
nature
of
work
–
different
work
lifestyles, such as telecommuting are also becoming
common in business life.
Many employers allow job
flexibility so employees can meet family and personal
needs along with job-related needs.
Employers are
also hiring growing numbers of temporary and part-time
employees.
Another business tool for staffing flexibility
is outsourcing, contracting
perform
tasks
or
with
functions
another
previously
business
to
handled
by
internal staff members.
e) The new employer-employee partnership – employees
are no longer likely to remain with a single company
throughout
their
entire
challenges
of
changing
a
careers.
To
workforce
handle
and
to
the
gain
competitiveness advantage by fully utilizing employee
talents, many employers are trying to form new types of
relationships with employees.
To forge the partnership
that support this new kind of commitment, employers
emphasize listening to and respecting their employees.
They share financial data and reward employees with
company stock so that they participate in the firm’s
success.
1.9 Managing ethics and social responsibility
18
In recent years, stories about misconduct by businesses and
their employees have become all too common.
The collapse
of Enron and WorldCom took with them thousands of jobs as
well as the life savings of their employees and caused a
ripple effect throughout the stock market – investors no
longer
trusted
top
executives,
mismanaging company funds.
who
charged
with
These examples are a wake-
up call to business community, demonstrating the importance
of ethics and social responsibility in all business activities.
Business ethics refers to the standards of conduct and
moral values involving right and wrong actions arising in the
work environment.
Poor ethical standards can lead to public
image problems, costly lawsuits, high levels of employee
theft, and a host of other expensive problem.
Working
hand-in-hand
with
business
ethics
is
social
responsibility, a management philosophy that highlights the
social
and
economic
effects
of
managerial
decisions.
Examples of these could be company’s objectives include
treating employees well and supporting environmentalism
1.10 Summary
What characteristics make a company admirable?
Most people think solid profits, stable growth, a safe and
challenging environment, high quality goods and services,
and business ethics and social responsibility.
19
But it is the companies that have survived through difficult
times, offer goods and services that consumers need or
want, and employ top executives with good business ethics.
1.11 Assignments
a) Identify and describe the four basic inputs that make up
factors of production.
Give an example of each factor of
production that utility company might use.
b) What is relationship management?
How might a strategic
alliance between a motorcycle dealer and a local radio
station benefit both firms?
c) Give a brief example of at least one company you know
that
practice
good
business
ethics
and
social
responsibility.
20
Chapter 2: Globalization
Learning objectives:
1. To understand the term “globalization”.
2. To know the main causes of globalization.
3. To understand the speed of globalized world.
4. To appreciate how changing international trade patterns,
foreign
direct
investment
(FDI)
flows,
differences
in
economic growth rates among countries, and the rise of
new multinational corporations are all changing the nature
of the world economy.
2.1 Introduction
Due
to
local
competition,
many
businesses
are
moving
progressively further away from a world in which national
economies
were
relatively
isolated
from
each
other
by
barriers to cross-border trade and investment, distance, time
zones,
language,
differences
in
government
regulation,
culture and business systems into a world in which national
economies are merging into an independent global economic
system.
2.2 What is Globalization?
Globalization refers to the shift toward a more integrated
and interdependent global economy.
•
The globalization of markets
•
The globalization of production
It has two main parts:
21
2.2.1 The globalization of markets
The globalization of markets refers to the integration of
various national markets into one huge global marketplace.
With this, tastes and preferences demanded by buyers in
different countries converge on a global norm to create an
international market.
Typical examples of global acceptance
of consumer products such as Citibank credit cards, CocaCola, Apple I-pods, Levi’s jeans and Sony Walkmans shows
that global world moving towards this trend.
By offering a
standardized product worldwide, they are helping to create a
global market.
not a matter.
of
small
To achieve a globalised company, the size is
For example, in the United States the number
companies
with
fewer
than
100
employees
that
export goods and services tripled between 1987 and 1997 to
reach 209,455.
A
very
significant
differences
still
exist
among
national
markets on their product and distribution expectations, and
this
differences
marketing
must
strategies,
be
tactfully
product
handled
features
by
and
various
operating
practices that to be customized to cater match conditions of
a country.
A typical example is being done by Japanese car
manufacturers
such
as
Honda
would
be
coming
up
with
varying car models in different countries depending on a
range of factors such as local fuel costs, income levels,
traffic congestion and cultural values.
22
An important feature of many global markets in whatever
sector is that of the same firms frequently meet each other
as competitors in nation after nation.
Coca-Cola’s rivalry with Pepsi is a global one, as are the
rivalries between Ford and Toyota.
When one firm moves to
new nation to do business, the other rivalries would follow
suit since their first mover firm is creating the demand for
the industry.
These firms would bring their assets that have
been earned at their home front and other economies to a
degree of homogeneity across markets.
As rivals following
rivals’ around the world, these multinationals enterprises
emerge
as
an
important
driver
of
the
convergence
of
different national markets into a single global marketplace.
2.2.2 The globalization of Production
The
globalization
of
production
refers
to
the
tendency
among firms to source goods and services from different
locations around the globe to take advantage of national
differences in the cost and quality factors of production
(such as labor, energy, land and capital).
This will allow
companies
structure
to
produce
improved
and
varieties
them
compete
to
more
an
overall
cost
functionalities,
effectively
therefore
against
their
with
allowing
rivals.
Referring to Boeing Company’s latest commercial jet airliner,
the 777.
The 777 contain 132,500 major component parts
that are produced around the world by 545 suppliers.
23
Eight Japanese suppliers make parts for the fuselage, doors,
and wings; a supplier in Singapore makes the doors for the
nose landing gear; three suppliers in Italy manufacture wing
flaps; and so on.
The rationale to outsource the production requirements is to
enjoy the cost of acquisition and getting the best quality
from foreign market.
Having a global web of suppliers’ results in a better final
product, which enhances the chances of Boeing’s winning a
greater share of market for aircraft than its global rival,
Airbus.
Robert
Reich,
former
secretary
of
labor
in
the
Clinton
administration, has argued that, as a consequence of the
trend
shown
irrelevant
by
to
many
talk
companies
about
such
American
as
Boeing,
products,
it
is
Japanese
products, German products or Korean products but rather
more appropriate to say a global products due to global
contents and expertise that are found in the end products
sold in global market.
2.3 Drivers of Globalization
For
greater
globalization,
there
underlie for it to take place.
are
two
macro
factors
The first is the decline in
barriers to free flow of goods, services, and capital.
second
factor
is
technological
change,
particularly
The
the
dramatic development that has occurred in recent years in
communications, information processing, and transportation.
24
2.3.1 Declining trade and investment barriers
In the early 1920s and 1930s many of the nation-states of
the world erected formidable barriers to international trade
and foreign direct investment.
International trade occurs
when a firm exports goods and services to consumers in
another country.
Foreign direct investment occurs when a
firm invests resources in business activities outside its home
country.
Many barriers to international trade took the form
of high tariffs on imports of manufactured goods.
Such
tariffs act as protectionism for local industries.
The consequent event to one country’s protectionism will be
retaliated
by
the
other
country
with
the
same
effect.
Ultimately, this depressed world demand and contributed to
the Great Depression of the 1930s.
After World War II, the West under US leadership committed
in removing barriers to the free flow of goods, services, and
capital between nations.
This goal was enshrined in the
treaty known as the General Agreement on Tariffs and
Trade (GATT).
Under the umbrella of GATT, there have
been eight rounds of negotiations between member states,
which now number more than 130.
The most recent round of
negotiations, known as the Uruguay Round, was completed
in December 1993.
The Uruguay Round further reduced trade barriers, extended
GATT to cover services as well as manufactured goods;
provided enhanced protection for patents, trademarks, and
copyrights; and established the World Trade Organization
(WTO) to police the international trading system.
25
Table 2.1 shows the reduction of average tariffs rates for
manufactured goods due to GATT agreements.
Table 2.1: Average Tariffs Rates on Manufactured Products
as Percent of Value
191
195
199
200
3
0
0
0
France
21
18
5.9
3.9
Germany
20
26
5.9
3.9
Italy
18
25
5.9
3.9
Japan
30
-
5.3
3.9
Holland
5
11
5.9
3.9
Sweden
20
9
4.4
3.9
Britain
-
23
5.9
3.9
United
44
14
4.8
3.9
States
Source: “Who Wants to Be a Giant?” The Economist, June 24, 1995, pp. 3-4
Further,
many
countries
have
also
moved
into
removing
restrictions on barriers to foreign direct investment (FDI).
According to statistics from the United Nations, between
1991 and 1996 more than 100 countries made 599 changes
in legislation governing FDI.
Some 95 percent of these
changes involved liberalizing a country’s foreign investment
regulations to make it easier for foreign companies to enter
the markets.
The above trends facilitate both globalization of markets and
the globalization of production.
The reduction of barriers to
entry to foreign nations allows companies to view world as a
market rather than a single country.
26
The lowering of trade and investment barriers also allows
firms to base individual production activities at the optimal
site for that activity, serving the world market from that
location.
Thus, a company might design in one country,
produce the component in another nation, and assemble the
end product in third country and eventually market to the
entire world.
2.3.2 The role of technological change
Since the end of World War II, major advances has taken
place
in
communications,
transportation
information
technology,
including
processing,
the
and
explosive
emergence of the Internet and World Wide Web.
In the
words of Renato Ruggiero, director-general of the World
Trade Organization:
“Telecommunications
is
creating
a
Transport is creating a global village.
global
audience.
From Buenos Aires to
Boston to Beijing, ordinary people are watching MTV, they’re
wearing
Levi’s
jeans,
and
they’re
listening
on
Sony
Walkmans as they commute to work.”
Perhaps
the
globalization
single
has
microprocessor.
predicts
that
the
most
been
important
the
innovations
development
affecting
of
the
A phenomenon known as Moore’s Law
power
of
microprocessor
technology
doubles and its costs of production fall by half every 18
months.
27
Not only has it enabled the explosive growth of high-power,
low cost computing, but also it has vastly increased the
amount of information that can be processed by individuals
and firms
Further, over the past 30 years developments in satellite,
optical fiber, wireless technology, now the Internet and the
World Wide Web have revolutionized global communications.
As this happens, the costs of global communications falls
rapidly,
which
lowers
the
costs
of
coordinating
and
controlling a global organization.
To
facilitate
the
creation
of
the
global
electronic
marketplace, many on-line commerce and media companies
are moving into global arena.
For example, the three largest
American on-line companies, AOL, Amazon.com, and Yahoo!
are establishing overseas properties.
World
Trade
Organization
rules,
They are aided by
which
currently
prohibit
countries from placing a tax on cross-border sales executed
via the Web.
Besides
new
development
in
communications
technology,
several major innovations in transportation technology have
occurred since World War II.
In economic terms, the most
important are the development of commercial jet aircraft and
super
freighters
and
the
introduction
of
containerization,
which greatly simplifies transshipment, from one mode of
transport to another. Containerization has revolutionized the
transportation business significantly by lowering the costs of
shipping goods over long distances.
28
2.4 The Changing Demographics of the Global Economy
Accompanying the trend toward globalization has been a
dramatic change in the demographics of the global economy
over the past 30 years or so.
2.4.1 The changing world output and world trade picture
In the early 1960s the United States was still by far the
world’s
dominant industrial power.
By 1997, the United
States accounted for only 20.8 percent (see Table 2.2).
The table indicated that other countries, particularly Asian
countries are also having economic growth at a much faster
phase compare to countries like United States and German.
Other countries that markedly increased their share of world
output
included
South Korea.
China,
Thailand,
Malaysia,
Taiwan,
and
On top of this, China is emerging as an
economic colossus by virtue of its huge population and rapid
industrialization.
Many economists forecasts for 20 years into the future a
rapid rise in the share of world output accounted for by
developing nations such as China, India, Taiwan, Indonesia,
Thailand,
South
Korea,
and
Brazil
and
a
commensurate
decline in the share enjoyed by rich industrialized countries
such as Britain, Germany, Japan, and the United States.
29
Table 2.2: The Changing Pattern of World Output and Trade
Country
Share of World
Share of World
Share of World
Output, 1963
Output, 1997
Output, 1998
States
40.3%
20.8%
12.7%
Japan
5.5
8.3
7.26
Germany
9.7
4.8
10.0
France
6.3
3.5
5.7
Kingdom
6.5
3.2
5.1
Italy
3.4
3.2
4.5
Canada
3.0
1.7
4.0
China
NA
11.3
3.4
South
NA
1.7
2.45
United
United
Korea
Source:
Export
data
from
World
Trade
Statistics, 1996 (Geneva: WTO, 1996).
Organization,
Annual
Report,
1999
and
World output data from CIA fact book,
1999.
The
following
figure
2.1
clearly
indicates
the
gigantic
movement in world trade undertaken by China, which could
be a big threat to developed nations.
30
Figure
2.1:
merchandise
Share
of
China
exports
and
in
selected
imports,
2000
economies’
and
2004
(percentage share)
Source: World Trade Organization
2000
2004
2.4.2 The changing foreign direct investment picture
In 1960s, United States firms accounted for 66.3 percent of
worldwide foreign direct investment while British firms were
in second and Japanese was in eighth placing with only 2
percent. However, as the barriers to free flow of goods,
services, and capital fell, and as other countries increased
their
shares
of
began to invest
reasons
for
world
output,
non-US
firms
across international borders.
such
a
diverse
activity
is
to
increasingly
The main
make
they
production plants at optimal locations and to build a direct
presence in major foreign markets.
31
Looking at the trend of 1980-1997, the increasing incidences
of
cross
rather
border
than
investments
rich
are
directed
industrialized
at
nations.
developing
Among
the
developing nations, China has received the greatest volume
of inward FDI in recent years.
China received a record high
of US$45 billion of the investment that went to developing
nations in 1997.
Other developing nations receiving large
amount of FDI in 1997 included Indonesia, Malaysia, the
Philippines, Thailand and Mexico.
2.4.3 The changing nature of the multinational enterprise
A
multinational
enterprise
is
a
business
that
productive activities in two or more countries.
has
Ever-since
1960s, there have been two notable trends in demographics
of the multinational enterprises.
of
non-US
multinationals
The first has been the rise
multinationals,
and
the
second
particularly
is
the
Japanese
growth
of
mini-
multinationals.
Table
2.3
clearly
indicates
that
the
trend
of
national
composition of the largest multinationals have changed from
1973 to 1997, from being U.S. firms to other nations.
32
Table
2.3:
The
National
Composition
of
the
Largest
Multinationals
Of the Top 260 in
Of the Top 500 in
1973
1997
126 (48.5%)
162 (32.4%)
9 (3.5)
126 (25.2)
Britain
49 (18.8)
34 (6.8)
France
19 (7.3)
42 (8.4)
Germany
21 (8.1)
41 (8.2)
United
States
Japan
Source:
The
1973
figures
from
Hood
and
Young,
Multinational Enterprise (New York: Longman, 1979).
The
Economics
of
the
The 1997 figures from “The
Global 500” Fortune, August 4, 1997, pp.130-31.
2.4.4 The changing world order
On the other hand, international business is conducted not
just
by
large
firms
but
also
by
medium-size
and
small
enterprises such as Swan Optical and Cardiac Science of
United States.
Between 1989 and 1991 a series of remarkable democratic
revolutions swept the Communist world.
Many of the former
Communist nations of Europe and Asia seem to share a
commitment
to
economics.
If
nations,
which
democratic
these
are
politics
changes
still
are
under
and
free
consistent
the
market
to
communism,
other
the
opportunities for international businesses may be enormous.
China suppressed its own pro-democracy movement in the
bloody Tiananmen Square massacre of 1989.
33
Despite this, China is moving aggressively into free market
that can be witnessed on the Southern Chinese province of
Guangong, where these reforms have been pushed to the
furthest.
In Latin America, both democracy and free market reforms
also seem to have taken hold.
managed
by
dictators
foreign firms.
and
Most of these countries were
disallow
direct
investment
by
Due to this, Latin America was characterized
by low growth, high debt, and hyperinflation.
This has been
changing in recent years where the state owned companies
are being sold to private sector to improve its efficiencies
and productivities.
2.5 Managing in the Global Marketplace
An
international
business
international
trade
international
business
importing.
global
or
is
any
investment.
as
long
as
economy,
to
transactions
that
Any
engages
firm
they
are
can
in
be
in
exporting
or
As the world shifts toward a truly integrated
more
firms
both
becoming international businesses.
need
firm
recognize
by
the
large
small
are
Managers of these firms
importance
understanding
and
different
of
cross-border
cultural,
political
systems, economic systems, legal systems, and levels of
economic development.
Differences among countries require
that an international business vary its practices from country
to country.
34
2.6 Summary
Over
the
past
two
decades
we
have
globalization of markets and production.
witnessed
the
Two factors seem
to underlie the trend toward globalization: declining trade
barriers
and
changes
in
communication,
information
and
transportation technologies.
35
Chapter 3: International Trade Theory
Learning objectives:
1. To understand the major theories of international trade.
2. To discuss how global efficiency can be increased through
free trade.
3. To understand how governments limit trade with other
countries.
4. To understand the types of non-trade barriers.
3.1 Introduction
Authorities in all countries wrestle with the question of what,
how much, and with whom their country should import and
export.
Once they make decisions, officials enact policies to
achieve the desired results.
These policies have an impact
on business because they affect which countries that can
produce
given
countries
will
domestically
country’s
products
permit
efficiently
imports
to
goods
and
produced
policies
more
influences
compete
and
against
services.
which
whether
In
products
their
turn,
a
companies’
might export to given countries, as well as what and where
companies
can
produce
in
order
to
sell
in
the
given
countries.
To
general
international
types
of
business:
theories
about
descriptive
trade
and
pertain
to
prescriptive
theories (see Table 3.1).
36
37
Table 3.1: Emphases of major theories
Trade theories have different emphases.
A “check mark (/)” indicates that a theory deals with the
question for the column, and a dash indicates that it does not.
In column 4, “yes” or “no” answers the
question at the head of the column, and a dash indicates that the theory does not address the
question.
Description of natural trade
Theory
Prescriptions of trade relationships
How
What
With whom
Should
How much
What
With whom
much is
products
does trade
governmen
should be
products
trade take
traded
are traded
take place
t control
traded
should be
place
trade
traded
Mercantilism
-
-
-
Yes
/
/
/
Neomercantilis
-
-
-
Yes
/
-
-
-
/
-
No
-
/
-
-
/
-
No
-
/
-
Country size
/
/
-
-
-
-
-
Factor
-
/
/
-
-
-
-
-
/
/
-
-
-
-
-
/
/
-
-
-
-
Dependence
-
-
-
Yes
-
/
/
Strategic
-
/
-
-
-
/
-
m
Absolute
advantage
Comparative
advantage
proportions
Product
life
cycle (PLC)
Country
similarity
trade
38
policy
Porter diamond
-
/
-
Source: International Business, Environments and Operations – 9
th
-
edition, Daniels J.D.
39
-
-
3.2 Mercantilism
Why has Sri Lanka been so dependent on raw materials
rather than manufactured products?
Mercantilism held that
a country’s wealth was measured by its holdings of treasure;
which
usually
meant
its
gold.
According
to
the
theory,
countries should export more than they import and, if
successful, receive gold from countries that run deficits.
To
export
more
than
they
import,
governments
imposed
restrictions on most imports, and subsidized production of
many products that could otherwise not compete in domestic
or export markets.
Recently,
the
term
neomercantilism
has
emerged
to
describe the approach of countries that try to run favorable
balances of trade in an attempt to achieve some social or
political
objective.
For
instance,
a
country
may
try
to
achieve full employment by setting economic policies that
encourage its companies to produce in excess of the demand
at home and to send the surplus abroad.
Or a country may
attempt to maintain political influence in an area by sending
more merchandise to the area than it receives from, such as
a government granting aid or loans to a foreign government
to use for the purchase of the granting country’s excess
production.
In the year of 2006, the Malaysian government encourages
private firms to invest in agro-based industries such as
vegetables and rice based farming and production.
40
The changeover of a new Prime Minister and new Agriculture
and Agro-based Industries Ministry, encourages this trend by
providing various incentive programs such as pioneer status
and higher of capital allowance.
3.3 Absolute Advantage
In
1776,
Adam
Smith
questioned
the
mercantilists’
assumption that a country’s wealth depends on its holdings
of treasure.
Rather, he said, the real wealth of a country
consists of the goods and services available to its citizens.
Smith developed the theory of absolute advantage, which
holds
that
different
countries
produce
some
goods
more
efficiently than other countries, thus, global efficiency can
increase
through
free
trade.
Based
on
this
theory,
he
questioned why the citizens of any country should have to
buy domestically produced goods when they could buy those
goods more cost effectively from abroad.
Smith reasoned that if trade were unrestricted, each country
would specialize in those products that gave it a competitive
advantage.
Each country’s resources would shift to the
efficient industries because the country could not compete in
the
inefficient
ones.
Through
specialization,
countries
could increase their efficiency because of three reasons:
•
Labor could become more skilled by repeating the same
tasks
41
•
Labor would not lose time in switching from the production
of one kind of product to another.
•
Long production runs would provide incentives for the
development of more effective working methods.
A country could then use its excess specialized production
to buy more imports than it could have otherwise produced.
Although Smith believed the marketplace would make the
determination of what product a country should specialize,
he
thought
that
a
country’s
advantage
would
either
be
natural or acquired.
3.4 Comparative Advantage
In 1817, David Ricardo examined and expanded on Adam
Smith’s theory of absolute advantage to develop the theory
of
competitive
advantage.
Ricardo
reasoned
that
there
might still be global efficiency gains from trade if a country
specializes
in
those
products
that
it
can
produce
more
efficiently rather than other products – regardless of whether
other countries can produce those same products even more
efficiently.
The comparative advantage theory is accepted by most
economists and is influential in promoting policies for freer
trade.
Nevertheless,
journalists,
managers,
many
and
governmental
workers
policy
confuse
makers,
comparative
advantage with absolute advantage and do not understand
how
a
country
can
simultaneously
have
a
comparative
advantage and absolute disadvantage in the production of a
given product.
42
This misunderstanding helps to explain why managers face
uncertain governmental trade policies that effect where they
choose to locate their production.
3.5 Theory of country size
The theories of absolute and comparative advantage do not
deal with country-by-country differences in how much and
what
products
However,
will
research
be
traded
based
on
through
country
specialization.
size
helps
explain
these differences.
The theory of country size says that countries with large
land
areas
are
apt
to
have
varied
climates
and
an
assortment of natural resources, making them more selfsufficient rather than smaller countries.
Although the theory of absolute advantage ignores transport
costs in trade, these costs affect large and small countries
differently.
Normally, the farther the distance, the higher
the transportation costs.
The average distance between
production location and market is higher for the international
trade of large countries.
Transport costs make it more likely
that small countries will trade internationally because their
costs of getting products over their borders are worth the
effort.
Furthermore, countries with large economies and high per
capita
incomes
more
likely
to
produce
goods
that
use
technologies requiring long production runs.
43
This is because these countries develop industries to serve
their
large
domestic
markets,
which
in
turn
tend
to
be
competitive in export markets.
3.6 Factor-proportions theory
Eli
Heckscher
and
Bertil
Ohlin
developed
the
factor-
proportions theory based on countries’ production factors –
land, labor, and capital (funds for investment in plant and
equipment).
This theory said that differences in countries’
endowments of labor compared to their endowments of land
or capital explained differences in the cost of production
factors.
These
economists
proposed
that
if
labor
were
abundant in comparison to land and capital, labor costs
would be low relative to land and capital costs.
These
relative factor costs would lead countries to excel in the
production and export of products that used their abundant,
and therefore cheaper, production factor.
In countries in which there are many people relative to the
amount
of
land
(for
example,
Hong
Kong
and
the
Netherlands), land price is very high because it’s in demand.
Regardless
of
climate
and
soil
conditions,
neither
Hong
Kong nor the Netherlands excels in the production of goods
requiring large amount of land, such as wool or wheat.
In
countries
where
there
is
little
capital
available
for
investment and where the amount of investment per worker
is low, managers might expect cheap labor rates and export
competitiveness in products requiring large amounts of labor
relative to capital.
44
3.7 The product life cycle theory of trade
Raymond Vernon’s international product life cycle (PLC)
theory of trade states that certain kinds of
products go
through a continuum, or cycle, that consists of four stages:
•
Introduction
•
Growth
•
Maturity
•
Decline
The location of production to serve world markets will shift
internationally depending on the stage of the cycle.
Table
3.2 highlights the stages.
45
Table 3.2: International changes during a product life cycle
Overall, production and sales shift from industrial countries to emerging economies during a product’s
life cycle
L I F E
C Y C L E
INTRODUCTION
S T A G E
GROWTH
Production
In innovating (usually
In
location
industrial) country
other
innovating
MATURITY
and
DECLINE
Multiple countries
Mainly in emerging
industrial
economies
countries
Market
Mainly
location
country,
in
innovating
with
some
Mainly
in
industrial
Growth in emerging
Mainly in emerging
countries
economies
economies
Shift in export markets
Some
as
industrial countries
economy exports
Overall
Overall
exports
foreign
replaces
production
exports
decrease
in
Some
emerging
in
some markets
Competitive
Near-monopoly
factors
position
Fast growing demand
stabilized
demand
declining
demand
Number of competitors
Sales
based
uniqueness
on
increases
Number
rather
than price
of
competitors
Some
competitors
characteristics
product
becoming
more standardized
key
decreases
Number
Price
Product
is
weapon
begin price-cutting
Evolving
Price
is
very
important,
especially
emerging
46
producers
continues
in
of
decrease
to
economies
Production
Short production runs
Capital
input
increases
technology
Evolving
coincide
methods
with
runs
to
product
evolution
Long
production
using
high
capital inputs
Methods
standardized
skills
labor
and
relative
more
Highly
capital input
labor
to
Less
labor
needed
47
labor
merchandised
skill
on
long
production runs
standardized
High
Unskilled
The PLC theory holds that the location of production to
serve world shifts as products move through their life cycle.
Such products as ballpoint pens and portable calculators
have followed this pattern.
They were first produced in a
single industrial country and sold at a high price.
Then
production shifted to multiple industrial country locations to
serve those local markets.
Finally, most production is in
emerging markets, and prices have declined.
3.8 Country similarity theory
Observations of trade pattern reveal that most of the world’s
trade
occurs
among
countries
that
have
similar
characteristics, specifically among industrial, or developed,
countries.
company
The country-similarity theory says that once a
has
developed
a
new
product
in
response
to
observed markets conditions in the home market, it will turn
to markets it sees as most similar to those at home.
This
theory helps explain why road vehicles (automobiles and
small trucks) comprise both the largest category of U.S.
imports and the second largest category of U.S. exports.
Although
the
theories
regarding
country
differences
and
similarities help to explain broad world trade patterns, such
as between industrial countries and emerging economies,
they
do
little
relationships.
all
product
to
explain
specific
pairs
of
trading
Although there is no single answer to explain
flows,
the
distance
between
two
countries
accounts for many of these world trade relationships.
48
Cultural
similarity,
as
expressed
through
language
and
religion, also helps explain much of the direction of trade.
Importers and exporters find it easier to do business in a
country they perceive as being similar.
Political
relationships
and
economic
agreements
among
countries may discourage or encourage trade between them
or their companies.
3.9 Types of trade and non-trade barriers
Barriers to trade are typically divided into tariff and nontariff barriers.
Tariff barriers are official constraints on
the importation of certain goods and services in the form of
total or partial limitations or in the form of a specialized
levy.
Non-tariff barriers are indirect measures that discriminate
against
foreign
manufacturers
in
the
otherwise distort and constrain trade.
domestic
market
or
While tariff barriers
have been significantly reduced during the several decades
of the General Agreement on Tariffs and Trade (GATT)
regime, debate continues on whether similar progress has
been
made
vis-à-vis
non
tariffs
barriers
that
are
by
definition much more difficult to measure.
Sometimes, both tariff and non-tariff barriers are applied in
tandem.
India, which was once one of the most protective
markets in the world, called the combination “swadeshi,” or
“nationalist policies”.
49
This
meant,
for
instance,
prohibiting
foreign
firms
from
bidding on strategic defense projects (a tariff barrier) while
preventing those firms from winning less sensitive bids by
failing to disclose essential requirements or by publicizing
the bids in obscure local outlets unlikely to be scrutinized by
foreign firms (a non-tariff barrier).
Tariff barriers include mainly tariffs and quotas and their
derivatives as well as export controls and anti-dumping laws.
Non-tariff
barriers
are
less
transparent
and
include
administrative barriers, technical standards, foreign sales
corporations, and corrupt practices, among others.
Because
of their nature, non-tariff barriers are more difficult to argue
and negotiate.
3.10 Summary
Trade theory is useful because it helps explain what might
be
produced
competitively
in
a
given
locale,
where
a
company might go to produce a given product efficiently, and
whether governmental practices might interfere with the free
flow of trade among countries.
50
Chapter 4: Foreign Direct Investment
Learning objectives:
1. Describe
the
worldwide
patterns
of
foreign
direct
investment (FDI) and the reasons for these patterns.
2. Describe each of the theories that attempt to explain why
foreign direct investment occurs.
3. Discuss the important management issues in the foreign
direct investment decisions.
4. Explain why governments intervene in the free flow of
foreign direct investment.
5. Discuss the policy instruments that governments use to
restrict and promote foreign direct investment.
4.1 Introduction
Due to technological advancements in telecommunications
and
than
international
simply
transportation,
export
entrepreneurs
and
their
small
companies
products.
companies
can
do
more
Today,
not
just
huge
even
global
firms, can engage in foreign direct investment (FDI).
FDI
is the purchase of physical assets or a significant amount of
the ownership (stock) of a company in another country to
gain a measure of management control.
Thus at the core of
foreign direct investment are international flow of capital.
But there is wide disagreement on what exactly constitutes
to
foreign
direct
investment.
Nations
set
different
thresholds at which they classify an international capital
flow as FDI.
51
4.2 Patterns of foreign direct investment
4.2.1 Growth of foreign direct investment
Growth rates in worldwide flows of FDI throughout the early
1990s
were
approximately
inflows and outflows.
40
percent
per
year
for
both
Although FDI growth rates did slow in
1997, they seemed to be picking up steam again in the late
1990s.
There are two main reasons that accounts for the
rising tide of FDI flows over the past decade or so:
•
Globalization
•
Mergers and acquisitions
The Uruguay Round of GATT negotiations created renewed
determination
to
further
reduce
barriers
to
trade.
As
countries lowered their trade barriers, companies realized
that
they
could
now
produce
in
the
most
efficient
and
productive locations in the world, and simply export to their
markets worldwide.
This set off another round of foreign
direct investment flows into low-cost newly industrialized
and emerging nations worldwide.
Increasing globalization is
also causing a growing number of international companies
form emerging markets to undertake FDI.
For
example,
heavily
in
companies
other
headquartered
in
nations
from
in
Singapore
Taiwan
the
but
began
mid-1980s.
founded
in
investing
Acer,
Taiwan,
manufactures personal computers and computer components.
52
Just
20
years
after
it
opened
for
business,
Acer
had
spawned 10 subsidiaries worldwide and even became the
dominant industry player in many emerging markets.
The number of mergers and acquisitions (M&A) and their
exploding values also underlie the growth in foreign direct
investment flows.
occurring
in
A great deal of M&A activity has been
domestic
markets.
In
fact,
the
number
of
mergers and acquisitions throughout the world (domestic and
international) has risen from around 16,000 per year in the
ealry1990s to more than 26,000 per year in the last years of
this decade.
Many cross-border M&A deals are driven by the desires of
companies to do any or all of the following:
•
Get a foothold in a new geographic market
•
Increase a firm’s global competitiveness
•
Fill
gaps
in
companies’
production
lines
in
a
global
industry
•
Reduce
costs
in
such
areas
as
R&D,
production,
or
distribution
Consider the merger between Daimler Benz of Germany and
Chrysler of the United States.
US$39
billion,
DaimlerChrysler)
each year.
the
new
does
Though valued at around
mammoth
US$130
car
billion
in
company
worldwide
(called
sales
The deal was done for several good reasons.
First, the deal is designed to trim US$3 billion in purchasing
and research and development costs from the budget of the
new carmaker.
53
Second,
it
industry
will
with
reduce
high
underutilization.
excess
and
The
production
expanding
new
capacity
rates
company
of
will
in
an
capacity
concentrate
production at the most efficient plants and close inefficient
ones.
Finally, the deal combines the prestigious product
line of Mercedes-Benz with the economy and middle-of-theroad production line of Chrysler.
4.2.2 Worldwide flows of FDI
Although
the
industrialized
destinations
countries,
of
they
share of total worldwide FDI.
most
are
FDI
inflows
attracting
a
declining
Industrialized countries are
also the source for about 85 percent of worldwide FDI.
fact,
the
five
largest
source
are
of
FDI
(France,
In
Germany,
Japan, the United Kingdom, and the United States) account
for roughly two-thirds of investment outflows.
The East Asia and Pacific region is luring a great deal of
capital in the form of foreign direct investment.
success
at
market
liberalization
in
the
India’s
mid-1990s
was
rewarded with a tripling of FDI inflows in a single one-year
period.
in
he
Multinationals find it important to have a presence
developing
nations
of
Asia
to
tap
into
low-cost
resources and to service local markets.
The Latin America and Caribbean region is also a magnet for
FDI inflows, although the volume varies widely from one year
to another.
54
Much of this FDI’s are directed on ongoing projects with
exceptionally
privatization
large
within
investment
the
requirements
infrastructure,
mining,
such
and
as
petro-
chemical industries.
4.3 Explanations for foreign direct investment
There are four main theories that attempt to explain why
companies engage in foreign direct investment:
•
International product life cycle
•
Market imperfections
•
Eclectic theory
•
Market power
4.3.1 International product life cycle
The international product life cycle states that a company
will
begin
by
exporting
its
product
and
later
undertake
foreign direct investment as a product moves through its life
cycle.
In the new product stage, goods are produced in the
home country because of uncertain domestic demand and to
keep
production
close
developed the products.
to
the
research
department
that
In the maturing product stage, the
company directly invests in production facilities in those
countries where demand is great enough to warrant its own
production facilities.
increased
In the final standardization stage,
competition
production costs.
creates
pressures
to
reduce
In response, a company builds production
capacity in low cost developing nations to serve its markets
around the world.
55
4.3.2 Market imperfections (internalization)
A market that is said to operate at peak efficiency (prices
are as low as they can possibly be) and where goods are
readily and easily available is said to be a perfect market.
However,
perfect
markets
are
rarely,
if
ever,
seen
in
business because of factors that cause a breakdown in the
efficient
operation
of
an
industry
theory
states
called
market
imperfections.
Market
imperfections
that
when
an
imperfection in the market makes transactions less efficient
than it could be, a company will undertake foreign direct
investments
remove
the
imperfections
to
internalize
the
transaction
imperfections.
There
such
barriers
as
trade
are
and
thereby
two
market
and
specialized
knowledge.
4.3.3 Eclectic Theory
The
eclectic
theory
states
that
firms
undertake
foreign
direct investment when the features of a particular location
combine with ownership and internalization advantages to
make
a
location
appealing
for
investment.
A
location
advantage is the advantage of locating a particular economic
activity in a specific location because of the characteristics
(natural
or
acquired)
of
that
location.
An
ownership
advantage is the advantage that a company has due to its
ownership of some special asset, such as brand recognition.
An internalization advantage is the advantage that arises
from internalizing a business activity rather than leaving it
to a relatively inefficient market.
56
4.3.4 Market power
Firms often seek the greatest amount of power possible in
their
industries
relatively
to
rivals.
The
market
power
theory states that a firm tries to establish a dominant market
presence
in
investment.
an
industry
by
undertaking
foreign
direct
The benefit of market power is greater profit
because the firm is far better able to dictate the cost of its
inputs and/or the price of its output.
4.4 Management issues in the FDI decision
Decisions of whether or not
to engage in foreign direct
investment
important
involve
several
issues
regarding
management of the company and the firm’s market.
Some of
these issues are grounded in the inner workings of firms
undertaking
of
FDI
such
as
the
control
desired
over
operations abroad or the firm’s cost of production.
Others
are
a
firm
customers
or
the
they
greatly
related
competes
to
the
such
as
market
the
and
industry
preferences
of
in
which
actions of rivals.
4.4.1 Control
When
many
companies
invest
abroad
are
concerned with controlling the activities occurring in the
local market for a variety of reasons.
Perhaps the company
wants to be certain that its being marketed the same in the
local market as it is at home.
Or maybe it wants to ensure
that the selling price remains the same in both markets.
57
Because of the importance of control, many companies have
strict policies with regards to how much ownership they will
take in firms in other nations.
4.4.2 Purchase-or-build decision
Another
important
matter
for
managers
is
whether
to
purchase an existing business or build a subsidiary abroad
from the ground up called a Greenfield investment.
An
acquisition
generally
provides
the
investor
with
existing plant and equipment as well as personnel.
an
The
acquiring firm may also benefit from the goodwill that the
existing company has built up over the years and, perhaps,
brand recognition of the existing firm.
of
an
existing
business
can
In addition, purchase
perhaps
allow
for
alternate
methods of financing the purchase, such as an exchange of
stock
reduce
ownership
the
between
appeal
of
the
companies.
purchasing
the
Factors
existing
that
facilities
include obsolete equipment, poor relations with workers, and
an unsuitable location.
4.4.3 Production costs
There are many factors that affect the cost of production in
any national market.
For example, labor regulations can
increase the hourly cost of production by several times.
approach
companies
rationalized
use
production,
a
to
curb
system
of
production
production
One
cost
in
is
which
each of a product’s components are produced where the cost
of producing that component is the lowest.
58
As the role of technology as a powerful competitive factor
continues
to
grow,
subsequent
stages
companies
to
the
of
soaring
technology
engage
in
cost
has
of
led
cross-border
developing
multinationals
alliances
and
acquisitions.
4.4.4 Customer knowledge
The behaviors of buyers are frequently an important issue in
the
decision
investment.
of
whether
to
undertake
foreign
direct
A local presence might help companies gain
valuable knowledge about its customers that it could not
obtain from the home market.
4.4.5 Following clients
Firms commonly engage in foreign direct investment would
build close business relationship with their customers.
practice
of
“following
clients”
can
be
expected
This
in
industries where many component parts are obtained from
suppliers with whom a manufacturer has a close working
relationship.
4.4.6 Following rivals
In
industries
with
limited
number
resemble
as
of
large
“follow
firms,
the
FDI
decisions
frequently
leader”
scenario.
In other words, many of these firms believe that
choosing not to make a move parallel to that of the “first
mover”
might
result
in
being
shut
out
of
a
potentially
lucrative market.
59
For example, when firms based in industrial countries moved
back into South Africa following the end of apartheid, their
competitors followed.
Of course, each market can sustain
only a certain number of rivals.
Firms that cannot compete
will choose the “least damaging option”.
This seems to have
been the case for Pepsi, which went back into South Africa
in 1994, but withdrew in 1997 after being crushed by Coke.
4.5 Government intervention in FDI
Governments often intervene in the flow of foreign direct
investment
to
protect
their
cultural
heritages,
domestic
companies and jobs.
Thus nations frequently enact laws, create regulations, or
construct administrative hurdles to which companies from
other nations must adhere if they wish to invest in the
nation.
In a general sense, a bias toward protectionism or
openness
politics.
is
rooted
in
a
nation’s
culture,
history,
and
Values, attitudes, and beliefs form the basis for
much of a government’s position with regards to foreign
direct investment.
For example, South American nations
with strong cultural ties to a European heritage (such as
Argentina)
are
generally
enthusiastic
received from European nations.
about
investment
South American nations
with stronger indigenous influences (such as Ecuador) are
generally less enthusiastic.
60
4.5.1 Balance of payments
A country’s balance of payments is a national accounting
system
that
records
all
payments
to
entities
in
other
countries and all receipts coming into the nation.
The current
account
is a national account that records
transactions involving the import and export of goods and
services,
income
receipts
on
assets
abroad,
and
payments on foreign assets within the country.
income
A current
account surplus occurs when a country exports more goods,
services, and income than it imports.
running a trade surplus.
Thus the nation is
Conversely, a current account
deficit occurs when a country imports more goods, services,
and income, than it exports.
Thus the nation is running a
trade deficit.
The
capital
account
is
a
national
account
that
records
transactions involving the purchase or sale of assets
4.5.2 Reasons for host country intervention
A number of reasons underlie a government’s decision with
regards
to
companies.
foreign
direct
investment
by
international
Many international companies wish to send at
least part of its profits back to the home country.
These
capital outflows decrease the balance of payments of the
country where the investment is located.
balance
of
payments,
the
host
nation
To shore up its
may
prohibit
or
restrict the non-domestic company from removing profits to
its home country.
61
Some nations argue that although FDI may create jobs, it
may also destroy jobs because less competitive local firms
may be forced out of business.
4.5.3 Reasons for home country intervention
Home
nations
(those
from
which
international
companies
launch their investment) may also seek to encourage or
discourage outflows of FDI for a variety of reasons.
Among
the most common reasons for discouraging outward FDI are
the followings:
•
Investing
in
other
nations
sends
resources
out
of
the
home country
•
Outgoing FDI may ultimately damage a nation’s balance of
payments by taking the place of its exports.
•
Jobs
resulting
from
outgoing
investments
may
replace
jobs at home.
Under the following circumstances, home countries promote
outgoing FDI:
•
Outward FDI can increase long-run competitiveness
•
Nations may encourage FDI in industries that they have
determined to be “sunset” industries.
62
4.6 Government policy instruments and FDI
Over
range
time,
of
Table
both
host
methods
4.1
below
and
either
home
to
nations
promote
indicates
briefly
or
have
developed
discourage
these
FDI.
methods.
Governments use these tools for many reasons including
improving
balance-of-payments
positions,
acquiring
resources and in the case of outward investment, keeping
jobs at home.
Table 4.1: Methods of restricting and promoting FDI
Host countries
Methods of
Methods of
restricting FDI
promoting FDI
• Tax incentives
• Ownership
• Low interest loans
restrictions
• Performance
• Infrastructure
demands
Home countries
• Differential
rates
• Sanctions
improvements
tax
• Insurance
• Loans
• Tax breaks
• Political pressure
4.7 Summary
FDI do have advantages and disadvantages for both home
and host countries.
Businesses would only go for overseas
operation if they find the current market is saturating or
cheap cost of production can be found out of their own
country.
63
Chapter
5:
International
Politics
and
Economic
Integration
Learning objectives:
1. Compare
and
contrast
major
political
and
economic
systems and to note the linkage between these systems
2. Examine the primary reasons for the current privatization
movement, and the economic impact that this movement
has on selected countries.
3. Describe the major forms of economic integration and the
benefits to be gained from each.
4. Relate some of the steps that multinational enterprises
take to benefit from changes in economic integration.
5.1 Introduction
Politics and economics are closely linked and each can
affects the other.
A good example is the economic changes
that swept Eastern Europe.
As these countries abandoned
their communist ideologies, their centrally driven economies
started changing towards market-driven economies.
This
development would have been impossible had it not been
preceded by the requisite political change.
5.2 Political ideologies and economics
Over the past three decades there has been a dramatic
change in the political systems of many countries.
In South
America both Chile and Nicaragua have seen a return to
democracy.
64
Many
former
communist
countries
in
Eastern
Europe
are
building free-market systems.
The pressures of international
business
global
and
the
nature
of
economic
competition
eventually affect all global political systems.
An ideology is a set of integrated beliefs, theories, and
doctrines
that
helps
to
direct
the
actions
of
a
society.
Political ideology is almost always intertwined with economic
philosophy.
For example, the political ideology of the United
States is grounded in the Constitution, which guarantees the
rights of private property and the freedom of choice.
has
helped
change
in
to
lay
this
the
foundation
fundamental
for
ideology
US
This
capitalism.
would
economic environment of the United States.
alter
A
the
The same is
true, for example, for China and the former USSR republics.
To simply, the political and economic ideologies of nations
would help to explain their national economic policies.
5.2.1 Political systems
In the extreme, there are two types of political system:
democracy and totalitarianism.
Democracy is a system of
government in which the people, either directly or through
their elected officials, decide what is to be done.
Good
examples include United States and Australia.
Totalitarianism is a system of government in which one
individual or political party maintains complete control and
either
refuses
to
recognize
other
parties
or
suppresses
them.
There are a number of types of totalitarianism that
currently exist.
65
The best known is communism, in which the government
owns
all
property
and
makes
all
decisions
regarding
production and distribution of goods and services.
example
is
Cuba.
Another
form
is
The best
theocratic
totalitarianism, in which a religion group exercises total
power and represses or persecutes nonorthodox factions.
Iran and some of the sheikdoms of the Middle East are good
examples.
A third form is secular totalitarianism, in which
the military controls the government and makes decisions
which it deems to be in the best interests of the country.
example is former Iraq.
the
infrastructure
An
Political systems typically create
within
which
the
economic
system
functions.
5.2.2 Economic systems
There
are
three
basic
socialism, and mixed.
economic
systems:
capitalism,
In a market-driven economy goods
and services are allocated on the basis of demand.
If
consumers express preferences for cellular phones, more of
these products will be offered for sale.
and
EU
centrally
nations
have
determined
market-driven
economy
goods
The United States
economies.
and
services
In
a
are
allocated based on a plan formulated by a committee that
decides what is to be offered.
example.
Cuba would be a classic
The people are able to purchase only what the
government determines should be sold.
66
Market-driven
ownership.
economies
are
characterized
by
private
Most of the assets of production are in the
hands of privately owned companies that compete for market
share by offering the best quality goods and services at
competitive prices.
Centrally determined economies are
characterized by public ownership.
Most of the assets of
production are in the hands of the state and production
quotas are set for each organization.
The governments of many other mixed economies support
various
industries
through
incentives
and
financial
assistance to firms that they believe produce goods and
services
that
are
considered
important
to
the
long-run
growth of the economy.
5.3 Government control of assets
Over the last decade an increasing number of countries have
begun moving towards privatization, the process of selling
government assets to private buyers.
There
are
six
common,
and
sometimes
interdependent
reasons for countries to control business assets, a process
known as nationalization.
These include:
a) Promoting economic development
b) Earning profits for the national treasury
c) Preventing companies from going bankrupt and closing
their doors
d) Enhancing programs that are in the national interest
67
e) Increasing the political or economic control of those in
power
f) Ensuring goods and services to all citizens regardless of
their economic status
The opposite situation, privatization, can take two forms.
The
most
common
form
is
divestiture,
in
which
the
government sells its assets.
The other is contract management, in which the government
transfers
operating
responsibility
of
an
transferring the legal title and ownership.
today is toward divestiture.
industry
without
The major trend
A typical example here is toll
concessions given to private companies such as PLUS for
the new highways constructed and managed in Malaysia.
Some of the primary reasons for privatization include:
a) It
is
more
efficient
to
have
the
goods
and
services
provided by private business rather than by governmentrun companies.
b) A change in the political culture brings about a desire to
sell off these assets.
c) The company has been making money and the government
feels that there is more to be gained by selling now than
by holding on.
d) The purchase price can be used to reduce the national
debt.
68
e) The company is losing money and the government has to
assume the losses out of the national treasury.
f) The company needs research and development funds in
order
to
maintain
a
competitive
stance,
and
the
government is unwilling to make this investment.
g) International funding agencies are making assistance to
the countries conditional on a reduction in the size of the
government.
Many nations have privatization programs.
These include
countries with moderate per capita gross domestic products,
such as Argentina, Brazil, Chile, Mexico, and China, as well
as
economically
advanced
nations
such
as
the
United
States, Japan, Germany, and the United Kingdom.
All feel
that
through
their
economies
can
be
strengthened
privatization programs.
In
the
case
of
the
United
Kingdom,
privatization
deregulation has proven to be a national boon.
ago,
British
operations
so
Telecommunications
as
to
increase
began
its
and
Many years
downsizing
competitiveness
its
and
profitability.
Private firms that are willing to invest in Eastern Europe are
finding these countries prepared to offer a wide variety of
subsidies and grants.
69
The German government, for example, has announced that it
will
support
investments
and
economic
activities
in
the
eastern sector by direct and indirect subsidies.
5.4 Economic integration
Economic integration is the establishment of transnational
rules
and
regulations
that
enhance
cooperation among countries.
economic
trade
and
At one extreme, economic
integration would result in one worldwide free trade market
in which all nations had a common currency and could export
anything they wanted to any other nation.
At the other
extreme is a total lack of economic integration, in which
nations were self-sufficient and did not need to trade with
anyone.
The concept of economic integration is attractive, but there
are many implementation problems.
For example, in order to
form an economic union, the participants have to surrender
some
of
their
individual
economic
authority to set tariffs and quotas.
power,
such
as
the
Complete integration
requires a common currency or permanently fixed exchange
rates, neither are easy to initiate or maintain.
There are a number of regional economic efforts that have
been undertaken over the last 40 years, although none of
them
has
attained
total
economic
integration
except
the
European Union.
70
5.4.1 Trade creation and trade diversion
Trade
creation
occurs
when
members
of
an
economic
integration group begin focusing their efforts on those goods
and services for which they have a comparative advantage
and start trading more extensively with each other.
Trade
diversion
integration
occurs
group
when
decrease
members
their
trade
of
an
with
countries in favor of trade with each other.
economic
nonmember
One common
reason is that the removal of trade barriers among member
countries makes it less expensive to buy from companies
within
the
group,
and
continuing
trade
barriers
with
nonmember countries makes it more difficult for them to
compete.
5.4.2 Levels of economic integration
There are five levels of economic integration such as:
a) Free Trade Area
A free trade area is an economic integration arrangement in
which
barriers
removed.
to
trade
among
member
countries
are
One of the best-known free trade arrangements is
the North American Free Trade Agreement (NAFTA), a free
trade area currently consisting of Canada, the United States,
and Mexico.
71
b) Customs Union
A customs union is a form of economic integration in which
all tariffs between member countries are eliminated and a
common
trade
established.
policy
toward
nonmember
countries
is
This policy often results in a uniform external
tariff structure.
Under this agreement, a country outside the
union will face the same tariff on exports to any member
country receiving the goods.
The Caribbean Community, The
Central American Common Market (CACM) and the Andean
Pact (also see 5.4.4 (a)) are three examples.
c) Common Market
A
common
market
is
a
form
of
economic
integration
characterized by:
•
No barriers to trade among member nations
•
A common external trade policy
•
Mobility of factors of production among member countries
The best example of a successful common market is the EU
although
it
has
now
progressed
beyond
this
economic
integration and is focusing on political integration.
d) Economic Union
An economic union is a deeper form of economic integration
characterized
by
free
movement
of
goods,
services,
and
factors of production between member countries and full
integration of economic policies.
72
An economic union will:
•
Unifies
monetary
and
fiscal
policy
among
the
member
nations
•
Has a common currency
•
Employs
the
same
tax
rates
and
structures
for
all
members
e) Political Union
A political union goes beyond full economic integration, in
which all economic policies are unified, and has a single
government.
This represents total economic integration, and
it occurs only when countries give up their national powers
to leadership under a single government.
One successful
example is the United States, which combined independent
states into a political union.
5.4.3 The European Union (EU)
In
1952
six
Luxembourg,
established
European
the
the
countries
(Belgium,
Netherlands,
European
Coal
and
and
France,
West
Steel
Italy,
Germany)
Community
(ECSC) for the purpose of creating a common market that
would revitalize the efficiency and competitiveness of these
industries.
The group’s success was notable and set the
stage for further cooperative efforts.
73
The Treaty of Rome laid the foundation of the European
Union in 1957.
The six nations of the ECSC were the
original founders of the European Economic Community, and
by 1991six others had joined them (Great Britain, Denmark,
Greece,
Ireland,
Portugal,
an
Spain).
In
1995,
Austria,
Finland and Sweden joined the European Community (EC),
which was renamed the EU after the treaty of Maastricht in
1992.
The main provisions of the founding treaty of 1957
were:
a) Formation of a free trade area among the members would
be brought about by the gradual elimination of tariffs,
quotas, and other trade barriers
b) Barriers to the movement of labor, capital, and business
enterprises would eventually be removed.
c) Common agricultural policies would be adopted.
d) An
investment
fund
to
channel
capital
from
the
more
advanced regions of the bloc to the less advance regions
would be created.
One of the key goals of EU integration is the free flow of
capital, and the single European currency will help to bring
this about.
Closely linked to this goal is the establishment
of a central European bank that will regulate the money
supply and thus be able to stabilize interest rates throughout
the EU.
74
There are four major institutions that manage the EU: the
Council
of
Ministers,
the
European
Commission,
the
European Parliament, and the Court of Justice.
The EU is a powerful economic union.
Empirical studies
show that the community has created much more trade than
it has diverted from the rest of the world.
5.4.4 Other economic alliances
The following briefly examines three others:
a) Andean Pact
The trade bloc came into existence with the signing of the
Cartagena Agreement in 1969. Its headquarters are located
in
Lima,
Peru.
The
Andean
Pact
(sometimes
known
as
Ancom) is an economic union that now consists of Bolivia,
Colombia,
objectives
Ecuador,
of
the
Peru,
Ancom
and
Venezuela.
countries
were
The
to
original
integrate
themselves economically, to reduce internal tariffs, to create
a common external tariff, and to offer special concessions to
the two smallest members, Bolivia and Ecuador.
b) ASEAN
The Association of Southeast Asian Nations (ASEAN) was
founded in 1967 and includes Brunei, Indonesia, Malaysia,
the
Philippines,
Singapore,
Thailand,
Vietnam,
Laos,
Myanmar and Cambodia.
75
The Association of Southeast Asian Nations or ASEAN was
established on 8 August 1967 in Bangkok by the five original
Member Countries, namely, Indonesia, Malaysia, Philippines,
Singapore, and Thailand.
Brunei Darussalam joined on 8
January 1984, Vietnam on 28 July 1995, Laos and Myanmar
on 23 July 1997, and Cambodia on 30 April 1999.
The ASEAN Declaration states that the aims and purposes of
the Association are: (i) to accelerate the economic growth,
social
through
progress
joint
and
cultural
endeavors
partnership
in
prosperous
and
order
to
peaceful
in
development
the
spirit
strengthen
community
of
in
the
region
equality
and
the
foundation
for
a
of
Southeast
Asian
nations, and (ii) to promote regional peace and stability
through abiding respect for justice and the rule of law in the
relationship among countries in the region and adherence to
the principles of the United Nations Charter.
c) Free Trade Agreement
The United States-Canada Free Trade Agreement (FTA) of
1989 was designed to remove most trade barriers between
the two countries by the end of 1990s.
A similar pact
(NAFTA) was negotiated with Mexico in 1993.
5.5 Economic integration and strategic management
A number of strategic steps have proved particularly helpful
for MNEs to benefit from worldwide economic integration
efforts.
76
5.5.1 Joint ventures and acquisitions
One
of
the
integration
easiest
is
by
ways
of
establishing
benefiting
a
from
joint
economic
venture
company that is a member of that union.
with
a
In Europe, in
recent years, there have been numerous examples ranging
from telecommunications to automobiles to breweries.
Many brewers have found, to their regret, that it is difficult
to get customers to change brands.
This is particularly true
in countries such as Germany, England and the Netherlands,
where beer is popular.
Customers are often fiercely loyal to
local brands, and the only way of tapping into these markets
is by purchasing the brewery.
Major European brewers have
long realized this and have not hesitated to buy operations
in other countries.
A good example is the purchase of La
Cruz
Spain’s
del
Guinness.
Campro,
largest
brewery,
by
Britain’s
However, the company has a long way to go
before it will catch Heineken, which for years has been
buying small brewers on the continent.
strategies,
many
of
Europe’s
largest
As a result of such
brewers
earn
a
considerable percentage of their income from foreign sales.
5.5.2 Localization of business operations
MNEs cannot conduct business overseas in the same way
that they do at home.
77
Assuming
problems.
that
they
can,
this
often
results
in
serious
Successful localization typically focus on four
areas:
•
Products:
localization
of
products
requires
the
development, manufacturing, and marketing of goods best
suited
to
the
marketplace.
needs
of
the
local
customer
and
For example, in North America, buyers use
motorcycle primarily for leisure and sports, so they look
for high horsepower output and speed.
•
Localization
of
profits:
reinvestment
of
earnings
localization
in
the
of
local
profits
market.
is
the
In
the
United States, for example, Honda started out with an
initial
investment
of
US$250,000
and
has
gradually
reinvested its US profits.
•
Localization of production:
localization of production
involves the manufacture of goods in the host market.
Toyota provides a classic example where many years ago,
the
company
increased
capacity
at
its
Georgetown,
Kentucky plant from 380,000 vehicles up to 500,000 and
doubled its Corolla production
to
200,000
units
at
its
will
try
to
is
by
Ontario, Canada facility.
•
Localization
develop
a
encouraging
of
management:
polycentric
home
office
The
attitude.
managers
MNEs
One
to
way
learn
the
local
culture and become part of the community.
78
5.6 Summary
Political ideologies and economic systems are interwoven.
MNEs
need
to
understand
how
each
system
works
and
strategize their actions according to the market needs.
79
Chapter 6: International Culture
Learning objectives:
1. Define the term “culture” and relate why culture creates
problems for firms doing business internationally
2. Examine some of the key elements of culture, including
language,
religion,
values
and
attitudes,
customs
and
manners, material culture, aesthetics, and education
3. Describe the four dimensions that help to explain cultural
differences among countries and geographic regions
4. Present
three
of
the
most
important
culturally
related
concepts that affect the strategic management decisions
of multinational enterprises.
6.1 Introduction
The Oxford Encyclopedic English Dictionary defines culture
as:
“The art and other manifestations of human intellectual achievement
regarded collectively; the customs, civilization, and achievement of a
particular time or people; the way of life of a particular or group”
Culture
is
the
acquired
knowledge
that
people
use
to
interpret experience and to generate social behavior
Across the globe people behave differently, even when faced
with similar situations.
80
For
example
in
Japan,
politeness
is
very
important,
people frequently say “yes” when they mean “no”.
so
In the
United States, most people say what they really mean.
Part
of the answer is culture.
There is a broad consensus regarding the main features of
culture, as follows:
•
Culture is shared
•
Culture is intangible
•
Culture is confirmed by others
6.2 Elements of culture
Culture
is
a
complex,
multidimensional
subject.
In
understanding the nature, we need to examine its elements:
language,
customs,
religion,
material
values
elements,
and
attitudes,
aesthetics,
manners
and
education,
and
social institutions.
6.2.1 Language
Webster’s Dictionary definition of language is “a systematic
means of communicating ideas or feelings by the use of
conventionalized
signs,
articulate vocal sounds”.
gestures,
marks,
or
especially
Language is one of the defining
expressions of culture.
81
Language is critical to culture because it is the primary
means used to transmit information and ideas (see Table
6.1).
Knowledge of the local language can help in four
ways:
a) It permits a defined understanding of the situation.
With
direct knowledge of language, a businessperson does not
have to rely on someone else to interpret or explain.
b) Language provides direct access to local community who
are frequently more open in their communication when
dealing with someone who speak their language.
c) An understanding of the language allows the person to
pickup nuances, implied meanings, and other information
that is not being stated outright.
d) Finally,
language
helps
the
person
to
understand
the
culture better.
One
of
the
best
examples
of
the
value
of
language
is
knowing the meaning of everyday idioms and clichés.
Table 6.1: Numbers of speakers of major languages of the
world
Language family
Major
language
Indo-European
Number of speakers
(millions)
English
405
Spanish
300
Hindi
300
Bengali
195
Russian
205
82
Sino-Tibetan
Portuguese
165
German
100
French
90
Chinese
1160
Thai
50
Burmese
35
Japanese-
Japanese
125
Korean
Korean
75
Afro-Asiatic
Arabic
170
Dravidian
Telugu
80
Tamil
75
Malay-
Indonesian
150
Polynesian
Source: H.J. de Blij and A.B. Murphy. Human Geography. NY: Wiley, 1999
6.2.2 Religion
There are a number of major religions in the world, including
Catholic, Protestant, Jewish, Islamic, Hindu, Buddhist, and
Confucian (see Table 6.2).
Religion influence lifestyles,
beliefs, values, and attitudes and can have a dramatic effect
on the way people in a society act toward each other and
toward other societies culture.
Religion can also affect the work habits of people.
In Asian
countries where Confucianism is strong, this attitude is
known as the Confucian work ethic.
politics and business.
Religion also affects
For example, when the Ayatollah
Khomeini assumed control of Iran, western business soon
left
the
country
because
of
the
government’s
attitudes
toward them.
83
Further, a country’s private firm action can have impact on
its economy and future business transactions with relevant
On 30th September 2005, a private run Danish
parties.
publisher
mocked
Jyllands-Posten
the
countries
Prophet
and
various
published
Muhammad.
religious
indignation over the cartoons.
12
cartoons
Officials
bodies
have
in
that
Muslim
voiced
their
Al-Othaim Holding, one of the
largest buyer of Danish products boycott any products made
or distributed from Denmark due to the publication of the
offensive cartoons.
Arla Foods, a Danish giant food manufacturer confirmed that
this would have impact on its annual export to Saudi Arabia,
where
it
sells
an
estimated
two
billion
kroner
worth
of
products every year.
84
Table 6.2: Adherents to major world religions, by geographic region, 1996 (in millions)
Americas
Religion
Christianit
y
R. Catholic
Asia
Nort
Middl
Sout
Europ
Sub-
N.Africa/
Sout
Southea
h
e
h
e
Sahara
Southwe
h
st
n
st
Africa
Asia
208.
140.8
1
94.7
296.
409.6
253.1
5.0
24.7
90.5
East
50.0
Russi
Pacifi
a
c
110.7
15.3
2
128.6
281.
Totals
1604.
0
255.3
109.1
0.3
5.5
69.7
13.0
4.9
6.9
969.8
8
Protestant
107.
12.1
14.2
107.2
114.6
4.3
19.2
20.8
37.0
9.1
7.9
453.8
4
Orthodox
6.0
0.1
0.2
47.1
29.4
0.4
-
-
-
96.7
0.5
180.4
Islam
6.1
0.2
0.3
13.9
171.9
401.3
327.
182.6
29.3
3.2
0.2
1136.
-Sunni
6.0
0.2
0.3
11.9
164.5
260.4
1
180.1
29.3
3.2
0.2
1
-Shiite
0.1
-
-
2.0
7.4
140.9
319.
2.5
-
-
-
975.5
4
160.6
8.7
Hinduism
1.0
0.3
0.4
0.7
1.7
2.3
741.
5.9
0.3
-
0.4
754.3
168.7
151.
0.9
-
343.9
-
-
262.5
3
Buddhism
0.6
0.1
0.4
0.3
-
0.1
22.5
2
Chinese
0.1
-
0.1
0.1
-
-
0.1
9.1
253.
0
85
Sikhism
0.3
-
-
0.2
-
-
20.1
-
-
-
-
20.6
Judaism
7.4
0.2
0.7
2.1
0.1
5.1
-
-
-
2.5
0.1
18.2
Source: H.J. de Blij and A.B. Murphy. Human Geography. NY: Wiley, 1999
86
6.2.3 Values and attitudes
Values are basic convictions that people have regarding
what
is
right
unimportant.
and
wrong,
good
and
bad,
important
An attitude is a persistent tendency to feel
and behave in a particular way toward some object.
influence
and
culture,
as
seen,
for
example,
by
Values
the
value
Americans now assign to equality in the workplace that is
resulting
in
legislation
and
action
against
sexual
discrimination.
The attitudes that emanate from values directly influence
international business.
For example, Russians believe that
McDonald’s cuisine is superior to their own (value judgment)
and are thus willing to stand in long lines in order to eat at
these units (attitude).
6.2.4 Customs and manners
Customs are common or established practices.
are
behaviors
that
particular society.
are
regarded
as
Manners
appropriate
in
a
Customs dictate how things are to be
done; manners are used in carrying them out.
For example, in Arab countries, it is considered bad manners
to attempt to shake hands with a person of higher authority
unless this individual makes the first gesture to do so.
In
Latin countries, it is acceptable to show up late for a party,
whereas in England and France, promptness is valued.
87
6.2.5 Material culture
Material
culture
consists
of
objects
that
people
make.
When studying material culture, we consider how people
make things (the technologies that are involved) and who
makes them and why (the economic of the situation).
In
examining this element of a culture, we consider the basic
economic
infrastructure
such
as
the
country’s
transportation, communications, and energy capabilities; the
social
infrastructure,
which
consists
of
the
country’s
health, housing, and education systems; and the financial
infrastructure,
which
provides
banking,
insurance,
and
financial services in the society.
When doing business in technologically advanced countries,
businesses need to have up-to-date products that are either
less expensive than current offerings or which provides more
benefits.
6.2.6 Aesthetics
Aesthetics relates to the artistic tastes of a culture.
For
example, the aesthetics values of Americans are different
from those of the Chinese as reflected by the art, literature,
music,
and
understanding
artistic
a
tastes
culture,
we
differences affect behaviors.
of
the
need
two
to
peoples.
study
how
In
such
For example, opera is much
more popular in Europe than in the United States.
88
6.2.7 Education
Education
influences
many
aspects
of
culture.
Literate
people read widely and have a much better understanding of
what is happening in the world.
Additionally, higher rates of
literacy usually result in greater economic productivity and
technological advances.
infrastructure
needed
Education also helps to provide
for
developing
managerial
talents.
Simply stated, education is a critical factor in understanding
culture.
For example, in Japan and South Korea, there is a very
strong emphasis given to engineering and the sciences at
university
level.
In
Europe,
the
number
of
MBAs
has
manners
and
education
are
increased sharply over the years.
6.3 Cultural Dimension
Language,
religion,
customs,
material
elements
of
values
goods,
culture
among people.
that
and
attitudes,
aesthetics,
explain
and
behavioral
differences
Researchers have attempted to develop a
composite picture of culture by clustering these differences.
This has been done in two ways.
Some researchers have
looked at cultural dimensions that reflect similarities and
differences among cultures.
Other researchers have used
these findings to group countries into clusters of nations
with similar cultures.
89
Geert Hofstede, a Dutch researcher, has found four cultural
dimensions that help to explain how and why people from
various
cultures
behave
as
they
do.
Hofstede’s
four
dimensions are:
•
Power distance
•
Uncertainty avoidance
•
Individualism
•
Masculinity
Power
distance
is
the
degree
to
which
less
powerful
members of the organizations and institutions accept the
fact
that
power
is
not
distributed
equally.
Table
6.3
distinguishes by examples.
Table
6.3:
Power
distance:
country
examples
and
organizational implications
POWER DISTANCE
Country
LOW
HIGH
Austria,
Philippines,
Israel, Denmark
Mexico,
Sweden, Norway
Venezuela,
India,
Brazil
Centralization
Organization
Less
Greater
Flatter
Tall
Fewer
More
Smaller
Large
Structure in which
Structure in which
manual and clerical
white-collar jobs
work are equally
are valued more
pyramids
Supervisory
personnel
Wage differentials
Job value
90
valued
than blue collar
jobs
Source: adapted from G.Hofstede. Culture’s Consequences. CA: Sage, 1980
Uncertainty avoidance is the extent to which people feel
threatened
by
ambiguous
institutions
and
beliefs
situations
for
and
minimizing
or
have
created
avoiding
these
uncertainties (see Table 6.4).
Table
6.4:
Uncertainty
avoidance:
country
examples
and
organizational implications
UNCERTAINTY AVOIDANCE
LOW
HIGH
Great Britain,
Greece,
Denmark, Sweden,
Portugal,
India, United States
Japan, Peru,
Country
France
Structuring of activities
Written rules
Generalists/specialists
Variability/standardizatio
Less
More
Fewer
Moe
Generalists
Specialists
Variability
Standardization
Greater
Less
Less
More
n
Willingness to take risks
Ritualistic behavior
Source: adapted from G.Hofstede. Culture’s Consequences. CA: Sage, 1980
Individualism
themselves
dimensions
is
and
is
in
the
tendency
their
direct
of
people
to
immediate
family
only.
contrast
with
look
collectivism,
after
This
the
tendency of people to belong to groups that look after each
other in exchange for loyalty (see Table 6.5).
91
Table 6.5: Individualism/collectivism: country examples and
organizational implications
INDIVIDUALISM – COLLECTIVISM
Country
LOW
HIGH
Venezuela,
United States,
Colombia,
Australia, Great
Taiwan, Mexico,
Britain,
Greece
Canada, the
Netherlands
Organization
Employee
care
Practices
As “family”
Is more “impersonal”
Organization defends
Employees defend
employee interests
their own self-interest
Practices are based
Practices encourage
on
individual initiative
loyalty, sense of duty
and group
participation
Source: adapted from G.Hofstede. Culture’s Consequences. CA: Sage, 1980
Masculinity is the degree to which the dominant values of a
society
are
“success,
money,
and
things”.
Hofstede
measured this dimension in contrast to femininity, which is
the degree to which the dominant values of a society are
“caring
for
others,
and
the
quality
of
life”.
Table
6.6
indicates masculinity and its organizational implications.
92
Table
6.6:
Masculinity/femininity:
country
examples
and
organizational implications
MASCULINITY – FEMINITY
LOW
HIGH
Sweden,
Japan, Austria,
Denmark, Thailand,
Venezuela, Italy,
Finland, Yugoslavia
Mexico
Sex roles are minimized
Sex roles are clearly
Country
Sex roles
differentiated
Private lives
Women
in
work
Rewards
Contribution
Organizations do not
Organizations may
interfere with people’s
interfere to protect their
private lives
interests
More women in more
Fewer women are in
qualified jobs
qualified jobs
Soft, intuitive skills are
Aggression, competition,
rewarded
and justice are rewarded
Social rewards are valued
Work is valued as a
central life interest
Source: adapted from G.Hofstede. Culture’s Consequences. CA: Sage, 1980
The four dimensions described above influence the overall
culture of a society and result in a unique environment.
6.4 Cultures and Strategic Management
In deciding where to invest overseas and how to manage the
operation, MNEs are particularly interested in those aspects
of culture that will directly affect the performance of the
unit.
6.4.1 Work attitudes
Work attitudes are important to MNEs because they can
influence both the quality and quantity of employee output.
93
One researcher, commenting on the Japanese, has noted
that 100 per cent work attendance is critical, and “men and
women, in whatever role or rank, must make a commitment
to the things they do and show it by being there.
6.4.2 Achievement motivation
A second cultural factor, closely linked to work attitudes, is
achievement motivation.
Research reveals that achievement
drive in Eastern Europe is not very high.
in
former
Czechoslovakia,
for
example
Industry managers
has
much
lower
achievement drive than US managers.
6.4.3 Time and the future
A third element of culture that will affect an MNE is society’s
view of time and how it should be spent.
In some European
cultures it is important to be on time, while in other cultures
tardiness is acceptable behavior.
cultures
time
is
not
a
Similarly, in some African
constraint;
in
fact,
lateness
is
acceptable behavior.
6.4.4 Cross-cultural training
Multinationals will use information on international cultures
to train their people for foreign assignments.
Table 6.7
shows the six major types of cross-cultural training that are
used
to
prepare
different
functional
groups
for
overseas
operations.
94
Table 6.7: The frequency of training programs among US,
European, and Japanese firms
J
o b
C a
CEO
Training
J
U
programs
E
t e
g o r
y
Functional
Trouble
Operating
head
shooter
personnel
J
US
E
J
US
E
J
US
E
S
Environmental
5
57
briefing
2
Cultural
4
orientation
2
Culture
1
assimilator
0
Language
6
training
0
Sensitivity
3
3
6
28
6
54
52
57
44
38
52
31
38
67
41
52
14
31
33
19
24
28
24
10
17
14
7
10
14
9
14
19
59
72
57
36
41
52
24
48
76
0
1
3
0
1
3
5
0
3
5
1
6
24
10
4
3
10
1
7
24
7
55
1
4
21
1
4
76
5
2
training
Field
experience
4
Legend: J = Japan, US = United States, E = Europe
Source: Rosalie L. Tung, “Selection and Training Procedures of US, European,
and Japanese Multinationals”, California Management Review, Fall 1982
6.5 Summary
Culture
is
business.
an
extremely
important
force
in
international
However, culture does not explain everything and
we should not assume that all differences observed across
nations are to be attributed to culture.
Based on the preceding classifications, it is possible to calculate the “cultural
distance” among countries; however, this concept is more complex than it may
appear.
Cultural distance, in turn, influences the MNE’s internationalization
process, and its strategic decisions.
95
Chapter 7: The International Monetary Systems and
the Financial Market
Learning objectives:
1. To be familiar with the role played by the International
Monetary
Fund
(IMF)
and
World
Bank
in
the
global
monetary systems.
2. To appreciate the difference between a fixed and floating
exchange rate system.
3. To interpret on currency fluctuation.
4. To determine and predict the foreign exchange rate.
5. To
identify
what
composites
in
international
financial
markets.
6. To
recognize
how
MNEs
finance
global
operations
via
international capital markets.
7.1 Introduction
Financial markets are increasingly internationally.
Forty
years ago it was very unusual for an investor to buy the
stock of a foreign company.
Today people make portfolio
investments in foreign stocks and bonds all the time.
7.2 Currency Exchange
Companies operate and expect to be paid in the currency of
the countries in which they are located.
That means anyone
wanting to buy from a firm in another country has to acquire
some of that country’s currency first.
96
For example, if a U.S. company that operates departmental
stores wants to buy expensive wool sweaters from a British
manufacturer, it has to pay the bill in British pounds, not
U.S. dollars.
pounds.
But the American firm has only dollars, not
Clearly, to make the purchase, it has to exchange
some dollars for pounds.
We say the firm buys pounds with
dollars.
7.2.1 The foreign exchange market
The
purchase
is
accomplished
in
the
foreign
exchange
market, which is organized for the purpose of exchanging
currencies.
The foreign exchange market operates much like
other financial markets, but it isn’t located in a specific
place like a stock exchange.
Rather, it’s a network of
brokers and banks based in financial centers around the
world.
Most commercial banks are able to access the market
and provide exchange services to their clients.
7.2.2 Exchange rates
Currencies are traded at an exchange rate that, in effect, is
the
price
essence
exchange
of
of
each
the
rates
currency
foreign
like
in
terms
exchange
Table
7.1.
reciprocal rates for each currency.
of
the
market
The
is
table
other.
a
table
shows
The
of
two
The columns Units/USD
and Units/CAD provide the quantity of foreign currency that
is purchased with one U.S. or Canadian Dollar, respectively,
it is called indirect quotes.
97
Conversely, the columns USD/Unit and CAD/Unit provide the
price of one foreign currency unit in terms of U.S. Dollars
and Canadian Dollars, it is called direct quote.
The direct
and indirect quotes are reciprocal of one another.
Given the information in the table, it’s possible to develop
an exchange rate between any two currencies without going
through
dollars.
These
are
called
cross
rates.
For
example, the exchange rate between Argentina peso and
Australia
dollar
can
be
calculated
from
the
direct
quote
column of Table 7.1 as follows:
0.3246 US$ per Peso/ 0.7393 US$ per AU$ = 0.4391 AU$ per peso
98
Table 7.1: Exchange Rates on 31st March 2006
Cod
e
Currenc
y
Fcu/CA
D
Fcu/US
D
Cod
e
Currency
AUD
Australian
Dollars
Bahamian
Dollars
Brazilian
Reals
British
Pounds
Canadian
Dollars
Chilean
Pesos
Chinese
Renminbi
Colombian
Pesos
Czech
Koruna
Danish
Kroner
East
Caribbean
Dollars
European
Euros
Fijian
Dollars
FrenchAfrican
Francs
FrenchPacific
Francs
Ghanaian
New Cedis
Honduran
Lempiras
Hong
Kong
Dollars
Hungarian
Forint
Icelandic
Krona
Indian
Rupees
Indonesia
n Rupiah
Israeli
New
Shekels
Japanese
Yen
Malaysian
Ringgit
1.1841
1.3442
NZD
0.8809
1.0000
NOK
1.8706
2.1235
0.5025
0.5705
PAB
1.0000
1.1352
PEN
461.04
523.37
PHP
7.0771
8.0340
New Zealand
Dollars
Norwegian
Kroner
Pakistani
Rupees
Panamanian
Balboas
Peruvian New
Soles
Philippines
Pesos
Polish Zloty
1988.1
2256.9
RUB
20.855
23.675
5.4645
BSD
BRL
GBP
CAD
CLP
CNY
COP
CZK
DKK
XCD
EUR
FJD
XAF
XPF
GHC
HNL
HKD
HUF
ISK
INR
IDR
ILS
JPY
MYR
Fcu/CA
D
Fcu/US
D
1.3235
1.5024
5.8617
6.6542
52.770
59.905
0.8809
1.0000
2.9300
3.3261
45.086
51.181
2.7878
3.1648
Russian Rubles
24.600
27.926
RUR
Russian Rubles
24.600
27.926
6.2033
SGD
Singapore
Dollars
1.4278
1.6208
2.3697
2.6900
SKK
Slovakian
Koruna
27.218
30.898
0.7324
0.8314
SIT
Slovenian Tolar
175.28
198.98
1.5242
1.7302
5.4675
6.2067
480.54
545.51
South African
Rand
South Korean
Won
855.43
971.09
0.6108
0.6934
PKR
PLN
ZAR
KRW
87.413
99.231
8000.0
9081.6
16.645
18.895
6.8345
7.7585
XDR
Special Drawing
Rights
Sri Lankan
Rupees
Swedish Krona
90.253
102.45
6.9300
7.8669
Swiss Francs
1.1446
1.2993
TWD
Taiwanese
Dollars
28.539
32.397
Thai Baht
34.235
38.863
5.5157
6.2614
1.1896
1.3505
LKR
SEK
CHF
186.29
211.48
58.173
66.038
THB
38.850
44.103
TTD
8064.5
9154.8
4.1391
4.6987
TRY
Turkish New
Lira
1.1518
1.3075
102.58
116.45
USD
U.S. Dollars
0.8809
1.0000
3.2637
3.7050
VEB
Venezuelan
Bolivars
1890.4
2145.9
TND
Trinidad&Tobag
o Dollars
Tunisian Dinars
Source: Exchange rates appear courtesy of the Bank of Canada (http://www.bankbanque-canada.ca/)
99
7.2.3 Changing exchange rates and exchange rate risk
Exchange rates are constantly changing, sometimes quite
rapidly and by significant amounts.
Moving exchange rates
give rise to exchange rate risk, a very important facet of
international business.
can
make
or
transaction
lose
Exchange rate risk means that a firm
money
because
business deal itself.
of
on
rate
an
international
movements
aside
business
from
the
Transactions subject to exchange rate
risk as well as the companies that do such transactions are
said to have exchange rate exposure.
The exchange rates shown in the table 7.1 are spot rates,
meaning
that
transactions.
they’re
good
for
immediate,
“on
the
spot”
Sometime, major currencies also have quotes
on forward rates for one, three, and six months.
These
rates are quotes for delivery of the currency the indicated
number of months in the future.
There will be a difference
between spot and forward rates.
The difference reflects the
movement that foreign exchange brokers expect in the future
relationship between the two currencies.
For an American
firm, when a foreign currency is expected to become less
valuable in the future, the forward currency is said to be
selling at a discount over the spot currency.
In the reverse
situation, when a future dollar will buy less of the foreign
currency than a present dollar, the forward currency is said
to be selling at a premium.
100
7.3 European Currencies in the twenty-first century – the
Euro
On January 1, 2002, twelve European countries adopted a
common currency known as the Euro (Є).
is
expected
economic
to
force
help
to
better
States and Japan.
solidify
able
to
A single currency
Western
compete
Europe
with
into
the
an
United
It should also promote trade between the
countries sharing the currency because the flow of goods
between them will no longer be influenced by exchange rate
fluctuations.
The
twelve
Ireland,
participating
Italy,
nations
Finland,
are
France,
Austria,
Belgium,
Germany,
Greece,
Luxembourg, the Netherlands, Portugal, and Spain.
7.4. Supply and Demand – the source of exchange rate
movement
A currency price, like that of any commodity, is determined
by
the
interaction
of
supply
supply
and
and
demand
demand,
curves
traditionally
represented
by
like
those
in
Figure 7.1.
The intersection of the two curves determines
the market price of the commodity – in this case the direct
quote exchange rate.
101
Figure
7.1:
Foreign
Exchange:
Supply
and
Demand
for
Pounds in Terms of Dollars
Dollars (per
pound)
Supply
Demand
Exchange rate
( D o l l a r s w e a k e r w i t hdetermined
upward movement on vertical axis)
Pounds
The demand for and supply of foreign exchange between any
two
nations
stem
primarily
from
trade
and
the
flow
of
investment capital between those nations.
When companies in the United States want to buy things
(import) from another country, say Britain, they also need to
buy the currency to make their purchases.
demand for pounds.
This sets up a
At the same time, British companies
that want to buy American goods have to buy dollars with
pounds.
This sets up a supply of pounds.
Now look at Figure 7.1.
As the direct exchange rate gets
higher on the vertical axis – that is, as a pound becomes
more expensive in terms of dollars – British goods becomes
more
expensive
in
the
United
States.
That
leads
to
a
reduction in the quantity of those goods demanded by U.S.
consumers and consequently to a reduction in the needs for
pounds.
The downward slope of the demand curve in the
diagram reflects this.
102
Capital flows work in exactly the same way.
A strong dollar
makes British investments cheaper, so people want more of
them, leading to a big demand for pounds.
A weaker dollar
makes American investments cheap for the British, which
leads to a demand for more dollars and a larger supply of
pounds.
In summary, the supply and demand curves that establish
exchange rates are derived form each country’s demand for
the other country’s trade goods and investment.
In other
words, the changes of the following factors can impact on
the movement of the exchange rate:
a) Preferences in consumption
b) Government policy
c) Economic conditions
d) Speculation
e) Direct government intervention
7.5 Governments and the International Monetary Systems
Suppose a nation’s currency suddenly strengthens relative
to the currencies of other countries.
We will use the U.S.
dollar to illustrate, but the results are true for any currency.
As a result of a strengthening dollar, two things happen, one
good and the other bad.
First, imported goods become
cheaper, because a dollar buys more foreign exchange and
hence more foreign products.
That’s generally good for
consumers, and people like it.
103
At
the
same
time,
however,
expensive in other countries.
U.S.
exports
become
more
That means fewer are sold
and the demand placed on U.S. manufacturers for exported
product diminishes.
The result is a reduction in industrial
activity in the United States and eventually a loss of jobs,
which, of course, is bad.
Conversely, if the dollar weakens, foreign products become
more expensive here, which leads to a general lowering of
people’s standard of living.
However, exports increases
because they’re cheaper in other nations, and the increased
business creates jobs.
In short, the exchange rates affect the domestic economy
through two opposing forces:
•
The cost of imported goods
•
The employment generated by producing goods for export
It’s important to recognize that these opposing forces need
to be kept in balance.
Government occasionally intervenes
in foreign exchange markets to keep rates within what they
feel
are
reasonable
ranges.
They
accomplish
this
intervention by buying and selling their own currencies in
the foreign exchange market.
104
The international monetary system is a set of rules by which
countries collectively administer the exchange of currencies.
The system in place at the present time, which has been
described
above,
system.
That
is
known
means
as
floating
exchange
rates
exchange
are
rate
determined
essentially by free market forces.
The floating rate system has been in effect since the early
1970s.
time
Between the end of World War II (1945) and that
the
meaning
world
was
rates
were
on
a
fixed
fixed
by
exchange
rate
international
system,
treaty
and
administered by an organization known as the International
Monetary Fund (IMF).
Under the fixed rate system, market forces tended to push
rates around just as they do now, but each country has the
responsibility of holding its exchange rate with the U.S.
dollar nearly constant.
7.5.1 The role of the International Monetary Fund (IMF)
The IMF is an international organization of 184 member
countries.
monetary
It
was
established
cooperation,
exchange
to
promote
stability,
international
and
orderly
exchange arrangements, to foster economic growth and high
levels of employment, and to provide temporary financial
assistance to countries to help ease balance of payments
adjustment.
105
Countries were to be allowed to borrow a limited amount
from the IMF without adhering to any specific agreements.
However, extensive drawings from IMF funds would require a
country to agree to increasingly stringent IMF supervision of
its macroeconomics policies.
Heavy borrowers from the IMF
must agree to conditions concerning monetary and fiscal
policy set down by the IMF, which typically include IMF
mandated
targets
on
domestic
money
supply
growth,
exchange rate policy, tax policy, government spending, and
so on.
Since the IMF was established its purposes have remained
unchanged but its operations, which involve surveillance,
financial
developed
assistance
to
meet
and
the
technical
changing
assistance,
needs
of
its
have
member
countries in an evolving world economy.
7.5.2 The role of the World Bank
The official name for the World Bank is the International
Bank for Reconstruction and development (IBRD).
The
bank’s initial mission was to help finance the building of
Europe’s economy by providing low-interest loans.
Later, the bank turned its attention to ‘development’ and
began lending money to the less developed nations of the
Third World.
on
public
In the 1950s the bank concentrated its efforts
sector
projects.
Power
station
projects,
road
building, and other transportation investments were much in
favor.
106
During the 1960s the bank also began to lend heavily in
support of agriculture, education, population control, and
urban development.
The bank lends money under two schemes.
scheme,
money
is
raised
through
international capital market.
Under the IBRD
bond
sales
in
the
Borrowers pay what the bank
calls a market rate of interest (the bank’s cost of funds plus
a margin for expenses).
The International Development Agency (IDA), an arm of the
bank
created
Resources
in
to
subscriptions
1960,
fund
from
oversees
a
loans
are
IDA
wealthy
members
States, Japan, and Germany.
poorest countries.
second
scheme.
raised
through
such
as
the
United
IDA loans go only to the
Borrowers have 50 years to repay at an
interest rate of 1 percent a year.
7.6 International Capital Markets
Today is common for individuals and businesses to make
investments in countries other than their own.
War
II,
currency.
the
U.S.
dollar
has
been
the
Since World
world’s
leading
In a sense it functions as international money.
The dollar has this unique role because people have more
confidence in its continuing value than they have in the
value of any other country.
from
America’s
unique
This confidence no doubt stems
status
as
a
superpower
in
both
military and economic terms.
107
The Eurodollar is an American dollar deposited in a bank
outside the United States.
People deposit money in foreign
banks because their interest rates on dollar deposits are
somewhat higher than those offered by domestic banks.
The foreign banks create the Eurodollar market by lending
the
Eurodollars
to
international
companies
and
foreign
governments that have a need for American currency.
The
borrowers use Eurodollars for a variety of things, including
payment for U.S. exports, portfolio investments in American
stocks and bonds, and as a medium of exchange between
parties that don’t want to deal in their own currencies.
Eurodollars deposits don’t have to be in European banks,
they
can
be
anywhere
in
the
world.
They
are
called
Eurodollars simply because the practice started in Europe.
The deposits are typically made for fixed periods that can
range from a single day to approximately five years.
They
are also rather large starting at about US$500,000.
It is possible for companies to borrow internationally by
selling bonds outside their own countries.
outside
the
home
international bond.
country
of
the
borrower
Any bond sold
is
called
an
A bond denominated in the currency of
the country in which it is sold, but issued by a foreign
borrower is called a foreign bond.
A bond denominated in a
currency other than that of the country in which it is sold is
called a Eurobond.
Both bonds would need to be registered
by
Exchange
Securities
and
Commission
(SEC)
of
the
country it is sold.
108
7.7 Summary
Exchange
rate
international
weakening
economical
does
play
business
of
a
major
transactions.
currency
performance
a
depends
and
will
role
in
deciding
Strengthening
on
the
influence
or
country’s
on
the
international business dealings.
109
Chapter 8: Building and Managing Global Strategic
Alliances
Learning objectives:
1. To understand the importance of global strategic alliance
(GSA) in global expansion.
2. To distinguish between equity joint ventures and nonequity (cooperative) joint ventures
3. To discuss the challenges faced by GSAs
4. To explain how firms should select appropriate partners in
foreign country.
5. To recognize how to impose control on joint ventures.
8.1 Introduction
Cooperation
between
international
firms
can
take
many
forms, such as cross licensing of proprietary technology,
sharing
projects,
of
production
and
marketing
facilities,
of
each
existing distribution networks.
are
known
collectively
arrangements
whereby
as
two
co-funding
other’s
of
research
products
using
Such forms of cooperation
strategic
or
more
alliance;
firms
business
choose
to
cooperate for their mutual benefit.
110
8.2 Types of Global Strategic Alliances (GSAs)
Global
strategic
alliances
are
cross-border
partnership
between two or more firms from different countries with an
attempt
to
pursue
mutual
resources and capabilities.
interests
through
sharing
their
Generally, there are two basic
types of GSAs:
•
Equity joint venture (EJV) – is a legally and economically
separate entity either in the same nation or from different
nations, where they jointly provide financial and other
resources for mutual success.
To set up an EJV, each
partner contributes cash, facilities, equipment, materials,
intellectual
Example,
property
the
rights,
labor,
Prudential-Mitsui
or
EJV
land-use
in
which
rights.
both
Prudential Insurance and Mitsui Trust & Banking each
have 50 percent ownership.
•
Cooperative joint venture – is a contractual agreement
whereby profits and responsibilities are assigned to each
party according to stipulations in a contract.
Cooperative
joint ventures include several sub-forms: joint exploration,
research and development consortia, and co-production,
all of which are typical forms of contractual partnerships.
8.3 Rationales for building GSAs
Firms that enter into strategic alliances usually expect to
benefit in many ways.
As summarized in Figure 8.1, there
are four potential benefits that international business may
realize from strategic alliance.
111
Figure 8.1: Benefits of Strategic Alliances
Potential Benefits
of Strategic
Alliances
Ease of market
entry
Choosing
a
overcome
government
Shared
Knowledge
and expertise
Shared risk
strategic
some
alliance
of
as
the
entrenched
intervention
and
Synergy and
competitive
advantage
entry
mode
competition,
reduce
the
costs
may
hostile
of
entry.
Many Western firms have chosen to enter the markets of the
formally communist Central and Eastern European countries
in
cooperation
obtain
with
information
existing
about
domestic
local
firms,
in
customers,
order
to
distribution
networks, and suppliers.
Today’s major industries are so competitive that no firms
have
a
guarantee
of
the
success
market or develops a new product.
when
it
enters
a
new
Strategic alliances can
be used to either reduce or control individual firms risks.
Shared risks are especially important consideration when a
firm is entering a market that has just opened up or that is
characterized by much uncertainty and instability.
A
firm
may
want
to
learn
more
about
how
to
produce
something, how to acquire certain resources, how to deal
with local governments’ regulation, or how to manage in a
different environment, where the local partner can provide
such information.
112
Firms may also enter strategic alliances in order to attain
synergy
and
advantages
competitive
reflect
discussed above.
market
entry,
collaborating
risk
firm
advantage.
combinations
of
the
These
other
related
advantages
This idea through some combination of
sharing
will
be
and
able
learning
o
potential,
achieve
more
each
and
to
compete more effectively that if it had attempted to enter a
new market or industry alone.
8.4 Challenges facing GSAs
Not every firm should build GSAs to explore globally; nor is
building GSAs as the only important strategy compared to
other
investments
methods.
McKinsey & Company and
According
Coopers
&
to
survey
Lybrand,
about
by
70
percent of GSAs fall short of expectation.
The main challenges faced in GSAs are as follows:
•
Loss of autonomy and control
•
Risk of possible leakage
•
Differences in strategic goals
•
Local partners may become global competitors
113
8.5 Selecting local partners
The
success
of
any
cooperative
undertaking
choosing the appropriate partners.
depends
on
Research suggest that
strategic alliances are more likely to be successful if the
skills
and
resources
of
the
partners
are
complementary,
each must bring to the alliance some organizational strength
the other lacks.
A firm contemplating a strategic alliance should consider at
least four factors in selecting partner:
a) Compatibility
–
the
firm
should
select
a
compatible
partner with which it can work effectively and that it can
trust.
For example, an alliance between General Electric
Corporation and German firm Siemens failed because of
incompatible management styles.
b) Nature of a potential partner’s products or services –
it is often hard to cooperate with firm in one market while
doing battle with that firm in a second market.
c) The
relative
complexities
safeness
and
of
potential
the
alliance
costs
of
failed
–
given
the
agreements,
managers should gather as much information as possible
about
a
potential
agreement.
partner
before
proceeding
with
an
For example, managers should assess the
success or failure of previous strategic alliances formed
by the potential partner.
114
d) The learning potential of the alliance – partners should
also assess the potential to learn from each other.
At the
same time, however, each partner should carefully assess
the value of its own information and not provide the other
partner
with
any
that
will
result
in
competitive
disadvantage for itself should the alliance dissolve.
8.6 Exercising managerial control
Parent
control
is
the
process
through
which
a
parent
company ensures that an alliance is managed in a way that
conforms to its own interest.
Parent control is realized
through share ownership and board of directors’ control.
Majority
shareholding
making in the entity.
would
confer
the
ultimate
decision
However, the minority shareholder may
be able to exercise greater managerial control if it holds a
stronger bargaining power over the majority counterpart.
Mechanisms of managerial control include the following:
a) Nomination and appointment of key personnel – control
requires knowledge of events and circumstances
b) Meetings
of
shareholders
board
have
of
more
directors
voting
–
rights
although
in
the
majority
board
of
directors meeting but at instances minority shareholders
have stronger power in decision-making.
115
c) Managerial policies and procedures – the behavior of
executives in a GSA is influences by various managerial
policies and procedures.
d) Budget
control
–
Minority
partners
can
use
various
budget control mechanism to increase overall or specific
control over GSA operations and management.
e) Provision of parent services – in order for the parent
culture and norms to be followed by the alliance, the
parent company may provide staff services and training.
It may or may not charge based on the bargaining power
between the alliance and the parent company.
f) Contract stipulations – as one of the major mechanisms
by
which
conflicts
may
enhanced,
contract
managerial
complexity
be
overcome
stipulations
in
and
performance
serve
coordinating
to
reduce
activities
for
collective goals.
g) Resource
allocation
and
control
–
resources
and
competence of the parent company provide managerial
control.
h) Interpersonal relationship – an MNE can increase its
control
personal
if
it
builds
and
relationship
maintain
with
trustworthy,
upper-level
enduring
managers
representing the partner firm.
116
8.7 Summary
GSAs have become an important vehicle for multinational
companies to further their internationalization.
Either in the
form of equity joint ventures or cooperative joint ventures,
GSAs provide MNEs with various opportunities to access to
foreign markets, learning from international firms, sharing
start-up
costs
and
project
risks,
reducing
competition, and improving local acceptance.
international
Nonetheless,
there exist many challenges in forming and managing GSAs.
117
Chapter
9:
Financial
Management
for
Global
Operations
Learning objectives:
1. To
list
down
how
financial
management
influence
the
global success of MNEs.
2. To understand the major financial management issues that
are important for global operations.
3. To
understand
the
international
financial
strategies
currently being used by multinationals.
4. To be aware the steps MNEs can take to reduce risk from
foreign exchange fluctuations.
5. Explain
how
accounting
exchange
practices
rates
and
the
influence
importance
international
of
uniform
financial statements for global business.
9.1 Introduction
International financial management encompasses a number
of key areas.
flows,
This includes the management of global cash
foreign
exchange
risk
management,
expenditure analysis and capital budgeting.
of
international
financial
management
and
capital
The objectives
strategies
is
to
provide assistance to all geographic operations and to limit
financial losses through the use of carefully formulated cash
flow guidelines, the timely execution of foreign exchange
risk management strategies, prudent capital expenditures,
and careful capital budgeting.
118
9.2 Managing global cash flows
One of the key areas of international financial management
is the careful handling of global cash flows.
number of ways in which this is done.
There are a
Three of the most
important ones include the prudent use of internal funds
flow, the use of funds positioning, and the use of multilateral
netting.
9.2.1 Internal funds flows
When an MNE wants to expand operations or fund activities,
one of the simplest ways of obtaining the needed funds is by
getting them from internal sources such as working capital.
For example, if General Motors’ German subsidiary wants to
hire more employees, it may be able to pay for this payroll
increase
out
operations.
of
the
funds
it
generates
from
ongoing
Another way of raising money internally is by
borrowing form a local bank or from the parent company.
third
way
is
by
having
the
parent
company
equity capital investment in the subsidiary.
subsidiary
investment.
would
pay
the
parent
increase
A
its
In return the
dividends
on
the
These examples are illustrated in Figure 9.1
helps to show that, there are many ways for multinational
firms to generate internal cash for operations.
119
Figure 9.1: Common example of internal sources and flow of
funds
Equity
Capital
Investment
Parent MNE
Loan
Interest
payments
Dividends,
royalties
and fees
Loan
United
Kingdom
Subsidiary
South
African
Subsidiary
Interest
payments
9.2.2 Funds position techniques
Funds positioning techniques are strategies that are used
to move funds from one multinational operation to another.
While there are a variety of approaches, three of the most
common are transfer pricing, tax havens, and fronting loans.
A
transfer
price
is
an
internal
price
that
is
set
by
a
company in intra-firm trade such as the price at which the
Chilean
subsidiary
will
purchase
electric
motors
from
German subsidiary. In the transfer pricing strategy, the final
price will be determined by local regulations and will be set
at a level that allows the MNE to achieve certain desired
goals such as to increase profit, to reduce costs, and /or to
move money among the subsidiaries.
120
A good example is provided by a multinational that has a
subsidiary located in Country A, which has a low corporate
income tax and is selling goods to a subsidiary located
Country B, which has a high tax rate.
If the transfer price is
set carefully, it is possible to reallocate taxable income
away from the highly taxed subsidiary to the subsidiary with
the
low
tax
rate.
Table
9.1
provides
an
example
by
contrasting arm’s length pricing with transfer pricing.
Table 9.1: Shifting profits by transfer pricing
“Arm’s length” price
Transfer price
Country
Country
Country
Country
A
B
A
B
Sales
10000
12000
12000
12000
Cost of sales
8000
10000
8000
12000
Profit
2000
2000
4000
-
800
1000
1600
-
1200
1000
2400
-
arrangement,
the
Tax rate
(A:
40%,
B:
50%)
Net profit
Under
a
transfer
price
objective
is
to
maximize profits in the low tax rate country and to minimize
them in the high tax rate country.
A second funds positioning techniques is the use of tax
heavens, which are low tax countries that are hospitable to
business.
This strategy is typically used in conjunction with
transfer pricing and involves a subsidiary selling its output
at a very low cost to a subsidiary in a tax haven, which in
turn sells the merchandise at a very high price to a third
subsidiary.
121
Table
9.2
provides
an
example
where
sales
are
routed
through a subsidiary located in a tax haven, Country B,
where no tax is paid at all.
Table 9.2: Transfer pricing through tax havens
Country A
Country B
Country
Subsidiar
Subsidiar
C
y
y
Subsidiar
y
Sales
8000
12000
12000
Cost of sales
8000
8000
12000
Profit
-
4000
-
Tax rate
-
-
-
0
4000
0
(A:
40%,
B:0%,
C:
50%)
Net profit
A fronting loan is funds positioning strategy that involves
having a third party manage the loan.
For example, if a US
multinational decided to set up operations in China, the MNE
might be concerned with the political risk that accompanies
such a decision.
the
parent
In an effort to protect their investments,
company
could
deposit
funds
with
a
major
international bank that has strong ties to China and is on
good
terms
with
the
government.
In
turn
the
subsidiary
would apply for a loan with this bank and the multinational
company’s deposit would be given to the subsidiary in the
form
of
a
loan.
It
is
highly
unlikely
that
the
Chinese
government would expropriate the subsidiary and endanger
the loan or its relationship with the international bank.
Thus
the MNE has successfully positioned its funds.
122
9.2.3 Multilateral netting
When subsidiaries do business with each other, each may
owe money to the others and in turn be owed money by
them.
Figure 9.2 provides an example of four subsidiaries
that have both amounts due and amount payable from each
of the others.
Over
time,
these
obligations
individual subsidiaries.
more
efficient,
many
will
be
resolved
by
the
In an effort to make the process
multinationals
have
now
set
up
clearing accounts in a certain location and assigned the
manager at this location the authority to make the transfers
that
are
obligations.
necessary
to
pay
intra-company
subsidiary
This process of multilateral netting, which
involves a determination of the net amount of money owed to
subsidiaries through multilateral transactions, begin with a
computation
of
Table
which
9.3,
the
amounts
has
been
owed
by
respective
constructed
based
information in Figure 9.2, shows these net positions.
parties.
on
the
Based
on this information, those that owe money are required to
transfer it to a centralized clearing account, whereas those
that are owed money are paid from the central account.
123
$100,000
German
Subsidiary
Chilean
Subsidiary
$50,000
$25,000
$100,000
$25,000
$100,000
$50,000
$50,000
$125,000
$25,000
Japanese
Subsidiary
Mexican
Subsidiary
$150,000
$50,000
Figure 9.2: Multilateral dollar flows between subsidiaries
Table 9.3: Net cash positions of subsidiaries
Subsidiary
Total
Total
Net positions/$
receivables/$
Payables/$
German
300000
225000
75000
Chilean
125000
150000
(25000)
Japanese
200000
275000
(75000)
Mexican
225000
200000
25000
9.3 Foreign exchange risk management
The
following
are
the
areas
that
require
attention
when
examining foreign exchange risk management:
•
Inflation and its impact on the value of foreign exchange
•
Types of exposure that exchange rates create
•
Hedging strategies that can be used to minimize risk
124
9.3.1 Inflation
Every nation faces varying degrees of annual inflation.
the
positive
attractive.
facing
side,
inflation
can
make
financial
On
liabilities
When MNEs do business in a country that is
rapid
inflation,
there
are
a
number
of
financial
strategies that they often use, such as:
a) Rapid depreciation of fixed equipment so as to recover
the value of these assets as quickly as possible.
b) Slower payment of outstanding accounts to sellers who
are taking payment in local currency, since the value of
this
currency
is
declining
and
the
longer
payment
is
postponed, the better it is for the subsidiary.
c) Greater emphasis on collecting current receivables since
this currency is losing value each month.
d) Holding
minimum
amounts
of
local
currency
while
transferring the rest of these funds into more stable or
appreciating currencies.
e) Looking for other sources of capital since local borrower
are going to be increasing the interest rate in order to
protect their real return on investment.
9.3.2 Addressing exchange rate fluctuations
MNEs will also want to reduce their exposure to exchange
rate fluctuations.
The most common forms of exposure are
translation, transaction, and economic.
125
Translation
is
statements
in
the
process
the
of
restating
currency
of
the
foreign
parent
financial
company.
Translation exposure is the foreign risk that a firm faces
when translating foreign currency’s financial statements into
the reporting currency of the parent company.
Transaction
exposure is the risk that a firm faces when paying bills or
collecting
rates.
receivables
Economic
involved
in
in
the
exposure
pricing
face
is
products,
of
the
changing
foreign
sourcing
exchange
exchange
parts,
or
risk
locating
investments in order to develop a competitive position.
9.3.3 Hedging Strategies
A
hedge
is
a
form
of
protection
movement of an exchange rate.
against
an
adverse
A hedge, therefore, is a
form of insurance that helps to minimize the risk of losses.
Operating financial strategies are designed to minimize the
effect
of
changing
exchange
rates
on
the
local
unit’s
profitability.
In an economy suffering form severe inflation and whose
currency
is
expected
to
depreciate,
for
example,
local
subsidiaries will limit credit sales and will try to collect their
receivables
as
quickly
as
possible,
because
prices
are
constantly rising and eroding the purchasing power of these
funds.
Conversely,
these
companies
will
delay
paying
obligation that are denominated in local currency because it
is cheaper to do so, but they will promptly pay all bills that
are denominated in strong currencies.
126
Business people would like to avoid risk whenever they can,
and exchange rate risk is no exception.
Most companies
prefer to operate without it and are willing to pay a premium
to do so.
The forward market provides a way to eliminate
foreign exchange risk from international transactions with a
process called hedging.
A firm that knows it will need foreign currency at some time
in the future can lock in an exchange rate by contracting
with a bank for future delivery at the appropriate forward
rate.
Once a firm writes the forward contract, exchange rate
risk is eliminated from the transaction day.
The firm is said
to have covered its obligation with a forward market hedge.
Forward
contracts
can
be
written
between
any
two
currencies, for any amount, and for any length of time.
There is a cost, however, because brokers and banks charge
fees for the service.
The forward market enables companies
to transfer foreign exchange risk to professionals who are in
the business bearing such risks.
A currency option is an instrument that gives the purchaser
the right to buy or sell a specific amount of foreign currency
at
a
predetermined
rate
within
a
specified
time
period.
Currency options are more flexible than forward exchange
contacts because the buyer does not have to exercise the
option.
127
9.4 Capital expenditure analysis and capital budgeting
Capital expenditures are major projects in which the costs
are to be allocated over a number of years.
Examples
include major acquisitions, the building of new plants, and
the refurbishing of existing equipment.
Capital budgeting
is the application of various investment tools on the capital
expenditure
to
evaluate
the
financial
viability
of
an
acquisition. Because the firm has to live with the results of
these
decisions
for
a
long
period
of
time,
mathematical
techniques of analysis are often used, including discounted
cash flow techniques such as net present value (NPV) and
internal rate of return (IRR).
Traditional
methods
such
as
payback
period
and
accounting rate of return are also employed, either as a
first-cut approximation technique or to provide additional
information.
In
fact,
the
basic
techniques
that
are
appropriate
to
domestic’s analysis are often applied to capital expenditure
analysis in multinationals as well as to foreign projects in
general.
The above investment analysis will be done by head office
rather
than
the
subsidiaries,
to
coordinate
the
best
investment for the group of companies.
MNE must do further analysis on the political risk of the
country they plan to invests and to include a discount factor
for the NPV computation, which covers all risks elements.
128
In general, the financing options open to a multinational are
greater than those of a domestic firm.
The Eurobond market
and foreign bond markets give multinationals the ability to
raise funds where the costs are the cheapest.
Moreover, the
extensive national networks of the MNEs enables them to
take advantage of local incentive programs.
regional
investment
incentives,
tax
These include
holidays
for
new
investments, export insurances, and loan guarantees.
The
result is a lower overall cost.
Government intervention can affect the profitability of a
project or it’s financing.
For example, in considering foreign
investments countries such as Australia and Canada have
foreign
investment
review
agencies,
which
review
these
investments to ensure that they benefit the local economy.
As a result, foreign investment if often focuses on factors
such
as
local
employment
quotas,
local
sourcing
of
components, the transfer of technology and a degree of local
ownership.
This
intervention
can
obviously
complicate
capital expenditure analysis.
Political risk insurance is available in most countries for
exports and foreign direct investment.
In the United States,
the Overseas Private Investment Corporation (OPIC) was
established in January 1971 to provide insurance for US
foreign investment against blocked funds, expropriation and
war,
and
insurance
analysis.
revolution
creates
In
and
another
effect,
the
insurrection.
option
that
company
has
Political
is
to
risk
available
for
decide
the
incremental value of this insurance.
129
This
is
typically
done
by
considering
how
the
MNE
can
restructure the foreign investment, such as by fronting loans
or long-term contracts at high transfer prices as alternatives
to political risk insurance.
9.5 International Accounting
Today, accounting procedure and practices must be adapted
to accommodate an international business environment.
The
Coca-Cola Company and McDonald’s both generate over half
their annual revenues from sales outside the U.S. Nestle,
the
giant
chocolate
and
food
operates throughout the world.
revenues
from
International
reliably
outside
international
the
practices
financial
affiliates,
multinational,
It derives 98 percent of its
Switzerland,
accounting
translate
products
for
its
home
global
statements
branches,
and
of
country.
firms
must
the
firm’s
subsidiaries,
and
convert data about foreign-currency transaction to dollars.
An exchange rate is the ratio at which a country’s currency
can be exchanged for other currencies.
Currencies can be
treated as goods to be bought and sold.
Like
the
price
of
any
good
or
service,
currency
change daily according to supply and demand.
exchange
rate
fluctuation
complicates
prices
Therefore,
accounting
entries
and accounting practices.
130
The International Accounting Standards Committee (IASC)
was established in 1973 to promote worldwide consistency in
financial
reporting
practices.
The
IASC
is
recognized
worldwide as the body with sole responsibility and authority
to
issue
pronouncements
on
international
accounting
standards.
9.6 Summary
When a domestic firm crosses its national borders to do
business in other countries, it enters a riskier and more
complex
environment.
A
multinational
firm
is
exposed
to
foreign exchange risk in addition to the usual business and
financial risks.
rates
of
major
In today’s global monetary system, exchange
currencies
fluctuate
rather
freely
and
on
occasion are very volatile.
Financing
international
important
area
of
trade
and
international
investments
finance
that
is
another
one
must
understand to raise funds at the lowest cost possible.
131
Chapter 10: Global Marketing
Learning objectives:
1. To determine foreign market potential.
2. To understand what adaptation is required for a product to
be sold in another country.
3. To discuss the major international considerations within
the marketing mix: product, pricing, promotion, branding,
and distribution.
4. To
discuss
the
factors
that
influence
the
distribution
channels in a foreign market.
10.1 Introduction
International markets offer vast opportunities for firms with a
product
or
a
service
potentially
in
demand
abroad.
Newness, cultural attractiveness, and appropriate marketing
strategies
can
make
a
product
welcome
in
international
markets.
Unfortunately, international markets do contain
many pitfalls and are littered with failed attempts at foreign
expansion.
1999.
Dunkin’ Donuts closed its Chinese operations in
Office Max closed its operation in Japan after four
years of continuous failures.
10.2 Market size analysis
Once companies decide to enter markets, they must then
analyze data to determine their market potential in each
country and their marketing mix to meet the potential.
132
To
determine
potential
demand,
managers
must
first
estimate the possible sales of all categories of products for
all rival companies and then estimate its own market-share
potential.
For
the
most
part,
companies
use
the
same
techniques to determine market size in foreign countries as
they use domestically.
Domestically
or
internationally,
the
major
indicators
for
potential sales of most products are present income and
population,
examine
plus
countries
the
growth
at
in
different
each.
average
Managers
income
may
levels
because, as incomes change, product demand may change.
For
example,
Korean
demand
for
apparel,
cosmetic,
and
automobiles has grown with increased per capita income, a
trend that closely parallels the experience by industrialized
countries in earlier years.
Companies
have
found
reasonably
products by using this tool.
good
fits
for
many
However, some variables other
than per capita income affects demand that the analysis
breaks down for some products in some countries.
The main
reasons are:
a) Obsolescence and leapfrogging of products – consumers
in emerging economies do not necessarily follow the same
patterns as those in higher-income countries.
b) Costs – if costs of essential products are high, consumers
may spend more than what one would expect based on per
capita income.
133
c) Income elasticity – a common tool to predict total market
potential is to divide the percentage of change in product
demand by the percentage of change in income in a given
country.
d) Substitution – consumers in a given country may have
products or services that substitute more conveniently in
some
countries
than
in
others
for
the
products
that
companies would like to sell.
e) Income inequality – where income inequality is high, the
per capita income figures are usually low because many
people have lesser income.
f) Cultural factors and taste – countries with similar per
capita income may have different preferences for products
and services because of values or tastes.
Given
all
the
above
factors,
potential demand perfectly.
managers
cannot
project
However, by considering all
these factors that may influence sale of their products, they
can make workable estimates.
10.3 Product policy
10.3.1 Product policies
For
international
product
policies
orientation,
applications,
such
customer
as
there
are
production
orientation,
five
common
orientation,
strategic
sales
marketing
orientation and societal marketing orientation.
134
With production orientation, companies focus primarily on
production,
either
efficiency
emphasis on marketing.
needs,
rather;
high
quality,
with
little
There is little analysis of consumer
companies
price or higher quality.
or
assume
customers
want
lower
Although this approach has largely
go out of vogue, it is used internationally for certain cases:
•
Commodity sales, especially those for which there is little
need or possibility of product differentiation by country
•
Passive exports, particularly those that serve to reduce
surpluses within the domestic market
•
Foreign-market segments or niches that may resemble the
market at which the product is aimed initially
Internationally sales orientation means a company tries to
sell abroad what it can sell domestically on the assumption
that
consumers
are
sufficiently
similar
globally.
The
greatest ability for a company with a sales orientation to sell
the
same
product
in
multiple
countries
occurs
when
consumer characteristics are similar and when there is a
great
deal
of
spillover
in
product
information,
such
as
between United States and Canada.
Sometimes a company wants to penetrate markets in a given
country
because
of
the
country’s
size,
growth
potential,
proximity to home operations, currency or political stability,
or any of other reasons.
In this customer orientation, the
company would move to products completely unrelated to its
existing product lines.
135
For
example,
producer,
Chilena
wanted
to
de
tap
Fosforos,
the
a
Chilean
Japanese
market
match
because
Japanese growth and size, competition within the Chilean
market, and the promotional appeal of being able to sell to
Japan.
However, because of the company was not price
competitive
chopsticks,
in
a
Japan
product
for
that
matches,
would
use
it
began
its
popular
making
forest
resources and wood-processing capabilities.
Most companies committed to continual rather than sporadic
foreign sales adopt a strategy that combines production,
sales,
and
customer
orientations.
Companies
that
don’t
make changes to accommodate the needs of foreign markets
may
lose
too
many
sales,
especially
if
aggressive
competitors are willing to make the desired adaptations.
This is termed as strategic marketing orientation.
Companies
that
with
successful
societal
marketing
international
orientations
marketing
requires
realize
serious
consideration of potential environmental, health, social and
work-related problems that may arise when selling or making
their products abroad.
10.3.2 Reasons for product alteration
There are many reasons for MNEs to alter their products to
fit the needs of customers in different countries such as:
a) Legal – the exact requirements vary widely by country but
are usually meant to protect consumers
136
b) Cultural – consumer buying behavior is complex
c) Economic – if foreign consumers lack sufficient income,
they may not be able to buy the product the MNE sells
domestically.
Table 10.1 below indicates how McDonald adjust or varied
its products at different part of the world.
Table 10.1: Product adjustments at McDonald’s
Country
Switzerlan
Adjustment
Veggie Mac, and ski-thru window in some restaurants
d
Singapore
Chicken rice, also reduced fat in foods, switched to
vegetable oil in food preparation and in French fries
Saudi
Traditional first-floor, family section on the second
Arabia
floor, all Muslim employees, non-pork menus
Portugal
Traditional bica (like espresso) served in porcelain
instead of foam cups.
Pasties de nata (Portuguese style
cakes) added to menus alongside traditional muffins and
brownies
Paraguay
Use of computers and internet in select restaurants,
McMacos, McFiesta added to menus (lower price and
smaller size)
Netherland
s
McKroket (100 percent beef ragout with crispy layer
around it, topped with fresh mustard and mayonnaise
sauce)
Mexico
Japan
McNifica, McBurrito a la Mexicana
Teriyaki McBurger (sausage patty on a bun with teriyaki
sauce)
Italy
Salads featuring Mediterranena flavors. Marinara
(shrimp and salmon in fresh lettuce)
Ireland
Shamrock shake (available during St. Patrick’s Day
celebrations)
Hong Kong
Curry potato pie, shake fries, red bean sundae
137
10.4 Pricing
A price must be low enough to gain sales, but high enough
to guarantee the flow of funds required to carry on other
activities,
such
as
R&D,
production,
and
distribution.
Pricing is more complex internationally than domestically
because of the following factors:
a) Different degrees of government intervention
Every country has laws that affect the prices of goods at
the consumer level.
A government price control may set
either maximum or minimum prices.
An example of this
type of control is in Germany, which prohibits giveaways
and discounts through coupon and boxtop specials unless
these
remain
a
consistent
policy
of
the
company
throughout the years.
b) Greater diversity of markets
In
some
countries,
a
company
may
have
many
competitors and thus little discretion in setting prices.
In
other countries, it may have a near monopoly due either
to the stage in the product life cycle or to governmentgranted manufacturing rights not held by competitors.
near-monopoly
considerable
markets,
pricing
a
company
discretion,
using
may
any
In
exercise
of
the
following:
138
• A skimming strategy
• A penetration strategy
• A cost plus strategy
Table 10.2 gives a list of prices charged differently at
different nations based on McDonalds long-term strategy.
Table 10.2: Big Mac prices in selected markets
Country
Big Mac prices (after currency
conversion)
In US$
United
2.51
States
Argentina
2.50
Australia
1.54
Brazil
1.65
Britain
3.00
Czech Rep
1.39
China
1.20
France
2.62
Hong Kong
1.31
Indonesia
1.83
Malaysia
1.19
Singapore
1.88
South Africa
1.34
Thailand
1.45
Taiwan
2.29
Source: The Economist, April 26, 2000.
c) Price escalation for exports
139
Another reason pricing is complex internationally is price
escalation.
If standard markups occur within distribution
channels, lengthening the channels or adding expenses
somewhere within the system will further increase the
price to the consumer.
d) Changing values of currencies
For companies’ accustomed to operating with one stable
currency,
pricing
in
highly
extremely troublesome.
volatile
currencies
can
be
The longer the company waits to
receive payment for its merchandise, the more important it
becomes for it to use a graduated pricing model.
For
example, Peruvian inflation in the late 1980s forced P&G
to raise its detergent prices 20 to 30 percent every 2
weeks.
P&G also eliminated its 60-day free credit to
retailers and began charging interest on 15 to 30 day
payments.
e) Differences in fixed versus variable pricing practices
MNEs often negotiate export prices, particularly to foreign
distributors.
Small
companies,
especially
those
from
emerging economies, frequently give price concessions
too quickly, limiting their ability to negotiate on a range of
marketing factors that affect their costs:
•
Discounts for quantity or repeat orders
•
Deadlines
that
increase
production
or
transportation
costs
•
Credit and payment terms
140
•
Service
•
Supply of promotional materials
•
Training of sales personnel or customers
f) Retailers strength with suppliers
Dominant retailers with clout can get suppliers to offer
them lower prices, in turn enabling them to compete on
being the lowest cost retailer.
10.5 Promotion
Promotion may be categorized as push, which uses direct
selling techniques, or pull, which relies on mass media.
An
example of push is Avon’s door-to-door selling of cosmetics;
an example of pull is magazine advertisements for a brand
of
cigarettes.
Most
marketing strategies.
companies
use
combination
of
both
From each product in each country, a
company must determine its total promotional budget as well
as the mix of the budget between push and pull.
Several factors help determine the mix of push and pull
among countries:
•
Type of distribution system
•
Cost and availability of media to reach target markets
•
Consumer attitudes toward sources of information
•
Price of the product compared to incomes
141
10.6 Branding
A brand is an identifying mark for products or services.
When a company registers a brand legally, it is a trademark.
A brand gives a product or service instant recognition and
may save promotional costs.
MNEs must make four major
branding decisions:
•
Brand versus no brand
•
Manufacturer’s brand versus private brand
•
One brand versus multiple brands
•
Worldwide brand versus local brands
Some companies, such as Coca-Cola, have opted to use the
same brand and logo globally.
Other companies, such as
Nestle, associate many of their products under the same
family of brands, such as the Nestea and Nescafe brands, in
order to share these brands in their goodwill.
Table 10.3
gives the top 10 global brands that being sold in large
number of countries.
Table 10.3: Top 10 global brands
Company
Headquarters
Brand
Philip Morris Companies Inc.
New York, NY
Marlboro
Atlanta, GA
Total Coke
Purchase, NY
Total Pepsi
Battle Creek, Mi
Kellogg’s
Camden, NJ
Campbell’s
Companies
St. Louis, MO
Budweiser
Gamble
Cincinnati, OH
Pampers
The Coca-Cola Company
Pepsi-Cola Company
Kellogg Company
Campbell Soup Company
Anhauser-Busch
Inc
The
Procter
and
Company
142
Nestle S.A.
Vaud,
Nescafe
Switzerland
The Gillette Company
Boston, MA
Gillette
New York,
Benson &
London, UK
Hedges
Philip Morris Companies Inc./
British American Tobacco
Source: ACNielson Global Services, September 2001
10.7 Distribution
Distribution is the course, physical path or legal title that
goods
take
between
international
method
of
production
marketing,
distribution
a
and
company
among
consumption.
must
countries
decide
as
well
In
on
the
as
the
method within the country where final sale occurs.
Within the marketing mix, MNEs find distribution as one of
the most difficult functions to standardize internationally for
several
reasons.
Each
country
has
its
own
distribution
system, which an MNE finds difficult to modify because it is
entwined
with
country’s
cultural
economic,
and
legal
environments.
Some
of
the
factors
that
influence
how
goods
will
be
distributed in a given country are:
•
Citizen’s attitudes toward owning their own store,
•
The cost of paying retail workers,
•
Labor legislation differentially affecting chain stores and
Individually owned stores,
•
Legislation restricting the operating hours and size of
stores,
•
The trust that owners have in their employees,
143
•
The efficacy of the postal system, and
•
The financial ability to carry large inventories.
For example, Hong Kong supermarkets, compared to those in
the United States, carry a higher proportion of fresh goods,
sell smaller quantities per customer, and are located more
closely to each other.
When sales volume is low, it is usually more economical for
a
company
external
to
handle
distribution
distributor.
by
contracting
Circumstances
with
an
to
the
conducive
internal handling of distribution include not only high sales
volume but also:
a) When a product has the characteristic of high price, high
technology, or the need for complex after-sales servicing
(such as aircraft), the producer probably will have to deal
directly with the buyer.
b) When
the
company
deals
with
global
customers,
especially in business-to-business (BSB) sales such as an
auto-parts manufacturer that sells original equipment to
the same automakers in multiple countries.
c) When the company views its main competitive advantage
to
be
its
distribution
franchisors,
maintain
its
it
methods,
eventually
own
may
distribution
such
as
franchise
outlet
to
some
food
abroad
serve
as
but
a
“flagship” such as Amway and Tupperware.
144
A company usually can choose from a number of potential
distributors.
Common criteria for selecting a distributor
include:
•
Its financial strength
•
Its good connections
•
Extent of its other business commitments
•
Current status of its personnel, facilities and equipment
When
companies
consider
launching
products
in
foreign
markets, they must determine what final consumer prices will
be to estimate sales potential.
distribution
systems,
the
Because of different national
cost
of
getting
products
consumers varies widely from one country to another.
factors
that
often
contribute
to
cost
differences
to
Five
in
distribution are:
•
Infrastructure conditions,
•
The number of levels in the distribution system,
•
Retail inefficiencies,
•
Size and operating hours restrictions, and
•
Inventory stock-outs.
10.8 Summary
Although the principles of selling abroad are the same as
those for selling domestically, the international businessman
must
deal
with
a
less
familiar
environment,
which
may
change rapidly.
145
Chapter 11: Global Human Resource Management
Learning objectives:
1. To analyze the stages of staffing undertaken by MNEs on
its way to international business.
2. To
understand
the
phases
of
internationalization
and
international human resource management.
3. To discuss the expatriation and repatriation issues faced
by home country.
4. To discuss the compensation systems for expatriate staff.
11.1 Introduction
International Human Resource Management
(IHRM) is the
procurement, allocation, utilization, and motivation of human
resources in the international arena.
IHRM is critical to the
strategy and success of global operations.
features
of
IHRM
are
multiculturalism
The distinct
and
geographic
dispersion as well as the need to address issues such as
international
taxation,
relocation,
and
foreign
culture
orientation.
11.2 Strategic IHRM
Strategic
(SIHRM)
International
is
defined
as
Human
Resource
Management
“human
resources,
management
issues, functions and policies and practices that result from
long-term
activities
of
multinational
companies
and
that
impact on global concerns and corporate objectives.
146
The SIHRM model has three orientations:
•
The adaptive system imitates local HRM practices
•
The exportive system replicates the HRM system in the
home country and other affiliates
•
The
integrative
system
emphasizes
global
integration
while permitting some local variations
An optimal SIHRM is the balancing act done by top human
resource management to link between local responsiveness
and
global
integration.
The
overall
SIHRM
strategy
is
selected between the headquarters and its affiliates at the
host
country.
The
board
of
directors
of
the
group
of
companies would determine the similarity of HRM practices
for each personnel group (see Figure 11.1)
Table 11.1 explains the evolution in the firm’s SIHRM system
based
on
businesses
product
evolve
life-cycle
through
theory.
the
IHRM
domestic,
changes
as
international,
multinational, and global phases of internationalization.
147
Figure 11.1: Model of Strategic International Human Resource Management (SIHRM)
Corporate
Employee
Group’s
HRM
Affiliate’s HRM
SIHRM
Parent’s
International
Strategy
Affiliate’s
Strategic
Role
SIHRM
Orientation
Method of
Affiliate’s
Establishment
ParentAffiliate’s
Cultural
Distance
ParentAffiliate’s
Legal Distance
Degree of Similarity of Affiliate’s HRM System to parent’s HRM
System
Top
Management’s
Beliefs
Employee
Group’s
Criticality
Degree of
Similarity of
HRM System
vis-à-vis a
Particular
Group of
Employees
Source: S. Taylor, S. Beechler, and N. Napier, Toward an integrative model of strategic international human resource
management.
Academy of Management Review, 21, 4, p. 965
148
Table 11.1: Phases of internationalization and IHRM
Phase
I
Focus on home market and export:
• Incidental
Domestic
brief
visit
for
foreign
agents/sales offices or short assignment
on a project basis.
• Product and technical competence are the
most important factor.
• Can scarcely speak of international HRM.
Phase
II
International
Focus on local responsiveness and transfer
of learning:
• Managers are assigned to posts in foreign
markets to provide general management,
technical expertise, and financial control.
• In
addition
to
technical
competence,
language skills, cross-cultural sensitivity,
and adaptability are also important.
• Host-country
nationals
are
frequently
recruited for management positions in the
areas of sales, marketing, and personnel.
Phase
III
Multinational
Focus
on
global
strategy,
low
cost,
and
price competition:
• Selections
recruiting
international
in
this
the
phase
best
positions,
focuses
managers
regardless
on
for
of
country of origin.
149
• Training and developing all members to
share the same organizational values and
norms are among HRM’s most important
tasks.
• Management
counseling,
development,
and
periodic
career
transfers
to
different assignments spearhead phase III
HRM.
Phase
IV
Focus
on
both
local
responsiveness
and
global integration:
Global
• The major issue for IHRM is how to satisfy
the
requirements
for
global
integration
and national responsiveness.
• Large measure of cultural diversity.
• IHRM
focuses
managers
the
of
offering
opportunity
to
promising
grow
and
gain experience so that an environment
for
continuous
learning
will
be
created
throughout the entire organization.
Source: N.J. Adler, Strategic human resource management: a global perspective.
In R.Pieper (Ed.), Human Resource Management: An International Comparison,
Berlin: DeGruyter, 1990.
11.3 International Managerial Staffing Needs
The extent of the firm’s internationalization and its degree of
centralization or decentralization affects its philosophy with
regards
to
the
nationality
of
its
international
managers.
Firms can hire from three groups:
150
parent-country
nationals
(PCN),
host-country
nationals
(HCN), and third-country nationals (TCN).
PCNs
are
residents
country.
Use
provides
many
typically
share
of
of
the
PCNs
in
advantages
a
international
an
to
MNE’s
the
common
business’
foreign
firm.
home
operations
Because
culture
and
PCNs
educational
background with corporate headquarters staff, they facilitate
communication
headquarters.
exploiting
and
If
new
coordination
the
firm’s
technologies
or
global
with
corporate
strategy
business
involves
techniques
that
were developed in the home market, PCNs are often best
able to graft those innovations to a host country setting.
HCNs
are
residents
of
the
host
country.
HCNs
are
commonly used by international businesses to fill middlelevel and lower level jobs, but they also often appear in
managerial and professional positions.
Finally, an international firm may hire TCNs, who are not
citizens of neither of the above.
Like PCNs, TCNs are most
likely to be used in upper-level and/or technical positions.
TCNs and PCNs collectively are known as expatriates.
11.4 Expatriation and Repatriation issues
PCNs
on
acculturation
long-term
foreign
challenges.
assignments
Working
in
and
face
coping
great
with
a
foreign culture can lead to culture shock, a psychological
phenomenon that may lead to feelings of fear, helplessness,
irritability, and disorientation.
151
Cultural
shock
reduces
an
expatriates
effectiveness
and
productivity, and so international businesses have developed
various strategies to mitigate its effects.
On
simple
solution
is
to
provide
expatriates
(and
their
families) with pre-departure language and cultural training
so they can better understand and anticipate the cultural
adjustments they must undergo.
On
the
almost
other
as
hand,
much
international
attention
to
businesses
repatriation
should
pay
(bringing
a
manager back home after a foreign assignment has been
completed) as they do to expatriation.
or
her
family
have
been
If a manager and his
successfully
expatriated,
they
become comfortable with living and working in the foreign
culture.
11.5 Performance Appraisal and compensation
11.5.1 Assessing performance in International Business
Performance appraisals of an international business’s top
managers must be based on the firm’s clear understanding
of
its
goals
for
its
foreign
operations.
In
assessing
a
manager’s actual performance, the firm may consider sales,
profit margin, market share growth, or any other measures or
indicators it deems important.
And if a subsidiary has been
having problems, performance may be more appropriately
assessed in terms of how well the manager has helped to
solve those problems.
152
11.5.2 Determining compensation in International Business
Most international businesses find it necessary to provide
expatriate managers with differential compensation to make
up for dramatic differences in currency valuation, standards
of living and lifestyle norms.
When
managers
are
on
short-term
assignments
abroad,
they are reimbursed for short-term living expenses such as
for hotel rooms, meals and transportation besides their home
country salaries.
But if a foreign assignment is indefinite or longer-term, the
following
factors
are
considered
in
the
compensations
package:
•
Cost of living allowance – this allowance is intended to
offset differences in the cost of living in the home and
host countries.
•
Hardship
premium/foreign
service
premium
–
this
supplement is essentially an inducement to the individual
to accept the international assignment (location may be
unattractive)
•
Tax equalization system – ensuring that the expatriates
after-tax income in the host country is similar to what the
person’s after-tax income would be in the home country
153
•
Special
benefits
treatment,
such
as
housing,
to
the
home
travel
education,
country,
medical
and
club
memberships
On
another
research,
there
are
three
approaches
to
expatriate compensation:
a) Home-based
compensation
system–
expatriate
salary
link to the salary structure of the home country.
For
instance, the salary of a Malaysian executive transferred
to Japan will be based on the Malaysian payroll rather
than Japanese level.
b) Host-based
expatriate
compensation
is
structured
system
based
on
–
the
salary
host
for
the
country,
however, supplemental compensation provisions are often
linked to home-country salary structure.
c) Hybrid compensation system – blends features from the
home and host based approaches.
154
Table
11.2
summarizes
the
features,
advantages,
and
disadvantages of the three approaches.
155
Table 11.2: Expatriate compensation systems
Home-based
Features
-
Host-based
consistent treatment of
-
equity with local nationals
expatriates
-
all
of
same
nationality
-
link
with
home-country
paid
the
simple administration
-
variation
in
no relationship to local
no
link
“value”
by
-
temporary
international
to
home-country
structure/economy
-
assignment (2-5 years)
conditions
-
expatriates
will
ultimately
repatriated
-
be
to
assignments
expatriates
assigned
their
tend
to
the number of different
country of origin
location
-
is
the
repatriated
number
to
of
their
different
nationalities in any one host
relatively low
location is relatively high
international
predominate
be
countries and will ultimately
be
host
to
high-pay
country of origin
nationalities in any one
-
international
are of indefinite duration
-
staff
in
higher-
level host location
-
host
equitably
link
to
home-
structure/economy
- no relationship to local
employee
Applicable
paid
country
localities
-
nationalities
- some
-
different pay levels for
different nationalities
-
nationalities
- all
same
structure/economy
-
Hybrid
country
predominate
in
local
staff
higher-level
host location jobs
156
employees
Advantages
-
expatriates neither gain
-
nor lose financially
all
employees
operate
on
expatriates
equivalent pay
nationalities
equitably
-
facilitates mobility
-
system is easy to administer
-
eases repatriation
-
all
employees,
expatriates,
including
are
paid
the
same
-
- all
- assists
are
paid
transfers
and
development
of
an
international
most
suitable
for
management cadre
international assignments of
indefinite duration
Disadvantage
-
expensive
s
-
no
-
link
- complicates reentry
to
local
pay
- most applicable when salary
structure
and living standards improve,
expatriates of the same
thereby becoming expensive
seniority from different
origins
will
be
paid
differently
-
- complicated
administration
complex
- unprotected
the
exchange
company
can
be
fluctuations
and
rate
employee
in
puts
at
- certain host-country benefits
not
applicable
to
expatriates
- difficult to transfer to lowerpaying location
Source: G.T. Milkovich and J.M. Newman, Compensation. Chicago: Irwin/McGraw-Hill, 1999
157
- sometimes
difficult
to
communicate
additional risk
are
administration
- no
link
structure
to
local
pay
11.6 Summary
Strategic
international
human
resource
management
(SIHRM) determines the degree of similarities between the
HRM
practices
of
foreign affiliates.
international
the
parent
company
and
those
of
its
IHRM changes as the firm develops its
presence
and
capabilities.
Significant
correlations exist between cultural dimensions and of the
human resource practices used in different countries.
This
represents a constraint on the MNE’s ability to globalize its
HRM policies and practices.
158
Chapter 12: Global Internet and E-Commerce
Learning objectives:
1. To
discuss
on
new
business
opportunity
by
the
introduction of Internet.
2. To summarize the Internet’s four functions.
3. To
explain
business-to-business
and
business-to-
consumer e-commerce.
4. To understand the challenges faced in Internet selling.
5. To
explain
how
global
opportunities
result
from
technological advances.
6. To explain how global e-commerce could avoid barriers to
trade, tariff and non-tariff.
12.1 Introduction - The Internet
The Internet began in 1969 as a Department of Defense,
U.S. experiment that involved networking four computers to
facilitate communications in the event of a nuclear war.
Until the early 1990s, the Internet (or Net) remained an
obscure computer network with few commercial applications.
Today,
however,
this
all-purpose,
global
network
allows
computer users anywhere to send and receive data, sound,
and video content.
Its growth has been phenomenal, with
host computers more than doubling annually.
Worldwide,
approximately 500 million people use the Internet.
159
A major factor in the Internet’s growth was the introduction
of
technology
and
software
that
provided
access to the World Wide Web (or Web).
point-and-click
The Web is an
interlinked collection of graphically rich information sources
within the larger Internet.
Web documents are organized
into Web sites composed of electronic pages that integrate
text, graphics, audio, and video elements.
Today, the Web is the most popular Internet resource.
From
just 100 Web sites in 1993, the scope of the Web has grown
at almost 30 million registered domain names.
A domain
name is a Web site address.
Online transactions generate hundreds of billions of dollars
in revenues.
In addition, many types of companies are
selling the hardware and software required for Internet use
as well as providing support service.
12.1.1 How the Internet Works
The
Internet
networks.
is
a
remarkable
system
of
cooperating
In seconds, you can send e-mail from Malaysia to
Hong Kong, search the archives of European newspapers,
plan your next vacation, gather product information, or buy a
best selling novel.
160
To
understand
how
this
complex
system
of
networks
operates, follow the journey of an e-mail message that you
send to a friend in a different country.
Your message begins
its Internet journey at your PC, where it travels through
phone lines; modems convert digital data into analog form
compatible with the phone lines.
The data arrive at the modems of your Internet Service
Provider (ISP), an organization that provides access to the
Internet through its own series of local networks.
What happens when the message reaches the recipient’s ISP
network?
The message you send is stored with the ISP’s
server, a larger, special computer that holds information and
then provides it to clients on request.
A client is another
computer or device that relies on the resources of one or
more servers for help with its own processing.
12.1.2 Using the Net’s four functions
As
Table
12.1
performed
on
gathering
and
illustrates,
the
Web
sharing,
the
are
four
primary
communication,
entertainment,
and
functions
information
business
transactions (e-commerce).
161
Table 12.1: Four functions of the Internet
Communication
Information
Entertainment
E-Commerce
•
E-Mail
•
Instant messaging
•
Chat rooms
•
Online communities
•
Telephone and video conferencing
•
Search engines
•
Online publications
•
Newsgroups
•
Portals
•
Games
•
Radio and TV programming
•
Music
•
Electronic books
•
Short movies
•
Electronic exchanges
•
Extranets and private exchanges
•
Electronic storefronts
•
Online ticketing
•
Auctions
“If you are not doing business, then you are in the Dark
Ages,
and
you
are
going
to
be
left
behind”….
John
Chambers, CEO, Cisco Systems
12.2 The scope of Electronic Commerce
Companies around the world are discovering the advantages
of e-commerce while in the process minimizing paperwork
and simplifying payment procedures.
162
As with other types of buyer-seller interaction, e-commerce
involves a chain of events for customer ands seller.
It
starts with product information; moves through the order,
invoicing, and payment processes; and ends with customer
service.
A number of innovations promote both business-to-business
and business-to-consumer e-commerce.
One is encryption
system, which enable users to gather credit card numbers
and other personal data required for completing transactions
while protecting the security of purchasers.
Another is the
growing use of broadband technologies, which enable users
to download more data at much faster speeds.
Broadband
makes technologies such as video and audio streaming more
enjoyable and thus more attractive to users.
“The question is are you creating value?
The Web and
Internet is a great place for companies of all kinds that are
creating genuine value for customers and it is a terrible
place for companies that are not”….Jeff Bezos, founder and
CEO, Amazon.com
12.2.1 Profiting from E-Commerce
Of the 208 publicly traded Net companies traced by Pegasus
Research
International,
more
than
40
percent
are
now
profitable – and the numbers are growing.
163
Profitability is most common among online retailers and
online finance companies.
Companies such as Amazon.com
and well-known auction house, ebay.com have had success
in attracting online customers to generate their profits – not
simply by cutting their costs.
In short, the business potential of e-business involves more
than
sales
Internet
transactions.
presence
to
Companies
expand
beyond
also
establish
an
their
geographical
boundaries to reach new markets; cuts cost, and improve
customer relationships.
on
the
costs.
Web,
for
Putting massive business catalogs
example,
saves
publishing
and
postage
With a few keystrokes, customers can send orders
and service requests directly from their computers to the
seller’s
computer
telemarketing
–
cutting
personnel
the
and
need
other
for
inbound
customer
service
representatives.
The two main types of e-commerce are transactions between
businesses
customers.
and
transactions
Both
business-to-business
are
between
offering
e-commerce
new
is
businesses
and
opportunities,
taking
the
but
lead.
Business-to Business transactions are fueling the growth of
e-commerce and forging new relationships along the way.
164
12.2.2 Business-to-Business Transactions leads the Way
One of the oldest applications of technology to business
transactions
is
electronic
computer-to-computer
orders,
price
data
exchanges
quotations,
and
interchanges
of
invoices,
other
sales
(EDI),
purchase
information
between buyers and sellers.
From
those
early
efforts
to
computerize
business
transactions, companies have taken the next technological
leap – to the Internet – and are reaping rewards for doing
so.
Business-to-business (B2B) e-commerce is the use of
the
Internet
organizations.
for
business
transactions
between
Over one quarter of all B2B transactions take
place on the Internet, amounting to more than $3 trillion.
In addition to generating sales revenues, B2B e-commerce
also provides detailed product description whenever they are
needed and slashes order-processing expenses.
Business-
to-business transactions, which typically involve more steps
than consumer purchases, can be much more efficient on the
Internet.
fewer
Orders placed over the Internet typically contain
errors
than
handwritten
ones,
and
once
mistakes
occur, the technology can quickly locate them.
So, the Internet is an attractive option for business buying
and selling.
In some industries, relying on the Internet to
make purchases can reduce costs by almost 25 percent.
165
Initially, companies used their Websites to conduct isolated
B2B transactions.
Today, the types of transactions and sites
have become much varied.
commerce
include
The principal forms of B2B e-
electronic
exchanges,
extranets,
and
private exchanges.
Electronic Exchanges – currently businesses are buying
and
selling
through
electronic
exchanges,
Web-based
marketplaces that cater to a specific industry’s needs.
An
example is FreeMarkets, where suppliers compete for the
business of organizational buyers who might be purchasing
anything from gears to printed circuit boards; in other words,
their
online
bidding
events
are
hosted
for
a
range
of
different sectors and industries.
Extranets and Private Exchanges – Internet commerce also
offers an efficient way for businesses to collaborate with
vendors, partners, and customers through extranets, secure
networks used for e-commerce and accessible through the
firm’s Web site by external customers, suppliers, or other
authorized
users.
Extranets
go
beyond
ordering
and
fulfillment processes by giving selected outsiders access to
internal information.
The next generation of extranets is the private exchange, a
secure Web site at which a company and its suppliers share
all types of data related to e-commerce, from product design
through delivery of orders.
“Within five years, the term “Internet Company” won’t mean
anything, because everyone will be an Internet company.
166
The
Internet
becomes
a
fundamental
part
of
your
business.”…Kim Polese, founder, Marimba Inc.
12.2.3 Online Shopping Comes of Age
The area of E-Commerce hat has consistently grabbed news
headlines
Known
and
as
attracted
new
fans
business-to-consumer
in
Internet
(B2C)
shopping.
e-commerce,
involves selling directly to consumers over the net.
by
convenience
and
improved
security
for
it
Driven
transmitting
credit-card numbers and other financial information, online
retail sales, sometimes called e-tailing, have hit $50 billion
annually, with roughly 400 million online purchases.
The top five products purchased online is:
•
Books, music and videos/DVDs
•
Apparel/clothing
•
Travel
•
Consumer electronics
•
Toys/video games
Major retailers are staking their claims in cyberspace.
Many
have set up electronic storefronts, Web sites where they
offer items for sale to consumers.
Wal-Mart received such a
positive response to the launch of its electronic storefront
that it expanded online product offerings from 2,500 to over
40,000 items.
The top 20 Web retailers, measured in terms
of the number of buyers include well-known names such as
Amazon.com,
Ticketmaster,
Barnes
&
Noble,
Sears
and
Staples.
167
Online retail selling works best for non-technical products
like flowers, books, compact discs and travel and financial
services.
some
A recent trend in online shopping is a hybrid that
call
“click’
n
pick
shopping.
Consumers
visit
electronic storefronts to order expensive items like digital
cameras and then pick up the items at a nearby retail store.
In
response
to
consumer
concerns
about
the
safety
of
sending credit card numbers over the Internet, companies
have developed secure payment systems for e-commerce.
The most common forms of online payment are electronic
cash, electronic wallets, and smart cards.
and
Microsoft
Internet
encryption systems.
data
for
security
Explorer
Both Netscape
contain
sophisticated
Encryption is the process of encoding
purposes.
When
such
a
system
is
activated, users see a special icon that indicates that they
are at a protected Web site.
12.2.4 E-Commerce Challenges
E-commerce has its problems and challenges.
Consumers
are
and
concerned
about
protecting
their
privacy
being
victimized by Internet fraud, frustrated with unreliable and
hard-to-use Web sites, annoyed over the inconveniences of
scheduling
deliveries
and
returning
merchandise.
Businesses are concerned about fair use of their trademarks
and copyrights, potential conflicts with business partners,
and
difficulty
in
measuring
the
effectiveness
of
Internet
based promotion.
168
The challenges to e-commerce are shown in Table 12.2.
Table 12.2: Roadblocks to E-Commerce
No
Challenges
Description
.
1
Privacy Issues
Consumers’
worry
that
information
about them will become available to
others without their permission.
fact,
marketing
that
piracy
Internet
research
is
the
users
impediment
top
and
to
the
In
indicates
concern
may
of
be
growth
an
of
e-
commerce.
To
prevent
such
companies
install
hardware
and
firewalls
users
to
corporate
combinations
software
keep
from
intrusions,
data.
electronic
called
unauthorized
tapping
A
into
Net
private
firewall
barrier
of
is
between
an
a
company’s internal network and the
Internet that limits access into and
out of the network.
2
Internet Fraud
The Federal Bureau of Investigation,
U.S. has reported that online auction
as
the
No.
Investment
most
1
source
scams
are
common
result,
online
online
firms
of
the
fraud.
second
crime.
need
As
to
a
work
harder to improve the image of the
Internet as a safe place to conduct
business.
3
Traffic
Jams
Caused
System Overload
by
The Internet’s increasing popularity
has also increased the likelihood of
169
delays and service outages, even as
more users depend on the links.
In
addition, hackers can tie up a Web
site with programs that flood it with
inquiries.
4
Poor
Web
site
design
and service
Web
sites
designed
are
and
not
easy
to
always
well
use.
fact
In
two thirds of web shopping carts are
abandoned before a customer places
an order.
5
Unreliable
delivery
and
returns
Retailers
making
sometimes
deliveries
consumers.
want
to
And
wait
to
trouble
on
consumers
for
delivered.
have
packages
Also
if
the
go
do
not
to
be
customers
dissatisfied with products, they then
have to arrange for pick up or send
package back them selves.
6
Lack of retail experience
Many of the so-called ‘pure play’ dot
com
retailers-
those
without
traditional stores or catalogues did
not survive very long. They had no
history
of
selling
and
satisfying
customers.
7
Competition
disagreements
and
among
buyers and sellers
Companies spend time and money to
nurture
relationships
partners.
with
their
But when a manufacturer
uses the internet to sell directly to
customers
it
can
usual partners.
compete
to
its
Pricing is another
potential area of conflict.
eagerness
with
establish
In their
themselves
as internet leaders some companies
have sold merchandise at discounted
prices.
8
Protection of Intellectual
Intellectual
property
is
difficult
to
Property
protect on the internet. Intellectual
170
property is a trademark, invention or
literally,
musical,
photographic
or
artistic,
audiovisual
work.
The open sharing of information on
line can conflict with the desire of
organization
their
to
brand
logos,
protect
the
names,
patterns
use
of
copyrights,
and
other
intellectual properties.
12.3 The Global Environment of E-Commerce
For many companies, future growth is directly linked to a
global strategy that incorporates e-commerce.
Worldwide,
people spend well over US$600 million per year online and
are soon expected to spend US$6 billion.
With so many users and so much buying power, the Internet
creates
an
Companies
enormous
can
market
pool
of
their
potential
goods
customers.
and
services
internationally and locate distribution sources and trading
partners abroad.
Cross border transactions already account
for 25 percent of all e-commerce transactions by volume,
and are predicted to grow 54 percent or roughly US$3.7
trillion by 2004.
Some small Internet firms have already
reached
of
a
unthinkable
level
a
few
globalization
years
ago.
that
U.K
would
based
have
The
been
Internet
Bookshop derives 80 percent of its sales from outside the
United
Kingdom.
international
traffic
Table
and
12.3
shows
the
percentage
of
transactions
for
a
of
number
companies.
171
Table 12.3: International on-line sales for selected firms
International
Business
Company
Software net
Industry
Software
Primary
Secondary
% Of
% Of
Audience
Audience
Traffic
Transactions
End
Suppliers
20
30
Publishers
25
25
20
20
-
30
6
-
15
-
25
25
20
-
customers
Wordsworth
Books
Books
CD Now
End
customers
Music
End
customers
Underground
Music
Music
End
Musicians
customers
Archive
Zima
Liquor
End
customers
CatalogSite
Catalogs
End
Catalog
customers
distributor
s
Individual
News
Customers an
Advertisers
Inc.
service
subscribers
, press
employees
3M
Diverse
Business
Consumer
business
market end
market end
172
products
customers
customers
and
distributors
OnSale
Consulting
Auction
Buyers and
house
sellers
Consulting
Clients and
Partners
job seekers
and
Inc.
20
20
20
-
5
3
30
-
employees
American
Venture
Entrepreneurs
Venture
Capital
and investors
Information
Buyers and
Capital
Exchange
Building
Industry
suppliers
Exchange
Source: J.A. Qelch and I.R. Klein, “The Internet and international marketing”, Sloan Management Review, Spring 1996,
60-75
173
As
a
Forrester
report
suggests,
“The
internet
removes
barriers to communication with customers and employees
created by geography, time zones and location, creating a
‘frictionless’ business environment”.
However, for that to
happen, barriers on both sides of the border need to be
removed.
For instance, the recent EU ruling that customers
could use non-EU retailers in their national courts could put
a damper on the evolution of E-commerce there.
Assuming
that
‘frictionless’
the
Internet
environment
and
and
e-commerce
that
their
scope
create
a
expands
beyond their current minor shape of international trade and
investment,
what
businesses?
would
Quite
be
possibly,
the
the
impact
on
change
international
could
be
far-
reaching.
12.4 Summary
The
Internet,
a
worldwide
network
of
interconnected
computers, removes limitations of time and place so that
transactions can occur 24 hours a day between people in
different countries.
E-commerce is the process of selling
goods and services through Intent-based exchanges of data.
The
growth
of
Internet
retailing
has
been
hampered
by
consumer security and privacy concerns, fraud and system
overload.
Technology allows companies to compete in the
global market and workplace.
Even the smallest firms can
sell products and find new vendors in international markets.
Prof. Dr. Colin Thompson
174
DDL: + 44 (0) 121 244 0306
Mobile: 07831 588310
email:colin@cavendish-mr.org
www.cavendish-mr.org
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176