International Management
product: 4331 | course code: c248|c348
International Management
© Centre for Financial and Management Studies,
SOAS, University of London
First edition 2006, revised 2007, 2009, 2010, 2011, 2013
All rights reserved. No part of this course material may be reprinted or reproduced or utilised in any form or by any electronic, mechanical,
or other means, including photocopying and recording, or in information storage or retrieval systems, without written permission from the
Centre for Financial & Management Studies, SOAS, University of London.
International Management
Course Introduction and Overview
Contents
1
Course Objectives
2
2
The Course Author
2
3
What this Course is About
2
4
An Overview of the Course
2
5
Learning Outcomes
4
6
Study Materials
4
7
Teaching and Learning Strategy
4
8
Assessment
5
Specimen Examination
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International Management
1
Course Objectives
Welcome to the course International Management. In a rapidly changing
world, companies that operate across national boundaries are increasingly
the norm: domestic businesses serving local markets tend to be smaller, less
innovative, less profitable, than those that roam the world searching for
favourable opportunities. On the other hand, there are bigger hazards in
unfamiliar territories and intelligence is required to assess markets, capital
requirements, financing methods, risk, marketing techniques, and organisational forms, to enable the opportunities to be seized.
This course aims to provide frameworks, techniques and examples to help
you participate successfully in the exciting and risky world of international
business.
2
The Course Author
Norman Flynn is Programme Director of Public Policy and Management
programmes at CeFiMS. He is the author of Miracle to Meltdown in Asia
(Oxford University Press) and, in addition to his role at SOAS, he has held
academic positions at the London Business School and the London School of
Economics, and was Chair Professor at City University of Hong Kong.
3
What this Course is About
Your study of international business strategy in this course is based
mainly on case studies of a wide variety of businesses – from Carrefour, a
European-based retailer, to Alibaba.com, a China-based web-centred intermediary for manufacturers, from Amazon, an on-line retailer, to DaimlerChrysler, a cross-border automobile manufacturer, and from Vestel, a
manufacturer exporting from one location, to Dell, a computer manufacturer
operating globally.
Some of the businesses you will study are successful, some have made big
mistakes, others are unsure about their future success. The exposure to a
variety of degrees of success will help you to assess strategic options in your
own career.
The approach is not technical: you will be introduced, for example, to the
reasons for and basis of currency hedging in cash management but will not go
into the mathematical calculations required to implement successful hedging.
4
An Overview of the Course
The course consists of eight ‘units’, each with its own core text, set readings,
questions and exercises. You will also do assignments, and have the opportunity to discuss the course with your fellow students through the Online
Study Centre.
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Course Introduction and Overview
The Structure of the Course
Unit 1
International Investment
1.1
The Economics of International Investment
1.2
International Investment
1.3
Mergers and Acquisitions
Unit 2
Choice of Entry Strategy
2.1
Strategy Basics – Cost and Value
2.2
International Strategy
2.3
Entry Strategy
2.4
Case Studies
2.5
Feedback on Case Studies
Unit 3
3.1
International Production and Sourcing
Economic Criteria
3.2
Beyond Offshoring
3.3
Case Studies
3.4
Managing the Global Supply Chain
3.5
Feedback on Case Studies
Unit 4
International Marketing
4.1
Marketing Mix
4.2
Global Marketing
4.3
Case Studies
4.4
Feedback on Case Studies
Unit 5
International Organisation
5.1
Introduction
5.2
Organisational Architecture
5.3
Strategy and Architecture
5.4
Case Studies
5.5
Feedback on Case Studies
5.6
A Successful Example – Siemens
Unit 6
Financial Management in the International Business
6.1
Investment Decisions
6.2
Financing Decisions
6.3
Money Management
6.4
Managing Foreign Exchange Risk
6.5
Case Studies
6.6
Feedback on the Case Studies
Unit 7
Assessing Country Competitiveness
7.1
Determinants of National Competitive Advantage
7.2
Company Strategy
7.3
Case Studies
7.4
Feedback on the Case Studies
Unit 8
8.1
Assessing Country Risk
Introduction
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International Management
5
8.2
What is Political Risk?
8.3
Country Risk
8.4
A Strategic Perspective
8.5
Summary
8.6
The Examination
Learning Outcomes
When you have completed your study of this course, you will be able to
• analyse the principles underlying decisions to invest in countries other
than the home base
• discuss the basics of business strategies of cost advantage and
differentiation
• explain the analysis behind decisions about where to locate production
operations
• explain some of the reasons why marketing and pricing strategies can
succeed or fail according to the conditions in different countries
• identify the variety of structural arrangements available to the
international business
• analyse the options for dealing with currency risk in an international
project or business
• analyse the elements that make a location suitable for investment
projects
• list and define the types of political risk involved in establishing a
business in another country.
6
Study Materials
In addition to the eight units of the course guide, this course has a range of
case material compiled in a two-volume collection of Case Studies. There is
also a collection of articles and extracts from other sources in a Course
Reader.
You will read parts of a textbook written by Charles Hill, who is
Professor of International Business at the University of Washington,
and has worked extensively as a consultant to international firms:
Charles Hill (2011) International Business: Competing in the Global
Marketplace, Eighth Edition, New York: McGraw-Hill International.
Where there are gaps in the textbook coverage, these will be supplemented
by articles reprinted in the Course Reader.
7
Teaching and Learning Strategy
As indicated earlier, this course provides frameworks, techniques and
examples to help you participate successfully in the world of international
business. The major objective of our teaching strategy in this course is to
expose you to a wide range of experiences of firms that have competed
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Course Introduction and Overview
successfully on the global stage, and some that have not, and to provide the
analytical ideas and applied skills you need to contextualise and evaluate
those experiences. After completing this course, you should be able to test
the utility of the various frameworks and strategies in the light of several
experiences of business internationalisation, in terms of the lessons they
offer, both positive and negative.
To facilitate your learning, there are many Review Questions and Exercises
in the units. You will get feedback and advice on your progress with the
course in the comments on your assignments, and to help you prepare for
the final examination there is a Specimen Examination Paper.
8
Assessment
Your performance on each course is assessed through two written
assignments and one examination. The assignments are written after
week four and eight of the course session and the examination is written
at a local examination centre in October.
The assignment questions contain fairly detailed guidance about what is
required. All assignment answers are limited to 2,500 words and are marked
using marking guidelines. When you receive your grade it is accompanied
by comments on your paper, including advice about how you might improve, and any clarifications about matters you may not have understood.
These comments are designed to help you master the subject and to improve
your skills as you progress through your programme.
The written examinations are ‘unseen’ (you will only see the paper in the
exam centre) and written by hand, over a three hour period. We advise that
you practice writing exams in these conditions as part of your examination
preparation, as it is not something you would normally do.
You are not allowed to take books or notes into the exam room. This means
that you need to revise thoroughly in preparation for each exam. This is
especially important if you have completed the course in the early part of
the year, or in a previous year.
Preparing for Assignments and Exams
There is good advice on preparing for assignments and exams and writing
them in Sections 8.2 and 8.3 of Studying at a Distance by Talbot. We recommend that you follow this advice.
The examinations you will sit are designed to evaluate your knowledge and
skills in the subjects you have studied: they are not designed to trick you. If
you have studied the course thoroughly, you will pass the exam.
Understanding assessment questions
Examination and assignment questions are set to test different knowledge
and skills. Sometimes a question will contain more than one part, each part
testing a different aspect of your skills and knowledge. You need to spot the
key words to know what is being asked of you. Here we categorise the types
of things that are asked for in assignments and exams, and the words used.
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International Management
All the examples are from CeFiMS examination papers and assignment
questions.
Definitions
Some questions mainly require you to show that you have learned some concepts, by setting out
their precise meaning. Such questions are likely to be preliminary and be supplemented by more
analytical questions. Generally ‘Pass marks’ are awarded if the answer only contains definitions.
They will contain words such as:
Describe
Define
Examine
Distinguish between
Compare
Contrast
Write notes on
Outline
What is meant by
List
Reasoning
Other questions are designed to test your reasoning, by explaining cause and effect. Convincing
explanations generally carry additional marks to basic definitions. They will include words such as:
Interpret
Explain
What conditions influence
What are the consequences of
What are the implications of
Judgment
Others ask you to make a judgment, perhaps of a policy or of a course of action. They will include
words like:
Evaluate
Critically examine
Assess
Do you agree that
To what extent does
Calculation
Sometimes, you are asked to make a calculation, using a specified technique, where the question
begins:
Use indifference curve analysis to
Using any economic model you know
Calculate the standard deviation
Test whether
It is most likely that questions that ask you to make a calculation will also ask for an application of
the result, or an interpretation.
Advice
Other questions ask you to provide advice in a particular situation. This applies to law questions
and to policy papers where advice is asked in relation to a policy problem. Your advice should be
based on relevant law, principles, evidence of what actions are likely to be effective.
Advise
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Course Introduction and Overview
Provide advice on
Explain how you would advise
Critique
In many cases the question will include the word ‘critically’. This means that you are expected to
look at the question from at least two points of view, offering a critique of each view and your
judgment. You are expected to be critical of what you have read.
The questions may begin
Critically analyse
Critically consider
Critically assess
Critically discuss the argument that
Examine by argument
Questions that begin with ‘discuss’ are similar – they ask you to examine by argument, to debate
and give reasons for and against a variety of options, for example
Discuss the advantages and disadvantages of
Discuss this statement
Discuss the view that
Discuss the arguments and debates concerning
The grading scheme
Details of the general definitions of what is expected in order to obtain a
particular grade are shown below. Remember: examiners will take account
of the fact that examination conditions are less conducive to polished work
than the conditions in which you write your assignments. These criteria
are used in grading all assignments and examinations. Note that as the
criteria of each grade rises, it accumulates the elements of the grade below.
Assignments awarded better marks will therefore have become comprehensive in both their depth of core skills and advanced skills.
70% and above: Distinction – As for the (60–69%) below plus:
• shows clear evidence of wide and relevant reading and an engagement
with the conceptual issues
• develops a sophisticated and intelligent argument
• shows a rigorous use and a sophisticated understanding of relevant
source materials, balancing appropriately between factual detail and
key theoretical issues. Materials are evaluated directly and their
assumptions and arguments challenged and/or appraised
• shows original thinking and a willingness to take risks
60–69%: Merit – As for the (50–59%) below plus:
• shows strong evidence of critical insight and critical thinking
• shows a detailed understanding of the major factual and/or
theoretical issues and directly engages with the relevant literature on
the topic
• develops a focussed and clear argument and articulates clearly and
convincingly a sustained train of logical thought
• shows clear evidence of planning and appropriate choice of sources
and methodology
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International Management
50–59%: Pass below Merit (50% = pass mark)
• shows a reasonable understanding of the major factual and/or
theoretical issues involved
• shows evidence of planning and selection from appropriate sources,
• demonstrates some knowledge of the literature
• the text shows, in places, examples of a clear train of thought or
argument
• the text is introduced and concludes appropriately
45–49%: Marginal Failure
• shows some awareness and understanding of the factual or theoretical
issues, but with little development
• misunderstandings are evident
• shows some evidence of planning, although irrelevant/unrelated
material or arguments are included
0–44%: Clear Failure
• fails to answer the question or to develop an argument that relates to
the question set
• does not engage with the relevant literature or demonstrate a
knowledge of the key issues
• contains clear conceptual or factual errors or misunderstandings
[approved by Faculty Learning and Teaching Committee November 2006]
Specimen exam paper
Your final examination will be very similar to the Specimen Exam Paper that
appears at the end of this introduction. It will have the same structure and
style as the actual exam, and the range of question will be comparable.
CeFiMS does not provide past papers or model answers to papers. Our
courses are continuously updated, and past papers will not be a reliable
guide to current and future examinations. The specimen exam paper is
designed to be relevant to reflect the exam that will be set on the current
edition of the course
Further information
The OSC will have documentation and information on each year’s
examination registration and administration process. If you still have
questions, both academics and administrators are available to answer
queries.
The Regulations are available at www.cefims.ac.uk/regulations.shtml,
setting out the rules by which exams are governed.
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University of London
Course Introduction and Overview
UNIVERSITY OF LONDON
Centre for Financial and Management Studies
MSc Examination
Postgraduate Diploma Examination
for External Students
91DFMC248
INTERNATIONAL MANAGEMENT (CHINA)
International Management
Specimen Examination
The examination must be completed in THREE hours.
Answer THREE questions, selecting at least ONE question from EACH
section. The examiners give equal weight to each question; therefore, you
are advised to distribute your time approximately equally between three
questions.
DO NOT REMOVE THIS PAPER FROM THE EXAMINATION ROOM.
IT MUST BE ATTACHED TO YOUR ANSWER BOOK AT THE END OF THE
EXAMINATION.
© University of London, 2012
Centre for Financial and Management Studies
PLEASE TURN OVER
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International Management
Answer THREE questions; at least ONE from EACH section.
Section A
(Answer at least ONE question from this section)
1
What are the main ways in which you can answer the question:
‘what business is this company in?’
Illustrate your answer with examples.
2
What are the main issues involved when a company chooses how
to enter a new country market? Illustrate your answer with examples of successful and unsuccessful entry strategies.
3
Does ‘mass customisation’ mean that competitive strategy no
longer requires a choice between competing on cost and competing on product differentiation? Elaborate your answer with
reference to relevant management theories and case materials.
4
Write notes on the following and how the terms are used in international business?
a Market segments
b Price discrimination
c Intermediaries
d Viral marketing
Section B
(Answer at least ONE question from this section)
5
Why was Carrefour’s entry into Japan a failure, while its entry
into other Asian markets was successful?
6
Did reorganisation make Sony successful from 2000s onwards?
7
Discuss the reasons for the approaches to exchange rate risk of
two companies you have studied.
8
Why did Ireland and Singapore been successful economies in the
1990’s?
[END OF EXAMINATION]
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International Management
Unit 1 International Investment
Contents
1.1 The Economics of International Investment
3
1.2 International Investment
5
1.3 Mergers and Acquisitions
8
1.4 Conclusions
12
References and Websites
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International Management
Unit Content
In this unit you will be presented with two of the fundamental questions
about international business:
• Why do individuals and companies invest in other countries?
• What forms can that investment take?
The unit then moves on to the major form of investment – merger and
acquisition (M and A) – and introduces the strategic reasons for and options
in M and A activity. These three issues will form the foundation for much of
the rest of the course.
Learning Outcomes
When you have completed your study of this unit and its readings, you will
be able to
• analyse the principles underlying decisions to invest in countries other
than the home base
• judge the relevance of each method of international investment –
foreign direct investment and portfolio investment
• discuss the fundamentals of merger and acquisition strategy,
including investment for market growth, synergy and diversification.
Reading for Unit 1
Course Reader
Hendrik Van den Berg (2002) sections from Chapter 5 ‘International
Trade and Economic Growth’, and Chapter 10 ‘The Economics of
International Investment’ from International Economics, New York:
McGraw-Hill/Irwin.
Patrick A Gaughan (2002) ‘Merger Strategy’, from Mergers, Acquisitions
and Corporate Restructuring, Third edition, New York: Wiley.
As the course progresses you will also analyse case studies; this unit is
concerned with some fundamentals and the readings here will be restricted
to textbook accounts of the subject.
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Unit 1 International Investment
1.1 The Economics of International Investment
In this section you will study the basic principles of investment, and international investment flows. We start with some fundamentals about
investment, or the acquisition of assets.
1.1.1 Investment
It is conventional to define international investment as the purchase of real
and financial assets in a country other that that of the investor. It is also
usual to define investment as an ‘intertemporal transaction’ – that is, a
payment made in one period for an expected return in some future period.
The only difference between a domestic and an overseas investment is the
degree of risk and uncertainty involved.
Your first reading is from a textbook, International Economics, by Hendrik
Van den Berg. In this reading, the author develops a two-period model of
consumption and investment, explaining that an equilibrium point balancing consumption and investment occurs, which reflects the economy as a
whole’s preference for consumption now against consumption in the future.
He then goes on to show that if there are better investment opportunities in
another economy, investors will transfer some of their asset purchases there.
This investment is financed in period 1 through a trade surplus, and in
period 2 a trade deficit. This simple equilibrium model shows the relationship between investment and trade. It also demonstrates that savings levels
vary across countries and over time, therefore the funds available for investment, at the economy level, vary between countries.
Van den Berg then develops a partial equilibrium model for savings between two countries. What this model shows is that if there is no restriction
on the flow of savings, differences in returns will be eliminated by the flow
of loanable funds to the country where interest rates are highest, producing
a gain for those whose funds were previously lent in the lower-interest
country and a loss for those whose funds were previously invested in a
higher-interest country, but that overall there is a net gain in welfare. As a
simple summary, this is the argument for a free flow of funds among countries, together with an explanation for the resistance to the free flow of funds
from those who own financial assets in the higher-interest countries.
Reading
Now, please read Van den Berg, Chapter 10, sections 10.2 ‘A General Equilibrium Model
of Inernational Investment’, and 10.3, ‘A Partial Equilibrium Model of International
Savings’, making notes as you read on the main points raised in the section above.
Then you should read section 10.4, ‘Risk Reduction through International Diversification’,
where the argument is simply that international investment allows investors to gain the
rewards from investing in the places where returns are highest and that building a
portfolio of investments in many countries allows them to smooth the risks.
Centre for Financial and Management Studies
Hendrik Van den Berg
(2002) International
Economics, sections
from Chapter 10, ‘The
Economics of
International
Investment’, reprinted
in the Course Reader.
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International Management
So far, you have been studying, mainly, a two-period model, which would
predict that international investment, given the free flow of funds, would
equalise the return on assets throughout the world, as funds flowed to
where they could get the best returns. In countries where capital is relatively scarce and therefore returns high, investors would buy assets until a
global equilibrium return is reached. In such a world, corporate as well as
individual investment strategies would be relatively simple: find those
investment opportunities where equilibrium has not yet been reached and
returns will be higher than those investment opportunities where there is
equilibrium.
1.1.2 Investment flows
The question raised in this section is:
• Why does investment not all flow to countries where capital is
scarcest, and returns highest?
The simple process of adding more investment to an economy will not
produce economic growth because, as investments depreciate, an increasing
level of savings is required to replace the stock of capital, and returns to
investment will diminish. If this were not the case, economies could not
have grown as fast as they manifestly have. The solution to this economists’
problem is technological change: each round of investment does not replace
the old stock of machines but rather a new, improved, set.
In a later section of this reading, Van den Berg uses Solow’s model to
argue that international investment is a vehicle for generating technological
change in the recipient countries. This was a major contribution, which
led economic analysis away from static treatment of technology and from
the assumption that all units of capital are substitutes for each other towards
the more real-world case in which technology matters and rates of return on
investments depend on more than the simple volume of investment in an
economy. Not all investments in countries with small supplies of capital will
be successful. Therefore, investment flows will depend not just on the
existence of different average rates of return in different economies.
Finally, you will study in this reading Van den Berg’s discussion of why
investment does not flow as freely as the simple model might suggest.
Reading
Please turn to the Reader and study Van den Berg’s Section 5.3 setting out the Solow
Growth Model, Section 10.5 on his use of Solow’s model and Section 10.7, where Van
den Berg turns to the reasons why investment does not flow as freely as the simple
model might suggest.
Make notes on the important issues raised in each section, and list the reasons
given for the impediments to investment flows.
Hendrik Van den Berg
(2002) International
Economics, Section 5.3
‘The Solow Growth
Model’, and Sections
10.5 ‘International
Investment and
Economic Growth’, and
10.7 ‘The Barriers to
International
Investment’, reprinted
in the Course Reader.
Briefly, Van den Berg’s barriers to international investment, which you
should have detailed in your notes, are these:
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Unit 1 International Investment
•
•
•
•
•
government policies to restrict investment
risk
asymmetric information
exchange rate risk
the relative underdevelopment of international institutions.
These issues are dealt with in an introductory way, and we will come back
to them in subsequent units.
To make sure you have understood this chapter, look at the summary at the
end of it. This course is designed from the perspective of business decisionmaking, so not all of the elements of the chapter, especially those that argue
for the welfare-maximising effects of international investment, will be
relevant to you. It is not the purpose of this course to justify or criticise the
investment behaviours of corporations or individuals.
1.2 International Investment
Before examining mergers and acquisitions, we will consider investment
further – foreign direct investment (FDI) and portfolio investment.
1.2.1 Foreign direct investment and portfolio investment
Individuals and companies can make investments in other countries in
different ways.
The difference between foreign direct investment and portfolio investment
can be defined in terms of whether the investment gives the purchaser any
control over the use of the asset. So, a small minority shareholding gives no
control, but a large block of shares might give some control. The absolute
level of investment under each definition is not specified, although Van den
Berg suggests that a 10%+ holding begins to give some control to the stockholder. For a company, the important thing is the purpose of the investment
– FDI implies that they want some control over the company in which the
investment is to be made.
We can also distinguish between vertical and horizontal FDI – the former
being made to establish a supply chain in more than one country, the latter
designed to replicate similar facilities in more than one country. About 18%
of US investment in poor countries results in products being exported to the
US. Rich-country-to-rich-country investment tends to be horizontal. We will
look in more detail at global supply chains in Unit 4. The advantage that less
developed countries have generally concerns labour costs, regulation
strictness and taxation levels.
There are many reasons why companies develop into multinational
enterprises (MNE). One theory about what determines the boundary of the
firm is the impact of transaction costs on a company as it purchases the
goods and services to produce its products: where transaction costs are
expensive, at some point it becomes more efficient to internalise the
production of those goods and services rather than buy them. If by so
doing the firm has to acquire the supplier companies or set up new ones
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International Management
and those companies are in another country, the logic of minimising
transaction costs results in an MNE.
A counter tendency is the going practice of outsourcing functions, especially
manufacturing functions, to companies in another country. Here, the decision to outsource, usually for reasons of minimising costs, has the opposite
effect – the main company stays a single-country enterprise.
Another important reason for becoming an MNE is the impact of economies
of scale. Some industries have very large ‘minimum efficient plant sizes’,
especially in industries that have high research and development costs. In
these cases, a single R and D operation and a spread of manufacturing
plants close to markets makes the best economic sense.
Some foreign investment is the result of restrictions on trade: for example,
overseas investment in the European Union is a direct result of companies
wishing to sell in Europe, but being at a disadvantage because of tariffs and
non-tariff barriers to exporting. Similarly, companies may wish to avoid
taxation and regulation by locating in another country.
Portfolio investment is defined as the acquisition of securities in quantities
that do not give the purchasers control over the enterprise invested in.
For an indication of the scale of the flows of FDI, look at the global summary
of FDI inflows in Table 1.1 below. Consider these points about the flow of
FDI:
• twice as much FDI flows to developed as to developing
economies
• the European Union has seven times the FDI inflow of China
and over five times as much as the USA
• FDI was on an upward trajectory by 2005
• the rate of growth of FDI in developed economies is faster
than in developing economies.
You should also note that the 2005 data for the United Kingdom are distorted by a single, large, investment by Royal Dutch Shell.
The table includes a note that World FDI inflows are projected as the basis
of 96 economies for which data are available for part of 2006, as of January
2006. Data are estimated by annualising their available data, in most cases
first quarter of data. The proportion of inflows to these economies in total
inflows to their respective regions or sub-regions in 2004 is used to extrapolate the 2005 data.
Exercise
Now that you have seen the direction of flows, can you note what are the possible
explanations for these trends?
One explanation for the large flows to the European Union and the USA is
the desire by companies to get over tariffs and other protectionist trade
restrictions.
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Unit 1 International Investment
Table 1.1
Foreign Direct Investment, by host region and host economy
2003–2005 (in billions of dollars)
Host region/economy
World
Developed Countries
Europe
European Union (25)
EU–15
France
Germany
Italy
Luxembourg
United Kingdom
New 10 European states
Czech Republic
Hungary
Poland
United States
Japan
Developing Economies
Africa
Egypt
Morocco
South Africa
Sudan
Latin America and the Caribbean
Argentina
Brazil
Chile
Colombia
Mexico
Asia and Oceania
West Asia
Turkey
South, East and South East Asia
China
Hong Kong, China
India
Indonesia
Korea, Republic of
Malaysia
Singapore
Thailand
South East Europe & Commonwealth of Independent States
Russian Federation
Romania
Kazakhstan
a
b
Revised data.
Preliminary estimates.
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2003a
637.8
441.7
349.1
327.6
42.5
27.3
16.4
83.8
27.4
12.5
2.1
2.1
4.6
56.8
6.3
172.1
17.2
0.2
2.3
0.7
1.3
48.0
1.7
10.1
4.4
1.8
12.8
106.9
11.9
1.8
94.7
53.5
13.6
4.3
–0.6
3.8
2.5
9.3
1.9
24.0
8.0
2.2
2.2
2004a
695.0
414.7
3 258.2
259.1
231.4
24.3
–38.6
16.8
67.2
77.6
27.8
4.5
4.6
12.6
96.9
7.8
243.1
13.7
1.3
0.9
0.8
1.5
68.9
4.1
18.2
7.6
3.1
17.9
155.5
17.6
2.7
137.8
60.6
34.0
5.3
1.0
7.7
4.6
16.1
1.4
37.2
12.6
6.4
5.4
2005b
896.7
573.2
449.2
446.3
407.7
48.5
4.9
13.0
13.4
219.1
37.7
12.5
6.0
8.7
106.0
9.4
373.5
28.9
4.1
1.2
7.2
2.1
72.0
4.2
15.5
7.0
4.5
17.2
172.7
26.5
4.8
146.2
60.3
39.7
6.0
3.5
4.5
4.2
15.9
3.7
Growth rate %
29
38
74
72
76
99
NA
–23
–80
182
36
181
30
–31
11
21
13
55
226
38
803
40
5
3
–15
–8
48
–4
11
51
77
6
0
17
12
242
–42
–9
–1
159
49.9
26.1
5.2
5.4
34
109
–19
0
Source: UNCTAD
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International Management
For a detailed discussion of FDI flows, see World Investment Report:
www.unctad.org/wir.
It is also likely that companies want to locate their production close to these
markets, and the difference in labour costs between these and other locations is less important than those considerations. Clearly, if labour costs
were the dominant criterion, there would be a higher proportion of FDI
flowing to low-wage economies.
1.3 Mergers and Acquisitions
By now you should have an overview of some of the economic rationale for
transnational investment, and a summary of the reasons that companies
invest in countries other than their country of origin. One option for making
an overseas investment is to take a stake in a company operating in the
target country, whether a minority or majority stake. We now turn to the
question of merger and acquisition strategy, or the reasons for and forms of
investment in other companies, as a central element of international strategy.
1.3.1 M and A trends
Merger and acquisition activity occurs in waves, as conditions for agglomeration and the fashion for company management to use acquisition as a
growth strategy comes and goes. The first wave of mergers in the USA
(where this sort of activity started) dates back to 1879–1904 as US corporations attempted to establish monopoly positions in all the major industries.
This was followed by the ‘anti-trust’ laws that still form the basis of US
competition policy. The two subsequent waves of M and A activity occurred
within the anti-trust laws and were designed for different purposes, whether
the establishment of oligopolies (a small number of competitors in an
industry) or other business strategies.
‘Modern’ M and A began with the fourth wave, 1981–1989. Here the mergers
were of very high value and large companies were involved. Investment
banks became involved, offering advice and collecting fees; take-over and
defence strategies were developed in great intricacy and there was much
greater use of debt to finance take-overs. During this wave, the first significant multi-national merger and acquisition activity also took place – for
example, the acquisition of Standard Oil by British Petroleum in 1987.
The fifth wave began in 1992. The features of the fifth wave were an increasing use of equity rather than debt to pay for the acquisitions; there was a
period of consolidation as ‘roll-up’ deals picked up the smaller companies in
an industry and amalgamated them with the larger. This was aided by the
ability of specialised investment banks to offer, often complex, financing
solutions to finance acquisitions. International acquisitions also took off
during the fifth phase, with European deals almost matching US deals by
1999, at around US$1,500 million in value. Asian deals also took off, mostly
based in Japan.
The large amounts of external funding required for sustaining the repeated
waves of M and A activity made it particularly susceptible to upsets in the
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Unit 1 International Investment
global economy, such as the dot-com crash and the financial crisis of 2007–
08. To see the effect of this, please now study Figure 1.1, which shows the
value of M and A deals, by value and by region, from 2000 to 2008.
When studying the data the following points are worth noting:
•
the growth in the proportion of transnational deals over the period
•
the increasing location of M and A activity in the European and
Asian-Pacific regions
•
the effect of the financial crisis: leveraged buy-outs have by and large
witnessed the biggest decline, while government activities such as
government investments in financial institutions, investment by government-controlled corporate and sovereign wealth funds are less
affected.
Figure 1.1 Share of global M&A by geography of target (%)
Asia-Pacific
Europe
9
33
12
13
Total value
($US trillion)
5
19
18
19
15
18
19
4
32
33
40
37
38
39
39
41
3
Americas
Year
Share of crossborder flows %
58
56
2000
23
2
49
45
47
46
2001
2002
25
25
46
42
40
2003
2004
2005
2006
2007
2008
28
29
29
29
41
35
1
Source: Dealogics McKinsey analysis
At the end of this section you might like to consider whether the above
points signal the end of the most recent wave of M and A activity; or are
we about the see the beginning of a new wave, involving new investors,
often state-led, and from different regions?
1.3.2 Merger strategy
While not all mergers are transnational, M and A are an important element
of international business strategy. Here we turn to the issue of merger
strategy: why and how do companies merge?
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Reading
Turn now to the Reading ‘Merger Strategy’, a chapter from a textbook by Patrick
Gaughan. In it, the author explains the main reasons and strategies for mergers.
As you read the chapter, you should make notes covering the main issues involved.
Patrick A Gaughan
(2002) Chapter 4
‘Merger Strategy’,
reprinted in the Course
Reader from Mergers,
Acquisitions and
Corporate
Restructurings.
The first reason for merger is to achieve growth in a slow-growing industry.
Company managements are always under pressure to grow their turnover,
and building increased market share in a slow market is a long-term process.
Acquisition of other companies is a faster route to growth. The danger,
though, is that the increase in sales thus acquired may not result in increased
profits. Managers’ pursuit of turnover growth might not be compatible with
owners’ pursuit of increased profits.
Synergy
A concept often used in merger strategy is ‘synergy’. Gaughan defines three
types of synergy that can result from a merger. The first is the ‘increase in
value of the newly combined company’, above the combined value of the
prior-to-merger companies, less any merger expenses:
Net Acquisition Value = [VAB – (VA + VB)] – (P + E)
Where VAB = the combined value of the two companies
VB = the market value of B
VA = A’s measure of its own value
P
= the premium paid for B, over its share price
E
= the expenses of acquisition.
The term in square brackets is the synergistic effect of the merger.
The second type of synergy is ‘operating synergy’, through which the
merged companies can either gain greater revenues together than apart (for
example, by combined marketing), or achieve reduced costs (through
economies of scale, for example). Gaughan is keen to remind you that the
achievement of operating synergies of both types requires a great deal of
management effort and strategic thinking.
The third type of synergy is ‘financial’, where the cash flows of the merged
companies are uncorrelated and the combined business has a less volatile
cash flow. To this could be added the automatic currency hedge implied by
a merger between companies operating in different currencies.
Diversification
A second motive for merger is diversification. Diversification can produce
‘conglomerates’, which consist of a portfolio of unrelated businesses. Many
fourth-wave mergers were of this type, and they were followed by a period
of ‘deglomerisation’, where buyers could add value by demerging unrelated
businesses from their conglomerate parents, because the conglomerate
management could not be successful in a range of unrelated activities.
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Unit 1 International Investment
Diversification may be pursued to enable the company to move from less to
more profitable activities. One of the most successful conglomerates developed through acquisitions was the US company General Electric (GE). In
recent years, the company has added organic growth at 8% per annum to its
history of growth through acquisition.1
A famous recent, unsuccessful, example involved the French water utility
company, known at the time as Vivendi, whose CEO took the company into
television production, films and music industries in the belief that these
activities would be more profitable (and interesting) than supplying water.
The new group made losses of 23.6 billions in 2002, the largest recorded
loss by a French corporation. More usual is a move from a mature industry
where growth is slow into faster-growing sectors. However, Gaughan’s
summary of the evidence on diversification is that it tends to reduce rather
than enhance company value after the mergers.
Economic motives
Mergers enable integration, either horizontal (between companies doing
similar things) or vertical (among companies at different stages in the
supply chain). Horizontal mergers are generally pursued to gain market
share and market power. Vertical integration offers the chance to
• gain control over supplies (for example, the acquisition of oil
and gas rights)
• gain cost advantages by internalising a supplier
• reduce transaction costs
• acquire specialist inputs previously bought in the market.
Gaughan also covers a variety of other motives, including the desire to
improve the quality of management by acquisition, improve research and
development capabilities, distribution networks and tax advantages.
You should now have a grasp of the basics of merger strategies. In general,
you should remember that mergers do not automatically result in improved
profitability because
• the premium paid may be too high
• the managers may have overstated the case for the merger and the
value of the merged entity (the ‘hubris hypothesis’)
• the management skill required to make the new company work may
be lost after the merger as managers leave the target company
• synergies are not realised.
Gaughan wrote another book after the one you have been reading from,
called Mergers: What Can Go Wrong and How to Prevent It2, based on analysis
the fifth-wave mergers. In that book he advocates joint ventures as a less
risky strategy, especially when the purpose of the merger is to acquire a
market presence in an overseas territory. We will return to the question of
1
2
See an interview with GE’s CEO at: http://www.ge.com/files/usa/company/investor/
downloads/harvard_business_review_ge.pdf
Gaughan (2005)
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the best entry strategy in Unit 2 and to the reasons for success and failure of
mergers when we look at the case of DaimlerChrysler, in Unit 5.
1.4 Conclusions
In this unit you have been introduced to some of the economic analysis
underlying the question of why companies decide to acquire assets in
another country. You have also seen that stark economic calculations of costs
and returns are not the sole explanation for the decisions to acquire foreign
assets, and that institutional factors and trade and other rules and regulations also affect the decision.
You have also seen that M and A, one of the main ways in which companies
can acquire assets in another country, has a wave pattern but is in trend
growth and has spread from the USA to the rest of the world. However, the
effects of M and A on a company’s profitability are not guaranteed to be
positive. In many cases the combined value of the new company is less than
the separate values of the old ones.
In the next unit we turn to the question:
• What strategies must managers adopt to ensure that the international
expansion of their company is profitable?
Unit 2, then, is concerned with the choice of entry strategy. The unit after
that considers practical questions about production and sourcing in countries other than the home base.
Review Questions
To help you to review this unit, make sure that you are able to answer the following ten
questions, based on the readings.
1.
Why do people and businesses acquire assets in other countries?
2.
Why do interest rates differ between countries?
3.
With no restriction on international investment, what would you expect to happen
to rates of return in different countries?
4.
What does the Solow model offer as an explanation for the fact that returns to
investment do not always decrease?
5.
Why is international investment smaller than it should be, if the equilibrium model
was correct?
6.
Why do companies pursue (a) vertical, and (b) horizontal integration?
7.
What are the main reasons for the growth of Multinational Enterprises?
8.
Why is the volume of Foreign Direct Investment higher in developed than in
developing economies?
9.
What are the main types of ‘synergy’ that can result from mergers and
acquisitions?
10. What are the obstacles to achieving synergy after a merger?
In summary, the main points covered by this unit are:
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Unit 1 International Investment
• Investment decisions are not a simple matter of choosing to invest
where returns seem to be highest. Government policies, asymmetric
information, exchange rate and other risks, the development of
institutions all have an influence on where companies invest.
• Investments may be made in two basic ways – by directly buying or
creating an asset, or by buying stock in already existing assets. Direct
investment may be vertical or horizontal – investments that move
capital from one rich country to another tend to be horizontal;
investments from richer to poorer countries tend to be vertical.
• The main motivations behind direct investment to create a multinational enterprise are:
• internalising transaction costs
• keeping control over proprietary knowledge
• realising economies of scale
• maintaining or improving reputation
• getting over trade restrictions across boundaries
• avoiding taxes
• hedging exchange rate risk from exporting
• substituting for poor or missing financial markets
• anticipating favourable business conditions in the new location
• finding low-cost locations for all or part of the value chain.
• Mergers and acquisitions occur in waves, some waves involving debt
financing and others equity. Different waves have had different
motivations. M and A activity also has different motivations:
• to achieve growth in a slow-growing industry
• managers’ desire to increase turnover by acquiring other
companies
• ‘synergy’ – merged organisations able to achieve greater sales
or profits than unmerged entities
• diversification
• to gain market share
• to gain control over the value chain.
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References and Websites
Gaughan Patrick A (2005) Mergers: What Can Go Wrong and How to Prevent It,
Fourth edition, Hoboken NJ: Wiley.
Gaughan Patrick A (2002) Mergers, Acquisitions and Corporate Restructuring,
Third edition, New York: Wiley.
General Electric: Interview with GE Chief Executive Officer available at
http://www.ge.com/files/usa/company/investor/downloads/harvard_b
usiness_review_ge.pdf
UNCTAD: www.unctad.org
Van den Berg Hendrik (2004) International Economics, New York: McGrawHill/Irwin.
World Investment Report: available at http://www.unctad.org/wir.
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University of London