Foreign entry and operation strategies-
- 2. Introduction Once a firm decides to enter a foreign market, it must also decide on the mode of entry and operation in the market. Often firms fail in foreign markets because of inappropriate entry and operation strategies. A wrong strategy can lead to a firm’s failure abroad and at home as well. Research shows that a firm’s foreign market entry strategy is directly related to the firm’s performance. An appropriate strategy can be a source of competitive advantage abroad.
- 3. An inappropriate strategy, on the other hand, can be a source of competitive liability leading to a competitive disadvantage. Therefore, a firm should not just enter a market by any strategy, but should consider carefully how to enter a market. Entry and operation modes are strategic decisions that must be made carefully.
- 4. Classification of Frameworks The modes of foreign market entry and operation can be classified according to any one of the three frameworks. 1. Level of involvement in foreign market a) Exporting modes Products sold in a foreign market are produced in other countries and exported to the foreign market where they are sold. b) Contractual modes Products sold in a foreign market are produced by other firms on behalf of the international firm through a contractual agreement.
- 5. c) Foreign direct investment (FDI) modes Products sold in a foreign market are produced within the foreign market by branches owned by the international firm. 2. Involvement in manufacturing for foreign market a) Indirect manufacturing modes Products sold in a foreign market are produced by other firms on behalf of the international firm through contractual agreements b) Direct manufacturing modes Products sold in a foreign market, whether produced within the market or produced elsewhere but exported to the market, are produced by the parent firm or its branches.
- 6. Where production is done is immaterial, but the firm is in charge of production. 3) Whether the modes involve manufacturing in the foreign market a) Exporting modes Products are manufactured elsewhere but exported to the foreign market for sale. b) Foreign market manufacturing modes Products sold in a foreign market are manufactured within the foreign market. The products may be manufactured by the firm itself (including its branches) or by other firms through contractual arrangements.
- 7. It is important to understand how an entry mode fits into each of the classification frameworks. This is important for understanding the managerial and other implications of the entry mode.
- 8. The Internalization Process The process is determined by product-market complexity in the foreign market and starts from low to high level of commitment to international markets. High Low High Productdiversity Market complexity Export Licensing, contract m anufacturing, franchising Joint venture Foreign branch Private equity investm ent W holly ow ned foreign subsidiary
- 9. Entry Mode Strategies Most of the entry mode strategies are engrained within the internalization process. There are various modes that a firm can use to enter and operate in foreign markets. For a given foreign market a firm can use different modes for different products, depending on competitive advantages that may be gained. Similarly, for a given product a firm can use different modes in different countries depending on the competitive advantages to be gained. The modes are as follows:
- 10. 1. Exporting The products a firm sells in a foreign market are not produced in the foreign market. Strategic options that may be adopted include: Exporting directly to the foreign buyer. Exporting through a domestic export intermediary to the foreign buyer. Exporting through a foreign import intermediary to the foreign buyer. Exporting through domestic export intermediary and foreign import intermediary to the foreign buyer. Exporting may be indirect or direct with different degrees of involvement (experimental, active, committed).
- 11. In indirect exporting, the firm does not need to undertake the export operations such as documentation, freighting, and the like, within its organization. The export operations are carried out by others, and in many instances they take place without the knowledge of the firm. Indirect exporting may occur through the following ways: Export houses Export management companies (EMCs) Foreign firm’s overseas buying offices in the home market. International trading companies Joint marketing
- 12. In direct exporting, the firm performs the export task by itself rather than delegating it to others. Such a firm will find it necessary to set up an export department within its organization to carry out the tasks of market contact, market research, physical distribution, export documentation, pricing and other marketing activities. Direct exporting may be done through the following ways: Sales subsidiary abroad Local representative abroad In both indirect and direct exporting, a firm may exhibit experimental, active or committed involvement.
- 13. In experimental involvement, the firm initiates restricted export marketing activity. In active involvement, the firm systematically explores a range of export market opportunities. In committed involvement, the firm allocates its resources on the basis of international marketing opportunities. 2. Assembly All or most of the product’s components or ingredients are manufactured in domestic plants or in other countries before they are transferred to the particular foreign market for final assembly. Assembly operations are usually labour-intensive rather than capital intensive.
- 14. In pharmaceutical and chemical industries, these are called mixing operations rather than assembly. Mixing or assembly operations may be carried out under any one of the major foreign market entry and operation strategies such as contract manufacturing, licensing, joint venture, and wholly owned subsidiary. 3. Contract Manufacturing This is foreign manufacturing by proxy, that is, the firm’s product is manufactured or assembled in the foreign market by another producer under contract. The contract covers only manufacturing or assembly.
- 15. Marketing and distribution are usually done by the firm giving the contract or by its subsidiary in that foreign country. Contract manufacturing works well if the firm’s competitive advantage lies in marketing and distribution rather than in manufacturing. 4. Management Service Contract Sometimes simply referred to as a management contract. It is a long-term agreement of up to 10 or more years to provide a management service to a firm. Such contracts are more suitable in service businesses than in manufacturing businesses.
- 16. The business is usually run under the management service provider’s internationally recognized name rather than the property owner’s name. The management service provider earns management fees often expressed as a % of gross revenues. In addition, the service provider may earn extra profits on any supplies and materials it sells to the managed firm. Most of the middle management an staff usually are local personnel.
- 17. 5. Licensing Can be seen as an extension of contract manufacturing since it covers a longer term and involves the licensee in a wider sphere of responsibility and activities e.g. the licensee would be required not only to manufacture the product, but also to market and distribute the product in an assigned territory. It entails the sale of a patent, manufacturing know-how, technical advice and assistance, or the use of a trade mark or trade name on a contractual basis. The licensor is paid royalties in return by the licensee.
- 18. 6. Franchising It is a particular form of licensing in which the franchiser makes a total marketing programmes available, including brand management advice. The franchise agreement tends to be more comprehensive than a normal licensing arrangement because the franchisee agrees to a total operation being prescribed. 7. Joint Venture It is a project in which two or more parties invest. It differs from licensing because it affords the international firm an equity position and management voice in the foreign firm. Thus, the international firm shares both in ownership and management of the foreign firm.
- 19. A JV agreement results in the formation of a new company in which the parties have shares. The international firm has enough equity to have a voice in management but not enough to completely dominate the venture. A foreign JV is similar to foreign licensing because both usually involve foreign manufacturing and marketing by the local foreign firm rather than the international firm. 8. Strategic Alliance Used interchangeably with “corporate coalition”, “strategic partnerships” or “competitive alliance”. It is a cooperative arrangement between two or more companies.
- 20. The partners in an alliance seek to add their competencies by combining their resources with those of other firms with a commitment to reach an agreed goal. Partners tend to be of comparable strength and resource base but this is not always the case. The alliance tends to be contractual rather than equity arrangement. In JV, unlike SA, the underlying motivation for cooperation may not be guided by strategic and competitive considerations. In addition, the partners may not be of equal strengths and resources. They may even have unbalanced contributions to the joint venture.
- 21. 9. Merger and Acquisition Merger is a combination of two firms in which only one company survives and the merged firm goes out of existence. In a statutory merger, the acquiring firm assumes the assets and liabilities of the merged firm. In a subsidiary merger, the target firm becomes a subsidiary or part of a subsidiary of the parent company. Acquisition is taking over of local firm’s assets by a foreign firm. A consolidation is often confused for a merger, particularly if the two firms differ significantly in size. The major types of M&As are: horizontal, vertical, and conglomerate.
- 22. 10. Consolidation It is a business combination where two or more companies join to form an entity new company. All the combining companies are dissolved and only the new entity continues to operate. In a consolidation, the original companies cease to exist and their stockholders become stockholders in the new company. 11. Wholly owned foreign subsidiary This represents the greatest commitment to foreign markets. Shared ownership, as discussed earlier, is a JV. Ideally, wholly owned is 100% ownership by the international firm.
- 23. In practice, however, the firm usually achieves the same results or power even by owning 95% or slightly less. It is not the completeness of ownership that matters but the completeness of control. A firm can obtain wholly owned foreign subsidiaries in the following two ways: Acquisition i.e. by buying out an existing foreign producer or JV. New investment, often referred to as green-field investment. This occurs when the firm builds or develops its own facilities from scratch. Acquisition is a quicker way of entering a foreign market than starting from scratch.
- 24. Entry Modes and Risk Vs. Control Each of the entry modes has its advantages and drawbacks. Therefore, MNCs have to make trade-offs when they decide on the most suitable entry mode strategy. Control- the desire to influence decisions, systems, and operations in a foreign affiliate- and risk are the two most important factors in the decision formula when deciding on the type of entry mode. To obtain control, the multinational firm must commit resources to, and take responsibility for, the management of its foreign operations.
- 25. More control requires more risk and vice versa. When selecting the appropriate entry mode, MNFs have to answer two questions: What level of resource commitment are they willing to make? and What level of control over the operations do they desire? The MNFs have to look at risks in the general environment, risks in the industry, and firm- specific risks. The lower the perceived risk, the more use of entry strategies that involve high level of resource commitment and vice versa. Study the illustration below.
- 27. Quizz. Identify and explain the advantages and disadvantages of each of the entry mode strategies. In the previous illustration, where would you place the rest of entry mode strategies covered previously?
- 28. Criteria for Choice of Entry Mode Factors influencing entry mode include: Corporate global strategy of a firm Country risk (e.g. political and operational) Opportunities Firm’s internal capabilities Time pressure Government requirements MNCs should consider the following criteria in choosing an entry mode: 1. Firm-Specific Variables Firm’s objectives and policies Degree of control desired of a foreign market
- 29. Firm’s resources Risk i.e. economic, financial, and political Flexibility Familiarity with the foreign market Corporate strategies e.g to source raw material for worldwide activities requires high-control entry modes Size of the firm Transferability of competitive advantage across markets, both domestic and foreign Inter-firm transferability of resources. 2. Environmental Variables Market growth Intensity of competition
- 30. Market infrastructure Production location Foreign market country risk Government policies and regulations of foreign market and domestic market Local market conditions e.g. if these require adaptation then licensing and FDI modes may be most appropriate. Location specific advantages e.g foreign investment modes may be most appropriate where competitive advantages are location specific.
- 31. Quiz: Think through each criterion and suggest the most appropriate entry mode(s). Be guided by the suggestions above.