Exporting - Sale of products produced in one country to

Lesson Proper for Week 15 IBT residents of another country.

BASIC ENTRY DECISIONS Advantages

A firm contemplating foreign expansion must make three Exporting has two distinct advantages. First, it avoids the
basic decisions: which markets to enter, when to enter those often-substantial costs of establishing manufacturing
markets, and on what scale operations in the host country. Second, exporting may help a
firm achieve experience curve and location economies.
Which Foreign Markets? Disadvantages
There are now almost 200 countries globally, and they do Exporting has a number of drawbacks. First, exporting
not all hold the same profit potential for a firm contemplating from the firm’s home base may not be appropriate if lower-
foreign expansion. Ultimately, the choice must be based on cost locations for manufacturing the product can be found
an assessment of a nation’s long-run revenue potential. abroad (i.e., if the firm can realize location economies by
moving production elsewhere).
Timing of Entry
Entry is early when a firm enters a foreign market before 2. Turnkey Project
other foreign firms and late when a firm enters after other A project in which a firm agrees to set up an operating
international businesses have established themselves. plant for a foreign client and hand over the “key” when the
plant is fully operational.
Advantages
• First-Mover Advantages - Advantages accruing to
The know-how required to assemble and run a
the first to enter a market.
technologically complex process, such as refining petroleum
or steel, is a valuable asset. Turnkey projects are a way of
• First-Mover Disadvantages - Disadvantages earning great economic returns from that asset.
associated with entering a foreign market before other Disadvantages
international businesses. Three main drawbacks are associated with a turnkey
strategy. First, the firm that enters into a turnkey deal will
• Pioneering Costs - Costs an early entrant bears that have no long-term interest in the foreign country. This can be
later entrants avoid, such as the time and effort in learning a disadvantage if that country subsequently proves to be a
the rules, failure due to ignorance, and the liability of being a major market for the output of the process that has been
foreigner. exported. One way around this is to take a minority equity
interest in the operation. Second, the firm that enters into a
Scale of Entry and Strategic Commitments turnkey project with a foreign enterprise may inadvertently
Another issue that an international business needs to create a competitor.
consider when contemplating market entry is the scale of
entry. Entering a market on a large scale involves the 3. Licensing
commitment of significant resources and implies rapid Licensing Agreement - Arrangement in which a licensor
access. grants the rights to intangible property to a licensee for a
specified period and receives a royalty fee in return.
Market Entry Summary Advantages
There are no “right” decisions here, just decisions In the typical international licensing deal, the licensee puts
associated with different levels of risk and reward. Entering a up most of the capital necessary to get the overseas
large developing nation such as China or India before most operation going. Thus, a primary advantage of licensing is
other international businesses in the firm’s industry and that the firm does not have to bear the development costs
entering on a large scale will be associated with high levels and risks of opening a foreign market. Licensing is very
of risk. attractive for firms lacking the capital to develop operations
overseas.
ENTRY MODES Disadvantages
Licensing has three serious drawbacks.
Once a firm decides to enter a foreign market, the
question arises of the best mode of entry. Firms can use six First, it does not give a firm tight control over
different modes to enter foreign markets: exporting, turnkey manufacturing, marketing, and strategy that is required for
projects, licensing, franchising, establishing joint ventures realizing experience curve and location economies. Licensing
with a host-country firm, or setting up a new wholly-owned typically involves each licensee setting up its production
subsidiary in the host country. Each entry mode has operations. This severely limits the firm’s ability to learn
advantages and disadvantages. Managers need to consider experience curve and location economies by producing its
these carefully when deciding which to use. product in a centralized location. When these economies are
important, licensing may not be the best way to expand
overseas.
1. Exporting
Second, competing in a global market may require a firm
Many manufacturing firms begin their global expansion
to coordinate strategic moves across countries using profits
as exporters and only later switch to another mode for
earned in one country to support competitive attacks in
serving a foreign market.
another. By its very nature, licensing limits a firm’s ability to
do this. A licensee is unlikely to allow a multinational firm to
use its profits (beyond those due in the form of royalty
payments) to support a different licensee operating in objectives change or if they take different views as to what
another country. the strategy should be.
A third problem with licensing is one that we encountered
in Chapter 8 when we reviewed the economic theory of 6. Wholly Owned Subsidiaries
foreign direct investment (FDI). This is the risk associated In a wholly-owned subsidiary, the firm owns 100 percent
with licensing technological know-how to foreign companies. of the stock. Establishing a wholly-owned subsidiary in a
4. Franchising foreign market can be done in two ways.
is similar to licensing, although franchising tends to Advantages
involve longer-term commitments than licensing. There are several clear advantages of wholly-owned
subsidiaries.
Franchising - is a specialized form of licensing in which the First, when a firm’s competitive advantage is based on
franchiser not only sells intangible property (normally a technological competence, a wholly-owned subsidiary will
trademark) to the franchisee but also insists that the often be the preferred entry mode because it reduces the risk
franchisee agree to abide by strict rules as to how it does of losing control over that competence.
business. Second, a wholly-owned subsidiary gives a firm tight control
Advantages over operations in different countries.
McDonald’s is a good example of a firm that has grown This is necessary for engaging in global strategic
and taken advantage of a franchising strategy. McDonald’s coordination.
strict rules regarding how franchisees should operate a Third, a wholly-owned subsidiary may be required if a firm is
restaurant extend to control over the menu, cooking trying to realize location and experience curve economies (as
methods, staffing policies, and design and location. firms pursuing global and transnational strategies try to do).
Disadvantages
The disadvantages of franchising are less pronounced Disadvantage
than with licensing. Since service companies often use Establishing a wholly-owned subsidiary is generally the
franchising, there is no reason to consider the need to costliest method of serving a foreign market from a capital
coordinate manufacturing to achieve experience curve and investment standpoint. Firms doing this must bear the full
location economies. But franchising may inhibit the firm’s capital costs and risks of setting up overseas operations.
ability to take profits out of one country to support competitive
attacks in another. A more significant disadvantage of
franchising is quality control. The foundation of franchising Core Competencies and Entry Mode
arrangements is that the firm’s brand name conveys a 1. Exporting
message to consumers about the quality of the firm’s 2. Turnkey contracts/ project
product. 3. Licensing
4. Franchising
5. Joint ventures
5. Joint Venture
6. Wholly owned subsidiaries
entails establishing a firm that is jointly owned by two or
more otherwise independent firms.
Advantages
Joint ventures have some advantages. First, a firm SELECTING AN ENTRY MODE
benefits from a local partner’s knowledge of the host 1. Technological Know-How
country’s competitive conditions, culture, language, political If a firm’s competitive advantage (its core competence) is
systems, and business. Thus, for many U.S. firms, joint based on control over proprietary technological know-how,
ventures have involved the U.S. company providing licensing and joint-venture arrangements should be avoided
technological know-how and products and the local partner
if possible, to minimize the risk of losing control over that
providing the marketing expertise and the local knowledge
necessary for competing in that country. Second, when the technology. Thus, if a high-tech firm sets up operations in a
development costs and risks of opening a foreign market are foreign country to profit from a core competency in
high, a firm might gain by sharing these costs and or risks technological know-how, it will probably do so through a
with a local partner. Third, in many countries, political wholly-owned subsidiary.
considerations make joint ventures the only feasible entry 2. Management Know-How
mode. The competitive advantage of many service firms is based
Disadvantages on management know-how (e.g., McDonald’s, Starbucks).
Despite these advantages, there are major disadvantages For such firms, the risk of losing control over the
to joint ventures. management skills to franchisees or joint venture partners is
not that great. These firms’ valuable asset is their brand
First, as with licensing, a firm that enters into a joint venture name, and brand names are generally well protected by
risks giving control of its technology to its partner. international laws about trademarks.
A second disadvantage is that a joint venture does not give
a firm tight control over subsidiaries that it might need to
realize experience curve or location economies. GREENFIELD VENTURE OR ACQUISITION?
A third disadvantage with joint ventures is that the shared 1. Pros and Cons of Acquisitions
ownership arrangement can lead to conflicts and battles for
control between the investing firms if their goals and Pros and Cons of Greenfield Ventures