11-1 Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Global Business Today 1e by Hill. Slides prepared by Fuming Jiang. Chapter 11 E ntering F

11-1 Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Global Business Today 1e by Hill. Slides prepared by Fuming Jiang.

Chapter 11

Entering Foreign Markets1


Lecture/Chapter Topics

• Entry Modes

• Selecting an Entry Mode

• Greenfield Venture versus Acquisition

• Countertrade


Entry Modes• There are several options, including:

– Exporting– Turnkey projects– Licensing– Franchising– Foreign Direct Investment

Joint ventures with a host-country firm Wholly owned subsidiary in the host country


Entry Modes• The advantages and disadvantages associated with

each entry mode are determined by:– transport costs and trade barriers– political and economic risks– business risks– cost and firm strategy

• The optimal entry mode varies by situation, depending on these factors.


Entry Modes• Exporting

– Most manufacturing firms begin their global expansion as exporters and only later switch to another mode for servicing a foreign market.

– Advantages Exporting avoids the substantial cost of establishing

manufacturing operations in the host country. Exporting may also help a firm achieve experience curve

location economies.


Entry Modes• Exporting (Cont’d)

– Disadvantages There may be lower cost locations for manufacturing

abroad. High transport costs can make exporting uneconomical. Tariff barriers can make exporting uneconomical. Agents in a foreign country may not act in exporter’s best

interest.


Entry Modes• Turnkey Projects

– In a turnkey project, the contractor agrees to handle every detail of the project for a foreign client, including the training of operating personnel.

– At completion of the contract, the foreign client is handed the ‘key’ to a plant that is ready for full operation.


Entry Modes

• Turnkey Projects – Advantages

Turnkey projects are a way of earning great economic returns

from the know-how required to assemble and run a

technologically complex process. Turnkey projects make sense in a country where the political and

economic environment is such that a longer term investment might expose the firm to unacceptable political and/or economic risk.


Entry Modes• Turnkey Projects

– Disadvantages By definition, the firm that enters into a turnkey deal will have

no long-term interest in the foreign country. The firm that enters into a turnkey project may create a

competitor. If the firm's process technology is a source of competitive

advantage, then selling this technology through a turnkey project is also selling competitive advantage to potential and/or actual competitors.


Entry Modes• Licensing

– A licensing agreement is an arrangement whereby a licensor grants the rights to intangible property to another entity (the licensee) for a specified time period, and in return, the licensor receives a royalty fee from the licensee.

– Intangible property includes patents, inventions, formulas, processes, designs, copyrights, and trademarks.



– Advantages The firm does not have to bear the development costs and

risks associated with opening a foreign market. The firm avoids barriers to investment. It allows a firm with intangible property that might have

business applications, but which doesn’t want to develop those applications itself, to capitalise on market opportunities.



– Disadvantages The firm doesn’t have the tight control over manufacturing,

marketing and strategy that is required for realising experience curve and location economies.

Licensing limits a firm’s ability to coordinate strategic moves across countries by using profits earned in one country to support competitive attacks in another.



– Disadvantages (Cont’d) There is the potential for loss of proprietary (or intangible)

technology or property. One way of reducing this risk is through the use of cross-

licensing agreements where a firm might license intangible property to a foreign partner, but requests that the foreign partner license some of its valuable know-how to the firm in addition to a royalty payment.


Entry Modes• Franchising

– Franchising is basically a specialised form of licensing in which the franchisor not only sells intangible property to the franchisee, but also insists that the franchisee agree to abide by strict rules as to how it does business.

– Advantages The firm avoids many costs and risks of opening up a

foreign market.


Entry Modes

• Franchising (Cont’d)– Disadvantages

Franchising may inhibit the firm's ability to take profits out of

one country to support competitive attacks in another.

The geographic distance of the firm from its foreign

franchisees can make poor quality difficult for the franchisor

to detect.


Entry Modes• Joint Ventures

– A joint venture is the establishment of a firm that is jointly owned by two or more otherwise independent firms.

– Advantages A firm can benefit from a local partner's knowledge of the

host country's competitive conditions, culture, language, political systems and business systems.


Entry Modes

• Joint Ventures

– Advantages (Cont’d)

The costs and risks of opening a foreign market are shared

with the partner.

Political considerations may make joint ventures the only

feasible entry mode.


Entry Modes• Joint Ventures (Cont’d)

– Disadvantages A firm risks giving control of its technology to its partner. The firm may not have the tight control over subsidiaries

that it might need to realise experience curve or location economies.

Shared ownership can lead to conflicts and battles for control if goals and objectives differ or change over time.


Entry Modes

• Wholly Owned Subsidiaries – In a wholly owned subsidiary, the firm owns 100% of the

stock.– Establishing a wholly owned subsidiary in a foreign market

can be done two ways:i. The firm can set up a new operation in that country.

ii. The firm can acquire an established firm.


Entry Modes

• Wholly Owned Subsidiaries (Cont’d)– Advantages

A wholly owned subsidiary reduces the risk of losing

control over core competencies.

A wholly owned subsidiary may be required if a firm is

trying to realise location and experience curve

economies.


Entry Modes

• Wholly Owned Subsidiaries – Advantages (Cont’d)

A wholly owned subsidiary gives a firm the tight control over

operations in different countries that is necessary for

engaging in global strategic coordination (i.e. using profits

from one country to support competitive attacks in another).


Entry Modes

• Wholly Owned Subsidiaries (Cont’d)– Disadvantages

Firms bear the full costs and risks of setting up overseas

operations. Acquisitions raise additional problems, including those

associated with trying to marry divergent corporate cultures.


Selecting an Entry Mode• The optimal choice of entry mode involves trade-

offs.• Core Competencies and Entry Mode

– The optimal entry mode depends to some degree on the nature of a firm’s core competencies.

– A distinction can be drawn between firms whose core competency is in technological know-how and those whose core competency is in management know-how.


Selecting an Entry Mode• Technological Know-How

– A firm with a competitive advantage based on proprietary technological know-how should avoid licensing and joint venture arrangements in order to minimise the risk of

losing control over the technology.– If a firm believes its technological advantage is only

transitory, or the firm can establish its technology as the dominant design in the industry, then licensing may be appropriate even if it does involve the loss of know-how.


Selecting an Entry Mode• Management Know-How

– The competitive advantage of many service firms is based upon management know-how.

– The risk of losing control over the management skills to franchisees or joint venture partners is not high, and the benefits from getting greater use of brand names are significant.


Selecting an Entry Mode• Pressures for Cost Reductions and Entry Mode

– The greater the pressures for cost reductions, the more likely a firm will be to want to pursue some combination of exporting and wholly owned subsidiaries.

– This will allow it to achieve location and scale economies as well as retain some degree of control over its worldwide product manufacturing and distribution.


Greenfield Venture vs. Acquisition

• Should a firm establish a wholly owned subsidiary

in a country by building a subsidiary from the

ground up (greenfield strategy), or should it acquire

an established enterprise in the target market

(acquisition strategy)?


Greenfield Venture vs. Acquisition• Pros and Cons of Acquisition

– Benefits of Acquisitions Acquisitions have three major points in their favour:

i. They are quick to execute

ii. Acquisitions enable firms to pre-empt their competitors

iii. Managers may believe acquisitions are less risky than green-field ventures


Greenfield Venture vs. Acquisition• Why Do Acquisitions Fail?

– The acquiring firms often overpay for the assets of the acquired firm.

– There may be a clash between the cultures of the acquiring and acquired firm.

– Attempts to realise synergies by integrating the operations of the acquired and acquiring entities often run into roadblocks and take much longer than forecast.

– There is inadequate pre-acquisition screening.


Greenfield Venture vs. Acquisition• Reducing the Risks of Failure

– A firm can overcome all these problems if it is careful about its acquisition strategy. Through careful screening of the firm to be acquired By moving rapidly once the firm is acquired to

implement an integration plan


Greenfield Venture vs. Acquisition• Pros and Cons of Greenfield Ventures

– The main advantage of a greenfield venture is that it gives

the firm a greater ability to build the kind of subsidiary

company that it wants.

– However, greenfield ventures are slower to establish.

– Another disadvantage of greenfield ventures is that they

are risky.


Countertrade• A government may restrict the convertibility of its

currency to preserve its foreign exchange reserves so they can be used to service international debt commitments and purchase crucial imports.

• Non-convertibility implies that the exporter may not be paid in his or her home currency; and few exporters would desire payment in a currency that is not convertible.


Countertrade• The Incidence of Countertrade

– Countertrade arose in the 1960s as a way for the Soviet Union and the Communist states of Eastern Europe, whose currencies were generally non-convertible, to purchase imports.

– During the 1980s, the technique grew in popularity among many developing nations.

– The 1997 financial crisis left many Asian nations with little hard currency to finance international trade. They turned to the only option available to them: countertrade.


Countertrade• Types of Countertrade

– Barter This is the direct exchange of goods or services

between two parties without a cash transaction. It is primarily used for one-time-only deals in

transactions with trading partners who are not creditworthy or trustworthy.


Countertrade• Types of Countertrade (Cont’d)

– Problems with Barter If goods are not exchanged simultaneously, one party

ends up financing the other for a period. Firms engaged in barter run the risk of having to

accept goods they do not want, cannot use or have difficulty reselling at a reasonable price.



– Counterpurchase This is a reciprocal buying agreement. It occurs when a firm agrees to purchase a certain

amount of materials back from a country to which it made a sale.



– Switch Trading The term refers to the use of a specialised third-party

trading house in a countertrade arrangement. When a firm enters a counterpurchase or offset

agreement with a country, it often ends up with what are called counterpurchase credits, which can be used to purchase goods from that country.



– Buy-Back This occurs when a firm builds a plant in a country —

or supplies technology, equipment, training or other services to the country — and agrees to take a certain percentage of the plant’s output as partial payment for the contract.


Countertrade• The Pros and Cons of Countertrade

– Countertrade’s main attraction is that it can give a firm a way to finance an export deal when other means are not available.

– Countertrade can become a strategic marketing weapon.– On the downside, countertrade contracts may involve the

exchange of unusable or poor-quality goods that the firm cannot dispose of profitably.


Countertrade• The Pros and Cons of Countertrade (Cont’d)

– Countertrade requires the firm to invest in an in-house trading department dedicated to arranging and managing countertrade deals.

– Countertrade is most attractive to large, diverse multinational enterprises that can use their worldwide network of contacts to dispose of goods acquired in countertrading.


Summary of Main Themes

• This chapter focuses on various modes for serving

foreign markets such as exporting, licensing or

franchising to host-country firms, establishing joint

ventures with a host-country firm, setting up a new

wholly owned subsidiary in a host country to serve its market, or acquiring an established enterprise in the

host nation to serve that market. Each of these options

has advantages and disadvantages.


Summary of Main Themes

• The magnitude of the advantages and disadvantages associated with each entry mode is determined by a number of factors, including transportation costs, trade barriers, political risks, economic risks, business risks, costs and firm strategy.

• Some firms may best serve a given market by exporting, other firms may better serve the market by setting up a new wholly owned subsidiary or by acquiring an established enterprise.

Documents

11-1 Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Global Business Today 1e by Hill. Slides prepared by Fuming Jiang. Chapter 11 E ntering F