Lecture 4 - Foreign Market Entry Modes Flashcards
What are the proactive motivations for firms going abroad?
- profit advantage
- unique products
- technological advantage
- exclusive information (that they can turn into profit)
- tax benefit
- economies of scale
What are the reactive motivations for firms going abroad?
- Competitive pressures
- Overproduction: more than home market requires/needs
- Declining domestic sales
- Saturated domestic markets
- Excess capacity
- Proximity to customers (subsidiaries of agencies)
Define what a first-mover advantage is
Benefits that accrue to firms that enter the market first and that later entrants do not enjoy
Define what a late-mover advantage is
Benefits that accrue to firms that enter the market later and that early entrants do not enjoy
List some examples of first-mover advantages
Look at notes
List some examples of late-mover advantages
Look at notes
What is the non-equity mode of entering a market?
Entering foreign markets through exports and contractual agreements.
- Reflects relatively smaller commitments to overseas markets
What is the equity mode of entering a market?
Entering foreign markets through Joint Ventures and wholly owned subsidiaries (Foreign Direct Investment)
- Indicates a relatively larger, harder-to-reverse commitment
What are the two main types of non-equity entry modes?
- exporting
- contractual agreements
What are the two main types of equity entry modes?
- joint ventures
- wholly owned subsidiaries
Define what exporting is
Firms’ products are manufactured in the domestic market or a third country and then transferred either directly or indirectly to the host market
What is direct exporting?
Sells directly to foreign customer
UK Company A to South Africa Company B
What is indirect exporting?
UK Company A sells to UK Company B and then B sells to South Africa Company C
What is cooperative exporting?
Companies in the UK sell to foreign customer cooperatively
What are some of the advantages of exporting?
- Manufacturing is home based thus, it is less risky than being overseas-based
- Gives an opportunity to ‘learn’ about overseas markets before investing in bricks and mortar: work out whether there is demand for your goods and services before committing
- Reduces the risk of operating overseas
What are some of the disadvantages of exporting?
- Being at the ‘mercy’ of overseas agents i.e. loss of control and loss of reputation
- Susceptible to trade barriers
- Logistical difficulties: getting products from home to foreign markets (e.g. damaged on route)
- Not appropriate if other lower cost manufacturing -
locations exist - High transportation costs can make exporting uneconomical
What is licensing?
…the method of foreign operation whereby a firm in one country (licensor) agrees to permit/allow a company in another country (licensee) to use the manufacturing, processing, trademark, know-how or some other skill provided by the licensor.
- The licensor receives a royalty fee from the licensee (see the process in the next slide)
Outline the stages of the licensing process
1) licensor leases the rights to use intellectual property
2) licensee uses the intellectual property to create products
3) pays a royalty to licensor
4) earns new revenues with low investment
What some of the advantages of licensing?
- Good way to start in foreign operations and open the door to low risk manufacturing relationships
- Allows the firm to participate where there are barriers to investment
- Capital not tied up in foreign operations
- Options to buy into partner exist or provision to take royalties in stock: depend on institutions that are present in the foreign country
- No danger of nationalization/expropriation of assets
- Local manufacturer can secure government contracts
What are some of the disadvantages of licensing?
- Limited form of participation-to length of agreement, specific product, process or trademark
- Partner/licensee develops or diffuses know-how and so license is short (Pizza Hut in Thailand lost business to The Pizza Company)
- Licensee may not fully exploit the market leaving space for competitors’ entry (opposite also true)
- Licensee can potentially become a future competitor
- Lack of control over licensee operations
- Requires considerable fact finding, planning, investigation and interpretation
What is franchising?
Franchising is the practice of using another firm’s successful business model
- Players: franchisor and franchisee
What are some of the advantages of franchising?
- For the franchisor, the franchise is an alternative to building ‘chain stores’ to distribute goods
- The franchisee is said to have a greater incentive than a direct employee because he/she has a direct stake in the business
- Limited financial commitment
- Involves longer term commitment than licensing
What are some of the disadvantages of franchising?
- No manufacturing, so no location economies and experience curve
- Risk of worldwide reputation if something goes wrong
- Franchisee may end up being a competitor (In Thailand, Pizza Hut lost business to The Pizza Company)
What is a joint venture?
- An enterprise in which two or more investors share ownership and control over property rights and operation
- Any form of association which implies collaboration for more than a transitory period is a joint venture
- A joint venture may be brought about by a foreign firm showing an interest in a local company
- A local firm acquiring an interest in an existing foreign firm or
- By both the foreign and local companies jointly forming a new enterprise
- Joint ventures are a form of FDI
- can be two foreign companies forming a joint venture
What are some of the advantages of JVs?
- Sharing of risk: better for MNC
- Local firm understands the national environment: understands both formal and informal institutions
- Joint financial strength
- May be the only means of entry in some countries
What are some of the disadvantages of JVs?
- Different organizational cultures may be difficult to reconcile (Daimler-Chrysler 1998)
- Partners may have different views on expected benefits
What are the four key reasons for establishing a subsidiary abroad?
NATURAL RESOURCE SEEKING
- Quest for natural resources ideally with related transport and communication infrastructure
MARKET SEEKING
- Quest for countries that offer strong demand for a firm’s products and services
EFFICIENCY SEEKING
- Quest to identify the most efficient locations featuring a combination of scale economies and low-cost factors
INNOVATION SEEKING
- Quest for innovative countries /regions with an abundance of innovative individuals and firms/universities
What is horizontal FDI?
When a firm takes the same activity at the same value-chain stage from its home country and duplicates it in a host country
What is vertical FDI?
When a firm moves upstream or downstream in different value-chain stages in a host country through FDI
Why does FDI take place?
OWNERSHIP ADVANTAGES
- Possession and leveraging of certain valuable, rare, hard-to-imitate, organizationally embedded resources
LOCATION ADVANTAGES
- Features unique to a place that provide advantage to a firm
INTERNALIZATION ADVANTAGES
- Replacement of cross-border markets with one firm locating and operating in two or more countries
How does FDI result in ownership advantages?
- Direct is the key word in FDI.
- Direct ownership provides combination of equity ownership rights and management control rights.
- FDI reduces dissemination risks
- FDI provides tight control over foreign operations
- FDI facilitates the transfer of tacit knowledge through “learning by doing”
How does FDI provide location advantages?
- Some locations possess geographical features that are difficult to match.
- Location advantage can arise from agglomeration – the clustering of economic activities in certain locations
Results from:
- Knowledge spillover: the diffusion of knowledge from one firm to others among closely located firms that attempt to hire individuals from competitors
- Industry demand for skilled workers
- Industry demand that facilitates a pool of specialized suppliers and buyers in a region
Acquiring and neutralizing location advantages
- Location advantage does not entirely overlap with country-level advantages.
- Refers to advantage that firm obtains when operating in a specific location due to firm-specific resources (however, the firm faces the liability of foreignness).
- Liability of foreignness refers to the additional costs that firms operating outside their home countries experience above those incurred by local firms.
- When one firm enters a foreign country through FDI, competitors are likely to increase FDI in order to acquire or neutralize location advantages
What are the benefits of internalization?
- Reduces cross-border transaction costs.
- Replaces external market relationship with single organization spanning both countries: resolves the difficulties of an international market transaction
- MNC reduces cross-border transaction costs and increases efficiencies by replacing an external market relationship with a single organization spanning both countries
Draw the benefits and costs of FDI diagram
Look at notes
What are the benefits of FDI to home countries?
1) Repatriated earnings from FDI profits
2) Increased exports
3) Learning via FDI from operations abroad
What are the costs of FDI to home countries?
1) Capital outflow
2) Job loss: many MNEs invest abroad while simultaneously curtailing domestic production - that is, they increase employment overseas but lay of domestic employees
What are the benefits of FDI to host countries?
1) Capital inflow: can help improve a country’s balance of payments
2) Technology spillovers; the domestic diffusion of foreign technical knowledge and processes that benefit domestic firms and industries
3) Advanced management know-how: in many developing countries, it is often difficult for the development of management know-how to reach a world-class level if it is only domestic and not influenced by FDI
4) Creates jobs
What are the costs of FDI to host countries?
1) Loss of economic sovereignty: because of FDI, decisions to invest, produce, and market products and services in a host country are being made by foreigners
2) Loss of domestic firms: MNEs may drive some domestic firms out of business
3) Capital outflow: MNEs repatriating earnings to home countries, so host countries experience a net outflow in the capital account in their balance of payments
What are the managerial attention implications?
- carefully assess whether FDI is justified in light of other foreign entry modes such as outsourcing and licensing
- pay careful attention to the location advantages in combination with the firm’s strategic goal
- be aware of the institutional constraints and enablers governing FDI, and enhance legitimacy in host countries
What advantages do the following companies get from their internationalisation modes?
1) Renault Nissan and Russian Technologies
2) Star Alliance
3) Ford - non partnership assembly plant
1) Renault Nissan and Russian Technologies
- joint venture
2) Star Alliance
- contractual strategic alliance
3) Ford - non partnership assembly plant
- loose strategic alliance
