Unit 4

The Strategy of International Business

The Strategy of
International Business

Why Company Moved other Country

Wal-Mart moved into other countries for three
reasons:
Its growth opportunities at home were becoming
constrained,
It thought it could create value by transferring its
business model to foreign markets,
It wished to preempt other retailers that were also
starting to expand globally.

What Is Strategy?

A firms strategy refers to the actions that managers take to

attain the goals of the firm
Firms need to pursue strategies that increase profitability
(Rate of Return, ROCE/ROI) and profit growth (the percentage increase in net
profits over time)

Firms can
add value
lower costs
sell more in existing markets
expand internationally

What Is Strategy?
Determinants of Enterprise Value

How Is Value Created?

The firms value creation is the difference between V and C
a firm has high profits when it creates more value for its
customers and does so at a lower cost
Profits can be increased by
1. Using a differentiation strategy
2. Using a low cost strategy
To maximize long run return on invested capital firms pick a viable
position on the efficiency frontier, configure internal operations to
support that position, have the right organization structure in place to
execute the strategy

How Is Value Created?

Value Creation

a firm has high profits when it creates more value for its customers and does
so at a lower cost.
Michael Porter has argued that low cost and differentiation are two basic
strategies for creating value and attaining a competitive advantage.

Strategic Positioning
The efficiency frontier has a convex shape because of diminishing returns.
Diminishing returns imply that when a firm already has significant value built into its
product offering, increasing value by a relatively small amount requires significant
additional costs.
luxury chain

middle of
the market

The strategy, operations, and organization of the firm must all be consistent -with each
other if it is to attain a competitive advantage and garner superior profitability.

How Are A Firms Operations Configured?

The Value Chain

A firms operations are like a value chain composed of distinct

value creation activities

How Are A Firms Operations Configured?

Facilitates a comparison, activity-by-activity, of how effectively and

efficiently a firm delivers value to its customers, relative to its
competitors.
The Value Chain
Identifies the primary internal activities that create and deliver
customer value and the requisite related support activities.
Permits a deep look at the firms cost structure and ability to offer low
prices.
Reveals the emphasis that a firm places on activities that enhance
differentiation and support higher prices.
Effects of the Industry Value Chain:
Costs and margins of suppliers and channel partners can affect prices to
end consumers.
Activities of channel partners can affect industry sales volumes and
customer satisfaction.

How Can Firms Increase Profits Through

International Expansion?

International firms can

1.
2.
3.
4.

Expand their market Domestic to International market

Realize location economies - Individual value creation activities
Realize greater cost economies from experience effects reducing
cost and value creation- central location
Earn a greater return leveraging any valuable skills

How Can Firms Leverage their Products and

Competencies?
The success of firms that expand internationally depends on
the goods or services sold at international and developed at home
the firms core competencies -the development, production, and marketing of
those goods or services.
Firms competitive advantages-

Core competencies allow firms to reduce the costs of value

creation and/or to create perceived value so that premium
pricing is possible
McDonald's is famous for its international expansion strategy, which has taken the
company into more than 120 nations that collectively generate over half of the
company's revenues.

Why Are Location Economies Important?

By achieving location economies, firms can
lower the costs of value creation and achieve a low cost position
differentiate their product offering
trade barriers and transportation costs

Firms that take advantage of location economies in different parts of the world,
create a global web of value creation activities, with different stages of the value
chain being dispersed, to those locations around the globe where perceived value
is maximized or where the costs of value creation are minimized.
Japan might excel in the production of automobiles and consumer electronics;
The choice of the Hong Kong location was influenced by its combination of low
labor costs, a skilled workforce, and tax breaks given by the Hong Kong
government.

Why Are Experience Effects Important?

The experience curve - the systematic reductions in production costs
that occur over the life of a product
by moving down the experience curve, firms reduce the cost of creating value

Learning effects - cost savings that come from learning by doing

Labor productivity, Management efficiency increase firms profitability
learning effects will be more significant in an assembly process involving
1,000 complex steps than in one of only 100 simple steps.
Economies of scale - the reductions in unit cost achieved by producing a large
volume of a product
One is the ability to spread fixed costs over a large volume.
it serves global markets
as global sales increase the size of the enterprise

 Strategic Significance: Moving down the experience

allows a firm to reduce its cost of creating value

curve
and increase its

profitability Increase production value

The classic example of the successful pursuit of such a strategy concerns the
Japanese consumer electronics company Matsushita. Along with Sony and Philips,
Matsushita was in the race to develop a commercially viable videocassette recorder
in the 1970s.
Leveraging Subsidiary Skills:
The creation of skills that help to lower the costs of production, or to enhance perceived
value and support higher product pricing, is not the monopoly of the corporate center.
created within subsidiaries and applying them to other operations within the firm's global
network may create value.
McDonald's increasingly is finding that its foreign franchisees are a source of valuable
new ideas.

What Competitive Pressures Exist in the Global

Marketplace?
Firms that compete in global markets face two conflicting types of
competitive pressures

limit the ability of firms to realize location economies and experience

effects, leverage products, and transfer skills within the firm
conflicting demands - Responding to pressures for cost reductions requires
that a firm try to minimize its unit costs. firm differentiate its
product offering and marketing strategy
to accommodate the diverse demands
arising from national differences in
consumer tastes , preferences,
business practices, government policies
distribution channels, competitive conditions,

When Are Pressures Greatest?

Pressures for cost reductions are greatest
1. For firms producing products that fill universal needs
2. When major competitors are in low cost locations
3. Where there is persistent excess capacity
4. Where consumers are powerful and face low switching costs
Pressures for local responsiveness arise from
1. Differences in consumer tastes and preferences
2. Differences in traditional practices and infrastructure
3. Differences in distribution channels
4. Host government demands

Competitive Pressures Exist in the Global Marketplace

1. Pressures for cost reductions
force the firm to lower unit costs
A service business such as a bank might respond to cost pressures
by moving some back-office functions, such as information
processing, to developing nations where wage rates are lower.
Universal needs exist when the tastes and preferences of
consumers in different nations are similar if not identical.
conventional commodity products such as bulk chemicals, petroleum,
steel, sugar, and the like.
handheld calculators, semiconductor chips, personal computers, and liquid
crystal display screens.

Competitive Pressures Exist in the Global Marketplace

1. Pressures to be locally responsive
require the firm to adapt its product to meet local demands in
each market, but raise costs because.
Differences in Customer Tastes and Preferences
Differences in Infrastructure and Traditional Practices
Differences in Distribution Channels
Host Government Demands

Which Strategy Should A Firm Choose?

There are four basic strategies to compete in
international markets
the appropriateness of each strategy depends on the pressures
for cost reduction and local responsiveness in the industry
a firm to realize the full benefits from economies of scale,
learning effects, and location economies.
1. Global standardization
2. Localization
3. Transnational
4. International

Global Standardization Strategy

It focus on increasing profitability and profit growth by reaping the
cost reductions that come from economies of scale, learning effects,
and location economies; that is, their strategic goal is to pursue a
low-cost strategy on a global scale.
prefer to market a standardized product worldwide so that they can
reap the maximum benefits from economies of scale, and learning
effects.
Companies such as Intel, Texas Instruments, and Motorola all pursue
a global standardization strategy.

Localization Strategy
A localization strategy focuses on increasing profitability by
customizing the firm's goods or services so that they provide a good
match to tastes and preferences in different national markets.
By customizing the product offering to local demands, the firm
increases the value of that product in the local market.
MTV is a good example of accompany that has had to pursue a
localization strategy

Transnational Strategy
They must try to realize location economies and experience effects, to leverage
products internationally, to transfer core competencies and skills within the
company, and to simultaneously pay attention to pressures for local
responsiveness.
trying to simultaneously achieve low costs through

location economies,
economies of scale,
learning effects;
differentiate their product offering across
geographic markets to account for local differences;
foster a multidirectional flow of skills between different subsidiaries in the firm's global
network of operations.

International Strategy
Taking products first produced for their domestic market and selling
them internationally with only minimal local customization.
Enterprises pursuing an international strategy have followed a
similar developmental pattern as they expanded into foreign
markets.
They tend to centralize product development functions such as R&D
at home.
In most firms that pursue an international strategy, the head office
retains fairly tight control over marketing and product strategy.

How Does Strategy Evolve?

An international strategy may not be viable in the long
term
to survive, firms may need to shift to a global standardization
strategy or a transnational strategy in advance of competitors

Localization may give a firm a competitive edge, but if the

firm is simultaneously facing aggressive competitors, the
company will also have to reduce its cost structures
would require a shift toward a transnational strategy

How Does Strategy Evolve?

Changes in Strategy over Time

Entry Strategy
and Strategic

Introduction
The decision of
which foreign markets to enter,
when to enter them,
what scale;

The choice of entry mode

The choice of which markets to enter should be driven by an
assessment of relative long-run growth and profit potential.
E.g. British grocer Tesco - Eastern Europe and Asia

Basic Entry Decisions

There are three basic decisions that a firm contemplating foreign
expansion must make:
which markets to enter,
when to enter those markets,
what scale.

Which Foreign Markets?

All country not hold the same profit potential for a firm
contemplating foreign expansion.
To Understand:
political factors
balancing the benefits and costs
risks associated
size of the market - number of consumers
(e.g., China, India, and Indonesia)
purchasing power of consumer
wealth of consumers - economic growth rates
living standards and economic growth
suitability of its product offering to that market
the nature of indigenous competition

A firm can rank

countries in terms of
their
attractiveness
long-run profit
potential
lack of strong local
competitors
strong underlying
growth trends

Timing of Entry
Entry is early when an international business enters a foreign market
before other foreign firms - first-mover advantages
ability to preempt rivals and capture demand by establishing a strong brand
name
ability to build sales volume in that country and ride down the experience
curve ahead of rivals
the ability of early entrants to create switching costs that tie customers into
their products or services
disadvantages may give rise to pioneering costs
if regulations change

For example, KFC introduced the Chinese to American-style fast food, but a later
entrant, McDonald's, has capitalized on the market in China

Scale of Entry and Strategic Commitments

Entering a market on a large scale involves the commitment of significant
resources
some large firms prefer to enter foreign markets on a small scale and then build
slowly as they become more familiar with the market.
The consequences of entering on a significant scaleentering rapidly- strategic
commitment
Benefits- It will make it easier for the company to attract customers and distributors
Limitation - have fewer resources available to support expansion in desirable markets

to identify how actual and potential competitors might react to large-scale entry
into a market
the large-scale entrant is more likely than the small-scale entrant to be able to
capture first-mover advantages associated with demand preemption, scale
economies, and switching costs.

Scale of Entry and Strategic Commitments

rapid large-scale entry into a foreign market must be balanced
risks and lack of flexibility associated
strategic inflexibility

Small-scale entry allows a firm to learn about a foreign market while

limiting the firm's exposure to that market.
Small-scale entry is a way to gather information about a foreign
market before deciding whether to enter on a significant scale and
how best to enter.
Philippines-based fast-food chain, has started to build a global presence in
a market dominated by U.S. multinationals such as McDonald's and KFC

Entry Modes
Firms can use following different modes to enter foreign markets:
Exporting,
Turnkey Projects,
Licensing,
Franchising,
Establishing Joint Ventures with a Host-country Firm,
Setting Up a New Wholly Owned Subsidiary in the Host
Country
Managers need to consider these carefully when deciding which to
use

Exporting
Many manufacturing firms begin their global expansion as exporters
and only later switch to another mode for serving a foreign market.
By manufacturing the product in a centralized location and exporting
it to other national markets, the firm may realize substantial scale
economies from its global sales volume.
Advantages:
It avoids the often substantial costs of establishing manufacturing operations
in the host country.
Exporting may help a firm achieve experience curve and location economies .

how South Korean firms such as Samsung gained market share in

computer memory chips.

Exporting
Disadvantages:
exporting from the firm's home base may not be appropriate if lower-cost
locations for manufacturing the product can be found abroad - global or
transnational strategies
to exporting is that high transport costs can make exporting uneconomical,
particularly for bulk products.
tariff barriers can make exporting uneconomical.
to exporting arises when a firm delegates its marketing, sales, and service in
each country where it does business to another company.

Turnkey Projects
Firms that specialize in the design, construction, and start-up of
turnkey plants are common in some industries.
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 operationhence, the term turnkey.
This is a means of exporting process technology to other countries.
Turnkey projects are most common in the chemical, pharmaceutical,
petroleum refining, and metal refining industries, all of which use
complex, expensive production technologies.

Turnkey Projects
Advantages:
The know-how required to assemble and run a technologically complex process, such
as refining petroleum or steel, is a valuable asset.
Turnkey projects are a way of earning great economic returns from that asset.
The strategy is particularly useful where FDI is limited by host-government
regulations.
E.g. the governments of many oil-rich countries have set out to build their own
petroleum refining industries, so they restrict FDI in their oil and refining sectors. But
because many of these countries lack petroleum-refining technology, they gain it by
entering into turnkey projects with foreign firms that have the technology.
A turnkey strategy can also be less risky than conventional FDI. In a country with
unstable political and economic environments, a longer-term investment might expose
the firm to unacceptable political and/or economic risks

Turnkey Projects
Disadvantages:
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 with a foreign
enterprise may inadvertently 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.

Licensing
A licensing agreement is an arrangement whereby a licensor grants the
rights to intangible property to another entity (the licensee) for a specified
period, and in return, the licensor receives a royalty fee from the licensee.
Intangible property includes patents, inventions, formulas, processes,
designs, copyrights, and trademarks.
E.g. Xerox then licensed its xerographic know-how to Fuji Xerox. Fuji
Xerox paid Xerox a royalty fee equal to 5 % of the net sales revenue that
Fuji Xerox earned from the sales of photocopiers based on Xerox's
patented know how. In the Fuji Xerox case, the license was originally
granted for 10 years, and it has been renegotiated and extended several
times since.

Licensing
Advantages
A primary advantage of licensing is that the firm does not have to bear the
development costs and risks associated with opening a foreign market.
Licensing is also often used when a firm wishes to participate in a foreign
market but is prohibited from doing so by barriers to investment.
Licensing is frequently used when a firm possesses some intangible property
that might have business applications, but it does not want to develop those
applications itself.
E.g. Bell Laboratories at AT&T originally invented the transistor circuit in the
1950s, but AT&T decided it did not want to produce transistors, so it licensed
the technology to a number of other companies, such as Texas Instruments.

Licensing
Disadvantages
It does not give a firm the tight control over manufacturing, marketing, and
strategy that is required for realizing experience curve and location
economies.
Competing in a global market may require a firm to coordinate strategic
moves across countries by using profits earned in one country to support
competitive attacks in another.
the risk associated with licensing technological know-how to foreign
companies. Technological know-how constitutes the basis of many
multinational firms' competitive advantage.

Licensing
cross-licensing agreement
a firm might license some valuable intangible property to a foreign partner,
but in addition to a royalty payment, the firm might also request that the
foreign partner license some of its valuable know-how to the firm.
E.g. the U.S. biotechnology firm Amgen licensed one of its key drugs,
Nuprogene, to Kirin, the Japanese pharmaceutical company. The license gives
Kirin the right to sell Nuprogene in Japan. In return, Amgen receives a royalty
payment and, through a licensing agreement, gained the right to sell some of
Kirin's products in the United States.

Franchising
Franchising is basically a specialized form of licensing in which the
franchiser not only sells intangible property (normally a trademark)
to the franchisee, but also insists that the franchisee agree to abide
by strict rules as to how it does business.
McDonald's is a good example of a firm that has grown by using a
franchising strategy.
McDonald's strict rules as to how franchisees should operate a restaurant
extend to control over the menu, cooking methods, staffing policies, and
design and location. McDonald's also organizes the supply chain for its
franchisees and provides management training and financial assistance.

Franchising
Advantages
The firm is relieved of many of the costs and risks of opening a foreign market
on its own.
This creates a good incentive for the franchisee to build a profitable operation
as quickly as possible.
using a franchising strategy, a service firm can build a global presence quickly
and at a relatively low cost and risk, as McDonald's has.

Franchising
Disadvantages
franchising is often used by service companies, there is no reason to consider
the need for coordination of manufacturing to achieve experience curve and
location economies.
A more significant disadvantage of franchising is quality control.
is to set up a subsidiary in each country in which the firm expands.

Joint Ventures
A joint venture entails establishing a firm that is jointly owned by
two or more otherwise independent firms.
Fuji Xerox, for example, was set up as a joint venture between
Xerox and Fuji Photo.
Establishing a joint venture with a foreign firm has long been a
popular mode for entering a new market.
Some firms, however, have sought joint ventures in which they have
a majority share and thus tighter control.

Joint Ventures
Advantages
a firm benefits from a local partner's knowledge of the host country's
competitive conditions, culture, language, political systems, and business
systems.
when the development costs and/or risks of opening a foreign market are high,
a firm might gain by sharing these costs and or risks with a local partner.
in many countries, political considerations make joint ventures the only
feasible entry mode.
local equity partners, who may have some influence on host-government
policy, have a vested interest in speaking out against nationalization or
government interference.

 Disadvantages

Joint Ventures

as with licensing, a firm that enters into a joint venture risks giving control of
its technology to its partner.
a joint venture does not give a firm the tight control over subsidiaries that it
might need to realize experience curve or location economies.
the shared ownership arrangement can lead to conflicts and battles for control
between the investing firms if their goals and objectives change or if they take
different views as to what the strategy should be.
For example, in the case of ventures between a foreign firm and a local firm,
as a foreign partner's knowledge about local market conditions increases, it
depends less on the expertise of a local partner. This increases the bargaining
power of the foreign partner and ultimately leads to conflicts over control of
the venture's strategy and goals.

Wholly Owned Subsidiaries

Establishing a wholly owned subsidiary (100% stake) in a foreign
market can be done two ways.
The firm either can set up a new operation in that country, often referred to as
a greenfield venture, or it can acquire an established firm in that host nation
and use that firm to promote its products.

Wholly Owned Subsidiaries

Advantages
when a firm's competitive advantage is based on technological competence, a
wholly owned subsidiary will often be the preferred entry mode because it
reduces the risk of losing control over that competence.
a wholly owned subsidiary gives a firm tight control over operations in
different countries.
a wholly owned subsidiary may be required if a firm is trying to realize
location and experience curve economies.
establishing a wholly owned subsidiary gives the firm a 100 percent share in
the profits generated in a foreign market.

Wholly Owned Subsidiaries

Disadvantages
is generally the most costly method of serving a foreign market from a capital
investment standpoint.
The risks associated with learning to do business in a new culture are less if
the firm acquires an established host-country enterprise.

Selecting an Entry Mode

Core Competencies and Entry Mode
Technological Know-how
Management Know-how

Pressures for Cost Reductions and Entry Mode

Strategic Alliances
Strategic alliances refer to cooperative agreements between
potential or actual competitors.
Strategic alliances run the range from formal joint ventures, in which
two or more firms have equity stakes (e.g., Fuji Xerox), to shortterm contractual agreements, in which two companies agree to
cooperate on a particular task (such as developing a new product).
Collaboration between competitors is fashionable; recent decades
have seen an explosion in the number of strategic alliances.

Advantages of Strategic Alliances

Strategic alliances may facilitate entry into a foreign market.
many firms feel that if they are to successfully enter the Chinese market, they
need a local partner who understands business conditions, and who has good
connections.
In 2004 Warner Brothers entered into a joint venture with two Chinese
partners to produce and distribute films in China.
The joint venture will be able to produce films for Chinese TV, something that
foreign firms are not allowed to do.

Strategic alliances also allow firms to share the fixed costs (and
associated risks) of developing new products or processes.
The attempts of MG Rover to enter into an alliance with Chinese automobile
companies.

Advantages of Strategic Alliances

An alliance is a way to bring together complementary skills and
assets that neither company could easily develop on its own.
Microsoft and Toshiba established an alliance aimed at developing embedded
microprocessors that can perform a variety of entertainment functions in an
automobile (e.g., run a back-seat DVD player or a wireless Internet
connection).
Microsoft brings its software engineering skills to the alliance and Toshiba its
skills in developing microprocessors.

It can make sense to form an alliance that will help the firm establish
technological standards for the industry that will benefit the firm.

Disadvantages of Strategic Alliances

Some commentators have criticized strategic alliances on the
grounds that they give competitors a low-cost route to new
technology and markets.
A few years ago some commentators argued that many strategic alliances
between U.S. and Japanese firms were part of an implicit Japanese strategy to
keep high-paying, high- value-added jobs in Japan while gaining the project
engineering and production process skills that underlie the competitive
success of many U.S. companies.

alliances have risks- Why do some alliances benefit both firms while
others benefit one firm and hurt the other?
The failure rate for international strategic alliances seems to be high.

Making Alliances Work

The success of an alliance seems to be a function of three
main factors:
partner selection,
alliance structure,
the manner in which the alliance is managed.

Partner Selection
A good ally, or partner, has three characteristics
a good partner helps the firm achieve its strategic goals, - market access,
sharing the costs and risks of product development, or gaining access to
critical core competencies

a good partner shares the firm's vision for the purpose of the
alliance.
a good partner is unlikely to try to opportunistically exploit the
alliance for its own ends; that is, to expropriate the firm's
technological know-how while giving away little in return.

Partner Selection (Cont.)

To increase the probability of selecting a good partner, the firm
should:
Collect as much pertinent, publicly available information on potential
allies as possible.
Gather data from informed third parties - potential partners, investment
banker - who have had dealings with them, and former employees.
Get to know the potential partner as well as possible before committing
to an alliance.

Alliance Structure
the alliance should be structured so that the firm's risks of giving too
much away to the. partner are reduced to an acceptable level

Alliance Structure

(i) Critical Technology

alliances can be designed to make it difficult (if not impossible) to

transfer technology not meant to be transferred. The design,
development, manufacture, and service of a product manufactured
by an alliance can be structured so as to wall off sensitive
technologies to prevent their leakage to the other participant.
GE reduced the risk of excess transfer by walling off certain sections of the
production process.
The modularization effectively cut off the transfer of what GE regarded as key
competitive technology, while permitting Snecma access to final assembly

Alliance Structure

(ii) Contractual Safeguards

contractual safeguards can be written into an alliance agreement to

guard against the risk of opportunism by a partner.
TRW, Inc., has three strategic alliances with large Japanese auto component
suppliers to produce seat belts, engine valves, and steering gears for sale to
Japanese-owned auto assembly plants in the United States.
Japanese companies are entering into the alliances merely to gain access to the
North American market to compete with TRW in its home market.

(iii) Agree to Swap Valuable

Skills and Technologies

Alliance Structure

both parties to an alliance can agree in advance to swap skills and

technologies that the other covets, thereby ensuring a chance for
equitable gain.
Cross-licensing agreements are one way to achieve this goal

Alliance Structure (iv) Seeking Credible Commitments

The risk of opportunism by an alliance partner can be reduced if the
firm extracts a significant credible commitment from its partner in
advance.
The long-term alliance between Xerox and Fuji to build photocopiers for the
Asian market perhaps best illustrates this.

Managing the Alliance

As in all international business deals, an important factor is sensitivity to cultural
differences
Maximizing the benefits from an alliance seems to involve building trust between
partners and learning from partners.

Managing an alliance successfully requires building interpersonal relationships

between the firms' managers, or what is sometimes referred to as relational
capital.
This is one lesson that can be drawn from a successful strategic alliance between Ford
and Mazda.
Ford and Mazda set up a framework of meetings within which their managers not only
discuss matters pertaining to the alliance but also have time to get to know each other
better. The belief is that the resulting friendships help build trust and facilitate
harmonious relations between the two firms.

Managing the Alliance

Academics have argued that a major determinant of how much acquiring
knowledge a company gains from an alliance is its ability to learn from its alliance
partner.
They tended to regard the alliance purely as a cost-sharing or risk-sharing device,
rather than as an opportunity to learn how a potential competitor does business.
Consider the alliance between General Motors and Toyota constituted in 1985 to build
the Chevrolet Nova. This alliance was structured as a formal joint venture, called New
United Motor Manufacturing, Inland each party had a 50 percent equity stake. The
venture owned an auto plant in Fremont, California. According to one Japanese
manager, Toyota quickly achieved most of its objectives from the alliance: "We
learned about U.S. supply and transportation. And we got the confidence to manage
U.S. workers."