Challenge 4 Entry Modes PDF

Challenge 4 Entry Modes There are three basic categories of internationalization strategies Trade of product and services Generally home-based international exchange activities, such as global sourcing (importing), exporting, and countertrade 1. Global Sourcing: al...

Challenge 4 Entry Modes There are three basic categories of internationalization strategies Trade of product and services Generally home-based international exchange activities, such as global sourcing (importing), exporting, and countertrade 1. Global Sourcing: also known as global procurement, global purchasing or importing. This strategy of buying products and services from foreign sources and bringing them into the home country or third country 2. Exporting:The strategy of producing products or services in one country (often the producer’s home country), and selling and distributing them to customers located in other countries. 3. Countertrade- An international business transaction where full or partial payments are made in kind rather than cash, i.e. instead of money, payments are in other products or commodities Equity or ownership-based international business activities Typically are foreign direct investment (FDI) and equity-based collaborative ventures FDI- The firm establishes a presence in the foreign market by investing capital in and securing ownership of a factory, subsidiary, or other facility there. Collaborative ventures- include joint ventures in which the firm makes similar equity investments abroad, but in partnership with another company Contractual relationships: Usually take the form of licensing and franchising, in which the firm allows a foreign partner to use its intellectual property in return for royalties or other compensation- e.g. McDonalds, Dunkin Donuts, and Century 21 Real Estate Exporting as an Entry Strategy Exporting Usually the firm’s first foreign entry strategy. Low risk, low cost, and flexible. Popular with SMEs. When we talk about trade, trade deficits, trade surpluses, etc., we’re talking about exporting. Most exports involve merchandise. Export channels: ○ Independent distributor or agent; or  ○ Firm’s own marketing subsidiary abroad. Services are Exported as well ○ Architecture, education, banking, insurance, entertainment, information ○ However, many pure services cannot be exported because they cannot be transported. ○ Retailers offer their services by establishing retail stores abroad, via FDI. Retailing requires direct contact with customers. ○ Overall, most services are provided to foreign customers via entry strategies other than exporting, especially F D I. Exporting and the Global Economy ○ Exporting is the entry strategy responsible for the massive inflows and outflows that constitute global trade and generates substantial foreign-exchange earnings for nations. ○ Exporting- The strategy of producing products or services in one country (often the producer’s home country), and selling and distributing them to customers located in other countries. Advantages ○ Flexibility- The exporter can enter and withdraw from markets fairly easily, with minimal risk and expense ○ Complementary- It can complement more sophisticated joint venture or FDI strategies as firms begin to export from their foreign locations to other countries ○ Ex. Toyota has used FDI to build factories in key locations in Asia, Europe, and North America from which it exports cars to neighboring countries and regions ○ Increase sales, market share and profits often more favorably than in the domestic market ○ Increase economies of scale, reducing per-unit costs of manufacturing ○ Diversify customer base, reducing dependence on home markets ○ Stabilize fluctuations in sales associated with economic cycles or seasonality of demand  ○ Minimize the cost of foreign market entry; the firm can use exporting to test new markets before committing greater resources through FDI ○ Minimize risk and maximize flexibility, compared to other entry strategies ○ Leverage the capabilities of foreign distributors and other business partners located abroad’ Disadvantages ○ Little direct contact with foreign customers (in contrast to FDI), hinders firm-level learning about customers, competitors, and other unique foreign market aspects. ○ Developing specialized export capabilities places a strain on resources. Exporters must become proficient in international sales contracts & transactions, financing methods, logistics, and documentation. ○ Exports are more sensitive to tariffs, trade barriers and exchange rate fluctuations. Exporters can be priced out of foreign markets if shifting exchange rates make their products too costly to foreign buyers. High value-added, high-technology industries are more subject to the forces of globalization. Service sector Exports: travel, construction, engineering, education, banking, insurance, entertainment ○ Examples- Hollywood film studios earn billions by exporting their movies and videos. Construction firms send their employees abroad to work on major construction projects. ○ Pure services cannot be exported because they cannot be transported, e.g. haircut A systematic Approach to Exporting 1. Step 1: asses global Market Strategy Analyze firm readiness for exporting, screen for the most attractive export markets, identify qualified intermediaries/foreign business partners, and estimate industry and company sales potentials. Managers often visit the most promising countries to deepen their understanding of them. Participating in foreign trade shows and trade  missions is useful for identifying market potential and foreign intermediaries. 2. Organize for Exporting Indirect Exporting: exporting that is accomplished by contracting with intermediaries located in the firm’s home market ○ Advantage: - the ability to internationalize with lower risk, less complexity, and at a lower cost than direct exporting- the novice firm can start exporting with low startup costs, few risks, and no fixed capital requirements, but with prospects for increasing sales. Direct Exporting: Exporting that is accomplished by contracting with intermediaries located in the foreign market ○ Advantage- it gives the exporter greater control over the export process and potential for higher profits, as well as a closer relationship with foreign buyers and the marketplace. ○ Disadvantage- the exporter must dedicate substantial time, personnel, and corporate resources to developing and managing export operations 3. Acquired needed skills and competencies Specialized skills and competencies are required in areas such as product development, distribution, logistics, finance, contract law, currency management, foreign language skills and the ability to interact well with foreign cultures 4. Export Management Exporting strategy may need refinement to suit market conditions: Product adaptation- modifying a product to make it fit the needs and tastes of the buyers in the target market- the exporter needs to adapt its products to gain competitive advantage Marketing communications adaptation- modifying advertising, selling style, public relations, and promotional activities to suit individual markets Price competitiveness keeping foreign pricing in line with those of competitors Distribution strategy- hinges on developing strong and mutually beneficial relations with foreign intermediaries. Importing: Buying products and services from foreign sources and bringing them into the home country or a third country - this sourcing may be from independent suppliers abroad or from company-owned subsidiaries or affiliates. INTERNATIONAL TRADE = EXPORTING & IMPORTING Managing Export-Import Transactions Documentation: refers to the official forms and other paperwork required in export transactions for shipping and customs procedures ○ Quotation or pro forma invoice- information regarding price and description of the product/service ○ Commercial invoice- demand for payment issued by the exporter when a sale is made ○ Bill of lading- is the basic contract between exporter and shipper Authorizes shipping Receipt and proof of title for purchase of the goods ○ Export Declaration: lists contact information of the exporter and the buyer (or importer), as well as a full description of the products being shipped ○ Certificate of origin- the “birth certificate” of the goods being shipped and indicates the country where they originate. ○ Insurance certificate- protect the exported goods against damage, loss, pilferage and delay. ○ Freight forwarder- (travel agents for cargo) typically entrusted with the document preparations- assist exporters with logistics, packing, labeling, customs and shipping. License- permission to export- may be government regulated- national security (e.g. nuclear materials), foreign policy, resource restrictions (e.g. petroleum products) ○ Shipping and Incoterms Incoterms (“International Commerce Terms”): universally accepted terms of sale developed by the International Chamber of Commerce (www.iccwbo.org) that specify whether the buyer or the seller pays for transportation, insurance, and at what point in the transportation process the seller relinquishes and the buyer assumes title of the product  EXW: Buyer bears all costs and risks from seller’s premises. Seller’s obligation is minimal FOB: Buyer bears all costs and risks upon delivery. Seller clears goods for export CIF: Seller bears all costs and risks to the named port of destination. Seller clears goods for export. At the destination port, responsibility transfers from the seller to the buyer. Payment Methods in Exporting and Importing ○ Advanced economies may afford firms stronger legal frameworks than developing economies, however, in the event of disputes, local laws and enforcement mechanisms may favor local companies over foreign firms. ○ Exporters may allow customers several months to make payments or to structure payment on open accounts. ○ Customers in developing economies often lack payment mechanisms such as credit cards and checking accounts. ○ Trading with some developing economies- exporters extend credit cautiously because of the risk that some customers may fail to pay ○ Payment methods- listed roughly in order from most to least secure- cash in advance, letter of credit, open account, and countertrade. ○ Cash in advance Exporter receives cash in advance, payment is collected before the goods are shipped to the customer Advantage- the exporter need not worry about collection problems and can access the funds almost immediately upon concluding the sale Disadvantage- buyer’s standpoint- cash in advance is risky and may cause cash-flow problems- unpopular with buyers, and may discourage sales ○ Letter of Credit: contract between the banks of a buyer and a seller that ensures payment from the buyer to the seller upon receipt of an export shipment Protects both the buyer and seller, so most popular for export transactions  The system works because virtually all banks have established relationships with correspondent banks around the world Once established, an irrevocable letter of credit cannot be canceled without agreement of both buyer and seller Letter of credit also specifies the documents the exporter is required to present, such as a bill of lading, commercial invoice, and certificate of insurance. Draft- similar to a check- the draft is a financial instrument that instructs a bank to pay a precise amount of a specific currency to the bearer on demand or at a future date. ○ Open Account Open account- buyer pays the exporter at some future time following receipt of the goods, similar to a retail customer paying a department store on account. Exporters use this approach only with: long-standing customers; those with excellent credit; or a subsidiary the exporter owns, otherwise very risky ○ Countertrade An international business transaction where all or partial payments are made in kind rather than cash. Similar to barter, it involves paying for goods or services using other goods or services when conventional means of payment (cash) are difficult or unavailable. It is especially common when dealing with governments is developing economies and emerging markets If a developing economy’s government falls short of hard currency, for example, it may require a foreign seller to accept some local products as partial payment for purchased goods. 4 types of countertrade Barter: Direct exchange of goods without any money Compensation deals:Payment is in both goods and cash. A company may sell its equipment to the government of Brazil and receive half the payment in hard currency and the other half in merchandise. Counterpurchase:  ○ In the first, the seller agrees to a set price for goods and receives cash from the buyer. This first deal is contingent on a second wherein the seller agrees to purchase goods from the buyer for the same amount as in the first contract or a set percentage of same- common in the defense industry ○ Counter purchase is common in the defense industry, in which a government that buys military hardware might require a foreign defense contractor to purchase some local products or contribute to local employment. Buy-back agreements: A type of countertrade in which the seller agrees to supply technology or equipment to construct a facility and receives payment in the form of goods produced by the facility The two overarching problems with countertrade are: the lack of liquidity of the good received in payment, and the lack of efficiency in conducting a countertrade deal FIRMS CAN ENCOUNTER FIVE PROBLEMS IN COUNTERTRADE ○ Goods may be inferior in quality, with limited sales potential ○ Difficult to assess a fair market value ○ Both parties usually pad their prices ○ Countertrade is complex, cumbersome, and time-consuming ○ Government rules can make it bureaucratic and frustrating Sources of Export Financing Commercial Banks: ○ The same commercial banks that finance domestic activities can often finance export sales. ○ A logical first step for the exporter is to approach the local commercial bank with which it already does business, or a commercial bank with an international department that is familiar with exporting ○ Another option is to have the bank make a loan directly to the foreign buyer to finance the sale.  ○ Factoring, forfaiting, confirming Factoring is the discounting of a foreign account receivable by transferring title of the sold item and its account receivable to a factoring house (an organization that specializes in purchasing accounts receivable) for cash at a discount from the face value. Forfaiting is the selling, at a discount, of long-term accounts receivable of the seller or promissory notes of the foreign buyer. Confirmation is a financial service in which an independent company confirms an export order in the seller’s country and makes payment for the goods in that country’s currency Distribution Channel intermediaries ○ Intermediaries such as trading and export management companies provide short-term financing or simply purchase exported goods directly from the manufacturer, eliminating the need for financing and any risks associated with the export transaction. Buyers and suppliers ○ Foreign buyers of expensive products often make down payments that reduce the need for financing from other sources ○ Buyers may also make incremental payments as production of the goods or project is completed. ○ Some industries use letters of credit that allow for progress payments upon inspection based on a certain percentage of the product having been completed Intra-corporate Financing ○ Large multinational enterprises with foreign subsidiaries have many more options for financing exports ○ The MNE may allow its subsidiary to retain a higher-than-usual level of its own profits in order to finance export sales ○ The parent firm may provide loans, equity investments, and trade credit as funding for the international selling activities of its subsidiaries  ○ The parent can also guarantee loans obtained from foreign banks by its subsidiaries. ○ Large MNEs can often access equity financing by selling corporate bonds or shares in stock markets Multilateral Development Banks (MDBs) ○ Multilateral Development Banks (MDBs) - International financial institutions owned by multiple governments within world regions or other groups. ○ Their individual and collective objective is to promote economic and social progress in their member countries—many of which are developing countries. Identifying and Working with Foreign Intermediaries Success in exporting usually depends on establishing strong relationships with distributors, sales representatives, and other foreign market intermediaries. Intermediaries move products and services in the home country and abroad and perform key downstream functions in the target market. FOREIGN DISTRIBUTOR- foreign–based intermediary that works under contract for an exporter. ○ Most intermediaries are based in the exporter’s target market provide services such as: Conducting market research Appointing local representatives Exhibiting products at trade shows MANUFACTURER’S REPRESENTATIVE: is an intermediary contracted by the exporter to represent and sell its merchandise or services in a designated country or territory. ○ Manufacturer’s representatives go by various names—agents, sales representatives, or service representatives. ○ They act as contracted sales personnel in a designated target market on behalf of the exporter. ○ Manufacturer’s representatives do not take title to the goods they represent and are most often compensated by commission. ○ They do not maintain physical facilities, marketing, or customer support capabilities, so the exporter must handle these functions.  TRADING COMPANY- an intermediary that engages in import and export of various commodities, products, and services ○ It assumes the international marketing function on behalf of producers, especially those with limited international business experience. ○ Manufacturers that lack the will or resources to sell their products internationally often employ trading companies. ○ Large trading companies operate much like agents, coordinating sales of countless products in markets worldwide. ○ Typically, they are high-volume, low-margin resellers compensated by adding profit margins to what they sell. EXPORT MANAGEMENT COMPANY (EMC) - acts as an export agent on behalf of a client company. ○ In return for a commission, an EMC finds export customers on behalf of the client firm, negotiates terms of sale, and arranges for international shipping. ○ Smaller than a trading company, some EMCs have well-established networks of foreign distributors in place that allow exported products immediate access to foreign markets. ○ Because of the indirect nature of the export sale, the manufacturer runs the risk of losing control over how its products are marketed abroad, with possible negative consequences for its international image. Internet: Some focal firms use the Internet to sell products directly to customers rather than going through traditional wholesale and retail channels, thus able sell their products more cheaply and faster ONLINE INTERMEDIARIES- broker transactions between buyers and sellers worldwide. ○ Emergent technologies offer new roles that intermediaries have not previously offered ○ Many traditional retailers establish websites or link with online service providers to create an electronic presence When Intermediary Relations Go Bad ○ Despite good intentions, disputes can arise between the exporter and its intermediaries on issues such as: ○ Compensation arrangements (e.g., the intermediary may wish to be compensated even if not directly responsible for a sale in its territory)  ○ Pricing practices ○ Advertising and promotion practices and the extent of advertising support ○ After-sales service A typical contract should designate ○ Duration of the relationship between the exporter and the intermediary. ○ Sales territory granted to the intermediary. ○ Manner in which the intermediary is expected to handle the product (e.g., regarding adaptation, pricing, advertising Legal Risks ○ Exporters need to ascertain the legal requirements for termination in advance and specify the intermediary’s rights for compensation. ○ In many countries, commercial regulations favor local intermediaries and may require the exporter to indemnify—that is, compensate—the intermediary even if there is just cause for termination. ○ In some countries, legal contracts may prove insufficient to protect the exporter’s interests. Many countries in Africa and Latin America lack strong legal frameworks, which can make contracts hard to enforce. Financial Risks ○ Just as in their domestic operations, exporters occasionally encounter problems with buyers or intermediaries who default on payment. ○ As a rule, problems with bad debt are easier to avoid than to correct after they occur. ○ Before entering an agreement, the exporter should perform a credit and other background checks on potential intermediaries and large-scale buyers. ○ In terms of payment mechanisms, cash in advance or a letter of credit is usually best. ○ The exporter can also buy insurance from insurance companies specialized in international transactions to cover commercial credit risks Negotiation/Legal Options ○ When buyers default on payment, the exporter’s best recourse is to negotiate with the offending party. ○ With patience, understanding, and flexibility, conflicts often can be resolved to the satisfaction of both sides.  ○ If negotiations fail and the cost of termination is substantial, the exporter may need to seek assistance from its bank or attorney. ○ At the extreme, the exporter may pursue litigation, arbitration, or other legal means for enforcing payment on a sale. OUTSOURCING, GLOBAL SOURCING, AND OFFSHORING Outsourcing- the procurement of selected value-adding activities, including production of intermediate goods or finished products, from independent suppliers ○ Firms outsource because they generally are not superior at performing all value chain activities and it is more cost effective to outsource these activities ○ Firms should not outsource their core competencies. Global Sourcing: ○ Global sourcing- the procurement of products or services from independent suppliers or company-owned subsidiaries located abroad for consumption in the home country or a third country. Also called global procurement or global purchasing, global sourcing amounts to importing—an inbound flow of goods and services. ○ Captive sourcing- Sourcing from the firm’s own production facilities located abroad. Typically, global sourcing implies procurement from foreign locations, while captive sourcing is sourcing from one’s own wholly-owned subsidiary or an affiliate jointly owned with another firm ○ Drivers of Global Sourcing: Technological advances in communication, especially the internet an Falling costs of international business Entrepreneurship and rapid economic transformation in emerging countries Offshoring- is the relocation of a business process or entire manufacturing facility to a foreign country. ○ Candidates for offshoring by independent suppliers are those which do not threaten or diminish the focal firm’s core competencies or strategic assets ○ Ex. DHL ○ Key criteria for evaluating destinations  Availability of an appropriate labor force Wage rates Worker skill level Language and culture compatibility Quality of infrastructure Country’s legal system Economic environment Tax rates Regulatory costs Business process outsourcing (BPO)- the outsourcing of business service functions to independent suppliers, e.g. accounting, payroll, human resource functions, travel services, IT services, customer service, or technical support ○ Back office activities: such as billing, payroll ○ Front office: customer related services such as marketing or technical support Global Sourcing Benefits Faster corporate Growth Firms can focus their resources on performing more profitable activities such as R&D or building relationships with customers Access to qualified personnel abroad- ○ Countries such as China, India, the Philippines, and Ireland offer abundant pools of educated engineers, managers, and other specialists to help firms achieve their goals Improved productivity and service- Manufacturing productivity and other value-chain activities can be improved by suppliers that specialize in these activities. Business process redesign ○ Multinational firms see offshoring as a catalyst for a broader plan to overhaul outdated company operations. Global Sourcing Risks Lower than expected cost savings ○ International transactions are more complex and costly than expected. Environmental Factors ○ Environmental challenges such as currency fluctuations, tariffs and other trade barriers, high energy and transportation costs, adverse  macroeconomic events, labor strikes, and natural disasters. Firms that source from countries whose currencies are strengthening experience higher costs. Many countries suffer from poor public infrastructure, as exemplified by power outages and poor road and rail network Weak legal environment Inadequate or low-skilled workers- Over Reliance on suppliers- ○ Unreliable suppliers may reprioritize earlier work when they gain a more important client. Overreliance can shift control of key value-chain activities creating fulfillment issues for the focal firm Reshoring ○ Dissatisfaction with global sourcing has led many companies to return their production operations to the home country CSR ○ Global Sourcing is controversial Global Sourcing Positives Competitive advantage Business survival Enhance long-term firm sustainability and global competitiveness Global Sourcing Negatives Job losses in the home country ◘ Reduced national competitiveness ◘ Declining standards of living Creative Destruction GLOBAL SOURCING STRATEGIES AND SUPPLY CHAIN MANAGEMENT Go offshore for the right reasons- ○ Firms must offshore for strategic reasons, not just cost-cutting reasons. ○ ◘ The vast majority of companies cite cost-cutting as the main reason for global sourcing. After the first year, however, most firms encounter diminishing returns in the amount of money saved. Get employees on board-  ○ Managers must convince home country employees that offshoring makes strategic sense. In other words, management must get local buy-in for the idea. ○ Disaffected middle managers may undermine projects and other goals that sourcing projects seeks to achieve Emphasize communications and collaboration with suppliers- ○ A common reason for global sourcing failure is that buyers and suppliers spend too little time getting well acquainted. ○ ◘ Clarify expectations, communicate business philosophies and practices to minimize misunderstandings that diminish buyer–supplier relationships Logistics and Transportation International logistics uses multiple transportation modes- land, ocean, and air. Land transportation is conducted on highways and railroads. Ocean transport is by container ships. Air transport is on commercial or cargo aircraft Transportation modes involve three main trade-offs: cost, transit time to deliver the goods, and predictability, the match between anticipated and actual transit times A framework for foreign market entry strategies Foreign Direct Investment FDI: is an internationalization strategy in which the firms establish a physical presence abroad through the acquisition of productive assets such as capital, technology, labor, land, plant, and equipment International portfolio investment: Passive ownership of foreign securities, such as stocks and bonds, for the purpose of generating financial returns- short-term commitment FDI: active ownership control of a business abroad and represents a long-term commitment- at least 10% ownership. Control - usually achieved when the investor owns at least 50% of a foreign venture Factors to consider in choosing FDI locations ○ Managers research countries based on country and regional factors, infrastructural factors, political factors, profit retention factors, and human resource factors. Ethics, Social Responsibility, and FDI ○ Criticisms of firms internationalizing through FDI: Ethical lapses and irresponsible behavior Exertion of substantial power in the most heavily invested markets Harsh factory working conditions Bribery to advance their interests Marketing of shoddy products Employment of questionable marketing practices ○ Multinational firms increasingly strive to behave in socially responsible ways in host countries. ○ SUSTAINABILITY- meeting humanity’s current needs without harming future generations Ethical Connections ○ Advantages: FDI offers numerous benefits to recipient countries ○ Unintended Consequences- FDI may produce side effects that harm the natural environment, especially in countries with weak environmental laws. ○ Pollution and ecological destruction may emerge alongside rapid economic growth. Motives for FDI and Collaborative Ventures  ○ Goal: FDI and international collaborations - to enhance firm competitiveness in the global marketplace companies pursue these strategies for complex reasons Types of FDI ○ greenfield versus mergers and acquisitions. Greenfield investments: Direct investment to build a new manufacturing, marketing, or administrative facility, as opposed to acquiring existing facilities Acquisitions: Purchase of an existing company or facility- FDI acquisition provides an immediate stream of revenue and accelerates the MNE’s return on investment. Merger: A special type of acquisition in which two firms join to form a new, larger firm, integrating their operations on a relatively equal basis - Advantages: Mergers can generate many positive outcomes, including inter-partner learning and resource sharing, increased scale economies, cost savings from eliminating duplicative activities, a broader range of products and services for sale, and greater market power. - Challenges: Cross-border mergers confront many challenges due to national differences in culture, competition policy, corporate values, and operating methods ○ Nature of ownership- wholly owned versus joint venture. Wholly owned direct investment: A foreign direct investment in which the investor assumes 100% ownership of the business and has complete control over its operations. Numerous global car companies established fully owned manufacturing plants in the United States to serve the large U.S. market from within. Equity Participation: (equity Ownership): Acquisition of partial ownership in an existing firm. Equity joint venture- A type of partnership in which a separate firm is created through the investment or pooling of assets by two or more parent firms that gain joint ownership of the new legal entity- a partner in a joint venture may hold majority, equal (50–50), or minority ownership.  ○ Level of integration- horizontal versus vertical. Vertical integration- An arrangement whereby the firm owns, or seeks to own, multiple stages of a value chain for producing, selling, and delivering a product or service. Horizontal integration- An arrangement whereby the firm owns, or seeks to own, the activities performed in a single stage of its value chain, e.g. acquisition of a competitor. Horizontal integration - the firm invests in its own industry to expand its capacity and activities. A firm may acquire another firm engaged in an identical value-chain activity to achieve economies of scale, expand its product line, increase its profitability, or eliminate a competitor. Joint Venture Joint Venture: A form of collaboration between two or more firms to create a new, jointly owned enterprise. Unlike informal collaborative arrangements, the partners in a joint venture typically invest money to create a new enterprise, which may endure for many years. A partner in a joint venture may enjoy minority, equal, or majority ownership. Complexity: attractive entry strategy because many foreign markets are complex Collaboration with a local partner enhances the foreign entrant’s ability to navigate the local market. Collaborative ventures- benefit small and medium-sized enterprises by providing them with needed capital and other assets. INTERNATIONAL COLLABORATIVE VENTURES International collaborative venture: A cross-border business alliance in which partnering firms pool their resources and share costs and risks of a venture. Collaborative ventures- also called international partnerships or international strategic alliances, are essentially partnerships between two or more firms.  Synergies- Firms can collectively transcend the substantial risks and costs involved in achieving international projects that might exceed the capabilities of any one firm operating alone. International collaborative ventures greatly increase R&D productivity in high-technology sectors such as robotics, semiconductors, aircraft manufacturing, medical instruments, and pharmaceuticals. Type of collaborative Ventures ○ Equity Joint Venture: A separate company is created by pooling the assets of two or more firms. Each firm gains ownership of the new legal entity Joint ventures are normally formed when no one party possesses all the assets needed to exploit an available opportunity Foreign partner- contributes capital, technology, management expertise, training, or some type of product Local partner -contributes the use of its factory or other facilities, knowledge of the local language and culture, market navigation know-how, useful connections to the host-country government, or lower-cost production factors such as labor or raw materials ○ Project-Based, Non Equity Venture: Two or more partners create a project with a narrow scope and a clear timetable, without creating a new legal entity. Consortia: a project-based, non equity venture initiated by multiple partners to fulfill a large scale project Cross-licensing agreement: a project-based, non-equity venture in which the partners agree to allow access to licensed intellectual property developed by the other partner, on preferential terms. Contractual entry strategies in International Business (Licensing and Franchising) Contractual entry strategies in international business are cross-border exchanges in which the relationship between the focal firm and its foreign partner is governed by an explicit contract. Licensing: Arrangement in which the owner of intellectual property grants another firm the right to use that property for a specified period of time in exchange for royalties or other compensation.  ○ Licensing is a relatively inexpensive way for the firm to gain a presence in the market, without having to resort to expensive foreign direct investment (FDI) ○ Royalty- A fee paid periodically to compensate a licensor for the temporary use of its intellectual property; often based on a percentage of gross sales generated from the use of the licensed asset. Franchising- Arrangement in which the firm allows another firm the right to use an entire business system in exchange for fees, royalties, or other forms of compensation Intellectual property (IP) rights - legal claims, derive from patents, trademarks, copyrights, etc., that protect the proprietary assets of firms and individuals from unauthorized use by other parties. Licensing as an entry Strategy  Licensing agreement specifies the nature of the relationship between the owner of intellectual property (licensor), and the user of the property (licensee). ○ A license allows a firm to use the intellectual property for a specified period of time in exchange for royalties. Licensing allows the licensee to legally produce and sell a product similar to that produced by the licensor in the home country. This usually involves an exclusive agreement meaning that the licensee is not permitted to share the licensed asset with any other company within a prescribed territory Exclusive agreements- the licensee is not permitted to share the licensed asset with any other company within a prescribed territory. Trademark and Copyright Licensing ○ Trademark licensing grants a firm permission to use another firm’s proprietary names, characters, or logos for a specified period of time in exchange for a royalty. Trademarks appear on such merchandise as clothing, games, food, beverages, gifts, novelties, toys, and home furnishings. ○ Copyright: gives the owner the exclusive right to reproduce original works, distribute copies, or perform/display the work publicly- art, music, literature, and computer software. The protection terms vary by country, but the creator’s life plus 50 years is typical. However, many countries offer little copyright protection, so it is wise to investigate local copyright laws before publishing a work abroad. Know-how agreement- contract in which the focal firm provides technological or management knowledge about how to design, make, or deliver a product or service to a licensee in exchange for a royalty. ○ The royalty may be a lump sum, a running royalty based on the volume of products produced from the know-how, or a combination of both. Cross-licensing- in industries with rapid technological advances that often build on each other, e.g. pharmaceuticals and semiconductors, technology is acquired in reciprocal licensing arrangements between firms in the same or similar industries. This reduces the cost of innovation by avoiding duplication of research, while reducing the risk of excluding any one firm from access to new developments. Advantages of Licensing ○ No direct involvement in the foreign market ○ ◘ Reduced capital investment ○ ◘ Physical market presence not required ○ ◘ Need not maintain inventory in foreign market  ○ ◘ Faster/less costly/less risky than developing the technology internally ○ ◘ Leapfrog over market barriers to entry, e.g. security-sensitive industries (defense & energy); trade barriers, tariffs and bureaucratic requirements ○ ◘ Provides a low-cost test for foreign market viability ○ ◘ Royalties generated by existing intellectual property ○ ◘ Appropriate for entering substantial country risk markets ○ ◘ Reduced political risk ○ ◘ Avoids certain government regulations ○ ◘ Develops brand name, potentially trumping later entrants Disadvantages of Licensing ○ Passive entry strategy ○ ◘ Licensor must take steps to enforce the licensing agreement, i.e. ensure that appropriate royalties are paid and licensor’s intellectual property rights are intact. ○ Modest profits relative to exporting or FDI ○ No guarantee for future expansion ○ Low control over the licensee- meager royalties, substandard product impacts reputation- dependent on the licensee’s sales and marketing prowess ○ Risk of losing intellectual property to piracy; creation of a future competitor ○ Inappropriate for intellectual property that represents a core competency ○ Complicated dispute resolution FRANCHISING AS AN ENTRY STRATEGY Franchising- more complex form of licensing in which the franchisor allows a franchisee the right to use its entire business system in exchange for compensation. Similarly, explicit contracts define franchising relationships. ○ Mcdonalds Microfranchises- Franchises operated by one or two people. A typical arrangement is called business format franchising (also called system franchising). The franchisor transfers a total business method to the franchisee, including production, marketing, sales, procedures, management know-how, and the use of its name, patents, and trademarks. Master Franchise (80% of international franchising deals) - agreement is a variant of the franchising method. In this case, the franchisor licenses an independent company in the foreign country to establish, develop, and manage the entire franchising network in its market. ○ The master franchisee then sub-franchises other businesses and assumes the role of the local franchisor. This may be convenient for the focal firm  from an operational point of view; however it gives up significant control when it does so. Advantages of Franchising ○ Ideal complementary relationship: ○ Franchisor- economies of scale, a wealth of intellectual property, and know-how about its industry ○ ◘ Franchisee- entrepreneurial drive and substantial knowledge about the local market and how to run a business there Advantages for the Franchisor: ○ Low-risk, low-cost entry strategy ○ Quick, large-scale, cost-effective expansion to many foreign markets ○ Incremental investments in capital, staff, production, and distribution ○ Establishes brand name sales potential early ○ Leverage franchisee knowledge in local markets Disadvantages for the Franchisor: ○ Maintain control over potentially thousands of worldwide outlets ○ Risk of creating competitors ○ Franchisor’s image may be jeopardized if standards are not met ○ Potential conflicts including legal disputes with franchisee ○ Local laws and regulations many times favor the franchisee ○ Laws and foreign exchange circumstances affect the payment of royalties Advantages for the Franchisee: ○ Benefit from established franchisor formula- part of an established international network ○ ◘ Well-known franchise is more likely to be patronized ○ ◘ Beneficial to SMEs, many of which lack substantial resources and strong managerial skills ○ ◘ Launch a business using a tested business model; clone best practices ○ ◘ Gain a well-known brand name ○ ◘ Acquire training, know-how ○ ◘ Support from franchisor ○ ◘ Operate an independent business ○ ◘ Increase likelihood of success Disadvantages for the Franchisee: ○ ◘ High initial investment ○ ◘ High royalty payments ○ ◘ Franchisee must purchase supplies from franchisor only ○ ◘ Franchisor holds superior bargaining power  ○ Franchisor may create competition by licensing to other franchisees ○ Franchisor may impose inappropriate technical or managerial systems on the franchisee (especially in the international context if ignorant about the foreign market OTHER CONTRACTUAL ENTRY STRATEGIES Turnkey Contracting: an arrangement in which the focal firm plans, finances, organizes, manages, and implements all phases of a project abroad. Then hands it over to a foreign customer/sponsor (often a national government), after training local workers ○ This type of contractual agreement facilitates international growth for firms in many service industries. Construction, engineering, design, and architectural firms have become major global players due to turnkey and other contractual arrangements. Build-Operate-Transfer Arrangements (BOT) Build-operate-transfer arrangement, known as BOT, is similar to turnkey arrangements. However, the contracting firm operates the facility for a specific time, and then transfers ownership to the local project sponsor, typically the host-country government or public utility. Management Contracts a contractor supplies managerial knowledge to operate a hotel, resort, hospital, airport, or other facility in exchange for compensation. The contractor runs the facility without actually owning it. Leasing Leasing- The focal firm, called the lessor, rents machinery or equipment to clients abroad, called the lessee. The lessor retains ownership of the property and receives lease payments from the customer overseas. This can reduce the cost of a project since the lessee may not need to own the equipment. Several large companies lease aircraft to both large and small airline companies worldwide. ○ Advantages: For the lessor is the ability to gain quick access to target markets, while putting assets to use earning profits INFRINGEMENT OF INTELLECTUAL PROPERTY: A GLOBAL PROBLEM Infringement of intellectual property, or piracy, is the unauthorized use, publication, or reproduction of products or services that are protected by a patent, copyright, trademark, or other intellectual property rights.  Counterfeit Products: The most commonly counterfeited goods are jewelry and accessories, apparel, consumer electronics, pharmaceutical drugs, and optical media such as CDs and DVDs.