Chapter 11

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CHAPTER                                       11
                     Strategies for Analyzing and Entering
                                           Foreign Markets

           After studying this chapter, students should be able to:

           > Discuss how firms go about analyzing foreign markets.
           > Outline the process by which firms choose their mode of entry into a foreign
           > Describe forms of exporting and the types of intermediaries available to assist
             firms in exporting their goods.
           > Identify the basic issues in international licensing and discuss the advantages
             and disadvantages of licensing.
           > Identify the basic issues in international franchising and discuss the advantages
             and disadvantages of franchising.
           > Analyze contract manufacturing, management contracts, and turnkey projects as
             specialized entry modes for international business.
           > Characterize the greenfield strategies and acquisition as forms of FDI.


OPENING CASE: Heineken Brews Up a Global Strategy

      The opening case explores Heineken NV’s global strategy. In particular, it considers the
      strategic moves and selection of entry modes Heineken is making in the U.S. and
      Europe to increase its competitiveness.

      Key Points

         Heineken NV, the world’s second largest beer producer, earns more than 85 percent
          of its revenues outside of the Netherlands. The company is a market leader in every
          European country, and sells its beer in North and South America, Africa, and Asia.

         Heineken began exporting beer to the U.S. in 1914, temporarily halted its sales
          during Prohibition, and successfully reestablished sales after Prohibition.
          Heineken’s distributor in the U.S. was Van Munching & Company.
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         Today, Heineken brews beer in more than 50 countries. The company expanded
          into the soft drink and wine businesses in the 1970s to exploit its bottling technology
          and global distribution networks.

         Heineken’s current strategy is to achieve in Europe the same sort of market
          dominance Anheuser-Busch has in the U.S. To that end, Heineken has bought
          breweries in several European countries as a way of expanding its product lines and
          facilitating distribution throughout Europe. In addition, the company has closed or
          modernized older breweries.

         Heineken has avoided establishing a brewery in the U.S., however, because it wants
          to retain its imported image. Heineken knows that from a cost standpoint, local
          production might make sense, but notes that Lowenbrau actually saw a decrease in
          sales after establishing a U.S. operation.

         Heineken has, however, bought its U.S. distributor, Van Munching & Company, to
          cut costs and increase profits. The move also enables Heineken to coordinate its
          U.S. marketing campaigns with its global ones.

      Case Questions

      1. Why is it so important for Heineken to maintain its export sales to the U.S.?

          The U.S. has been an important export market for Heineken for nearly a century.
          Heineken recently acquired the distributor, Van Munching & Company, that has
          been responsible for importing and distributing its products in the U.S. from the
          beginning. Although Heineken considered establishing a brewery in the U.S. to cut
          costs, it decided to maintain its current export strategy because it believes the
          imported image Heineken beer carries is an important selling point in the U.S.

      2. Heineken earns the majority of its revenues outside of its home country, yet both
         Anheuser-Busch and Miller sell 95 percent of their output locally. What factors could
         explain this difference?

          Most students will quickly point out that if Heineken wanted to be one of the world’s
          major producers of beer, it had to expand outside of its home country, the
          Netherlands, because its local market is so small. Miller and Anheuser-Busch, on
          the other hand, had the luxury of producing beer in one of the world’s larger
          markets, and thus could rely on domestic sales for most of their earnings. Later,
          Heineken continued its global expansion in order to capitalize on its distinctive
          competencies, its bottling technology, and its global distribution networks.

      Additional Case Application
         Today, Budweiser is one of the hot (or should one say cold?) beers of choice in
         Britain. Much of its current appeal to the British appears to be related to the fact that
         it is imported.     Students can be asked to compare and contrast Budweiser’s
         strategy in Britain with Heineken’s strategy in the U.S. Issues to consider include
         whether Budweiser should establish a British brewery or form a joint venture with a
         local company, whether exporting is a sustainable strategy, and how Heineken
         should respond to Budweiser’s recent success in Britain.
                                     Strategies for Analyzing and Entering Foreign Markets >   171


     Chapter Eleven examines the various entry modes available to companies as they
     expand internationally. The chapter begins with the choice of entry modes, and then
     proceeds to discuss the advantages and disadvantages of each one.


     To successfully increase foreign market share, firms must assess alternative markets;
     evaluate the respective costs, benefits, and risks of entering each; and select those that
     hold the most potential for entry or expansion.

     Assessing Alternative Foreign Markets

        A firm must consider a variety of factors, including market potential, levels of
         competition, the legal and political environment, and sociocultural influences when
          assessing alternative foreign markets. Discuss Table 11.1 here.
        Information on some of the factors is easily obtainable from published sources in the
         firm’s home country. Other information may be subjective and difficult to obtain. In
         fact, it may be necessary to visit the foreign location in question.
        Market Potential. The first step in foreign market selection is assessing market
         potential. Variables a firm might wish to consider include population, GDP, per
         capita GDP, public infrastructure, and ownership of goods such as automobiles and
         televisions. Students should refer to Building Global Skills in Chapter 2 for a list of
         publications that provide this type of information.
         Next, a firm must collect information relating to the specific product line under
         consideration. It may be necessary for a firm to use proxy data in some cases. The
         potential for growth in a particular market can be estimated using both objective and
         subjective measures. Show map 11.1 here.
        Levels of Competition. Firms must also consider the current and future level of
         competition in foreign markets. Firms assessing their competitive environment
         should identify the number and size of firms already competing in the potential
         market, their relative market shares, their pricing and distribution strategies, and
         their relative strengths and weaknesses. Continual monitoring can help firms
         identify new opportunities. (See Chapter 10's closing case, The New
        Legal and Political Environment. It is important that a firm understand the host
         country’s policies toward trade as well as its general legal and political environment
         prior to making an investment. Students should refer to Chapters 6 and 8 for a
         review of these concepts.
         Trade barriers, for example, might induce a firm to enter a market via FDI as
         opposed to exporting. In some countries, legal and political issues will impact both
         entry methods and the repatriation of profits. A country’s tax policies and
         government stability may also affect a firm’s strategy. The text provides specific
         examples of how these factors affected the international strategies of various firms.
        Sociocultural Influences. Sociocultural influences should also be considered when
         assessing foreign market opportunities. The role of culture in international business
         was discussed in Chapter 9. In many cases, firms will attempt to minimize the
172 > Chapter 11

          potential impact of sociocultural differences by initially focusing on countries that are
          culturally similar to their home markets.
          Depending on the proposed type of internationalization effort, certain sociocultural
          variables may be more important than others. For example, if the proposed strategy
          is to export goods to a new market, the sociocultural factors of most importance are
          those that relate to consumers. In contrast, if a firm is considering establishing a
          factory or distribution center in a foreign country, the firm should evaluate
          sociocultural factors associated with its potential employees.

      Evaluating Costs, Benefits, and Risks

         Costs. There are two types of relevant costs at this point: direct and opportunity.
          Direct costs are incurred when entering the foreign market in question and include
          costs associated with setting up a business operation, transferring managers to run
          it, and shipping equipment and merchandise. A firm incurs opportunity costs when
          entering one market precludes or delays its entry into another. The profits it would
          have earned in the second market are opportunity costs.
         Benefits. Benefits from entering a foreign market include expected sales and
          profits, lower acquisition and manufacturing costs, foreclosing of markets to
          competitors, competitive advantage, access to new technology, and the opportunity
          to achieve synergy with other operations.
         Risks. A firm entering a new market incurs the risks of opportunity costs, additional
          operating complexity, and direct financial loss due to misassessment of market
          potential. In some extreme cases a firm may also risk loss due to government
          seizure of property, war or terrorism.
         It is important that firms carefully assess foreign markets prior to making strategic
          decisions. Poor strategic judgments may rob a firm of profitable operations, while a
          continued inability to reach the right strategic decisions may threaten the firm’s

                         Teaching Note:
                         Instructors may want to begin their discussion of entry methods by
                         asking students how a hypothetical (or real) firm should sell its
          product in other markets. Students can usually quickly name the various choices,
          but are uncertain as to the pros and cons of each method.


         Dunning’s eclectic theory (see Chapter 5) can be helpful in providing insight as to
          the best means of penetrating foreign markets. The theory considers three factors:
          ownership advantages, location advantages, and internalization factors, which in
          addition to other factors such as the firm’s need for control, the availability of
          resources, and the firm’s global strategy, help a firm decide between exporting, FDI,
          joint ventures, licensing, and franchising. Show Figure 11.1 here.
         Ownership advantages are the tangible or intangible resources owned by a firm
          that grant it a competitive advantage over industry rivals. The text provides
          examples of both tangible (Inco, Ltd’s nickel-bearing ore) and intangible (the luxury
          appeal of LVMH Moet Hennessy Louis Vuitton’s products) ownership advantages.
                                       Strategies for Analyzing and Entering Foreign Markets >   173

           The nature of a firm’s ownership advantage will play a role in the firm’s selection of
           entry mode.
          Location advantages are those factors that affect the desirability of host country
           production relative to home country production. The choice of home country versus
           host country production is affected by factors such as relative wage rates, land
           acquisition costs, capacity in existing plants, access to R&D facilities, logistical
           requirements, customer needs, the administrative costs of managing a foreign
           subsidiary, political risk, and government restrictions. Present Map 11.2 here.
          Internalization advantages are factors that affect the desirability of a firm
           producing a good or service itself rather than relying on an existing local firm to
           handle production. Transaction costs (see Chapter 3) will play a role in this decision.
           If transaction costs are high, the firm may select FDI or a joint venture as an entry
           method. If transaction costs are low, franchising, contract manufacturing, or
           licensing may be a better choice. The text illustrates this concept with an example of
           the factors affecting choice of entry mode in the pharmaceutical industry.
          Other factors that affect a firm’s choice of entry method include its need for control,
           the availability of resources, and the firm’s overall global strategy. In sum, the
           choice of an entry mode will be a tradeoff between risk and reward, the level of
           resource commitment necessary, and the level of control the firm seeks.


          The most common international business activity is exporting, or the process of
           sending goods or services from one country to other countries for use or sale there
           (see Chapter 1). Discuss Table 11.2 here.
          There are many advantages to exporting. It allows a firm to control its financial
           exposure in the host country; in fact, in most situations the risk is limited to basic
           start-up costs and the value of the goods or services involved in the transaction.
           Exporting also allows a firm to enter a market on a gradual basis, gain experience in
           operating internationally, and obtain information about certain markets without any
           investment expense.

                    Discuss Venturing Abroad: Jumping on a Japanese Jam Deal
                    Chivers Hartley, a UK firm producing fruit preserves, after two years of
                    negotiation landed a deal to export its products to Japan. The deal
                    required changes in recipes and packaging, as well as the creation of a
           new brand name.

          Firms may have a proactive motivation for entering a foreign market, and in effect be
           pulled into the market as a result of the opportunities available there. The text
           provides several examples of firms that have exported as a result of a proactive
          Firms may also export as a result of a reactive motivation whereby they are pushed
           into exporting because domestic opportunities are shrinking, or production lines are
           running below capacity, or they are seeking higher profit margins.
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      Forms of Exporting

      There are three forms of exporting: indirect exporting, direct exporting, and
      intracorporate transfer. Discuss Figure 11.2 here.

         Indirect exporting occurs when a firm sells its products to a domestic customer,
          which in turn exports the product, in either its original form or a modified form.
          Because indirect exporting is usually not done on a conscious basis, the process
          does not provide the firm with experience in international business and does not
          allow the firm to capitalize on potential export profits.
         Direct exporting involves sales to customers located outside the firm’s home
          country. Although one-third of firms exporting for the first time are responding to an
          unsolicited order, subsequent efforts are usually the result of a deliberate effort,
          allowing a firm to gain valuable international business experience.
         An intracorporate transfer is the selling of goods by a firm in one country to an
          affiliated firm in another. Intracorporate transfer has become more important as the
          sizes of MNCs have increased, and today represents some 35 percent of all U.S.
          merchandise exports and imports.            The text provides several examples of
          intracorporate transfer, and the topic will also be discussed in more depth in Chapter

      Additional Considerations

      In additional to considering which form of exporting to use, a firm must also assess
      government policies, marketing considerations, logistical considerations, and distribution

         Government policies such as export promotion policies, export financing programs,
          and other forms of home country subsidization encourage exporting. However, tariff
          and nontariff barriers may discourage firms from selecting exporting as an entry
          mode. The text illustrates this concept with the example of how voluntary export
          restraints on Japanese automobile exports encourage Japanese producers to
          manufacture in the U.S.
         Marketing concerns including image, logistics, distribution, responsiveness to the
          customer, and the need for quick feedback may also affect a firm’s choice of entry
          method. The text provides several examples of products, which are successful as
          exports because of their image.
         Logistical Considerations. A firm must consider the logistical costs of exporting
          such as the physical distribution costs of warehousing, packaging, transporting and
          distributing goods, and inventory carrying costs when selecting an entry mode.
         Distribution issues may also influence a firm’s decision to export. Many firms are
          forced to use distributors in foreign markets, and the selection of the distributor can
          be critical to the firm’s international success. In some cases, the best distributor may
          already be handling a competitor’s products and a firm will be forced to weigh the
          costs of using a less experienced distributor with the costs of using a distributor that
          will not handle its products on an exclusive basis. In addition, compensation
          decisions must be made, the firm may find that its business judgment differs from
          the distributor’s, and pricing strategies may differ.
                                       Strategies for Analyzing and Entering Foreign Markets >   175

      Export Intermediaries

      A firm may market and distribute its goods via an intermediary, a third party specializing
      in the facilitation of exports and imports.      There are several types of export
      intermediaries including export management companies, Webb-Pomerene associations,
      and international trading companies.

         An export management company (EMC) is a firm that acts as its client’s export
          department. Several thousand EMCs operate in the U.S., providing clients with
          information about the legal, financial, and logistical details of exporting. Some EMCs
          act as commission agents, while others take title to the good.
         A Webb-Pomerene association is a group of U.S. firms that operate within the
          same basic industry and that are allowed by law to coordinate their export activities
          without fear of violating U.S. antitrust laws. Fewer than 25 associations exist today,
          providing market research, overseas promotional activities, freight consolidation,
          contract negotiations, and other services for members.
         An international trading company is a firm directly engaged in trading a wide
          variety of goods for its own account. Unlike an EMC, an international trading
          company participates in both exporting and importing. Japan’s sogo sosha are the
          most important trading companies in the world. The success of the sogo soshas is a
          result of several factors. First, they are able to continuously obtain information about
          economic conditions and business opportunities anywhere in the world. Second,
          they have a ready source of financing from the keiretsu, and a built-in source of
          customers (fellow keiretsu members.) Discuss Table 11. 3 here.
         Other Intermediaries. Manufacturers’ agents solicit domestic orders for foreign
          manufacturers while manufacturers’ export agents act as an export department for
          domestic manufacturers.        Finally, export and import brokers bring together
          international buyers and sellers of standardized commodities, and freight forwarders
          specialize in the physical transportation of goods.


         Licensing is an arrangement whereby a firm, the licensor, sells the rights to use its
          intellectual property to another firm, the licensee, in return for a fee. Firms
          operating in countries with weak intellectual property protection are not advised to
          use licensing. However, in cases where tariff and nontariff barriers, restrictions on
          the repatriation of profits, or restrictions on FDI discourage other alternatives,
          licensing may be the only option. Show Figure 11.3 here.

                           Teaching Note:
                           Instructors may wish to raise the issue of why intellectual property
                           protection is so important to firms, and why it is difficult to enforce.
                           Instructors may wish to use the example of Polaroid and Kodak to
          illustrate the concept.

         Licensing is attractive because it requires few out-of-pocket costs, and because it
          allows a firm to capitalize on location advantages of foreign production without
          incurring any ownership, managerial, or investment obligations. The text provides
176 > Chapter 11

          an example of why the Kirin Brewery company chose licensing as a means of
          international expansion.

      Basic Issues in International Licensing

      The actual licensing agreement is a critical part of the licensing process, and reflects the
      bargaining power and skills of the licensor and licensee. The contract should consider
      the boundaries of the agreement; compensation, rights, privileges, and constraints;
      dispute resolution; and duration of the contract.

         Specifying the Agreement’s Boundaries. The first step in negotiating a licensing
          contract is specifying the boundaries of the agreement. The text provides an
          example of how Pepsi sets the boundaries in its licensing agreement with Heineken.
         Determining Compensation. Compensation under a licensing agreement is called
          a royalty. Both parties have an interest but opposing views in the determination of
          an agreement’s compensation.             The licensor wants to receive as much
          compensation as possible, while the licensee wants to pay as little as possible.
          Royalties of 3-5 percent are common.
         Establishing Rights, Privileges, and Constraints. A licensing contract should
          spell out the rights and privileges of the licensee and the constraints the licensor
          may impose. Typically, licensees are prohibited from divulging information learned
          from the licensor to third parties, are required to keep specific records on the sale of
          products or services, and must follow specified standards regarding product and
          service quality.
         Specifying the Agreement’s Duration. Finally, a licensing agreement specifies the
          duration of the arrangement. Licensors who have chosen licensing as a low-cost
          means of gaining information about a foreign market may seek a short-term
          agreement. However, a licensee will seek an agreement that is long enough for it to
          recoup its investments in market research, the establishment of distribution
          networks, and/or production facilities. The text notes, for example, that the
          licensees that built Tokyo Disneyland required a 100-year agreement with Walt
          Disney Company.

      Advantages and Disadvantages of International Licensing

         A primary advantage of licensing is its relatively low financial risk. In addition,
          licensing permits a company to investigate foreign market sales potential without
          making significant investment in financial and managerial resources. Licensees
          benefit from the arrangement by being able to make and sell products with a proven
          track record, yet incur relatively little R&D cost.
         A primary disadvantage of licensing is that it limits market opportunities for both the
          licensee and the licensor. In addition, there is mutual dependence between the
          licensor and the licensee, and costly and tedious litigation to resolve disputes may
          hurt both parties. Finally, firms must carefully word their licensing agreements to
          minimize problems and misunderstandings, and also guard against creating a future
                                      Strategies for Analyzing and Entering Foreign Markets >   177


      A franchising agreement allows an independent entrepreneur or organization, called
      the franchisee, to operate a business under the name of another, called the
      franchisor, in return for a fee. Franchising is one of the fastest growing forms of
      international business today.

      Basic Issues in International Franchising

         International franchising is more likely to succeed when the franchisor has already
          achieved considerable success in franchising in its domestic market; the franchisor
          has been successful domestically because of unique products and advantageous
          operating systems; the factors that contributed to its domestic success are
          transferable to foreign locations; and there are foreign investors who are interested
          in entering into franchise agreements. The text illustrates this concept by examining
          the franchise agreements of McDonald’s.
         A formal contract is associated with franchise agreements. A typical contract
          specifies the fee and royalties paid by the franchisee for the rights to use the name,
          trademarks, formulas, and operating procedures of the franchisor. In addition, under
          a franchise contract, the franchisee typically agrees to adhere to the franchisor’s
          requirements for appearance, reporting, and operating procedures. Usually, the
          franchisor agrees to help the franchisee establish the new business.
         U.S. firms are the leaders in the international franchise business, perhaps because
          franchising is more common in the U.S. than in other countries. The text provides
          examples of U.S. and non-U.S. firms that have been successful at franchising.

                    Discuss Wiring the World: Advice from Afar
                    Cendant Corporation, a hotel franchising company that controls such
                    brands as Days Inn, Howard Johnson, Ramada, Travelodge, and Super 8,
                    relies heavily on the Internet to manage its operations. It uses e-mail to
          give advice and guidance, helps with web design and online training, and provides
          overall real time support to its franchisees. The Internet has allowed Cendant to
          improve the quality while lowering the cost of its services.

      Advantages and Disadvantages of International Franchising

         Primary advantages of international franchising are that it allows franchisees to enter
          a business with a proven track record, and allows franchisors to expand
          internationally at relatively low cost and risk. Franchisors also have the opportunity
          to obtain information about local markets that they might otherwise have difficulty
         As with licensing, a primary disadvantage of franchising is that profits are shared
          between the franchisor and the franchisee. International franchising may also be
          more complex than domestic franchising. The text provides an example of some of
          the problems McDonald’s had with a franchisee in Moscow.


      Firms may also use specialized entry modes such as contract manufacturing,
      management contracts, and turnkey projects.
178 > Chapter 11

          Contract Manufacturing is used by firms that outsource most or all of their
           manufacturing needs to other companies in an effort to reduce the amount of
           resources needed in the physical production of their products. The text notes that
           both Nike and Mega Toys use contract manufacturing in the production of their
          A management contract is an agreement whereby one firm provides managerial
           assistance, technical expertise, or specialized services to a second firm for some
           agreed-upon time in return for a fee. In many cases, management contracts are
           arranged as a result of government activities. For example, the text notes that when
           Saudi Arabia nationalized Aramco, it hired the former owners to manage the firm.
           Management contracts are attractive because they allow firms to earn additional
           revenues without incurring investment risks or obligations. The text illustrates this
           concept with an example of Hilton Hotel’s management contracts.
          A turnkey project is a contract under which a firm agrees to fully design, construct,
           and equip a facility and then turn the project over to the purchaser when it is ready
           for operation. International turnkey projects typically involve large, complex,
           multiyear projects such as the construction of a nuclear power plant or airport. In
           some cases, turnkey projects are used when firms fear difficulties in procuring
           resources locally. The text provides an example of the latter concept by exploring
           PepsiCo’s operations in the former Soviet Union.
          Some firms today are using a B-O-T project in which the firm builds a facility,
           operates it, and later transfers ownership of the project to another party. The text
           provides an example of such a project involving the country of Gabon.


          Some firms choose to establish operations in a host country at the beginning of their
           internationalization effort, while others prefer to use one of the other entry methods
           initially, and later invest in facilities in the host country.
          FDI is attractive not only for its profit potential, but also because a firm has increased
           control over its foreign operations. Control is important to firms because it allows
           firms to closely coordinate the activities of its foreign subsidiaries to achieve
           strategic synergies, and because control may be necessary to fully exploit the
           economic potential of an ownership advantage. FDI is also attractive if host country
           customers prefer to deal with local factories.
          However, FDI is riskier and more complex than other types of entry strategies. In
           some cases, government actions encourage firms to invest in local operations
           (through such policies as the availability of political risk insurance), while in other
           cases, government actions discourage FDI (through direct controls on foreign capital
           or repatriation of profits).
          The three basic methods of FDI are greenfield strategies, whereby a firm builds
           new facilities; acquisitions strategies (also known as "brownfield strategies"),
           whereby a firm buys existing assets in a foreign country; and joint ventures.
          A greenfield strategy involves starting from scratch: buying or leasing and
           constructing new facilities, hiring and/or transferring managers and employees, and
           launching the new operation. The greenfield strategy is attractive because the firm
           can select the site that meets its needs best, the firm starts with a clean slate, and
           the firm can acclimate itself to the new national business culture at its own pace. The
           main disadvantages of the greenfield strategy include the time and patience
                                 Strategies for Analyzing and Entering Foreign Markets >   179

    necessary for successful implementations; the fact that land in the desired location
    is not available, or is only available at an unreasonable price; local and national
    regulations must be complied with during the building of the new factory; the firm
    must recruit and train a local workforce; and the firm may be perceived as a foreign
    enterprise. The text provides an example of the difficulties Disney had with some of
    these issues when it opened its European operations.
   Acquisition strategies (or brownfield strategies) are popular because, unlike other
    entry methods, an acquisition quickly gives the purchaser control over the firm’s
    factories, employees, technology, brand names, and distribution networks. The text
    provides examples of several recent acquisitions made by firms including Proctor
    and Gamble, Arabia Oil Co., and Komomklijke PTT Netherland. The main
    disadvantage of an acquisition strategy is that the purchaser assumes all liabilities of
    the acquired firm. In addition, the purchasing firm must also spend substantial sums
    up front. In contrast, a greenfield strategy allows a firm to spread its investment over
    an extended period of time.

            Discuss Bringing the World into Focus: A Bubbly Business
            When Plantagenet, based in San Francisco, tried to buy a French
            champagne maker, they became embroiled in a variety of legal problems
            and tax issues. Eventually the problems were worked out, however they
    now make their international deals through a company incorporated in Luxembourg.

   The joint venture involves an arrangement whereby a new enterprise is created by
    two or more firms working together for mutual benefit. Joint venture creation is on
    the rise, in part because of rapid changes in technology, telecommunications, and
    government policies. Joint ventures will be explored in more depth in Chapter

                   Teaching Note:
                   Instructors may wish to create a “master chart” of the different entry
                   modes, their advantages and disadvantages, when and where each
    mode is most appropriate, and so forth, so that students can easily compare the
    various options for entering a new market. The charts can then be used as
    reference material when discussing future topics.
180 > Chapter 11

          reference material when discussing future topics.
                                    CLOSING CASE

David vs. Goliath

      The case describes the success of, a German online auction company in
      establishing itself despite eBay's dominance in the field.

      Key Points

       was established by three young German entrepreneurs in 1997.

         eBay, the U.S. based online auction company, began in 1995 and went public in
          1997. Unlike many businesses, eBay has been profitable for quite some

       grew through the establishments of strategic alliances with key firms
          throughout Europe and through the publicity gained by auctioning off high-profile
          items such as visits to the submerged Titanic and Steffi Graf's tennis racket.

         In 2000 was acquired by the British firm QXL (Britain's largest online
          auctioneer) for QXL stock worth $261 million.

      Case Questions

      1. Turn back the clock to 1997. Suppose you were hired by Ricardo's founders to map
         out an entry strategy for the firm. What advice would you have given them? Would
         you have done anything differently?

          This question allows students a lot of latitude. There is not a "right" answer.
          Students will consider that Ricardo's founders originally intended to create an online
          publishing business and should demonstrate an understanding of how strategies
          change (sometimes radically) over time. Another key issue is the decision to sell
          only new items. Given eBay's success in used and collectible items, students will
          probably suggest that Ricardo's founders might have been more successful if they
          had not limited the firm in this manner.

      2. Why did strive to grow quickly? Do you agree with this strategy? Should
         it have grown more slowly?

 success depends largely on name recognition. Given the large numbers of
 start-ups in the late 90's it was important that establish itself
          quickly. The speed with which they moved created legal and financial problems. It
          appears, however, that Ricardo's founders were interested in building the business
          and then selling it. If that is true, the strategy to build it quickly and then get out
          seems appropriate. Had the business grown more slowly it might not have attracted
          QXL's eye and Ricardo's founders may have had a harder time finding a partner
          interested in acquiring the firm.
                                       Strategies for Analyzing and Entering Foreign Markets >   181

       3. What advantages does eBay possess over upstart competitors like Ricardo?

          eBay has tremendous name recognition and a solid reputation. It also has a huge
          variety of products being sold, which attracts additional buyers and sellers alike.

       4. What advantages does a combined Ricardo-QXL have over eBay?

          A key advantage of Ricardo-QXL is their European emphasis. As noted in the case,
          eBay seems to have almost abandoned Europe and allowed Ricardo to establish a
          strong presence in Germany. Also, it could be argued that Ricardo's focus on new
          merchandise helps enhance buyers' confidence in the goods purchased. Finally, in
          many countries (like France, for example) there is a backlash against the dominance
          of U.S. firms in the global marketplace. The fact that Ricardo-QXL is a European
          alternative to a U.S. firm will give it an advantage with some customers.

       5. Do you agree with Ricardo's decision to be acquired by QXL?

          It all depends on the objectives of the owners. To the extent that it netted $261
          million for three years of work, students will tend to say it was a good decision.
          Given the difficulties that e-commerce firms have faced recently, their decision to be
          acquired seems even more prudent.

                                   CHAPTER REVIEW

1. What are the steps in conducting a foreign market analysis?

   A market analysis usually is comprised of three steps: (1) assessing alternative markets; (2)
   evaluating respective costs, benefits, and risks of entering each; and, (3) selecting those
   that hold the most potential for entry or expansion.

2. What are some of the basic issues a firm must confront when choosing an entry mode for a
   new foreign market?

   When choosing an entry mode for a new foreign market, a firm must confront issues
   relating to ownership advantages, location advantages, internalization advantages, the need
   for control, the availability of resources, and the firm’s global strategy.

3. What is exporting? Why has it increased so dramatically in recent years?

   Exporting, the most common form of international business activity, is the process of
   sending goods or services from one country to other countries for use or sale there. There
   are three forms of exporting: indirect exporting, direct exporting, and intracorporate transfer.
   Many firms are pushed into exporting because of shrinking domestic marketplaces, but
   other firms are pulled into exporting because of foreign market opportunities.
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4. What are the primary advantages and disadvantages of exporting?

   One of the primary advantages of exporting is its relatively low level of financial exposure.
   A second advantage of exporting is related to speed of entry. Exporting allows a firm to
   expand into a foreign market gradually, and therefore allows a company to assess the local
   environment and adapt its products to local consumers. The disadvantages of exporting
   include a lack of presence in the local marketplace, vulnerability to trade barriers, and
   potential problems with trade intermediaries.

5. What are the three forms of exporting?

   The three forms of exporting are indirect exporting, direct exporting, and intracorporate
   transfer. Indirect exporting involves selling a product to a domestic customer, which then
   exports the product in its original form or a modified form. Direct exporting involves selling
   directly to distributors or end-users in other markets. Intracorporate transfer occurs when a
   company sells its product to a foreign affiliate.

6. What is an export intermediary? What is its role? What are the various types of export

   An export intermediary is a third party that specializes in facilitating imports and exports.
   There are various types of export intermediaries, including export management companies,
   the Webb-Pomerene association, international trading companies, manufacturer’s agents,
   and export and import brokers. The role of an export intermediary can range from simply
   handling transportation and documentation to taking ownership of foreign-bound goods
   and/or assuming total responsibility for marketing or financing exports. Export
   intermediaries are third parties that specialize in facilitating trade. There are several types
   of export intermediaries. An export management company is a firm that acts as the client’s
   export department, while a Webb-Pomerene association handles market research,
   overseas promotion, freight consolidation, contract negotiations, and other services for its
   members. An international trading company trades a variety of goods for its own account.
   A manufacturer’s agent, acting on a commission basis, solicits domestic orders for foreign
   manufacturers, while a manufacturer’s export agent acts as an export department for
   domestic manufacturers. Export and import brokers bring together buyers and sellers of
   standardized commodities, and freight forwarders handle the physical transportation of

7. What is international licensing? What are its advantages and disadvantages?

   International licensing occurs when a firm, the licensor, sells the right to use its intellectual
   property to another firm, the licensee. The primary advantages of international licensing are
   its relatively low financial risk and the opportunity it provides the licensor to learn about
   sales potential in foreign markets. Licensees like the arrangements because they are able
   to make and sell products with proven success tracks, yet incur low R&D costs. However,
   the agreements limit market opportunities for both the licensor and the licensee, and there
   is mutual dependency between the two parties. Further, there is potential for problems and
   misunderstandings. Finally, licensors must be careful to avoid creating a future competitor.
                                       Strategies for Analyzing and Entering Foreign Markets >   183

8. What is international franchising? What are its advantages and disadvantages?

   International franchising involves an agreement whereby the franchisee operates a
   business under the name of the franchisor in return for a fee. International franchising
   agreements are attractive because they allow franchisees to enter a business that is
   established and has a proven track record. Franchisors benefit from the agreements
   because they can expand internationally at relatively low cost and risk. In addition, they can
   obtain critical information about the local marketplace from franchisees. However, an
   international franchising agreement requires both parties to share profits and may be more
   complicated than domestic franchisee agreements.

9. What are three specialized entry modes for international business, and how do they work?

   Three specialized entry modes for international business are management contracts,
   turnkey projects, and contract manufacturing. Under a management contract agreement,
   one firm provides managerial assistance, technical expertise, or specialized services to a
   second firm in exchange for a fee. A turnkey project is an agreement whereby a firm
   agrees to fully design, construct, and equip a facility and then turn the key over to the
   purchaser when it is ready for operation. Contract manufacturing involves outsourcing
   manufacturing needs to other companies.

10. What is FDI? What are its three basic forms? What are the relative advantages and
    disadvantages of each?

   FDI is foreign direct investment. The three basic forms of FDI are greenfield investments,
   acquisitions, and joint ventures. Greenfield investments involve the construction of new
   facilities. It is attractive because its allows a firm to select the most suitable site for
   construction, the firm starts with a clean slate, and the firm can adapt to its new
   surroundings at its own pace. However, greenfield investments take time and patience,
   may be expensive, require the firm to comply with local regulations and recruit a workforce,
   and may result in a firm being perceived as a foreigner. Acquisitions, in contrast, allow a
   firm to generate profits even as it integrates the new company into its overall strategy.
   However, acquisition requires a firm to assume all of the acquired firm’s liabilities, and
   spend substantial money up front. Joint ventures involve the creation of a new firm by two
   or more companies working together for mutual benefit.

Questions for Discussion

1. Do you think it is possible for someone to make a decision about entering a particular
   foreign market without having visited that market? Why or why not?

   The response to this question probably depends in part on the market in question and the
   degree of risk one is willing to assume. Typically, mangers will not be able to obtain all of
   the information needed to make a decision about a foreign market from secondary sources.
   Thus, managers have two options: they can visit the market in person and obtain
   information directly from local experts, embassy staff, and chamber of commerce officials,
   or, hire consulting firms to provide the necessary information.
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2. How difficult or easy do you think it is for managers to gauge the costs, benefits, and risks
   of a particular foreign market?

   In general, it is probably easier to gauge the costs, benefits, and risks of developed country
   markets than it is to gauge the same variables in a developing economy. However, there is
   a fair amount of subjectivity involved regardless of the market in question. For example,
   managers must estimate not only the costs involved in establishing a foreign operation, but
   also opportunity costs. In addition, future benefits and risks must be estimated.

3. How does each advantage in Dunning’s eclectic theory specifically affect a firm’s decision
   regarding entry mode?

   Dunning’s eclectic theory considers three factors: ownership advantages, location
   advantages, and internalization advantages. Ownership advantages affect a firm’s decision
   regarding entry mode in that certain types of advantages are more easily transferred
   through certain modes than others. For example, imbedded technologies are best
   transferred through equity modes, while simple technology is more suited to a licensing
   mode. In addition, ownership advantages will affect a firm’s bargaining power, and
   therefore the outcome of entry mode negotiations. Location advantages affect a firm’s
   decision regarding entry mode because they affect the desirability of host country
   production relative to home country production. For example, if home country production is
   more desirable, perhaps because of low wage rates, a firm will probably choose exporting
   as an entry mode. Finally, internalization advantages affect a firm’s decision regarding
   entry mode because they affect the desirability of producing a good or service in-house
   versus farming it out to another firm. For example, when transaction costs are low, and the
   firm believes that it can farm out production without jeopardizing its interests, the firm may
   use licensing as an entry mode.

4. Why is exporting the most popular initial entry mode?

   Exporting is the most popular initial entry mode because of its simplicity and its low risk
   relative to other types of entry modes. Exporting typically requires little or no capital
   investment, and the dollar amount of risk is limited to the value of a particular transaction.
   Exporting also allows a firm to enter a foreign market on a gradual basis, and gain
   experience in the market.

5. What specific factors could cause a firm to reject exporting as an entry mode?

   There are several factors which could cause firms to reject exporting as an entry mode,
   including the presence of trade barriers, logistical issues, and distribution issues. Firms
   facing high tariff or nontariff barriers may find host country production preferable to home
   country production. Logistical considerations may also affect the desirability of exporting.
   For example, the higher transportation costs associated with exporting, and the longer
   supply channel and difficulty communicating with customers may encourage a firm to
   choose an alternative entry method. Finally, firms that face difficulty finding appropriate
   distributors may turn to one of the other entry modes.
                                        Strategies for Analyzing and Entering Foreign Markets >   185

6. What conditions must exist for an intracorporation transfer to be cost-effective?

   An intracorporate transfer occurs when one firm sells goods to an affiliate in another
   country. Firms engage in intracorporate transfers to lower their production costs and use
   their facilities more effectively. Therefore, for an intracorporate transfer to be cost-effective,
   it must be cheaper to buy the product in question from the affiliate firm than from an
   alternative source, and the affiliate firm must have the capacity necessary to produce the
   product in question, while the buying firm does not.

7. Your firm is about to begin exporting.           In selecting an export intermediary, what
   characteristics would you look for?

   Export intermediaries are third parties that specialize in the facilitation of trade. Depending
   on the particular circumstances of a firm, employing certain types of intermediaries is more
   appropriate than employing others. For example, a small firm may select an export
   management company because it will essentially act as the firm’s export department.
   However, a larger firm that has an in-house export department might engage a freight
   forwarder on a product-by-product basis.

8. Do you think trading companies like Japan’s sogo sosha will ever become common in the
   United States? Why or why not?

   Sogo soshas acquire goods either by importing them or having them produced, and then
   resell them in both domestic and foreign markets. Most students will probably agree that
   sogo soshas will never become common in the United States, in part because of antitrust
   laws in effect, and in part because the close relationships with other firms that the sogo
   soshas imply go against the individualistic culture of the U.S. Other students, however, may
   point to export trading companies in the U.S. that provide many of the same services as a
   sogo sosha, and suggest that a form of sogo sosha is already common in the U.S.

9. What factors could cause you to reject an offer from a potential licensee to make and
   market your firm’s products in a foreign market?

   There are several reasons why a firm might reject the offer of a potential licensee to make
   and market the firm’s product in a foreign market. First, such an arrangement would limit
   the market opportunities for the firm, and create a situation of mutual dependency. Second,
   if the licensee violated the licensing agreement, the licensing firm could face costly and
   time-consuming litigation.      Third, the firm would face a risk of problems and
   misunderstandings related to the agreement, which could affect the speed of entry into the
   foreign market. Finally, the firm may be concerned that if it licensed its proprietary
   information it may create a future competitor.

10. Under what conditions should a firm consider a greenfield strategy for FDI? An acquisition

   A greenfield strategy involves setting up an operation from scratch. It is attractive to firms
   because it allows them to select the site that is most appropriate for their needs, start with a
   clean slate, and acclimate to the local environment at a gradual pace. However, because
   successful implementation takes time and patience, firms that are facing time constraints
   should probably select an alternative option. In addition, firms using this method of
186 > Chapter 11

   expansion may find that the desired location is too expensive, or even unavailable; that
   workforces must be hired and trained; and that various governmental regulations must be
   complied with. Finally, greenfield investment is probably not appropriate in cases where it is
   important for a firm to be perceived as a local firm. Under an acquisition strategy, a firm
   acquires an existing firm doing business in a foreign country. This strategy makes sense
   when the purchaser needs to generate revenues from its expansion immediately. Through
   acquisition, a purchasing firm has an immediate market presence, a distribution system in
   place, as well as trained employees, brand names, and technology. This strategy would not
   make sense for a company that is short of capital since it requires substantial sums up

                            WORKING WITH THE WEB:
                     Assessing Foreign Market Entry Conditions

Essence of the exercise
This exercise is designed to allow students to become experienced with using the Internet to
assess foreign markets. Students, acting as owners of a chain of computer accessory stores,
are asked to consider possible countries for international expansion.

                             BUILDING GLOBAL SKILLS

Essence of the exercise
This exercise begins with a description of Heineken’s global strategy, and then asks students to
identify other products or brands that could or could not use Heineken’s strategy for entering
markets. Students should be assigned to groups for this exercise because it requires that
groups exchange lists of companies that could or could not use the Heineken approach to
international expansion.

Answers to the follow-up questions.

1. What are the specific factors that enable Heineken to use the approach described and
   simultaneously make it difficult for some other firms to copy it? What types of firms are
   most and least likely to be able to use this approach?

   Students will probably identify several factors that enable Heineken to use its three-step
   approach to foreign market expansion, including its international experience, its deep
   pockets, its ability to enter a market on a gradual basis, and the presence of local producers
   in most markets. In addition to certain consumer products, students will probably identify
   other beer companies that could use this approach. Firms that would find this approach
   difficult include auto producers, steel producers, and clothing producers.

2. What does this exercise teach you about international business?

   Students should recognize from this exercise that an international strategy that works well
   for some companies might not be effective for other companies. Students should also
   recognize that successful global companies such as Heineken might achieve their success
                                        Strategies for Analyzing and Entering Foreign Markets >   187

   in a very methodical manner, first by testing a market and then learning about it before
   actually investing in it. In addition, students should recognize that firms might use a variety
   of modes to enter a foreign market. Finally, through the exchange of lists (steps 3 and 4 of
   the exercise), students should recognize that not all managers think alike.

Other Applications
       Heineken follows a very precise strategy of expanding into new markets. Students can
       debate the merits of the particular strategy it follows (exporting, then licensing, then
       investing directly), and suggest alternative strategies. Instructors should play the role of
       a devil’s advocate, bringing up issues such as the importance of speed in entering a
       new market, the potential of creating a future competitor and/or the potential loss of
       quality if a firm engages in a licensing agreement, and the problem of finding a good
       joint venture partner.

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