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Globalization

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					Question:

Discuss the main forces causing globalization to increase and explain the challenges/
opportunities that globalization presents to multinational businesses.

Solution:

Globalization may be defined as the free flow of goods, services, and knowledge and
technology knowhow across geographies. There is a lot of debate going about the effects of
globalization; If it is positive or negative? According to the World Bank Globalization is a strong
tool for promoting economic growth and thereby helping reduce poverty. It has also been
suggested that Globalization is the means of reducing the distortions in the growth rates among
the emerging economies and the developing countries which in turn would lead to a
comparable per capita incomes between the underdeveloped and the developed economies.
(David Greenaway, 2008) this would lead to a beta convergence. For example countries like
China and India have shown rapid growth and poverty reduction as a result of the linearization
policies adopted by them post 1990s. This openness of the economies has also led to the
increasing interdependence among the economies for various events. The major impact has
been seen among the Multinational Companies as to how they go about sharing their
technological knowhow and innovations to achieve competitive advantage. This in turn has led
to greater cross border collaboration.
Role of Multinational companies in Globalization

Large MNCs have increasingly adopted an internationally integrated approach to their
technological development, reorganizing a more refined international (within the EU) division
of labor within industries as well as between them. In the recent international business
literature, the growing role of the reorganization of technological activity of MNCs as a source
of competitive success has become recognized to have an important impact on the shape and
character of national innovation systems and local growth prospects. Policy-makers
consequently should directly address the issue on the role of MNCs on the way technological
activity is owned, organized and located. The global nature of technological competition should
be reflected in both private corporate and public policy strategies.
It has sometimes been argued that the importance of the internationalization of research has
been exaggerated, since the actual amount of technological activity that is carried out by firms
outside their home base has remained on average relatively small. Yet there is an increasing
international integration of affiliates the growth in the importance of technological
globalization strategies in large multinational firms. Furthermore, large multinational firms
largely dominate a majority of world technological innovations. The role of MNCs in shifting the
geographical dispersion of the creation of new technology across affiliates is affecting the
technological capabilities of particular home and host countries in Europe. The globalization
phenomenon may not only strengthen knowledge and linkages between countries, but also
increase national differentiation and technological specialization. The impact of MNCs will vary
between industries and, for a given industry; the impact depends upon the MNC’s degree of
technological strength. On the one hand, the extent to which technological activity becomes
geographically diversified depends on the particular industry structure and its technological
characteristics .On the other hand, technologically strong firms emanating from the most
important locations in any industry are more likely to be able to adopt strategies of related
technological diversification abroad to obtain access to locally based technological expertise.
They would there by promote a more complex network of intra-firm cross country
specialization in innovative activity than would firms originating from weaker centers in the
same industry.
The two phenomena of globalization and the relevance of the National System of Innovation
may be seen as two complementary processes reinforcing one another in their development.
Countries have tended to narrow their technological specialization and become more focused
on areas of historical competitive advantage. Simultaneously, the major firms, as a result of a
shift towards ‘global’ strategies, have tended to geographically disperse research facilities to
gain access to complementary paths of technological development. In this sense, globalization
tends to increase national differentiation and technological specialization.
Foreign Market entry strategies

The major two methods of market entry strategies for the Multinational companies are as
follows:

a. Vertical Linkages

MNC that collaborate with local distributors and suppliers does not only lead to a positive effect
on the business in the short run but also helps for achieving further collaboration by means of
horizontal spillovers in the long run. One more effect of such collaboration is the MNC flushing
out the local suppliers and the distributors out of the business by using their money power. This
happens as a result of the larger pockets that the MNC have as compared to the local
enterprise. Thus the concerned government of that particular economy should make sure that
such effect of the MNC is limited in the short run and instead should make sure that the MNC
work properly towards the growth and the enhancement of that particular economy. The
investments by these MNC might fill up the gaps in the country’s infrastructure besides
improving the competition among the local suppliers and distributors who would go in for the
improvement on their part too. This might lead to an increased demand as well as the
technological knowhow shared by the MNC with the local suppliers will help in improving the
overall economic condition of the particular country.

b. Horizontal Linkages

It is a type of a long term strategic alliance which provides an opportunity for the local firms to
increase their technological knowhow and knowledge base by interaction with the MNC. As a
matter of fact it can often be seen that the MNC might try to protect its most advanced
technological knowhow and knowledge from its partners across borders (Mansfield & Romero,
1980), but it cannot in reality escape from sharing with its alliance partners the many aspects of
its strategies, organizational practices and the knowledge base. Thus as and when the
partnership flourishes the local firm may try moving up the value chain and change its own
structure and activities by replicating the strategies followed by their foreign partners. These
structural adjustments not only increase the degree of interaction between the two parties but
also lead to the local firm to achieve a international level of competency. (iimcal, 2009)
Forces causing Globalization

For any multinational company foreign investment is very important and forms a key part of the
strategy of these companies. Foreign investment allows companies to

        Takes care of the pressure from the foreign government for having a local production.
        Manages any kind of trade barrier that might prevent them from operating in a particular
 country.
        Expand to global markets across the world and transforming from a national company to a
 global company.
        Develops the capabilities to expand the capacity.
        Cash on the Opportunities that existing for co-production, having joint ventures with local
 partners, going for joint marketing arrangements, licensing, etc (oup, 2009)


Challenges faced due to Globalization
The major challenges faced by the MNC at the backdrop of globalization are as follows:

         Policies- Trade and investment flows into a country have been over centauries being
          affected by the poor macroeconomic policies that are being followed by the various
          governments. This has even led to large fiscal deficit and instability in the economies.
          Attracting the investors and the exporters in such scenario becomes as a key challenge.
          The policies followed are inconsistent and evokes a feeling of uncertainty and
          unpredictability which again leads the foreign investors and local traders to adopt a wait
          and watch policy instead of investing. Thus the challenges for the government are to
          follow a transparent and flexible policy.
         Investment in the Human Capital-Another challenge that globalization faces is the low
          priority which is given to the healthcare and the education sector in various nations (low
          human expenditure ratio) in the government budgets. These have long term negative
          implications such as the dearth of highly skilled workers.
         Infrastructure-Again one of the problems that the economies face is the low investment
          in infrastructure related sector. Lack of farm to market roads constrains exports; lack of
       communication facilities isolates a country and its people from the benefits of the
       revolution in information and communication technology.
      There are also instances that some policies are being followed which are in favor of the
       developed nations as compared to that for an emerging economy. For example the tariff
       reduction for the good from the industrial nations were double than those coming for
       the developing countries. This tariff escalation has discouraged the developing countries
       from adding value to their exports, is still very much in practice
      Again the enforcement of Intellectual Property Rights (IPR) have increased the cost of
       technology transfers to developing countries, which, in an increasingly knowledge-
       intensive global economy, reduces their ability to take advantage of opportunities that
       globalization offers.
Opportunities and Types of financing methods for the operations of the a MNC

Some of the financing methods adopted by the MNC for their operations in a foreign country
are as follows:


Trade credit is the process of providing good and services by a firm to its customers by means
of an agreement for the due to be settled at a later date (payment to be made later) or receive
the goods or services from a supplier and to pay them later. This strategy adopted by the firm
can also be viewed as an element of capitalization in an operating business wherein if properly
managed the firm can reduce the overall capital required by it to fund the operations of its
business. Trade credit is the largest source of capital for the business to business type of
enterprise. For the companies in the developing economies the trade credit serves as an
alternative source of loans for the small and personal business loans. These types of source of
funds have been used by the MNC to achieve collaboration in their business thereby allowing
them to achieve their business objectives by making efficient use of these capitals.


Transfer Pricing

Another method of financing the operations for an MNC is by the use of the transfer pricing
mechanism. In an MNC the means of transaction is mainly governed by either the hierarchy or
by the means of the type of governance that exists. It may be a form of hybrid governance such
as the networks, franchise operations, joint ventures or related party business that an MNC
might adopt in order to achieve proper control. In case of a transfer pricing if the good are
transferred from the manufacturing department to the assembly department the decision of
allocating the cost to the respective department becomes important (weather the
manufacturing or the assembly department) It is usually found that about two thirds of the
managers term the market pricing to be non market based. Again there can be internal reasons
for transfer pricing (motivating managers and monitoring of performance) or external reasons
which may be in the form of the existing tax regime or tariffs

A third type of the financing options that the MNC have is by the means of Royalties payment.
It may also be called as the running royalties or the private sector taxes. It may be defined as
the usage based payments made by the licensee to the licensor (one party to another) for the
use of an asset which may be also in the form of an intellectual property (IP). It is usually a
percentage of the net sales (or gross) of the assets or the price of an item sold. Besides this
there also exists other means of payment of royalties. For example the royalty interest which is
found in the oil or music industry is the right to collect future royalty payments. It gives an
account of the percentage of the future payments from the total revenue. Again a license
agreement defines the terms under which the property or the resource like the patents,
copyrights or trademarks are licensed by one party to the another without any objections or
limitations in the terms of the business or geographic territory or type of product. (wisegeek,
2009)


The Foreign Direct Investment can be classified as follows

1. By Direction

a. Inward
This happens when the Foreign Direct Investment from the multinational companies is done
and the same is directed towards local developments.

b. Outward
Also known as Direct Investment Abroad, Outward Foreign Direct investment happens when
the capital from the local region is invested in the resources abroad or in foreign countries.

2. By Target

a. Greenfield investment
Many times multinational companies invest in new projects. They invest money to expand the
existing facilities or they try to create new facilities. Such kind of Foreign Direct investments are
called Greenfield investments. Most of the governments are very positive and keen on
Greenfield investments. As per the Organization for international Investments there are
numerous advantages of Greenfield investments. Again it is often been said that the benefits
from these Greenfield projects are not passed to the economies of the host countries and
instead are completely directed to the home countries of the multinational companies.

b. Mergers and Acquisitions
In this case there is a transfer of current assets from the local companies to the multinational
companies. This is also a type of Foreign Direct Investment. Mergers happen when the assets of
the multinational companies combine with the assets of the local companies to create a new
legal entity in the host country. Similarly acquisition occurs when the assets of the local
companies are passed on to the multinational companies on a foreign country and there is a
formation of an affiliate company representing the foreign company in the host country.
Consequently in acquisitions there is no benefit to the local companies and the host countries.
But still mergers and acquisitions form a major portion of the Foreign Direct Investment.

c. Horizontal FDI
In this type of foreign direct investment, multinational companies make investments in the
same industry in the foreign countries as the industry they operate in their home country.

d. Vertical FDI
   a. Backward Vertical FDI
This type of Foreign Direct Investment happens when the countries abroad provide the
companies with the input factors of the production and resources for sustaining the domestic
operations.

   b. Forward Vertical FDI
This happens when output of the firm’s domestic production is sold by the multinational
companies in the industry abroad.

e. Strategic-Asset-Seeking
This kind of foreign direct investment is very often followed by the oil producing companies.
The aim of this strategy is to prevent the competitors from acquiring or getting hold of the key
assets that is needed for the sustainability of the companies in the current competitive
markets. Oil producing companies constantly explore oil field in foreign countries and stake
their claim ion the same when they discover oil and gas fields.