Modes of Entry into International Business: The Commerce subject detailed notes with practice tests are very useful for Assistant Professor / UGC NET / JRF and other competitive exams preparation.
Both business and society are interdependent, both need each other. Business, as an economic activity satisfies the needs and wants of the society in a profitable manner.
Modes of Entry into International Business
The following factors are important to choose the most profitable market:
1. Country Specific Factors
(a) Law and regulation
(b) Infrastructure
(c) Property rights and legal framework
(d) Political factors
(e) Cultural factors
2. Industry Specific Factors
(a) Industrial Policy
(b) Entry and Exit barriers
(c) Supply and distribution factors
3. Firm Specific Factors
(a) Resources of the firm
(b) Technological risk
(c) Goals and objectives of the firm
(d) Experience of the firm
4. Project Specific Factors
(a) Size of the project
(b) Project orientation
(c) Availability of raw material and labour required
(d) Availability of suitable market
Foreign market entry modes or participation strategies differ in the degree of risk they present, the control and commitment of resources they require, and the return on investment they promise.
There are two major types of market entry modes: equity and non-equity modes.
1. The equity modes category includes joint venture and wholly owned subsidiaries.
2. The non-equity modes category has export and contractual agreements as its parts.
The following strategies can be adopted for entry into international business.
1. Ethnocentric Strategy: Everywhere the same strategy as at home
2. Polycentric Strategy: Separate and distinct strategy for each foreign market
3. Regio-centric Strategy: Separate and distinct strategy for each region or group of similar countries
4. Geocentric Strategy: One strategy for all countries worldwide
Expansion Process and Strategic Decisions
There are different methods for expansion into new markets. As they are linked with environment, these kinds of decisions become strategic in nature.
1. Expand or not—whether expansion is a worthwhile decision or not.
2. International market evaluation
3. Mode of entry
4. Overall strategy
5. Marketing mix—consists of product, price, place and promotion.
Here, as per NTA syllabus, we will focus on mode of entry, how some business can make entry into international business.
Mode of entry depends upon the following factors:
1. Market characteristics (market size, growth, potential sales, strategic importance, cultural differences, and country restrictions)
2. Risk Factors (discussed in banking unit)
3. Competitive environment
4. Local Infrastructure – in terms of material, market, roads, etc.
5. Company characteristics – vision, mission and operational capabilities
6. Government regulations
7. Internal Resources, assets and capabilities
8. Flexibility
Modes of entry into international business can be divided into three parts.
Exporting, Importing, Countertrade
Exporting
Exports are goods and services that are produced domestically, but then sold to customers residing in other countries. The main objective of exports is to expand sales, diversify the sales and to gain international experience.
Exports can take place in direct or indirect forms.
In direct exporting, the company sells to a customer in another country to a target market. The examples are Boeing, John Deere, etc. The ‘direct exporters’ need not sell directly to end users. exporting usually means that the company sells to a buyer (importer or distributor) in the home country who in turn exports the product. In indirect exporting, some domestic intermediary should be there.
The internet is becoming increasingly important as a foreign market entry method.
Agents: The agents also represent one or more indirect exporters in a target market. They usually receive commissions on the values of sales.
Export Management Companies (EMCs): A company that exports on the behalf of an indirect exporter is called EMC. EMCs work contractually as an agent (through commissions on sales values) or as a distributor (taking ownership of the product and earning a profit on its sales) are also important. They facilitate various processes.
Export Trading Companies (ETCs): These companies provide services to indirect exporters in addition to activities related directly to client are exporting activities.
Whereas EMCs are restricted to export related activities, an ETC assists its clients by providing import, export, and countertrade services; developing and expanding distribution channels; providing storage facilities; financing trading and investment projects; and even manufacturing products.
Countertrade
It is the practice of selling goods or services that are paid for, in whole or in part, with other goods and services. This may happen due to lack of hard currency. The different forms of countertrade have been mentioned below.
Barter Trade: It is the exchange of goods and services without the use of money. It is the oldest known form of countertrade.
Counter Purchase: This is sale of goods or services to a country by a company that promise to make a future purchase of a specific product from the country.
Offset: It is an agreement that a company will offset a hard currency sale to a nation by making a hard currency purchase of an unspecified product from that nation in the future.
Switch Trading: It is the practice in which one company sells to another its obligation to make a purchase in a given country.
Buyback: It is the export of industrial equipment in return for products produced by that equipment.
Let us have a look at few basic terms.
Freight Forwarders are specialists in export-related activities such as customs clearing, tariff schedules, shipping and insurance fees.
Before exporting, the exporter draws up a draft (bill of exchange) with the help of a banker. The sight drafts and time drafts are required for payment and period of time.
The Bill of Lading is a contract between the exporter and shipper that specifies merchandise destination and shipping costs.
Letter of Credit is an export/import financing in which the importer’s bank issues a document stating that bank will pay the exporter when the exporter fulfils the terms of document.
Export/import financing in which an exporter ships merchandise and later bills the importer for its value is called an ‘open account’.
Contractual Entry Modes
The products of some companies are not traded in open markets, it means that they are intangible. There are some options available in the form of licensing, franchising, turnkey projects, etc.
Licensing
A means of establishing a foothold in foreign markets without large capital outlays is licensing of patent rights, trademark rights, and the rights to use technological aspects. Licensor and the licensee are the two parties:
Benefits:
1. Licensing is beneficial to small companies that lack resources.
2. Licensing provides faster access to the markets.
3. Licensing helps in rapid penetration of the global markets.
Disadvantages:
1. Other entry mode choices may be affected.
2. Licensee may not be committed to the desired level.
3. There may be lack of enthusiasm on the part of a licensee.
4. The biggest danger is the risk of opportunism.
5. There is a risk that licensee may become a competitor in future.
How to seek a good licensing agreement?
1. The party should seek patent or trademark.
2. There be thorough profitability analysis.
3. There should be careful selection of prospective licensees
4. There should be proper parameters in technology (technology package, use conditions, compensation, and provisions for the settlement of disputes).
Franchising
In licensing, the franchisor provides a standard package of products, systems, and management services, and the franchisee provides market knowledge, capital, and personal involvement in management.
1. Franchisor and the franchisee
2. Master franchising
Benefits:
1. There can be overseas expansion with a minimum investment
2. The profits of franchisees are usually tied to their efforts.
3. There is availability of local franchisees’ knowledge.
Disadvantages:
1. Revenues may not be adequate
2. Availability of a master franchisee
3. Limited franchising opportunities overseas
4. Lack of control over the franchisees’ operations
5. Problem in performance standards
6. Cultural problems
7. Physical proximity
Difference between Licensing and Franchising
| Franchising | Licensing |
| It encompasses transfer of total business function. | It concerns just one part of business including transfer of right to manufacture or distribution of a single product or process. |
| It gives a company greater control over the sale of the product in the market. | Comparatively lesser control over the sale of the product. |
| It is more common in service industry. | It is more common in manufacturing industry. |
| The policy formulation and monitoring is essential. | The policy formulation and monitoring is not required. |
| Cost incurred is more. | Cost incurred is less. |
Contractual Agreements: These agreements are long-term, non-equity associations between a company and another in a foreign market. Contractual agreements generally involve the transfer of technology, processes, trademarks, or human skills. Contractual forms of market entry include Licensing and Franchising.
Turn-key Project: This describes a project (or the delivery of such) in which the supplier or provider is responsible to the client for the entire result of the project and presents it to the client completely finished and ready to use. In fact, the client should be able “just to turn the key.” The supplier of a turn-key project is called the general contractor (or main supplier, direct supplier or main contractor). The projects can be:
1. BOD: Built, Owned, Developed
2. BOLT: Build, Own, Lease and Transfer
3. BOOT: Build, Own, Operate and Transfer
Investment Entry
These modes entail direct investment in plant and equipment in a nation through local operations. It takes the market commitment to a higher level. Few such measures have been mentioned below.
Strategic International Alliances (SIA)
These alliances have grown in importance over the last few decades as a competitive strategy in global marketing management. SIA is a business relationship established by two or more companies to cooperate out of mutual need and to share risk in achieving common objectives.
SIAs are sought as a way to shore up weaknesses and increase competitive strengths SIAs offer opportunities for rapid expansion into new markets,¢ access to new technology, more efficient production and marketing costs An example of SIAs in the airlines industry is that of the ‘One world’ alliance partners made up of American Airlines, Cathay Pacific, British Airways, Canadian Airlines, Aer Lingus, and Qantas.
International Joint Ventures (IJVs)
IJVs have seen good increase since 1970s. Such ventures are used as a means of lessening political and economic risks by the amount of the partner’s contribution to the venture. They provide a less risky way to enter markets that pose legal and cultural barriers than would be the case in an acquisition of an existing company. A IJV is different from strategic alliances or collaborative relationships in that a IJV is a partnership of two or more participating companies that have joined forces to create a separate legal entity. IJVs are different from minority holdings by an MNC in a local firm.
There are four factors worth consideration linked with the International Joint Ventures:
1. IJVs are established, separate, legal entities.
2. They acknowledge intent by the partners to share in the management of the IJV.
3. They are partnerships between legally incorporated entities such as companies, chartered organizations, or governments, and not between individuals.
4. Equity positions are held by each of the partners.
The following are the key drivers behind successful International JVs.
1. Pick the right partner
2. Establish clear objectives from the beginning
3. Bridge cultural gaps
4. Gain top managerial commitment and respect
5. Use incremental approach
Joint Ventures
1. Cooperative joint venture
2. Equity joint venture
Benefits:
1. There is higher rate of return and more control over the operations.
2. There will be creation of synergy, that practically means 2 + 2 = 5. There is value addition in JVs.
3. There will be sharing of resources.
4. There is access to wider distribution network.
5. There is advantage of contacts with local suppliers and government officials.
Disadvantages:
1. There may be lack of control.
2. There may be lack of trust.
3. There may be conflicts arising over matters such as strategies, resource allocation, transfer pricing, ownership of critical assets like technologies and brand names.
Consortium
Consortia are similar to joint ventures and could be classified as such except for two unique characteristics:
1. They typically involve a large number of participants.
2. They frequently operate in a country or market in which none of the participants is currently active.
3. Consortia are developed to pool financial and managerial resources and to lessen risks.
Outsourcing: It is the process of contracting a business function or any specific business activity to specialised agencies. Mostly, the non-core areas such as sanitation, security, household, pantry, etc., are outsourced by the company. The company makes a formal agreement with the agency.
The agency then sends the manpower required to the company. The agency charges the company for their services and in turn pays wages to their employees. Global competition has given rise to outsourcing. With the help of outsourcing, companies can focus on their core areas which lead to better profits and increase the quality of their product.
Offshoring is moving the work to a distant country. If the distant workplace is a foreign subsidiary/owned by the company, then the offshore operation is a captive, sometimes referred to as in-house offshore. Offshoring and outsourcing are not mutually inclusive; there can be one without the other. They can be intertwined (Offshore outsourcing), and can be individually or jointly, partially or completely reversed, involving terms such as reshoring, inshoring, and insourcing.
Contract Manufacturer: In this, a manufacturer contracts with a firm for components or products. It is a form of outsourcing. A contract manufacturer performing packaging operations is called copacker or a contract packager.
Mergers and Acquisitions: A merger occurs when two separate entities combine forces to create a new, joint organization. An acquisition refers to the takeover of one entity by another.
The conglomerates, known as chaebols, propelled South Korea’s rise as an export powerhouse. The Conglomerates, known as ‘Chaebols’ in South Korea such as Samsung, LG, Hyundai Motors propelled nation’s growth to a very high level.
Overall Strategy Options for International Business
1. Waterfall Strategy – a firm pours all of its available resources into one or a selected few markets.
2. Sprinkler Strategy – a firm spreads its resources in order to gain even small footholds across as many markets as possible
3. Sequencing: Firstly, the ability to integrate and optimize international operations, and secondly it can be between countries vs. within a trading block.
The following options can be adopted for global competition.
1. Global product divisions responsible for product sales throughout the world.
2. Geographical divisions responsible for all products and functions within a given geographical area.
3. A matrix organization consisting of either of these arrangements with Centralized sales and marketing run by a Centralized functional staff, or a combination of area operations and global product management.
Business Environment and International Business : The Basics of Business Environment