Chapter 12 – The Strategy of International Business

Key Points of the chapter

Strategy – is the actions managers take to attain the goals of the business (usually to maximize value for the shareholders/stakeholders).

Value Chain – The operations of the firm compose the value chain which are the series of value creating activities that occur to create value. These actions include sales, production, IT, accounting etc. These activities are divided into support and primary activities.

Primary Activities – Design, creation and delivery of the product. They are:1. R&D2. Production3. Marketing4. Sales

Support Activities – Inputs that allow the primary activities to occur1. Information Systems2. Logistics3. Human Resources

Global Expansion Practices1. Expand the market for your domestic products by selling internationally (Export)

Requires a company to tap into their core competencies

2. Move production to the most efficient countries to realize location economies Some countries have a comparative advantage of production Transportation costs and trade barriers must not be an issue Location Economies is the value created by finding the most competitive

place to produce product, therefore adding valuei. Competitive can mean cheapest or best

Creates a global value web as opposed to a value chain

3. Serve expanded markets from a single location, while recovering experience effects

Experience curve: Systematic reductions in production costs that occur over the life of a product

i. A products production costs decline each time the cumulative output doubles

Learning Effects – Costs savings through learning by doing Economies of Scale – Reduce costs by creating a large volume of product,

the larger your market, the more opportunity for this you receive.

4. Learn from foreign operations to increase your value

Mature multinationals who already have operations in foreign markets can learn from their operations in order to create value for those specific customers.

Pressures for Cost ReductionManagers can be forced to create value by reducing costs. This can be done through:

Mass-produce a standard product Outsource certain functions Tends to occur in highly commoditized products (Chemicals, sugar, gas, steel)

Pressures for local Responsiveness Arise because of:

Difference in consumer tastes and preferences Infrastructure Accepted Business practices Distribution channels - May require a change in marketing strategy Host government demands

International Expansion Strategies

Global Expansion Strategy Focus

Reaping cost reduction benefits through: Economies of Scale Learning effects Locations economies

Low Cost on a Global Scale

Method R&D, Production and Marketing activities are concentrated in a few favorable

locations Try not to customize their products/marketing strategy Use aggressive pricing

When to use it Strong pressures for cost reductions Minimal demand for localization

Localization StrategyFocus

Increase profitability by customizing goods to match tastes and preferences in international markets

Method Increase the value of the product in the local market Duplication of functions Smaller production runs Still need to be as efficient as possible

When to use it When cost pressures are not high When local tastes differ dramatically When you have fewer competitors

Transnational StrategyFocus

Multidirectional transfer of core competencies and skills Leveraging subsidy skills Try to achieve low costs through location economies, economies of scale and

learning effects while differentiating their products for the local market. Very difficult to accomplish

Method Redesign products to use the same components and produce them in one location Use assembly plants in key markets to assemble the more market specific final

product

When to use it When customization and cost reduction pressures are high When managers have to balance the divergent pressures

International StrategyFocus

Taking products from your local country and without much customization, selling them in other markets.

Method Centralize product development functions Tend to establish manufacturing and marketing functions in each major country or

geographic region in which they do business. Increases costs but there are no cost pressures so that isn’t an issue May decide to do some minor customization of the marketing strategy

When to use it Low cost pressures Low need for local responsiveness Selling products that serve universal needs Do not have many competitors

Chapter Questions

Q2: What are the risks that Wal-Mart Faces when entering other retail markets? How can the risks be mitigated?

Economic Risks/ExposureLikelihood that economic mismanagement will cause drastic changes in a country’s business environment that hurt the profit and other goals of a particular business enterprise.

Increase in inflation can hurt profits Recession Loss of confidence in the market and loans

Legal RisksIf Wal-Mart decides to enter a market where the legal system fails to provide adequate safeguards in the case of contract violations or to protect property rights they are opening themselves up to legal risks.

Could affect the ability to participate in long term contracts and joint ventures

Cross Cultural Literacy Risk: As experienced in this case, Wal-Mart suffered from cross cultural illiteracy, where they were ill informed about the practices of another culture which caused them to make bad decisions.

Mitigation Strategy: Wal-Mart needs an adaptation strategy, which allows them to negotiate properly for the market, know the appropriate pay systems, set up the right organization, etc. They can do this by hiring local citizens, or a consultant.

Transaction Exposure

Risk: Extent to which foreign exchange values affect the income from individual transactions.

Translation Exposure Risk: Impact of currency exchange rates on the reported financial statements.

Mitigation Strategy: Lead strategy where you collect the foreign receivables early. Lag strategy, involves delaying payables if the currency is expected to appreciate.

Political RisksDepending on where Wal-Mart is choosing to expand to, political forces that could cause a drastic change in the country’s business environment could adversely affect the profit and other goals of a business enterprise.

Strikes Demonstrations Terrorism Violent Conflict Enactment of unfavorable business laws

CT 5 – Reread the management focus on the evolution of strategy at Procter and Gamble, then answer these questions:

a) What strategy was P&G pursuing when it first entered foreign markets in the period up until the early 1990s?

b) Why do you think this strategy became less viable in 1990s.

In the pre-1990’s era P&G found their international expansion through the use of a localization strategy. They did develop many of their products in Cincinnati, but they relied on their semi-autonomous subsidiaries to manufacture, market and customize many of their products for the local markets their served.

This model started to show signs of strain when many of the trade barriers that existed, specifically between European countries were lifted. This created an increase in competition, and for P&G exposed their now unnecessary duplication of assets and processes. Also the creation of the “big box” retailers (such as Wal-Mart and Tesco) were causing the competitive factors driven by purchasing power to put pressures on lowering P&G’s prices even further.

Due to the increase in competition and the changing market conditions P&G closed some of their local plants and asked their subsidiaries to exploit as much economies of scale as possible in their production lines. They also asked their local centers to create and use global brands whenever possible to try and reduce marketing costs. While these cost savings were effective, they were still not enough and P&G then reorganized the company to be a pure Transnational Strategy, with more control occurring in the regional centers than ever before and using as little local responsiveness as possible to reach their customers so they could compete on price as much as possible.

The benefits of the transnational strategy include:

Cost reduction Reducing duplication of assets Creating global brands Manufacturing in places that have a comparative advantage in the production of

that product Increase market share by beating your competitors prices

Risks Very difficult to implement & manage Organizational Structures have to be very complex and it can lead to

o Performance ambiguityo Confusion over corporate goalso Culture issues

High coordination needs that are both formal and informal

Chapter 13 – The Organization of International Business

Key Points of the Chapter

Organizational Architecture: the totality of a firm’s organization, organizational culture and people. These three areas must be addressed for a company to be successful in the global market place. The architecture must match the strategy of the firm.

Organizational structure: Formal division of the organization, the location of the decision making (centralize vs. decentralized) and the establishment of intergrating mechanisms to coordinate the activities of subunits.

Control Systems are metrics used to measure the performance of subunits and make judgments about how well managers are running those subunits.

Incentives are the divides used to reward appropriate managerial behavior. Incentrives are very closely tied to performance metrics.

Processes are the manner in which decisions are made and work is performed within the organization.

Organizational Culture refers to the norms and values systems that the employees of an organization share. Organizations are societies of individuals who come together to perform collective tasks.

Organizational Structure

1) Vertical Differentiation – location of decision making a) Centralized – When the decisions are made by upper management Pros:

Can facilitate coordination Ensure decisions are consistent with organizational objectives Give top level manager the means to bring about changes (authority) Avoid duplication of activities

b) Decentralized – Local managers make the decisions Top management can become overburdened when decision making authority is

centralized, which can result in poor decisions. Motivational research favors decentralization, people are more likely to give

more to their jobs when they have a greater degree of individual freedom and control over their work.

More rapid response Can result in better decisions because the people with the best information are

the ones making the decisions. Can increase control, making the management more autonomous and therefore

accountable. Frequently it makes sense to centralize some decisions and to decentralize others, depending on the type of decisions and the firm’s strategy.

People

Culture

ProcessesIncentives

& controls

Structure

2) Horizontal Differentiation – formal organization structureDecision is made on functions, type of business or geographical area.

International Division – When a single division runs all the international activities. Facilitates the international strategy.

Worldwide area structure – World is divided into geographic areas, each division has its own value creation activities. Facilitates local responsiveness. Difficult to transfer core competencies.

Worldwide product divisional structure - Each division has its own value creation activities organized around the products they produce. Headquarters retain responsibility for the overall strategic development and financial control. Gives opportunities to consolidate the value chain creation of different subunits. Can require a lack of local responsiveness.

Global Matrix Structure – Tries to solve the issue Bartlett and Ghoshal have argued where a company needs to be price competitive and locally responsive by creating a matrix where decisions are made by both product and regional managers. It is very difficult to pull off a global matrix structure as it creates conflict for the employees having two bosses with two different goals. In light of these problems many firms that pursue a transnational strategy have tried to build flexible matrix structures based on enterprisewide management knowledge networks and a shared dual culture.

3) Integrating Mechanism – mechanisms for coordinating subunits

The need for integrating mechanisms changes with the strategy, the company is using:

Lowest – Localization strategyHighest – Global and Transnational

Very important in firms trying to transfer core competencies between units Very important in firms trying to recover economies of scale and learning

experience with a web like value “chain”

Questions

CT2 - Discuss the statement “An understanding of the causes and consequences of performance ambiguity is central to issue of organizational design in multinational firms.”

Performance Ambiguity exists when the causes of a subunit’s poor performance are not clear. This is not uncommon when a subunit’s performance is partly dependent on the performance of other subunits; when there is high interdependence between different subunits.

In firms not pursuing a localization strategy, certain degrees of performance ambiguity are going to exist. In an international strategy, integration is required to facilitate the transfer of core competencies and skills. The success of a foreign operation is partly dependent on the quality of the competencies transferred from the home country,

therefore these firms must design an organizational strategy with enough integrating mechanisms to achieve this.

In firms pursuing a global standardization strategy they need to recover location and experience curve economies, making many of the firms processes interdependent. This will require even greater controls and integrating mechanisms and make the decisions more complex and the decision tradeoffs more substantial (i.e. save money on this product or spend money to make it easy to sell the product).

Firms with the highest level of performance ambiguity are transnational firms. The multidirectional transfer of competencies requires significant interdependence and lots of join decision making, making the performance ambiguity very high. This means the control costs are going to be highest in transnational firms and that many of the costs recovered by the transnational strategy are lost to creating the expensive control systems that must exist to facilitate the strategy. Another byproduct of this strategy is that global and transnational firms need to do more than use only output controls of objective performance metrics such as profits, productivity and market share in order to control their subsidiaries. These firms must look into cultural controls, encouraging managers to want to assume he norms and value systems and use those values to solve problems between the interdependent units and avoid finger pointing based on the output results.

CT5 – If a firm is changing its strategy from an international to a transnational strategy what are the most important challenges it is likely to face in implementing this change? How can the firm overcome these challenges?

While becoming a multinational firm does not require a strategy change, in order to compete in the global economy and be the best at what you do, organizational change may become a requirement. First the company must decide their strategy and then they must develop an appropriate organizational structure to complement those goals.

A transnational strategy focuses on the simultaneous attainment of location and experience curve economies, local responsiveness and global learning. This firm may want to look into a matrix structure where managers from regional and product areas come together to make decisions that will benefit both points of view. They need to implement control systems that will allow them to work with their globally dispersed value chain and to transfer core competencies and therefore will likely be more culturally driven then output driven. Decisions should be made at both a centralized and decentralized level depending on what the company needs to transfer between units and what specifically about the product needs to be locally responsive (e.g. branding/marketing). There needs to be a mix of informal and formal integrating mechanisms which can be found in the decision matrix and via informal networking tools (e.g. Twitter). Finally there needs to be strong culture cultivation to keep all the units on the same page which can be accomplished by a strong leadership with good vision and a willingness to participate in the dissemination of that vision.

According to the text the three basic principals for performing organizational change include:

1) Unfreeze the corporation through shock therapy Incremental changes are not necessarily enough

People can easily reject or avoid incremental change In this case the announcement of a dramatically different structural

organization to facilitate the new goals Senior managers must lead the way in the changes and the unfreezing

process2) Move the org to a new state through proactive change in the architecture

Reassigning the responsibilities in the new organization Changing the control systems to be less output based and more

culturally based Letting people go who are unwilling to change The changes must be done quickly Involving the employees from the beginning will get their buy in and

will makes the changes better received.3) Refreeze the org in its new state

This step can take longer It requires culture establishment while the old one is dismantled Re-socialization of employee behaviors Hiring policies must change Control systems must be tested and be consistent with the new culture and

ignore the old one The upper management must be diligent and not allow the old pressure to

creep up

Chapter 14 – Entry Strategy and Strategic Alliances

Key Chapter Points

Two Major Ideas:1) The decision of which foreign markets to enter, when to enter them and on what

scale2) The choice of entry mode

Which Market (Recap of chapter 2) The attractiveness of a country as a potential market depends on balancing the

benefits, costs and risks associated with doing business in that country Long Run economic benefits of a function of size of the market, present

wealth, likelihood of future wealth Future economic growth, which is a function of a free market system and the

country’s capacity for wealth. Riskier in politically and economically unstable countries What kind of value the firm can create for consumers in that market

Timing of Entry

Early entry – when a firm enters a foreign market before others doFirst movers advantage

Pre-empt rivals Gain market share Establish a strong brand Creating switching costs to tie your buyers to you Set the price so you can cut prices when competitors arrive

First movers disadvantage Pioneering costs, from the foreign business system being so different that time

and expense must be sacrificed to learn the ropes Business failure if the firm makes mistakes based on bad knowledge Promotion of a new product or idea

Late Entry – When a firm enters a foreign market after other firms do Can watch what your competitors do, and learn from their mistakes Can ride the coattails of their marketing and promotion Don’t need to educate your customers

Scale of entry Large scale

o Requires significant resource commitment which can lead to strategy commitments, where you can’t get out of the deal without suffering significant consequences

o It does create a presence and instills belief that you are committed to your product and customers

Small Scaleo Allows a firm to learn the market without exposing the firm to riskso Way to gather informationo Lack of commitment may make it harder to attract customers

Entry Modes

Exporting

Advantages Avoids substantial costs of establish manufacturing operations in another country May help the firm achieve experience curve, location economies and economies

of scaleDisadvantages

It may be cheaper to produce abroad High transportation costs on shipping could make it uneconomical to export Tariff barriers may prohibit your exporting, making it uneconomical, and the

threat of tariff barriers can make it risky Delegates of the company that perform the sales, marketing, service may work for

other competitors and therefore will not have your best interests in mind

Turnkey Projects – The contractor agrees to handle every detail of the project for a foreign clients, including the training of operational personnel. At the end the client is handed the “key” to a fully functional plant. Typically in complex production businesses.

Advantages The know how is a valuable asset and you can earn returns on that knowledge Useful when FDI is limited Can be less risky than traditional FDI

Disadvantages No long term interest in that country May create a competitor out of the creator of your factory Could be selling your comparative advantage

Licensing – The licensor grants the rights to intangible property to another entity for a specified period, and in return, he licensor receives a royalty fee from the licensee.

Advantages Licensee puts up most of the capital Good for firms lacking capital Prohibited from direct investment in a foreign market

Disadvantages (3 serious ones) Does not give tight control over manufacturing, marketing, strategy, etc. that si

required for realizing the experience curve and location economies. Limits a firms ability to share wealth amongst various divisions, and therefore

limits a coordinated international strategy Giving away your comparative advantage

Franchising - a specialized form of licensing in which the franchiser sells the IP, but also the franchisee needs to follow those specific rules the franchisor sets out.

Advantages Firm is relieved of many of the costs and risks Good for firms lacking capital Good when you are prohibited from FDI in that country Allows you to build a global presence quickly

Disadvantage Great for services, but perhaps not manufacturing Limits a firms ability to share wealth amongst various divisions, and therefore

limits a coordinated international strategy There are different definitions of quality, safety, etc. in different places making it

difficult to maintain your image across other countries

Joint Ventures – Establishing a firm that is jointly owned by two or more otherwise independent firms, it’s popular mode of entry into foreign markets.

Advantages

Get to benefit from the local firm’s knowledge of the host country culture, norms, language, political situation, etc.

Provide the local knowhow to a new country Share the risks with another company Sometime political factors make it impossible not to partner with a local firm

Disadvantages Risking giving away your comparative advantage to a potential competitor The firm doesn’t have tight control over local operations, making it difficult for

companies needing to transfer a culture Shared ownership can lead to conflicts between the two corporations, which can

be exacerbated by the fact that the two firms are from different nations.

Wholly Owned Subsidiary – The firm owns 100% of the stock in the project. Can be done through a Greenfield venture, where you build a factory from scratch or via acquisition of an existing enterprise.

Advantages Protect your knowledge Tight control Required to gain experience and locations economies Can engage in global strategic behaviors

Disadvantages High costs and risks Culture transfer can be difficult, especially in terms of an acquisition

Chapter Questions

Tesco Q2 – How does Tesco create value in its international operations?

Tesco creates value by offering something that the market is lacking: a well run competitive grocery store. They enter emerging markets with growth potential and few competitors. They then acquire or partner with current enterprises in that country in order to ensure that the value they are creating will work for that particular consumer. Tesco researches their potential partners carefully, and they pick a solid chain with some stores and they build off of that known base. They bring to the table their core competencies, but they don’t remove the local managers who have the knowledge of the customer. Finally they have the capital and the retailing know-how to bring their moderately successful firms into a globally back force. This value is created out of successfully leveraging the joint venture strategy, where both firms bring something useful to the table and both are given the opportunity to be successful with their knowledge.

Grocery stores are part service and part goods firms. Tesco’s strengths exist in both, but they are leveraging their service and management know-how transfer through the use of the joint venture.

We know that value creation is measured by the difference between the converted inputs that create the cost of a product and how much the consumer is willing to pay for

that product. More specifically in this case it is the amount consumers are willing to pay for the goods inside of the Tesco subsidiary.

Porter states that it is important for the firm to decide where it wants to be strategically positioned in terms of cost effectiveness, and differentiation. Tesco wants to be a low cost provider of all the goods a consumer would purchase at a grocery store. They compete through their value chain by gaining purchasing power through expansion, and by leveraging their values skills in foreign markets.

CT 5 – A small Canadian firm that has developed some valuable new medical products using its unique biotechnology know-how is trying to decide how best to serve the EU. Establishing a manufacturing firm outside of Canada is not outside of the firm’s reach, but it will be a stretch. Which of the following options would you recommend and why?

a) Manufacture the product at home and let foreign sales agents handle the marketing.

b) Manufacture the product at home and set up wholly own subsidiaries in Europe to handle marketing

c) Enter into an alliance with a large European pharmaceutical firm. The product would be manuf in Europe y the 50/50 joint venture and marketed by the European firm.

As stated in the text, if the firm’s core competency is the based on control over

proprietary technological know-how, it should avoid licensing and joint-venture arrangements if possible to minimize the risks of losing control over that technology (option C). While the strategic alliance will allow for entry into the foreign market, I don’t feel that the EU is such a different type of market that it would be impossible to find someone in the US who they could hire to help them understand that market. The partnership can give competitors low cost access to the new technology and markets.

Wholly owned subsidiaries for marketing would allow for the marketing to be owned by the firm and therefore reduce the risks associated with using the local sales agents that may serve their own interests in lieu of the firm’s. However, I suggest that the core competency of the firm is not their marketing skills, but rather their technological know-how. This means that they would be choosing to take on major risks and expenses in order to transfer a non core competency and therefore find themselves at risk of failure.

Going back to the Lincoln electric case, we saw how selecting a mode of entry strategy on something other than your comparative can lead to significant issues. Exporting (option a) allows for the firm to realize location economies, experience curve economies while suffering from high transport costs, trade barriers and problems with local marketing agents. In this instance, the cost of shipping medical instruments is typically quite low, and the trade barriers between Canada and EU are nonexistent. However, they may find the local sales agents to be at odds with other competitors making it difficult to distribute the product. Despite this drawback however, I feel that the financial risks associated with option b and the dangers of losing their core competency in option c I would use the less risky option a.

Chapter 15 – Exporting, Importing and Counter Trade

Key Chapter Points

Chapter Questions

CT3 – An alternative to using letter of credit is export credit insurance. What are the advantages and disadvantages of using the credit insurance rather than a letter of credit for exporting:

(a) A luxury yacht from California to Canada(b) Machine tools from New York to the Ukraine

A letter of credit, abbreviated as L/C is: Issued by the bank at the request of the importer States the bank will pay a specified sum of money to a beneficiary, normally the

exporter, on presentation of particular, specified documents Charge a percentage to the importer as a fee for the service May require the importer to do some type of deposit It is a financial contract Allows for the banks to determine the creditworthiness of your trade partner, so

no relationship must exist for the trade to take place

Export Credit Insurance: Sometimes exporters who require a letter of credit from an importer will lose their

business to another exporter who doesn’t require all the additional work Thus when the importer is in a strong bargaining position and able to play

competing suppliers against each other, an exporter may have to forgo a letter of credit.

This exposes the exporter to risk The exporter can protect themselves against that risk through the us of exporter

insurance The FCIA provides coverage against commercial and political risks. Losses due

to commercial risk result from the buyers insolvency or payment default.

a) Because the competition for selling this product is somewhat high I would expect the buyer to have more power than the seller and therefore I could see them asking the seller to forgo the letter of credit. If that is the case export credit insurance will be the likely route to manage the trade. However, if the seller can get the buyer to comply the letter of credit between the reputable Canadian bank and the US bank will be a good asset to leverage if possible.

b) Because of the nature of the transaction, the letter of credit may be the best solution. This way the seller can insure that the buyer is credit worthy and the bank will take care of the relationship needs so the buyer and seller do not have to create a relationship. My only concern would be that of the Ukrainian bank and whether you can trust their banking system. It may be more prudent to use the exporter insurance again to guard against the ever present political and economic risks in that country.