Foreign Market Entry Strategies Ruth V. Aguilera

Principal Motives for Int’l Expansion World Market Locations Economies To seek lower production factor costs Economies of Scale To expand sales and production volume Economies of Scope To exploit proprietary assets

Forms of FDI Ownership Relatedness Wholly owned operations Green-field investment Full acquisition Partially owned operations Partial acquisition Joint venture Relatedness Horizontal FDI Vertical FDI Unrelated diversification

Forms of FDI: Ownership Home Country Host Country Green Field 100% Owned New Entity Full Acquisition (i.e., 100%) MNE Local Firm Partial Acquisition (e.g., 50%) Ownership = (1 - s)% Ownership = s% Joint Venture

The Form of FDI: Acquisitions versus Green-Fields The majority of investments is in the form of mergers and acquisitions: Represents about 77% of all flows in developed countries. Represent about 33% of all flows in developing countries. Fewer target firms. Why the preference for mergers and acquisitions? Quicker to execute. Foreign firms have valuable strategic assets. Believe they can increase the efficiency of the acquired firm.

Entry Decision Making Under Uncertainty: Trade-off Between Flexibility and Commitment Timing: When is a good time to enter? Potential gain from waiting Cost of delay Scale of entry Small scale: Establish a foothold to learn Large scale: Acquire first mover advantage Speed of expansion: How fast to grow? Value of learning Preemption of competitors Constraints of internal resources Mode Some modes have more flexibility embedded Some modes reduce resource requirements

Choice of Market Entry Mode

Value Chain of an MNE Marketing and Sales Production R&D Company Infrastructure Organization, Coordination & HRM Innovative Capabilities Advanced Technology & Know-How Industry-Specific Marketing Expertise What additional resources may the MNE need to enter a foreign market? Local expertise: marketing, government relations, etc.

Typical Value Chain of a Local Firm Marketing and Sales Production R&D Company Infrastructure Organization, Coordination & HRM Imitative Capabilities Older Technology and Know-How Country-Specific Marketing Expertise What may the MNE desire from a local firm? Complementary resources Not necessarily strength in every area

Complementarity of Resources MNE’s Resources Innovative capabilities Advanced technology and know-how Industry-specific marketing expertise Organization structure and systems Local Firm’s Resources Imitating capabilities Older technology and know-how Country-specific marketing expertise Country specific organization skills

Going it Alone: Export MNE Customers HOME COUNTRY HOST COUNTRY Revenues MNE Customers Export of Goods

When Is Export Appropriate? Going it Alone: Export Advantages Low initial investment Reach customers quickly Complete control over production Benefit of learning for future expansion Disadvantages Potential costs of trade barriers Transportation cost Tariffs and quotas Foregoes potential location economies Difficult to respond to customer needs well When Is Export Appropriate? Low trade barriers Home location has cost advantage Customization not crucial

Licensing of Technology Licensing Agreement HOME COUNTRY HOST COUNTRY Licensing of Technology MNE Local Firm Fees and Royalties

When Is Licensing Appropriate? Licensing Agreement Advantages Low initial investment Avoids trade barriers Potential for utilizing location economies Access to local knowledge Easier to respond to customer needs Disadvantages Lack of control over operations Difficulty in transferring tacit knowledge Negotiation of a transfer price Monitoring transfer outcome Potential for creating a competitor When Is Licensing Appropriate? Well codified knowledge Strong property rights regime Location advantage

Foreign Acquisition MNE Local Firm HOME COUNTRY HOST COUNTRY Investment MNE Local Firm Profit

When Is Acquisition Appropriate? Foreign Acquisition Advantages Access to target’s local knowledge Control over foreign operations Control over own technology Disadvantages Uncertainty about target’s value Difficulty in “absorbing” acquired assets Infeasible if local market for corporate control is underdeveloped When Is Acquisition Appropriate? Developed market for corporate control Acquirer has high “absorptive” capacity High synergy

Going it Alone: “Green Field” Entry HOME COUNTRY HOST COUNTRY MNE Profit Investment New Subsidiary Company

Going it Alone: “Green Field” Entry Advantages Normally feasible Avoids risk of overpayment Avoids problem of integration Still retains full control Disadvantages Slower startup Requires knowledge of foreign management High risk and high commitment When Is “Green Field” Entry Appropriate? Lack of proper acquisition target In-house local expertise Embedded competitive advantage

Wholly-Owned Subsidiary Management Contract HOME COUNTRY HOST COUNTRY Management Fees MNE Local Firm Managerial Service Profit Technological Inputs Wholly-Owned Subsidiary

When Is a Management Contract Appropriate? Advantages Access to local management skills Avoids buying unwanted assets Retains strategic control Disadvantages Potential incentive problem Potential adverse selection problem How do you know the competencies of the manager? When Is a Management Contract Appropriate? Manager has a reputation to protect Hotels Consulting companies Performance-based contract provides no perverse incentives

Joint Venture MNE Local Firm HOME COUNTRY HOST COUNTRY Share of Profit Inputs Inputs Joint Venture Company Share of Profit

When Is a Joint Venture Appropriate? Advantages Access to partner’s local knowledge Reduction of concern about overpayment Both parties have some performance incentives Significant control over operation Disadvantages Potential loss of proprietary knowledge Potential conflicts between partners Neither partner has full performance incentive Neither partner has full control When Is a Joint Venture Appropriate? Both partners contribute hard-to-measure inputs Large expected mutual gains in the long-run Trade secrets can be walled off

Common Market Entry Modes HOME COUNTRY HOST COUNTRY Licensing Acquisition MNE Local Firm Export Joint Venturing Joint Venture Company “Green Field” Entry New Subsidiary Company

Design, spec and/or technology Int’l Sourcing HOME COUNTRY HOST COUNTRY Design, spec and/or technology MNE Local Firm OEM goods Payment Applicable to manufacturing of mature products (e.g., shoes) Access to location economies Competition among OEM producers lowers costs.

Equipment and technology Compensation Trade HOME COUNTRY HOST COUNTRY Equipment and technology MNE Local Firm Output Common reason: Local firm’s lack money to buy equipment Economic benefits Enhanced incentives for MNE to make sure that equipment works MNE’s skills in marketing the products in its home country

Kumar & Subramaniam (1997) A Contingency Framework for the Mode of Entry Decision Risk Return Control

Contractual Agreement Greenfield Investment Modes of entry Exporting Contractual Agreement Joint Venture Acquisition Greenfield Investment Risk Low Moderate High Return Control Integration Negligible

Decision Strategies: Rational Analytic Strategy Cybernetic Strategy Serendipity

Discovers

The Australian Challenge What’s Freixenet core competency? Evaluate Freixenet’s market entry modes Freixenet in Australia What lessons can we draw? Where next? Adds: what is the theme? Is it a global theme (standarization/adaptaion? Glocalization (Akio Morita)

Good luck!

Future Reading - Anderson, Erin and Hubert Gatignon. 1986. Modes of Foreign Entry: A Transaction Cost Analysis.  Journal of International Business Studies, 17: 1-26. - Kogut, B. and H. Singh. 1988. The effect of national culture on the choice of entry mode. Journal of International Business Studies, 19: 411-432. - Hennart, J.-F. and Y.-R. Park. 1993. Greenfield vs. acquisition: The strategy of Japanese investors in the United States. Management Science, 39(9): 1054-1070. - Hennart, J. F., and Reddy, S. 1997. The Choice Between Mergers/Acquisitions and Joint Ventures: The Case of Japanese Investors in the United States. Strategic Management Journal 18: 1-12. - Barkema, H. G. and Vermeulen, F. 1998. International Expansion Through Start-up or Acquisition: A Learning Perspective. Academy of Management Journal 41: 7-26. - Brouthers, K. D. and Brouthers, L. E. 2000. Acquisition or Greenfield Start-up? Institutional, Cultural and Transaction Cost Influences. Strategic Management Journal 21: 89-97.