direct investment and collaborative strategies chp...14

8/13/2019 Direct Investment and Collaborative Strategies CHP...14

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DIRECT INVESTMENT ANDCOLLABORATIVE STRATEGIES

OBJECTIVES

To clarify why companies may need to use modes other than exporting to operateeffectively in international business

To comprehend why and how companies make foreign direct investments To understand the major motives that guide managers when choosing a collaborative

arrangement for international business To define the major types of collaborative arrangements To describe what companies should consider when entering into arrangements with

other companies To grasp what makes collaborative arrangements succeed or fail To see how companies can manage diverse collaborative arrangements

CHAPTER OVERVIEW

Although most companies operating internationally would prefer exporting to othermarket entry modes, there are circumstances in which exporting may not be feasible. Inthese cases, companies may engage in direct investment in other countries, or entermarkets through various collaborative strategies such as joint ventures and alliances.

ollaborative strategies allow firms to spread both assets and risk across countries byentering into contractual agreements with a variety of potential partners. hapter!ourteen first discusses reasons for not exporting and then explores the motives that drivefirms to engage in noncollaborative and collaborative arrangements, as well as thevarious types of possible arrangements, including foreign direct investment, licensing,franchising, joint ventures, and e"uity alliances. It goes on to explore the various

problems that may arise in !#I and collaborative ventures and concludes with adiscussion of the various methods for managing these evolving arrangements.

CHAPTER OUTLINE

OPENING CASE: Cisco Systems [See Map 14.1]

$lobali%ation has pushed isco &ystems into a broader range of markets in order tofollow the expansion patterns of its customers, solicit new business, and study new ideasand products. isco's worldwide alliances spur the company to continue learning and torefine its competencies. They enable it to meet customer needs that fall outside its areasof core competencies, while simultaneously permitting isco and its partners to enhancetheir competitiveness by focusing on their respective competencies. Alliances have also

permitted isco to limit its capital outlays in potentially lucrative but risky ventures.

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isco believes alliances improve its processes, reduce its costs and expose it to the bestcompetitive practices. The firm's official &trategic Alliances Team manages crucial

partnerships with industry+leading technology and integrator firms, and it is the drivingforce behind the collaborative development effort to accelerate new market opportunities.

isco has generally standardi%ed the mechanics of partnership agreements. owever, it

continues to work to improve the odds of collaborative success by better managing thematters of trust, commitment and culture that shape what isco calls -interwovendependencies and relationships with its partners.

Teac i!" Ti#: /eview the 0ower0oint slides for hapter !ourteen and select thoseyou find most useful for enhancing your lecture and class discussion. !or additionalvisual summaries of key chapter points, review the figures in the text.

I. INTRODUCTION1hen forming objectives and implementing strategies in a variety of countryenvironments, firms must either handle international business operations on their

own or collaborate with other companies 2!igure (3.45. Although exporting isusually the preferred alternative since it allows firms to produce in their homecountries, participating in some markets may re"uire using a variety of other e"uityand none"uity arrangements 2!igure (3.65. These can range from wholly ownedoperations to partially owned subsidiaries, joint ventures, e"uity alliances, licensing,franchising, management contracts, and turnkey operations.

II$ WH% E&PORTING MA% NOT BE 'EASIBLEompanies may find more advantages by producing in foreign countries rather than

by exporting to them due to a variety of reasons.A$ C ea#e( to P(o)*ce A+(oa)

ompetition re"uires companies to control their costs and to choose productionlocations with this factor in mind.B$ T(a!s#o(tatio! Costs

&ome products and services become impractical to export after the cost oftransportation is added to production costs. In general, the farther the targetmarket is from the home country, the higher the transportation costs. Also, thehigher transportation costs are relative to production costs, the more difficult itis to be competitive through exporting. &ome services are impossible to exportand re"uire establishing operations in the target country.

C$ Lac, o- Domestic Ca#acityAs long as a company has excess capacity, it can service foreign markets and

price on the basis of variable rather than full costs. 1hen demand exceedscapacity, however, new facilities are needed and are often located nearer to theend consumers in other countries.

D$ Nee) to A.te( P(o)*cts a!) Se(/ices&pecial re"uirements for products in some markets may re"uire additionalinvestments that are often better made in the country the company intends to sellto. The more that products must be altered for foreign markets, the more likely

production will shift to those foreign markets.

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E$ T(a)e Rest(ictio!sAlthough import barriers have been on the decline, some significant tariffscontinue to exist. In these situations, avoiding barriers through production in thetarget country must be weighed against other considerations such as the marketsi%e of the country and the scale of technology used in production. 1hen

barriers fall within a group of countries, companies may be attracted to makedirect investments to serve the entire region since the expanded market may justify scale economies.

'$ Co*!t(y o- O(i"i! E--ectsonsumers may prefer goods produced in their own country over imports

because of nationalistic feelings. !or some products, consumers may preferimported goods from specific countries due to a perception that those productsare superior. 9ther considerations like the availability of service andreplacement parts for imported products, or adoption of just+in+timemanufacturing systems may influence production locations.

III$ NONCOLLABORATIVE 'OREIGN E0UIT% ARRANGEMENTSTwo forms of foreign direct investment 2!#I5 that do not involve collaboration arewholly owned operations and partially owned operations with the remainder widelyheld.A$ 'o(ei"! Di(ect I!/estme!t a!) Co!t(o.

To "ualify as a foreign direct investment, the investor must have control. Thiscan be established with a small percentage of the holdings if ownership iswidely dispersed. The more ownership a company has, the greater its controlover the management decisions of the operation. There are three primaryreasons for companies to want a controlling interest:internali%ation theory,appropriability theory, and freedom to pursue global objectives.1$ I!te(!a.i2atio!$

ontrol through self+handling of operations is known asinternali%ation. Transactions cost theory holds that companies shouldorgani%e operations internally when the costs of doing so are lower thancontracting with another party to handle it for them. Internali%ation mayresult in lower costs because; #ifferent operating units with the same company likely share a

common culture which expedites communications The company can use its own managers who understand and are

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have laws to protect minority shareholders' interest means that sharing ofownership may restrict a company from implementing a global ortransnational strategy.

B$ Met o)s -o( Ma,i!" 'DI!#I usually involves international capital movement, but could also involve the

transfer of other assets such as managers, cost control systems. ompanies caneither ac"uire an interest in an existing company or construct new facilities,known as a greenfield investment .1$ Reaso!s -o( B*yi!"$ ompanies may ac"uire existing operations in

order to avoid adding further capacity to the market, to avoid start+up problems, obtain easier financing, and get an immediate cash flow ratherthan tying up funds during construction. A company may also save time,reduce costs, and reduce risks by buying an existing company.

3$ Reaso!s -o( G(ee!-ie.)$ ompanies may choose to build if no suitablecompany is available for ac"uisition, if the ac"uisition is likely to lead tocarry+over problems, and if the ac"uisition is harder to finance. In addition,

local governments may prevent ac"uisitions because they want morecompetitors in the market and fear foreign domination.

II$ MOTIVES 'OR COLLABORATIVE ARRANGEMENTS=ach participant in a collaborative arrangement has its own basic objectives foroperating internationally as well as its own motives for collaborating with a partner.A$ Moti/es -o( Co..a+o(ati/e A((a!"eme!ts: Ge!e(a.

ompanies collaborate with other firms in either their domestic or foreignoperations in order to spread and reduce costs, to speciali%e in particularcompetencies, to avoid or counter competition, to secure vertical and>orhori%ontal linkages and to learn from other companies.

1$ S#(ea) a!) Re)*ce Costs$ 1hen the volume of business is small,or one partner has excess capacity, it may be less expensive to collaboratewith another firm.


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and an ability to pursue projects too large for any single firm can all bereali%ed through collaboration.6$ Gai! 7!o8.e)"e$ ?any firms pursue collaborative arrangements inorder to learn about their partners' technology, operating methods, or homemarkets and thus broaden their own competencies and competitiveness over

time.B$ I!te(!atio!a. Moti/es -o( Co..a+o(ati/e A((a!"eme!tsompanies collaborate with other firms in their foreign operations in order to

gain location+specific assets, overcome legal constraints, diversifygeographically and minimi%e their exposure in high+risk environments.1$ Gai! Locatio!9S#eci-ic Assets$ ultural, political, competitive, and

economic differences among countries create challenges for companies thatoperate abroad. To overcome such barriers and gain access to location+specific assets 2e.g., distribution access or a competent workforce5, firmsmay pursue collaborative arrangements.

3$ O/e(come Go/e(!me!ta. Co!st(ai!ts$ ountries may prohibit or

limit the participation of foreign firms in certain industries, or discriminateagainst foreign firms via tax rates and profit repatriation. !irms may be ableto overcome such barriers via collaboration with a local partner.

4$ Di/e(si-y Geo"(a# ica..y$ @y operating in a variety of countries, a firmcan smooth its sales and earnings collaborative arrangements may alsooffer a faster initial means of entering multiple markets or establishingmultiple sources of supply.

5$ Mi!imi2e E #os*(e i! Ris,y E!/i(o!me!ts$ The higher the riskmanagers perceive with respect to a foreign operation, the greater theirdesire to form a collaborative arrangement.

III$ T%PES O' COLLABORATIVE ARRANGEMENTS1hile collaborative arrangements allow for a greater spreading of assets acrosscountries, the various types of arrangements necessitate trade+offs among objectives.!inding a desirable partner can be problematic. A firm has a wider choice ofoperating forms and partners when there is less likelihood of competition and when ithas a desired, uni"ue, difficult+to+duplicate resource.A$ Some Co!si)e(atio!s i! Co..a+o(ati/e A((a!"eme!ts

Two critical variables that influence the choice of collaborative arrangement area firm's desire for control over its foreign operations and its prior expansion intoforeign ventures.

1$ Co!t(o.$ The loss of control over flexibility, revenues and competitionis a critical variable in the selection of forms of foreign operation. The morea firm depends on collaborative arrangements, the more likely its controlwill be lessened over decisions regarding "uality, new product directionsand production expansion.

POINT9COUNTERPOINT:S o*.) Co*!t(ies Limit 'o(ei"! Co!t(o. o- 7ey I!)*st(ies;

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POINT: ountries should limit foreign control of key industries in order to protect theireconomic and security interests, especially in key industries such as transportation, massmedia, and energy. istory has shown that home governments have used powerfulforeign companies to influence policies in the countries where they operate, and that

foreign companies have used their home governments as instruments to improve theirinterests in a country. 1henever a company is controlled from abroad, decisions aboutthat company can be made abroad, possibly to the detriment of the host country.

COUNTERPOINT: #ecisions made by foreign companies are not likely to bemuch different than decisions made by local companies. ?


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the situation in which companies in various countries exchange technologyrather than compete with each other with every product in every market.3$ Payme!t$ The amount and type of payment for licensingarrangements may vary. =ach contract tends to be negotiated on its ownmerits the bargaining range is based on dual expectations. @oth agreement+

specific and environment+specific factors may affect the value of a license.4$ Sa.es to Co!t(o..e) E!tities$ ?any licenses are given to firmsowned in part or in whole by the licensor. !rom a legal standpoint,subsidiaries are separate companies thus, a license may be re"uired in orderto transfer intangible property.

C$ '(a!c isi!"!ranchising represents a speciali%ed form of licensing in which the franchisornot only sells an independent franchisee the use of the intangible propertyessential to the franchisee's business, but also operationally assists the businesson a continuing basis. In a sense, the two partners act like a vertically integratedfirm because they are interdependent and each produces a part of the product

that ultimately reaches the customer.1$ O("a!i2atio! o- '(a!c isi!"$ A franchisor may penetrate a foreigncountry by dealing directly with its foreign franchisees, or by setting up amaster franchise and giving that organi%ation the right to open outlets on itsown or to develop sub+franchises in the country or region.3$ O#e(atio!a. Mo)i-icatio!s$ !ranchise success is derived from threefactors; product standardi%ation, effective cost control and high recognition.


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Two companies from the same country joining together in a foreign market,such as


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#ifferences in both national and corporate cultures may cause problems withcollaborative arrangements, especially joint ventures . !irms differ by nationalityin terms of how they evaluate the success of an operation 2e.g., profitability,strategic market position and>or social objectives5.


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LOO7ING TO THE 'UTURE:W y I!!o/atio! B(ee)s Co..a+o(atio!

@ecause the cost of invention is often so high, it follows that firms of considerable si%ewill carry out most innovation. Although firms can become ever larger through mergers

and ac"uisitions, collaborative arrangements are likely to be increasingly important in thefuture as governments opt to restrict such activities because of antitrust concerns. At thesame time, collaborative arrangements will bring forth both opportunities and problemsas firms move simultaneously into new countries and to new types of contractualarrangements with new partners. The more partners in a given alliance, the more strainedthe decision+making and control processes will likely be.

CLOSING CASE: I!te(!atio!a. Ai(.i!e A..ia!ces [See Map 14.2]

Most of the world s a!rl!"es ha#e for$ed all!a"%es w!th other a!rl!"es %o#er!"&th!"&s s'%h as %o$(!"ed ro'tes) sales) a!rl!"e ter$!"al ser#!%es) a"d fre*'e"tfl!er pro&ra$s. I" add!t!o") $a"+ a!rl!"es hold a" ow"ersh!p pos!t!o" !" othera!rl!"es. M'%h of th!s %ooperat!#e a%t!#!t+ !s dr!#e" (+ &o#er"$e"t re&'lat!o"sthat l!$!t fore!&" part!%!pat!o" !" do$est!% $ar,ets) $a,!"& all!a"%es the o"l+pra%t!%al alter"at!#e to !"%reas!"& (readth of ser#!%e. Other fa%tors s'%h as %ostsa#!"&s a"d !"te"se %o$pet!t!o" ha#e also led to the for$at!o" of all!a"%es.

0*estio!s

1. Discuss a question raised by the manager of route strategy at American Airlines:Why should an airline not be able to establish service any here in the orld sim!lyby demonstrating that it can and ill com!ly ith the local labor and business la sof the host country"1hen considering either the international or simply the domestic environment, amajor consideration is whether economic interests in the airline industry are betterserved through regulation via the market. 0roponents of deregulation argue that

competition has forced carriers to become efficient or else go out of business, insteadof being subsidi%ed by regulated route and fare structures. 0roponents also argue thatthe survival of mega+carriers leads to economies of scale in handling passengers andcargo. 9pponents argue that local interests are often ill+served by deregulation sinceairlines are free to discontinue service and to wage predatory price wars that putcompetitors out of business, at which point the survivors will then raise prices.9pponents also raise fears there may eventually be too few survivors to allow for thecompetition that was envisioned by the proponents of deregulation the high barriers

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to entry in the industry further exacerbate this situation. Another major considerationdeals with the political dimensions of the "uestion. @ecause most governments seeairlines as a key national industry, they oppose giving foreign carriers access todomestic routes on grounds of both national security and consumer welfare.

#. $he !resident of %a!an Air &ines has claimed that '.(. airlines are dum!ing air services on routes bet een the 'nited (tates and )uro!e, meaning they are sellingbelo their costs because of the money they are losing. (hould governments set

!rices so that carriers ma*e money on routes"It is very difficult to separate profits and losses on a route+by+route basis. 1hile faresand loads on certain routes may seem to be low, they may in fact be generatingmarginal revenues that make major routes profitable. A second issue is that of priceelasticity. If governments were to set prices above the e"uilibrium point, traffic andrevenues, and hence profitability, would all fall. A third issue is that of ownership. If

privately owned carriers abandon routes to government+owned airlines, they couldwell give advantages to those airlines that could then be used against them on other

routes. !inally, the issue of profitability raises the "uestion of subsidies. It is nearlyimpossible to determine whether dumping is taking place when competitors receiveso many direct and indirect subsidies.

+. What ill be the consequences if a fe large airlines or net or*s come to dominate global air service"The conse"uences would be both positive and negative. 9n the positive side,

passengers should be able to travel almost anywhere in the world on a single airline2or network5. That in turn should minimi%e the risk of missed connections and lost

baggage. 9perating economies should be reali%ed as a result of the higher utili%ationof airport gates and ground e"uipment:conse"uent savings may or may not be

passed along to passengers through lower prices. 9n the negative side, it is "uite possible that minimal competition would lead to poor service and>or high prices. Inaddition, competition among the destinations associated with particular airlineswould likely decline, as would the special services offered by the -niche airlines.

. (ome airlines, such as (outh est and Alas*a Air, have survived as niche !layersithout going international or develo!ing alliances ith international airlines. Can

they continue this strategy"1hen there is sufficient traffic on the city pairs that a route serves, there is little needto have feeder or connecting routes for an airline to be profitable. In fact, without theneed for hubs to make connections, some airlines can operate in smaller but closer+to+downtown airports, such as ?idway in hicago or Ca $uardia in ormodify their operations might make them more, rather than less, vulnerable.

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WEB CONNECTION

Teac i!" Ti#: Jisit www.prenhall.com/daniels for additional information and

links relating to the topics presented in hapter !ourteen. @e sure to refer yourstudents to the on+line study guide, as well as the Internet exercises for hapter!ourteen.

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C HAPTER TERMINOLOG% :

internali%ation, p. 3H*appropriability theory, p. 3H*

resource+based view, p. 3*4dependencia theory, p. 3*7 bargaining school theory, p. 3*7

consortium, p. )84

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ADDITIONAL E&ERCISES: Co..a+o(ati/e St(ate"ies

Exercise 14.1. Ask the students to identify several foreign owned companies withoperations in their local area. Are these companies viewed as good corporateciti%ens and contributors to the local communityL #o they employ mostly local

people or do they have a large number of expatriatesL ow do the wages paid bythese companies compare to those of other companies in the same industryL

Exercise 14. . Assume that a company near you wanted to expand into foreignmarkets. 1hat issues should that company explore before deciding whether toexport or to engage in foreign direct investmentL

Exercise 14.1. Ask students to name companies, both domestic and foreign, thatoperate internationally. Then ask them to discuss the potential types of collaborativearrangements they feel would be appropriate for the various firms. onclude thediscussion by examining the list of firms and asking students if there are particularindustries that seem to lend themselves to particular types of collaborativearrangements more readily than others. @e sure the students discuss why this might

be so.

Exercise 14. . Identify the various home countries of students in your class. Thenlead the class in a discussion of the likely types of collaborative arrangementsforeign firms might pursue in those countries. @e sure students cite the various

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economic, political and cultural factors that would influence decisions regardingviable collaborative strategies.

Exercise 14.!. 1hile offering desirable advantages, licensing agreements also limitthe amount of control a licensor can exercise over a foreign production process.

=ngage the students in a discussion of the type of firm that would most likely bewilling to allow a licensee to use its established brand name, and the type of firm thatwould not be willing to do so. =xplore the reasons for each position as well as thereasons a licensee would be willing to accept a license that did not include rights tothe use of the associated brand name.

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direct investment and collaborative strategies chp...14

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