Department of Management BUS804 International Business Strategy Session 1, 2019 (External) Individual Assignment (B): Submission guideline and marking criteria 1 1. Individual Assignment (B): 50% of total grade For Individual Assignment (B), each student will need to prepare a 3000-word (excluding bibliography) critical literature review on key ideas and concepts of transaction costs theory (covered mainly in topics 5-7) and explain to what extent do you think such a theory can provide MNEs guidance on how to choose between different modes of international business organization when expanding overseas (e.g. the choice between export and FDI)? To address the assignment question, you should first develop a solid understanding of key ideas and concepts of transaction costs theory through a rigorous, extensive and critical literature review of the relevant academic publications, and then analyse and synthesize what you have learned from existing literature into your own arguments, based on which you can then provide a clear and convincing answer to the assignment question. It should be noted that simply reviewing what others have argued in the existing publications is necessary but not sufficient for the purpose of addressing the assignment question. You should build upon existing literature to develop your own original ideas and arguments in order to provide a clear and strong answer to the assignment question. To provide a rigorous review and critique, you are expected to read widely and incorporate at least 20 different references from academic publications (including books, book chapters, articles, and conference papers etc.) Due date: 4 pm, 4 June 2019 2. Submission guidelines  An electronic copy should be submitted to Turnitin in the iLearn system  Word limit: 3,000 words (excluding bibliography)  Format: essay  Reference style: Harvard style preferred, but we do not insist on a particular reference style provided you are consistent  Double space all body text; bibliography single space accepted 2  Tables, figures and any appendices should be neat and properly labelled and referred to in the body of the paper.  Make a duplicate copy of the assignment  Number each page and use a font of at least 11 pt  Attach a cover sheet indicating: (1) your student number (2) your name (3) date submitted, and (4) assignment title --- i.e. BUS804 Individual Assignment (B)  NO late submission will be accepted, unless special consideration has been submitted and approved 4. Marking Criteria 85+ (HD) An outstanding piece of work, showing a very high degree of mastery of the theory. The essay provides clear and strong answer to the question, demonstrating the author’s deep understanding of the theory’s implication for firms’ strategies towards international business involvement. The essay shows a highly developed ability to search relevant academic works for a clear purpose. There is evidence of a high level of rigorous and critical review. The essay demonstrates originality of ideas, with arguments expressed with strong logic and fluency. The essay shows all the structural elements of good writing, and work is free of errors with a very high level of technical competence. At the highest level of achievement, the essay is considered to be thought-provoking, exciting, and challenging. 75-84.5 (D) An excellent piece of work, showing a high degree of mastery of the theory, with good answers provided. The essay shows a good understanding of the theory’s implication for firms’ strategies towards international business involvement. The essay shows a well-developed ability to conduct critical review of relevant academic literature. It contains evidence of extensive research, and of the ability to integrate it into the argument. The essay shows evidence of good research and good writing, with ideas and arguments expressed clearly. The work is free of all but very minor errors, with a high level of technical competence. 65-74.5 (C) A good piece of work, showing your efforts in doing research and your attempts at providing answer. The essay shows a sound grasp of the basic concepts and ideas of the theory, but there is a lacking of the depth in understanding the theory’s implication for firms’ strategies towards international business involvement. The essay demonstrates your good attempt at review and analysis of relevant existing literature, but may be more limited in synthesising existing literature into your own ideas and develop original arguments. The essay contains no gross deficiencies in writing or presentation, but there may be a few gaps leading to some errors. The essay would benefit from a better structure of arguments and ideas. 3 50-64.5 (P) A fair piece of work, showing some basic understanding of the key concepts and ideas in the theory, but possibly with some gaps or areas of confusion. There is a lack of understanding and/or discussion of the theory’s implication for firms’ international business strategies. There might be some evidence of research and literature review but your ability to integrate it into substantial arguments remains highly desirable. Your attempt at analysis and synthesis of existing literature is superficial and limited, with a heavy reliance on describing and repeating what others have said already rather than critical analysis. As a result, the answers you provided are not well supported by your arguments and analysis. Work may contain some errors, and technical competence is at a routine level only. Expression of ideas and arguments may appear confusing and random. 0-49.5 (F) A poor piece of work. Few or none of the basic requirements of the assignment set are achieved. The essay shows little effort in doing research. You have failed to engage seriously with the relevant literature on the theory. Your work shows major gaps and misconceptions over the key concepts and ideas of the theory. You have not shown your understanding of the theory’s implication for firms’ strategies towards international business involvement. As a result, there is an inability to provide a meaningful answer to the assignment question. Little or no attempt at analysis and synthesis of existing literature. The level of expression and structure is inadequate with many errors. The essay shows inability to organize ideas and information for developing arguments or logical reasoning. Ideas are poorly expressed and structured. 4 11E International Business COMPETING IN THE GLOBAL MARKETPLACE Charles W. L. Hill UNIVERSITY OF WASHINGTON G. Tomas M, Hull MICHIGAN STATE UNIVERSITY Me Hill Graw Education UNIVERSITY LIBRARY Me Graw Hill Education INTERNATIONAL BUSINESS: COMPETING IN THE GLOBAL MARKETPLACE, ELEVENTH EDITION Published by McGraw-Hill Education, 2 Penn Plaza, New York, NY 10121. Copyright © 2017 by McGraw-Hill Education. All rights reserved. Printed in the United States of America. Previous editions © 2015, 2013, and 2011. No part of this publication may be reproduced or distributed in any form or by any means, or stored in a database or retrieval system, without the prior written consent of McGraw-Hill Education, including, but not limited to, in any network or other electronic storage or transmission, or broadcast for distance learning. Some ancillaries, including electronic and print components, may not be available to customers outside the United States. This book is printed on acid-free paper. 1234567890 DOW/DOW 1 0 9 8 7 6 ISBN 978-1-259-57811-3 MHID 1-259-57811-9 Senior Vice President, Products & Markets: Kurt L. Strand Vice President, General Manager, Products & Markets: Michael Ryan Vice President, Content Design & Delivery: Kimberly Meriwether David Managing Director: Susan Gouijnstook Director: Michael Ablassmeir Senior Brand Manager: Anke Braun Weekes Director, Product Development: Meghan Campbell Director of Development: Ann Torbert Product Developer: Gabriela G. Gonzalez Marketing Manager: Michael Gedatus Marketing Coordinator: Sam Deffenbaugh Digital Product Analyst: Kerry Shanahan Director, Content, Design & Delivery: Terri Schiesl Program Manager: Mary Conzachi Content Project Managers: Mary Powers (Core), Evan Roberts (Assessment) Buyer: Jennifer Pickel Design: Srdjan Savanovic Content Licensing Specialists: Lori Hancock (Image), DeAnna Dausener (Text) Compositor: Aptara®, Inc. Printer: R. R. Donnelley All credits appearing on page or at the end of the book are considered to be an extension of the copyright page. Library of Congress Cataloging-in-Publication Data Names: Hill, Charles W. L., author. I Hult, G. Tomas M., author. Title: International business : competing in the global marketplace / Charles W. L. Hill, G. Tomas M, Hult. Description: Eleventh edition. I New York, NY : McGraw-Hill Education, [2017] Identifiers: LCCN 20150361581 ISBN 9781259578113 I ISBN 1259578119 Subjects: LCSH: International business enterprises—Management. I Competition, International. Classification: LCC HD62.4 .H55 2017 1 DDC 658/.049—dc23 LC record available at http://lccn.loc.gov/ 2015036158 The Internet addresses listed in the text were accurate at the time of publication. The inclusion of a website does not indicate an endorsement by the authors or McGraw-Hill Education, and McGraw-Hill Education does not guarantee the accuracy of the information presented at these sites. www.mhhe.com fiV0 L i‘? Sti iiouv n-'1 Si' u: i 'ntv^r -nrcS Onsir -s Entry Strategy and Strategic Alliances 15 LEARNING OBJECTIVES After reading this chapter, you will be able to; L015 1 Explain the three basic decisions that firms contemplating foreign expansion must make; which markets to enter, when to enter those markets, and on what scale. ■01- 2 Compare and contrast the different modes that firms use to enter foreign markets. L015-^ Identify the factors that influence a firm’s choice of entry mode. L015 Recognize the pros and cons of acquisitions versus greenfield ventures as an entry strategy. LOIS 4 Evaluate the pros and cons of entering into strategic alliances. Starbucks’ Foreign Entry Strategy OPENING CASE Forty years ago, Starbucks was a single store in Seattle’s Pike Place Market selling premium-roasted coffee. Today, it is a global roaster and retailer of coffee with some 21,536 stores, 43 percent of which are in 63 countries outside the United States. China (1,716 stores), Canada (1,330 stores), Japan (1,079 stores), and United Kingdom (808 stores) are large markets internationally for Starbucks. Starbucks set out on its current course in the 1980s when the company’s director of marketing, Howard Schultz, came back from a trip to Italy enchanted with the Italian coffeehouse experience. Schultz, who later became CEO. persuaded the company’s owners to experiment with the coffeehouse format—and the Starbucks experi­ ence was born. The strategy was to sell the company’s own premium roasted coffee and freshly brewed espresso-style coffee beverages, along with a variety of pastries, coffee accessories, teas, and other products, in a tastefully designed coffeehouse setting. From the outset, the company focused on selling “a third place experience,” rather than just the coffee. The formula led to spectacular success in the United States, where Starbucks went from obscurity to one of the best-known brands in the country in a decade. Thanks to Starbucks, coffee stores became places for relaxation, chatting with friends, reading the newspaper, holding business meetings, or (more recently) browsing the web. In 1995, with 700 stores across the United States, Starbucks began exploring foreign market opportunities. The first target market was Japan. The company estab­ lished a joint venture with a local retailer. Sazaby Inc. Each company held a 50 percent stake in the venture, Starbucks Coffee of Japan. Starbucks initially invested $10 million in this venture, its first foreign direct investment. The Starbucks format was then licensed to the venture, which was charged with taking over responsibility for growing Starbucks’ presence in Japan. To make sure the Japanese operations replicated the ‘‘Starbucks experience” in North America, Starbucks trans­ ferred some employees to the Japanese operation. The li­ censing agreement required all Japanese store managers and employees to attend training classes similar to those given to U.S. employees. The agreement also required that stores adhere to the design parameters established in the United States. In 2001, the company introduced a stock option plan for all Japanese employees, making it the first company in Japan to do so. Skeptics doubted that Starbucks would be able to replicate its North American success overseas, but by June of 2015 Starbucks’ had some 1,079 stores and a profitable business in Japan. After Japan, the company embarked on an aggressive foreign investment program. In 1998, it purchased Seattle Coffee, a British coffee chain with 60 retail stores, for $84 million. An American couple, originally from Seattle, had started Seattle Coffee with the intention of establishing a Starbucks­ like chain in Britain. In the late 1990s, Starbucks opened stores in Taiwan, Singapore, Thailand, New Zealand, South Korea, Malaysia, and—most significantly—China. In Asia, Starbucks’ most common strategy was to license its format to a local operator in return for initial licensing fees and royalties on store revenues. As in Japan, Starbucks insisted on an intensive employee-training program and strict speci­ fications regarding the format and layout of the store. By 2002, Starbucks was pursuing an aggressive expan­ sion in mainland Europe. As its first entry point, Starbucks chose Switzerland. Drawing on its experience in Asia, the company entered into a joint venture with a Swiss com­ pany, Bon Appetit Group, Switzerland’s largest food ser­ vice company. Bon Appetit was to hold a majority stake in the venture, and Starbucks would license its format to the Swiss company using a similar agreement to those it had used successfully in Asia. This was followed by a joint ven­ ture in other countries. United Kingdom leads the charge in Europe with 808 Starbucks stores. By 2014, Starbucks emphasized the rapid growth of its operations in China, where it had 1,716 stores and planned to roll out another 500 in three years. The success of Starbucks in China has been attributed to a smart partnering strategy. China is not one homogeneous market; the cul­ ture of northern China is very different from that of the east, consumer spending power inland is not on par with that of the big coastal cities. To deal with this complexity, Starbucks entered into three different joint ventures: in the north with Beijong Mel Da coffee, in the east with Taiwanbased UniPresident, and in the south with Hong Kongbased Maxim’s Caterers. Each partner bought different strengths and local expertise that helped the company gain insights into the tastes and preferences of local Chi­ nese customers, and to adapt accordingly. Starbucks now believes that China will become its second-largest market after the United States by 2020. Sources; Starbucks 10K, various years; C. McLean, “Starbucks Set to Invade Coffee-Loving Continent,” Seattle Times, October 4, 2000, p. El; J. Ordonez, “Starbucks to Start Major Expansion in Over­ seas Market,” The Wall Street Journal, October 27, 2000, p. BIO; S. Homes and D. Bennett, "Planet Starbucks,” BusinessWeek, Sep­ tember 9, 2002, pp. 99-110; “Starbucks Outlines International Growth Strategy,” Business Wire, October 14, 2004; A. Yeh, “Starbucks Aims for New Tier in China,” Financial Times, February 14, 2006, p. 17; C. Matlack, “Will Global Growth Help Starbucks?,” Business­ Week, July 2, 2008; H. H. Wang, “Five Things Starbucks Did to Get China Right,” Forbes, July 10, 2012. A31 432 Parts The Strategy and Structure of International Business Y Introduction This chapter is concerned with three closely related topics: (1) the decision of which for­ eign markets to enter, when to enter them, and on what scale; (2) the choice of entry mode; and (3) the role of strategic alliances. Any firm contemplating foreign expansion must first struggle with the issue of which foreign markets to enter and the timing and scale of entry. The choice of which markets to enter should be driven by an assessment of relative long-run growth and profit potential. For example, enticed by its long-term growth potential, Starbucks entered China in 1999. In number of stores, China is the sec­ ond most important market after the United States, ahead of Canada, Japan, and United Kingdom. And China continues to be a strategic market entry focus for Starbucks, with the company planning several hundred more store openings in the near future. The choice of mode for entering a foreign market is another major issue with which international businesses must wrestle. The various modes for serving foreign markets are exporting, licensing or franchising to host-country firms, establishing joint ventures with a host-country firm, setting up a new wholly owned subsidiary in a host country to serve its market, and acquiring an established enterprise in the host nation to serve that market. Each of these options has advantages and disadvantages. The magnitude of the advan­ tages and disadvantages associated with each entry mode is determined by a number of factors, including transport costs, trade barriers, political risks, economic risks, business risks, costs, and firm strategy. The optimal entry mode varies by situation, depending on these factors. Thus, whereas some firms may best serve a given market by exporting, other firms may better serve the market by setting up a new wholly owned subsidiary or by acquiring an established enterprise. Starbucks, for example, seems to have had a preference for entering into joint ventures with local partners and then licensing its format to the joint venture. Starbucks has done this in order to benefit from its joint-venture partners’ local expertise, which has helped the company better configure its store format and menu to the tastes and preferences of local customers. In China, for example, its partners urged Starbucks to capitalize on the tea-drinking culture of the country by using popular local ingredients such as green tea. This helped get consumers through the door, and once they frequented the stores, they quickly developed a taste for Starbueks coffee. The final topic of this chapter is strategic alliances. Strategic aliiances are coopera­ tive agreements between potential or actual competitors. The term is often used to em­ brace a variety of agreements between actual or potential competitors including cross-shareholding deals, licensing arrangements, formal joint ventures, and informal cooperative arrangements. The motives for entering strategic alliances are varied, but they often include market access, hence the overlap with the topic of entry mode. OglobalEDGE INTERACTIVE RANKINGS Entering foreign markets is the focus of Chapter 15, The selection of country markets to choose from is getting larger for many product categories as more countries see their popu­ lations’ growing purchasing power. With more than 200 countries in the world, the data are overwhelming, and even the starting point for analysis is not always an easy decision. The Interactive Rankings on globalEDGE can serve as a great pictorial view of the world on some 50 important variables in categories covering the economy, energy, government, health, infrastructure, labor, people, and trade and investment (globaledge.msu.edu/tools-and-data/ interactive-rankings). Active data maps such as the Interactive Rankings maps are a good starting point for analysis to evaluate data for a specific country as well as the countries around in a region. This allows for a focus on entry into one market now and a strategy for expansion later on to nearby countries with similar characteristics. Which are the top three countries for Internet users? Entry Strategy and Strategic Alliances Chapter 15 if Basic Entry Decisions A firm contemplating foreign expansion must make three basic decisions: which markets to enter, when to enter those markets, and on what scale.^ WHICH FOREIGN MARKETS? There are now more than 200 countries in the world, and they do not all hold the same profit potential for a firm contemplating foreign expansion. Ultimately, the choice must be based on an assessment of a nation’s long-run profit potential. This potential is a func­ tion of several factors, many of which we have studied in earlier chapters. Chapters 2 and 3 looked in detail at the economic and political factors that influence the potential attrac­ tiveness of a foreign market. The attractiveness of a country as a potential market for an international business depends on balancing the benefits, costs, and risks associated with doing business in that country. Chapters 2 and 3 also noted that the long-run economic benefits of doing business in a country are a function of factors such as the size of the market (in terms of demograph­ ics), the present wealth (purchasing power) of consumers in that market, and the likely future wealth of consumers, which depends on economic growth rates. While some mar­ kets are very large when measured by number of consumers (e.g., China, India, Brazil, Russia, and Indonesia), one must also look at living standards and economic growth. On this basis, China and India, while relatively poor, are growing so rapidly that they are attrac­ tive targets for inward investment. Alternatively, weak growth in Indonesia implies that this populous nation is a far less attractive target for inward investment. As we saw in Chapters 2 and 3, likely future economic growth rates appear to be a function of a free market system and a country’s capacity for growth (which may be greater in less devel­ oped nations). Also, the costs and risks associated with doing business in a foreign coun­ try are typically lower in economically advanced and politically stable democratic nations, and they are greater in less developed and politically unstable nations. The discussion in Chapters 2 and 3 suggests that, other things being equal, the bene­ fit-cost-risk trade-off is likely to be most favorable in politically stable developed and developing nations that have free market systems, and where there is not a dramatic up­ surge in either inflation rates or private-sector debt. The trade-off is likely to be least favorable in politically unstable developing nations that operate with a mixed or com­ mand economy or in developing nations where speculative financial bubbles have led to excess borrowing. Another important factor is the value an international business can create in a foreign market. This depends on the suitability of its product offering to that market and the nature of indigenous competition.^ If the international business can offer a product that has not been widely available in that market and that satisfies an unmet need, the value of that product to consumers is likely to be much greater than if the international busi­ ness simply offers the same type of product that indigenous competitors and other for­ eign entrants are already offering. Greater value translates into an ability to charge higher prices and/or to build sales volume more rapidly. By considering such factors, a firm can rank countries in terms of their attractiveness and long-run profit potential. Preference is then given to entering markets that rank highly. For example, Tesco, the large British grocery chain, has been aggressively expanding its foreign operations, pri­ marily by focusing on emerging markets that lack strong indigenous competitors (see the accompanying Management Focus). TIMING OF ENTRY Once attractive markets have been identified, it is important to consider the iiming of entry. Entry is early when an international business enters a foreign market before other foreign firms and late when it enters after other international businesses have already established themselves. The advantages frequently associated with entering a market early are commonly known as first-mover advantages.^ One first-mover advantage is 433 LO 15-1 Explain the three basic decisions that firms contemplating foreign expansion must make: which markets to enter, when to enter those markets, and on what scale. Tesc0‘s International Growth Strategy Tesco, founded in 1919 by Jack Cohen, is a British multina­ chain By 2015, Tesco was the market leader in Hungary, tional grocery and merchandise retailer It is the largest with more than 200 stores and additional openings grocery retailer in the United Kingdom, with a 28 percent planned In 1995, Tesco acquired 31 stores in Poland from share of the local market, and the second-largest retailer Stavia, a year later it added 13 stores purchased from in the world after Walmart measured by revenue In 2014, Tesco had sales of more than $72 billion, more than 500,000 employees, and 6,784 stores. In Its home market of the United Kingdom (with a headquarters in Chestnut, Hertfordshire, England), the company’s strengths are reputed to come from strong competencies in marketing and store site selection, lo­ gistics and Inventory management, and its own label product offerings By the early 1990s, these competen­ cies had already given the company a leading position in the United Kingdom The company was generating strong free cash flows, and senior managers had to de­ cide how to use that cash One strategy they settled on was overseas expansion. As they looked at international markets, they soon con­ cluded the best opportunities were not in established markets, such as those in North America and western Europe, where strong local competitors already existed, but in the emerging markets of eastern Europe and Asia where there were few capable competitors but strong un­ derlying growth trends Tesco’s first international foray was into Hungary in 1994, when it acquired an initial 51 percent stake in Global, a 43-store, state-owned grocery Tesco IS the largest grocery retailer in the United Kingdom, and the second-largest retailer worldwide after Walmart Source © Guang Niu/Getty Images the ability to preempt rivals and capture demand by establishing a strong brand name. This desire has driven the rapid expansion by Tesco into developing nations (see the Man­ agement Focus). A second advantage is the ability to build sales volume in that country and ride down the experience curve ahead of rivals, giving the early entrant a cost advan­ tage over later entrants. This cost advantage may enable the early entrant to cut prices below that of later entrants, thereby driving them out of the market. A third advantage is the ability of early entrants to create switching costs that tie customers into their products or services. Such switching costs make it difficult for later entrants to win business. There can also be disadvantages associated with entering a foreign market before other international businesses. These are often referred to as first-mover disadvantages."* These disadvantages may give rise to pioneering costs, costs that an early entrant has to bear that a later entrant can avoid. Pioneering costs arise when the business system in a foreign coun­ try is so different from that in a firm’s home market that the enterprise has to devote consid­ erable effort, time, and expense to learning the rules of the game. Pioneering costs include the costs of business failure if the firm, due to its ignorance of the foreign environment, makes major mistakes. A certain liability is associated with being a foreigner, and this lia­ bility is greater for foreign firms that enter a national market early.^ Research seems to 434 Kmart in the Czech Republic and Slovakia, and the follow­ In explaining the company’s success, Tesco’s managers ing year it entered the Republic of Ireland Tesco now has have detailed a number of important factors First, the more than 450 stores in Poland, some 80 stores in the company devotes considerable attention to transferring Czech Republic, more than 120 stores in Slovakia, and Its core capabilities in retailing to its new ventures At more than 100 stores in Ireland. the same time, it does not send in an army of expatriate Tesco’s Asian expansion began in 1998 in Thailand managers to run local operations, preferring to hire local purchased 75 percent of Lotus, a local food retailer managers and support them with a few operational experts with 13 stores Building on that base, Tesco had more than from the United Kingdom Second, the company believes when It 380 stores in Thailand by 2015 In 1999, the company en­ that Its partnering strategy in Asia has been a great asset tered South Korea when it partnered with Samsung to de­ Tesco has teamed up with good companies that have a velop a chain of hypermarkets This was followed by entry deep understanding of the markets in which they are partici­ into Taiwan in 2000, Malaysia in 2002, Japan in 2003, and pating but that lack Tesco’s financial strength and retailing China in 2004 The move into China came after three capabilities. Consequently, both Tesco and its partners have years of careful research and discussions with potential brought useful assets to the venture, increasing the proba­ partners. Like many other Western companies, Tesco was bility of success As the venture becomes established, attracted to the Chinese market by its large size and rapid Tesco has typically increased its ownership stake in its part­ growth In the end, Tesco settled on a 50-50 joint venture ner For example, by 2015 Tesco owned 100 percent of with Hymall, a hypermarket chain that is controlled by Ting Homeplus, its South Korean hypermarket chain, but when Hsin, a Taiwanese group, which had been operating in the venture was established Tesco owned 51 percent Third, China for six years. In 2014, Tesco combined its 131 stores the company has focused on markets with good growth po­ in China in a joint venture with the state-run China Re­ tential but that lack strong indigenous competitors, which sources Enterprise (CRE) and its nearly 3,000 stores. Tesco provides Tesco with ripe ground for expansion owns 20 percent of the joint venture As a result of these moves, by 2015 Tesco generated sales of $26 billion outside the United Kingdom (its UK an­ nual revenues were $46 billion). The addition of international stores has helped make Tesco the second-largest company in the global grocery market behind only Walmart (Tesco is also behind Carrefour of France if profits are used) Of the three, however, Tesco may be the most successful interna­ tionally By 2015, all its foreign ventures were making money. Sources P N Child, “Taking Tesco Global," The McKenzie Quarterly, no 3 (2002). H Keers, “Global Tesco Sets Out Its Stall in China,” Daily Telegraph, July 15, 2004, p 31 K Burgess, 'Tesco Spends Pounds 140m on Chinese Partnership,” Financial Times, July 15, 2004, p 22, J McTaggart, “Industry Awaits Tesco Invasion,” Progressive Grocer, March 1, 2006. pp 8-10, Tesco’s annual reports, archived at www. tesco.com, P Sonne, “Five Years and $1 6 Billion Later, Tesco Decides to Quit US,” The Wall Street Journal, December 6, 2012, “Tesco Set to Push Ahead in the United States.” The Wall Street Journal, October 6, 2010, p 19 confirm that the probability of survival increases if an international business enters a na­ tional market after several other foreign firms have already done so.® The late entrant may benefit by observing and learning from the mistakes made by early entrants. Pioneering costs also include the costs of promoting and establishing a product offer­ ing, including the costs of educating customers. These can be significant when the product being promoted is unfamiliar to local consumers. In contrast, later entrants may be able to ride on an early entrant’s investments in learning and customer education by watching how the early entrant proceeded in the market, by avoiding costly mistakes made by the early entrant, and by exploiting the market potential created by the early entrant’s investments in customer education. For example, KPC introduced the Chinese to American-style fast food, but a later entrant, McDonald’s, has capitalized on the market in China. An early entrant may be put at a severe disadvantage, relative to a later entrant, if regu­ lations change in a way that diminishes the value of an early entrant’s investments. This is a serious risk in many developing nations where the rules that govern business prac­ tices are still evolving. Early entrants can find themselves at a disadvantage if a subse­ quent change in regulations invalidates prior assumptions about the best business model for operating in that country. 435 436 Parts The Strategy and Structure of International Business SCALE OF ENTHY AND STHATEGIC COMMITMENTS Another issue that an international business needs to consider when contemplating mar­ ket entry is the scale of entry. Entering a market on a large scale involves the commitment of significant resources and implies rapid entry. Consider the entry of the Dutch insur­ ance company ING into the U.S. insurance market in 1999. ING had to spend several billion dollars to acquire its U.S. operations. Not all firms have the resources necessary to enter on a large scale, and even some large firms prefer to enter foreign markets on a small scale and then build slowly as they become more familiar with the market. The consequences of entering on a significant scale—entering rapidly—are associated with the value of the resulting strategic commitments.^ A strategic commitment has a long-term impact and is difficult to reverse. Deciding to enter a foreign market on a sig­ nificant scale is a major strategic commitment. Strategic commitments, such as rapid large-scale market entry, can have an important influence on the nature of competition in a market. For example, by entering the U.S. financial services market on a significant scale, ING signaled its commitment to the market. This will have several effects. On the positive side, it will make it easier for the company to attract customers and distributors (such as insurance agents). The scale of entry gives both customers and distributors rea­ sons for believing that ING will remain in the market for the long run. The scale of entry may also give other foreign institutions considering entry into the United States pause; now they will have to compete not only against indigenous institutions in the United States but also against an aggressive and successful European institution. On the negative side, by committing itself heavily to one country, the United States, ING may have fewer resources available to support expansion in other desirable markets, such as Japan. The commitment to the United States limits the company’s strategic flexibility. As suggested by the ING example, significant strategic commitments are neither un­ ambiguously good nor bad. Rather, they tend to change the competitive playing field and unleash a number of changes, some of which may be desirable and some of which will not be. It is important for a firm to think through the implications of large-scale entry into a market and act accordingly. Of particular relevance is trying to identify how actual and potential competitors might react to large-scale entry into a market. Also, the largescale entrant is more likely than the small-scale entrant to be able to capture first-mover advantages associated with demand preemption, scale economies, and switching costs. The value of the commitments that flow from rapid large-scale entry into a foreign market must be balanced against the resulting risks and lack of flexibility associated with significant commitments. But strategic inflexibility can also have value. A famous ex­ ample from military history illustrates the value of inflexibility. When Hernan Cortes landed in Mexico, he ordered his men to burn all but one of his ships. Cortes reasoned that by eliminating their only method of retreat, his men had no choice but to fight hard to win against the Aztecs—and ultimately they did.* Balanced against the value and risks of the commitments associated with large-scale entry are the benefits of a small-scale entry. Small-scale entry allows a firm to learn about a foreign market while limiting the firm’s exposure to that market. Small-scale entry is a way to gather information about a foreign market before deciding whether to enter on a significant scale and how best to enter. By giving the firm time to collect information, small-scale entry reduces the risks associated with a subsequent large-scale entry. But the lack of commitment associated with small-scale entry may make it more difficult for the small-scale entrant to build market share and to capture first-mover or early-mover advan­ tages. The risk-averse firm that enters a foreign market on a small scale may limit its po­ tential losses, but it may also miss the chance to capture first-mover advantages. MARKET ENTRY SUMMARY There are no “right” decisions here, just decisions that are associated with different levels of risk and reward. Entering a large developing nation such as China or India before most other international businesses in the firm’s industry, and entering on a large scale, will be Entry Strategy and Strategic Alliances Chapter 15 associated with high levels of risk. In such cases, the liability of being foreign is in­ creased by the absence of prior foreign entrants whose experience can be a useful guide. At the same time, the potential long-term rewards associated with such a strategy are great. The early large-scale entrant into a major developing nation may be able to capture significant first-mover advantages that will bolster its long-run position in that market.® In contrast, entering developed nations such as Australia or Canada after other international businesses in the firm’s industry, and entering on a small scale to first learn more about those markets, will be associated with much lower levels of risk. However, the potential long-term rewards are also likely to be lower because the firm is essentially forgoing the opportunity to capture first-mover advantages and because the lack of commitment sig­ naled by small-scale entry may limit its future growth potential. This section has been written largely from the perspective of a business based in a developed country considering entry into foreign markets. Christopher Bartlett and Sumantra Ghoshal have pointed out the ability that businesses based in developing na­ tions have to enter foreign markets and become global players.’® Although such firms tend to be late entrants into foreign markets, and although their resources may be limited, Bartlett and Ghoshal argue that such late movers can still succeed against well-estab­ lished global competitors by pursuing appropriate strategies. In particular, Bartlett and Ghoshal argue that companies based in developing nations should use the entry of foreign multinationals as an opportunity to learn from these competitors by benchmarking their operations and performance against them. Furthermore, they suggest the local company may be able to find ways to differentiate itself from a foreign multinational, for example, by focusing on market niches that the multinational ignores or is unable to serve effec­ tively if it has a standardized global product offering. Having improved its performance through learning and differentiated its product offering, the firm from a developing na­ tion may then be able to pursue its own international expansion strategy. Even though the firm may be a late entrant into many countries, by benchmarking and then differentiating itself from early movers in global markets, the firm from the developing nation may still be able to build a strong international business presence. A good example of how this can work is given in the accompanying Management Focus, which looks at how Jollibee, a Philippines-based fast-food chain, has started to build a global presence in a market dom­ inated by U.S. multinationals such as McDonald’s and KFC. V Entry Modes Once a firm decides to enter a foreign market, the question arises as to the best mode of entry. Firms can use six different modes to enter foreign markets: exporting, turnkey proj­ ects, licensing, franchising, establishing joint ventures with a host-country firm, or setting up a new wholly owned subsidiary in the host country. Each entry mode has advantages and disadvantages. Managers need to consider these carefully when deciding which to use.” EXPORTING Many manufacturing firms begin their global expansion as exporters and only later switch to another mode for serving a foreign market. We take a close look at the mechan­ ics of exporting in Chapter 16. Here we focus on the advantages and disadvantages of exporting as an entry mode. Advantages Exporting has two distinct advantages. First, it avoids the often substantial costs of estab­ lishing manufacturing operations in the host country. Second, exporting may help a firm achieve experience curve and location economies (see Chapter 13). By manufacturing the product in a centralized location and exporting it to other national markets, the firm may realize substantial scale economies from its global sales volume. This is how many Japa­ nese automakers made inroads into the U.S. market. 437 o TEST PREP Use SmartBook to help retain what you have learned. Access your Instructor’s Connect course to check out SmartBook or go to ie3rnsmert3dvantage.com for help. LO 15-2 Compare and contrast the different modes that firms use to enter foreign markets. The Jollibee Phenomenon Jollibee Foods Corporation, abbreviated JFC and more Chowking, Greenwich. Red Ribbon, Mang INasal, and popularly known as Jollobee, is one of the Philippines’ Burger King), a market share of more than 60 percent, and phenomenal business success stories Jollibee, which revenues in excess of $600 million McDonald’s, in con­ stands for “Jolly Bee,’’ began operations in 1975 as a twobranch ice cream parlor It later expanded its menu to in­ trast, had about 400 stores clude hot sandwiches and other meals. Encouraged by Jollibee's initial ventures were into neighboring Asian countries early success, Jollibee Foods Corporation was incorpo­ such as Indonesia, where it pursued the strategy of localiz­ rated in 1978, with a network that had grown to seven ing the menu to better match local tastes, thereby differenti­ outlets. In 1981, when Jollibee had 11 stores, McDonald’s ating Itself from McDonald’s. In 1987, Jollibee entered the began to open stores in Manila The international expansion started in the mid-1980s Many observers Middle East, where a large contingent of expatriate Filipino thought Jollibee would have difficulty competing against workers provided a ready-made market for the company. McDonald’s However, Jollibee saw this as an opportunity The strategy of focusing on expatriates worked so well that to learn from a very successful global competitor Jollibee in the late 1990s Jollibee decided to enter another foreign benchmarked its performance against that of McDonald’s market where there was a large Filipino population—the and started to adopt operational systems similar to those United States Between 1999 and 2012, Jollibee opened used at McDonald’s to control its quality, cost, and ser­ 25 stores in the United States, 20 of which are in California vice at the store level This helped Jollibee improve its Even though many believe the U S fast-food market is satu­ performance rated, the stores have performed well While the initial clien­ As it came to better understand McDonald’s business tele was strongly biased toward the expatriate Filipino model. Jollibee began to look for a weakness in McDonald’s community, where Jollibee’s brand awareness is high, non- global strategy. Jollibee executives concluded that Filipinos increasingly are coming to the restaurant In the McDonald’s fare was too standardized for many locals and San Francisco store, which has been open the longest, that the local firm could gam share by tailoring its menu to more than half the customers are now non-Filipino. Today, local tastes. Jollibee’s hamburgers were set apart by a se­ Jollibee has some 500 international stores and a potentially cret mix of spices blended into the ground beef to make bright future as a niche player in a market that has histori­ the burgers sweeter than those produced by McDonald’s, cally been dominated by U S multinationals. appealing more to Philippine tastes It also offered local fare, including various rice dishes, pineapple burgers, and banana langka and peach mango pies for desserts By pursuing this strategy, Jollibee maintained a leadership position over the global giant By 2015, Jollibee had over 801 stores in the Philippines for its Jollibee brand and some 2,040 total stores across all of its brands (e.g , Jollibee, Sources “Jollibee Battles Burger Giants in US Market,” Philippine Daily Inquirer July 13, 2000, M Ballon, “Jollibee Struggling to Expand in U S ,” Los Angeles Times, September 16, 2002, p Cl, J Hookway, “Burgers and Beer," Far Eastern Economic Review, December 2003, pp 72-74, S E Lockyer, “Coming to America,” Nation’s Restaurant News, February 14, 2005, pp 33-35, Erik de la Cruz, Jollibee to Open 120 New Stores This Year, Plans India,” Inquirer Money, July 5, 2006 (business inquirer net), www.jollibee.com.ph Disadvantages Exporting has a number of drawbacks. First, exporting from the firm’s home base may not be appropriate if lower-cost locations for manufacturing the product can be found abroad (i.e., if the firm can realize location economies by moving production elsewhere). Thus, particularly for firms pursuing global or transnational strategies, it may be prefer­ able to manufacture where the mix of factor conditions is most favorable from a value creation perspective and to export to the rest of the world from that location. This is not so much an argument against exporting as an argument against exporting from the firm’s home country. Many U.S. electronics firms have moved some of their manufacturing to the Far East because of the availability of low-cost, highly skilled labor there. They then export from that location to the rest of the world, including the United States. 438 Entry Strategy and Strategic Alliances Chapter 15 A second drawback to exporting is that high transport costs can make exporting un­ economical, particularly for bulk products. One way of getting around this is to manufac­ ture bulk products regionally. This strategy enables the firm to realize some economies from large-scale production and at the same time to limit its transport costs. For example, many multinational chemical firms manufacture their products regionally, serving sev­ eral countries from one facility. Another drawback is that tariff barriers can make exporting uneconomical. Similarly, the threat of tariff barriers by the host-country government can make it very risky. A fourth drawback to exporting arises when a firm delegates its marketing, sales, and ser­ vice in each country where it does business to another company. This is a common ap­ proach for manufacturing firms that are just beginning to expand internationally. The other company may be a local agent, or it may be another multinational with extensive international distribution operations. Local agents often carry the products of competing firms and so have divided loyalties. In such cases, the local agent may not do as good a job as the firm would if it managed its marketing itself. Similar problems can occur when another multinational takes on distribution. The way around such problems is to set up wholly owned subsidiaries in foreign na­ tions to handle local marketing, sales, and service. By doing this, the firm can exercise tight control over marketing and sales in the country while reaping the cost advantages of manufacturing the product in a single location or a few choice locations. TURNKEY PROJECTS Firms that specialize in the design, construction, and start-up of turnkey plants are com­ mon in some industries. In a turnkey project, the contractor agrees to handle every detail of the project for a foreign client, including the training of operating personnel. At com­ pletion of the contract, the foreign client is handed the “key” to a plant that is ready for full operation—hence, the term turnkey. This is a means of exporting process technology to other countries. Turnkey projects are most common in the chemical, pharmaceutical, petroleum-refining, and metal-refining industries, all of which use complex, expensive production technologies. Advantages The know-how required to assemble and run a technologically complex process, such as refining petroleum or steel, is a valuable asset. Turnkey projects are a way of earning great economic returns from that asset. The strategy is particularly useful where foreign direct investment (FDI) is limited by host-government regulations. For example, the gov­ ernments of many oil-rich countries have set out to build their own petroleum-refining industries, so they restrict FDI in their oil-refining sectors. But because many of these countries lack petroleum-refining technology, they gain it by entering into turnkey proj­ ects with foreign firms that have the technology. Such deals are often attractive to the selling firm because without them, they would have no way to earn a return on their valu­ able know-how in that country. A turnkey strategy can also be less risky than conven­ tional FDI. In a country with unstable political and economic environments, a longer-term investment might expose the firm to unacceptable political and/or economic risks (e.g., the risk of nationalization or of economic collapse). Disadvantages Three main drawbacks are associated with a turnkey strategy. First, the firm that enters into a turnkey deal will have no long-term interest in the foreign country. This can be a disadvantage if that country subsequently proves to be a major market for the output of the process that has been exported. One way around this is to take a minority equity in­ terest in the operation. Second, the firm that enters into a turnkey project with a foreign enterprise may inadvertently create a competitor. For example, many of the Western 439 440 Parts The Strategy and Structure of International Business firms that sold oil-refining technology to firms in Saudi Arabia, Kuwait, and other Gulf states now find themselves competing with these firms in the world oil market. Third, if the firm’s process technology is a source of competitive advantage, then selling this tech­ nology through a turnkey project is also selling competitive advantage to potential and/or actual competitors. LICENSING A iicensisig agreement is an arrangement whereby a licensor grants the rights to intan­ gible property to another entity (the licensee) for a specified period, and in return, the li­ censor receives a royalty fee from the licensee.'^ Intangible property includes patents, inventions, formulas, processes, designs, copyrights, and trademarks. For example, to enter the Japanese market. Xerox, inventor of the photocopier, established a joint venture with Fuji Photo that is known as Fuji Xerox. Xerox then licensed its xerographic know­ how to Fuji Xerox. In return, Fuji Xerox paid Xerox a royalty fee equal to 5 percent of the net sales revenue that Fuji Xerox earned from the sales of photocopiers based on Xerox’s patented know-how. In the Fuji Xerox case, the license was originally granted for 10 years, and it has been renegotiated and extended several times since. The licensing agreement between Xerox and Fuji Xerox also limited Fuji Xerox’s direct sales to the Asian Pacific region (although Fuji Xerox does supply Xerox with photocopiers that are sold in North America under the Xerox label).'^ Advantages In the typical international licensing deal, the licensee puts up most of the capital neces­ sary to get the overseas operation going. Thus, a primary advantage of licensing is that the firm does not have to bear the development costs and risks associated with opening a foreign market. Licensing is very attractive for firms lacking the capital to develop opera­ tions overseas. In addition, licensing can be attractive when a firm is unwilling to commit substantial financial resources to an unfamiliar or politically volatile foreign market. Li­ censing is also often used when a firm wishes to participate in a foreign market but is prohibited from doing so by barriers to investment. This was one of the original rea­ sons for the formation of the Fuji Xerox joint venture. Xerox wanted to participate in the Japanese market but was prohibited from setting up a wholly owned subsidiary by the Japanese government. So Xerox set up the joint venture with Fuji and then licensed its know-how to the joint venture. Finally, licensing is frequently used when a firm possesses some intangible property that might have business applications, but it does not want to develop those applications itself. For example. Bell Laboratories at AT&T originally invented the transistor circuit in the 1950s, but AT&T decided it did not want to produce transistors, so it licensed the technology to a number of other companies, such as Texas Instruments. Similarly, CocaCola has licensed its famous trademark to clothing manufacturers, which have incorpo­ rated the design into clothing. Harley-Davidson licenses its brand to Wolverine World Wide to make footwear that embodies the spirit of the open road, which Harley-Davidson is so known to emphasize in its advertisements and product positioning. Disadvantages Licensing has three serious drawbacks. First, it does not give a firm the tight control over manufacturing, marketing, and strategy that is required for realizing experience curve and location economies. Licensing typically involves each licensee setting up its own production operations. This severely limits the firm’s ability to realize experience curve and location economies by producing its product in a centralized location. When these economies are important, licensing may not be the best way to expand overseas. Second, competing in a global market may require a firm to coordinate strategic moves across countries by using profits earned in one country to support competitive at­ tacks in another. By its very nature, licensing limits a firm’s ability to do this. A licensee Entry Strategy and Strategic Alliances Chapter 15 is unlikely to allow a multinational firm to use its profits (beyond those due in the form of royalty payments) to support a different licensee operating in another country. A third problem with licensing is one that we encountered in Chapter 8 when we re­ viewed the economic theory of foreign direct investment (FDI). This is the risk associ­ ated with licensing technological know-how to foreign companies. Technological know-how constitutes the basis of many multinational firms’ competitive advantage. Most firms wish to maintain control over how their know-how is used, and a firm can quickly lose control over its technology by licensing it. Many firms have made the mis­ take of thinking they could maintain control over their know-how within the framework of a licensing agreement. RCA Corporation, for example, once licensed its color TV tech­ nology to Japanese firms including Matsushita and Sony. The Japanese firms quickly assimilated the technology, improved on it, and used it to enter the U.S. market, taking substantial market share away from RCA. There are ways of reducing this risk. One way is hy entering into a cross-licensing agree­ ment with a foreign firm. Under a cross-licensing agreement, a firm might license some valuable intangible property to a foreign partner, but in addition to a royalty payment, the firm might also request that the foreign partner license some of its valuable know-how to the firm. Such agreements are believed to reduce the risks associated with licensing techno­ logical know-how, since the licensee realizes that if it violates the licensing contract (by using the knowledge obtained to compete directly with the licensor), the licensor can do the same to it. Cross-licensing agreements enable firms to hold each other hostage, which re­ duces the probability that they will behave opportunistically toward each other.'"* Such cross-licensing agreements are increasingly common in high-technology industries. Another way of reducing the risk associated with licensing is to follow the Fuji Xerox model and link an agreement to license know-how with the formation of a joint venture in which the licensor and licensee take important equity stakes. Such an approach aligns the interests of licensor and licensee, because both have a stake in ensuring that the ven­ ture is successful. Thus, the risk that Fuji Photo might appropriate Xerox’s technological know-how, and then compete directly against Xerox in the global photocopier market, was reduced by the establishment of a joint venture in which both Xerox and Fuji Photo had an important stake. FRANCHISING Franchising is similar to licensing, although franchising tends to involve longer-term commitments than licensing. Franchising is basically a specialized form of licensing in which the franchiser not only sells intangible property (normally a trademark) to the fran­ chisee but also insists that the franchisee agree to abide by strict rules as to how it does business. The franchiser will also often assist the franchisee to run the business on an ongoing basis. As with licensing, the franchiser typically receives a royalty payment, which amounts to some percentage of the franchisee’s revenues. Whereas licensing is pursued primarily by manufacturing firms, franchising is employed primarily by service firms.'^ McDonald’s is a good example of a firm that has grown by using a franchising strategy. McDonald’s strict rules as to how franchisees should operate a restaurant extend to control over the menu, cooking methods, staffing policies, and design and location. McDonald’s also organizes the supply chain for its franchisees and provides management training and financial assistance.'® Advantages The advantages of franchising as an entry mode are very similar to those of licensing. The firm is relieved of many of the costs and risks of opening a foreign market on its own. Instead, the franchisee typically assumes those costs and risks. This creates a good incentive for the franchisee to build a profitable operation as quickly as possible. Thus, using a franchising strategy, a service firm can build a global presence quickly and at a relatively low cost and risk, as McDonald’s has. 441 442 Parts The Strategy and Structure of International Business Disadvantages The disadvantages are less pronounced than in the case of licensing. Since franchising is often used by service companies, there is no reason to consider the need for coordination of manufacturing to achieve experience curve and location economies. But franchising may inhibit the firm’s ability to take profits out of one country to support competitive at­ tacks in another. A more significant disadvantage of franchising is quality control. The foundation of franchising arrangements is that the firm’s brand name conveys a message to consumers about the quality of the firm’s product. Thus, a business traveler checking in at a Four Seasons hotel in Hong Kong can reasonably expect the same quality of room, food, and service that she would receive in New York. The Four Seasons name is sup­ posed to guarantee consistent product quality. This presents a problem in that foreign franchisees may not be as concerned about quality as they are supposed to be, and the result of poor quality can extend beyond lost sales in a particular foreign market to a de­ cline in the firm’s worldwide reputation. For example, if the business traveler has a bad experience at the Four Seasons in Hong Kong, she may never go to another Four Seasons hotel and may urge her colleagues to do likewise. The geographic distance of the firm from its foreign franchisees can make poor quality difficult to detect. In addition, the sheer numbers of franchisees—in the case of McDonald’s, tens of thousands—can make quality control difficult. Due to these factors, quality problems may persist. One way around this disadvantage is to set up a subsidiary in each country in which the firm expands. The subsidiary might be wholly owned by the company or a joint ven­ ture with a foreign company. The subsidiary assumes the rights and obligations to estab­ lish franchises throughout the particular country or region. McDonald’s, for example, establishes a master franchisee in many countries. Typically, this master franchisee is a joint venture between McDonald’s and a local firm. The proximity and the smaller num­ ber of franchises to oversee reduce the quality control challenge. In addition, because the subsidiary (or master franchisee) is at least partly owned by the firm, the firm can place its own managers in the subsidiary to help ensure that it is doing a good job of monitoring the franchises. This organizational arrangement has proven very satisfactory for McDonald’s, KFC, and others. JOINT VENTURES A joint venture entails establishing a firm that is jointly owned by two or more other­ wise independent firms. Fuji Xerox, for example, was set up as a joint venture between Xerox and Fuji Photo. Establishing a joint venture with a foreign firm has long been a popular mode for entering a new market. The most typical joint venture is a 50-50 ven­ ture, in which there are two parties, each of which holding a 50 percent ownership stake and contributing a team of managers to share operating control. This was the case with the Fuji-Xerox joint venture until 2001; it is now a 25-75 venture with Xerox holding 25 percent. The GM SAIC venture in China was a 50-50 venture until 2010, which it became a 51-49 venture, with SAIC holding the 51 percent stake. Some firms, however, have sought joint ventures in which they have a majority share and thus tighter control.'^ Advantages Joint ventures have a number of advantages. First, a firm benefits from a local partner’s knowledge of the host country’s competitive conditions, culture, language, political systems, and business. Thus, for many U.S. firms, joint ventures have involved the U.S. company providing technological know-how and products and the local partner provid­ ing the marketing expertise and the local knowledge necessary for competing in that country. Second, when the development costs and/or risks of opening a foreign market are high, a firm might gain by sharing these costs and or risks with a local partner. Third, in many countries, political considerations make joint ventures the only feasible entry mode. Research suggests joint ventures with local partners face a low risk of be­ ing subject to nationalization or other forms of adverse government interference.'® This Entry Strategy and Strategic Alliances Chapter 15 appears to be because local equity partners, who may have some influence on hostgovernment policy, have a vested interest in speaking out against nationalization or government interference. Disadvantages Despite these advantages, there are major disadvantages with joint ventures. First, as with licensing, a firm that enters into a joint venture risks giving control of its technology to its partner. Thus, a proposed joint venture in 2002 between Boeing and Mitsubishi Heavy Industries to build a new wide-body jet (the 787) raised fears that Boeing might unwit­ tingly give away its commercial airline technology to the Japanese. However, joint-venture agreements can be constructed to minimize this risk. One option is to hold majority ownership in the venture. This allows the dominant partner to exercise greater control over its technology. But it can be difficult to find a foreign partner who is willing to settle for minority ownership. Another option is to “wall off” from a partner technology that is central to the core competence of the firm, while sharing other technology. A second disadvantage is that a joint venture does not give a firm the tight control over subsidiaries that it might need to realize experience curve or location economies. Nor does it give a firm the tight control over a foreign subsidiary that it might need for engag­ ing in coordinated global attacks against its rivals. Consider the entry of Texas Instru­ ments (TI) into the Japanese semiconductor market. When TI established semiconductor facilities in Japan, it did so for the dual purpose of checking Japanese manufacturers’ market share and limiting their cash available for invading TFs global market. In other words, TI was engaging in global strategic coordination. To implement this strategy, TFs subsidiary in Japan had to be prepared to take instructions from corporate headquarters regarding competitive strategy. The strategy also required the Japanese subsidiary to run at a loss if necessary. Few if any potential joint-venture partners would have been willing to accept such conditions, since it would have necessitated a willingness to accept a negative return on investment. Indeed, many joint ventures establish a degree of autonomy that would make such direct control over strategic decisions all but impossible to establish.'® Thus, to implement this strategy, TI set up a wholly owned subsidiary in Japan. A third disadvantage with joint ventures is that the shared ownership arrangement can lead to conflicts and battles for control between the investing firms if their goals and objectives change or if they take different views as to what the strategy should be. This was apparently not a problem with the Fuji Xerox joint venture. Aecording to Yotaro Kobayashi, the former chair of Fuji Xerox, a primary reason is that both Xerox and Fuji Photo adopted an arm’s-length relationship with Fuji Xerox, giving the venture’s management considerable freedom to determine its own strategy.^" However, much research indicates that conflicts of interest over strategy and goals often arise in joint ventures. These con­ flicts tend to be greater when the venture is between firms of different nationalities, and they often end in the dissolution of the venture.^' Such conflicts tend to be triggered by shifts in the relative bargaining power of venture partners. For example, in the case of ventures between a foreign firm and a local firm, as a foreign partner’s knowledge about local market conditions increases, it depends less on the expertise of a local partner. This increases the bargaining power of the foreign partner and ultimately leads to conflicts over control of the venture’s strategy and goals.^^ Some firms have sought to limit such problems by entering into joint ventures in which one partner has a controlling interest. WHOLLY OWNED SUBSIDIARIES In a whody owned subssdiary, the firm owns 100 percent of the stock. Establishing a wholly owned subsidiary in a foreign market can be done two ways. The firm either can set up a new operation in that country, often referred to as a greenfield venture, or it can acquire an established firm in that host nation and use that firm to promote its products.^^ For example, ING’s strategy for entering the U.S. insurance market was to acquire estab­ lished U.S. enterprises, rather than try to build an operation from the ground floor. 443 444 Pans The Strategy and Structure of International Business Advantages There are several clear advantages of wholly owned subsidiaries. First, when a firm’s competitive advantage is based on technological competence, a wholly owned subsidiary will often be the preferred entry mode because it reduces the risk of losing control over that competence. (See Chapter 8 for more details.) Many high-tech firms prefer this entry mode for overseas expansion (e.g., firms in the semiconductor, electronics, and pharma­ ceutical industries). Second, a wholly owned subsidiary gives a firm tight control over operations in different countries. This is necessary for engaging in global strategic coor­ dination (i.e., using profits from one country to support competitive attacks in another). Third, a wholly owned subsidiary may be required if a firm is trying to realize loca­ tion and experience curve economies (as firms pursuing global and transnational strate­ gies try to do). As we saw in Chapter 11, when cost pressures are intense, it may pay a firm to configure its value chain in such a way that the value added at each stage is maxi­ mized. Thus, a national subsidiary may specialize in manufacturing only part of the product line or certain components of the end product, exchanging parts and products with other subsidiaries in the firm’s global system. Establishing such a global production system requires a high degree of control over the operations of each affiliate. The various operations must be prepared to accept centrally determined decisions as to how they will produce, how much they will produce, and how their output will be priced for transfer to the next operation. Because licensees or joint-venture partners are unlikely to accept such a subservient role, establishing wholly owned subsidiaries may be necessary. Finally, es­ tablishing a wholly owned subsidiary gives the firm a 100 percent share in the profits generated in a foreign market. o Disadvantage TEST PREP Use SmartBook to help retain what you have learned. Access your Instructor’s Connect course to check out SmartBook or go to ieamsniartarfvantage.co.m for help. LO ^5-3 Identify the factors that influence a firm’s choice of entry mode. Establishing a wholly owned subsidiary is generally the most costly method of serving a foreign market from a capital investment standpoint. Firms doing this must bear the full capital costs and risks of setting up overseas operations. The risks associated with learn­ ing to do business in a new culture are less if the firm acquires an established host-coun­ try enterprise. However, acquisitions raise additional problems, including those associated with trying to marry divergent corporate cultures. These problems may more than offset any benefits derived by acquiring an established operation. Because the choice between greenfield ventures and acquisitions is such an important one, we discuss it in more detail later in the chapter. Y Selecting an Entry Mode As the preceding discussion demonstrated, all the entry modes have advantages and dis­ advantages, as summarized in Table 15.1. Thus, trade-offs are inevitable when selecting an entry mode. For example, when considering entry into an unfamiliar country with a track record for discriminating against foreign-owned enterprises when awarding govern­ ment contracts, a firm might favor a joint venture with a local enterprise. Its rationale might be that the local partner will help it establish operations in an unfamiliar environ­ ment and will help the company win government contracts. However, if the firm’s core competence is based on proprietary technology, entering a joint venture might risk losing control of that technology to the joint-venture partner, in which case the strategy may seem unattractive. Despite the existence of such trade-offs, it is possible to make some generalizations abont the optimal choice of entry mode.^"^ CORE COMPETENCIES AND ENTRY MODE We saw in Chapter 13 that firms often expand internationally to earn greater returns from their core competencies, transferring the skills and products derived from their core com­ petencies to foreign markets where indigenons competitors lack those skills. The optimal Entry Strategy and Strategic Alliances Chapter 15 445 Entry Mode Advantages Disadvantages Exporting Ability to realize location and experience curve economies Increased speed and flexibility of engaging target markets High transport costs Trade barriers Problems with local marketing agents Turnkey contracts Ability to earn returns from process technology skills in countries where FDI IS restricted Creation of efficient competitors Lack of long-term market presence Licensing Low development costs and risks Moderate involvement and commitment Lack of control over technology Inability to realize location and experience curve economies Inability to engage in global strategic coordination Franchising Low development costs and risks Possible circumvention of import barriers, and strong sales potential Lack of control over quality Inability to engage in global strategic coordination Joint ventures Access to local partner’s knowledge Shared development costs and risks Politically acceptable Typically no ownership restrictions Lack of control over technology Inability to engage in global strategic coordination Inability to realize location and experience economies Wholly owned subsidiaries Protection of technology Ability to engage in global strategic coordination Ability to realize location and experience economies High costs and risks Need for more human and nonhuman resources, and interaction and integration with local employees TABLE 1S.1 Advantages and Disadvantages of Entry Modes entry mode for these firms depends to some degree on the nature of their core competen­ cies. A distinction can be drawn between firms whose core competency is in technologi­ cal know-how and those whose core competency is in management know-how. Technological Know-How As was observed in Chapter 8, if a firm’s competitive advantage (its core competence) is based on control over proprietary technological know-how, licensing and joint-venture arrangements should be avoided if possible to minimize the risk of losing control over that technology. Thus, if a high-tech firm sets up operations in a foreign country to profit from a core competency in technological know-how, it will probably do so through a wholly owned subsidiary. This rule should not be viewed as hard and fast, however. Sometimes a licensing or joint-venture arrangement can be structured to reduce the risk of licensees or joint-venture partners expropriating technological know-how. Another ex­ ception exists when a firm perceives its technological advantage to be only transitory, when it expects rapid imitation of its core technology by competitors. In such cases, the firm might want to license its technology as rapidly as possible to foreign firms to gain global acceptance for its technology before the imitation occurs.^^ Such a strategy has some advantages. By licensing its technology to competitors, the firm may deter them from developing their own, possibly superior, technology. Further, by licensing its tech­ nology, the firm may establish its technology as the dominant design in the industry. This may ensure a steady stream of royalty payments. However, the attractions of licensing are frequently outweighed by the risks of losing control over technology, and if this is a risk, licensing should be avoided. Part 5 446 The Strategy and Structure of International Business Management Know-How The competitive advantage of many service firms is based on management know-how (e.g., McDonald’s, Starbucks). For such firms, the risk of losing control over the manage­ ment skills to franchisees or joint-venture partners is not that great. These firms’ valuable asset is their brand name, and brand names are generally well protected by international laws pertaining to trademarks. Given this, many of the issues arising in the case of tech­ nological know-how are of less concern here. As a result, many service firms favor a combination of franchising and master subsidiaries to control the franchises within par­ ticular countries or regions. The master subsidiaries may be wholly owned or joint ven­ tures, but most service firms have found that joint ventures with local partners work best for the master controlling subsidiaries. A joint venture is often politically more accept­ able and brings a degree of local knowledge to the subsidiary. PRESSURES FOR COST REDUCTIONS AND ENTRY MODE o TEST PREP Use SmartBook to help retain what you have learned. Access your Instructor’s Connect course to check out SmartBook or go to learnsmartadvantage.com for help. LO 15-4 Recognize the pros and cons of acquisitions versus greenfield ventures as an entry strategy. The greater the pressures for cost reductions, the more likely a firm will want to pursue some combination of exporting and wholly owned subsidiaries. By manufacturing in those locations where factor conditions are optimal and then exporting to the rest of the world, a firm may be able to realize substantial location and experience curve economies. The firm might then want to export the finished product to marketing subsidiaries based in various countries. These subsidiaries will typically be wholly owned and have the re­ sponsibility for overseeing distribution in their particular countries. Setting up wholly owned marketing subsidiaries is preferable to joint-venture arrangements and to using foreign marketing agents because it gives the firm tight control that might be required for coordinating a globally dispersed value chain. It also gives the firm the ability to use the profits generated in one market to improve its competitive position in another market. In other words, firms pursuing global standardization or transnational strategies tend to pre­ fer establishing wholly owned subsidiaries. % Greenfield Venture or Acquisition? A firm can establish a wholly owned subsidiary in a country by building a subsidiary from the ground up, the so-called greenfield strategy, or by acquiring an enterprise in the target market.^® The volume of cross-border acquisitions has been growing at a rapid rate for two decades. Over most of the past decades, between 40 and 80 percent of all foreign direct investment (FDI) inflows have been in the form of mergers and acquisitions.^^ PROS AND CONS OF ACQUISITIONS Acquisitions have three major points in their favor. First, they are quick to execute. By acquiring an established enterprise, a firm can rapidly build its presence in the target foreign market. When the German automobile company Daimler-Benz decided it needed a bigger presence in the U.S. automobile market, it did not increase that presence by building new factories to serve the United States, a process that would have taken years. Instead, it acquired the third-largest U.S. automobile company, Chrysler, and merged the two operations to form DaimlerChrysler (Daimler spun off Chrysler into a private equity firm in 2007). When the Spanish telecommunications service provider Telefonica wanted to build a service presence in Latin America, it did so through a series of acquisitions, purchasing telecommunications companies in Brazil and Argentina. In these cases, the firms made acquisitions because they knew that was the quickest way to establish a siz­ able presence in the target market. Second, in many cases firms make acquisitions to preempt their competitors. The need for preemption is particularly great in markets that are rapidly globalizing, such as tele­ communications, where a combination of deregulation within nations and liberalization of regulations governing cross-border foreign direct investment has made it much easier Entry Strategy and Strategic Alliances Chapter 15 for enterprises to enter foreign markets through acquisitions. Such markets may see concentrated waves of acquisitions as firms race each other to attain global scale. In the telecommunications industry, for example, regulatory changes triggered what can be called a feeding frenzy, with firms entering each other’s markets via acquisitions to establish a global presence. These included the $56 billion acquisition of AirTouch Communications in the United States by the British company Vodafone, which was the largest acquisition ever; the $13 billion acquisition of One 2 One in Britain by the German company Deutsche Telekom; and the $6.4 billion acquisition of Excel Communications in the United States by Teleglobe of Canada.^® A similar wave of cross-border acquisitions occurred in the global automobile industry, with Daimler acquiring Chrysler, Ford acquiring Volvo (and then selling Volvo as well), and Renault acquiring Nissan. Third, managers may believe acquisitions to be less risky than greenfield ventures. When a firm makes an acquisition, it buys a set of assets that are producing a known revenue and profit stream. In contrast, the revenue and profit stream that a greenfield venture might gen­ erate is uncertain because it does not yet exist. When a firm makes an acquisition in a foreign market, it not only acquires a set of tangible assets, such as factories, logistics systems, cus­ tomer service systems, and so on, hut also acquires valuable intangible assets, including a local brand name and managers’ knowledge of the business environment in that nation. Such knowledge can reduce the risk of mistakes caused by ignorance of the national culture. Despite the arguments for engaging in acquisitions, many acquisitions often produce disappointing results.^® For example, a study by Mercer Management Consulting looked at 150 acquisitions worth more than $500 million each.^° The Mercer study concluded that 50 percent of these acquisitions eroded shareholder value, while another 33 percent created only marginal returns. Only 17 percent were judged to be successful. Similarly, a study by KPMG, an accounting and management consulting company, looked at 700 large acquisitions. The study found that while some 30 percent of these actnally created value for the acquiring company, 31 percent destroyed value, and the remainder had little impact.^^ A similar study by McKinsey & Company estimated that some 70 percent of mergers and acquisitions failed to achieve expected revenue synergies.^^ In a seminal study of the postacquisition performance of acquired companies, David Ravenscraft and Mike Scherer concluded that on average the profits and market shares of acquired com­ panies declined following acquisition.^^ They also noted that a smaller but substantial subset of those companies experienced traumatic difficulties, which ultimately led to their being sold by the acquiring company. Ravenscraft and Scherer’s evidence suggests that many acquisitions destroy rather than create value. While most research has looked at domestic acquisitions, the findings probably also apply to cross-border acquisitions.^"^ Why Do Acquisitions Fail? Acquisitions fail for several reasons. First, the acquiring firms often overpay for the as­ sets of the acquired firm. The price of the target firm can get bid up if more than one firm is interested in its purchase, as is often the case. In addition, the management of the ac­ quiring firm is often too optimistic about the value that can be created via an acquisition and is thus willing to pay a significant premium over a target firm’s market capitalization. This is called the “hubris hypothesis” of why acquisitions fail. The huhris hypothesis postulates that top managers typically overestimate their ability to create value from an acquisition, primarily because rising to the top of a corporation has given them an exag­ gerated sense of their own capabilities.^^ For example, Daimler acquired Chrysler in 1998 for $40 billion, a premium of 40 percent over the market value of Chrysler before the takeover bid. Daimler paid this much because it thought it could use Chrysler to help it grow market share in the United States. At the time, Daimler’s management issued bold announcements about the “synergies” that would be created from combining the opera­ tions of the two companies. However, within a year of the acquisition, Daimler’s German management was faced with a crisis at Chrysler, which was suddenly losing money due to weak sales in the United States. In retrospect, Daimler’s management had been far too optimistic about the potential for future demand in the U.S. auto market and about the A47 448 Parts The Strategy and Structure of International Business opportunities for creating value from “synergies.” Daimler acquired Chrysler at the end of a multiyear boom in U.S. auto sales and paid a large premium over Chrysler’s market value just before demand slumped (and in 2007, in an admission of failure, Daimler sold its Chrysler unit to a private equity firm).^® Second, many acquisitions fail because there is a clash between the cultures of the ac­ quiring and acquired firms. After an acquisition, many acquired companies experience high management turnover, possibly because their employees do not like the acquiring company’s way of doing things.^^ This happened at DaimlerChrysler; many senior manag­ ers left Chrysler in the first year after the merger. Apparently, Chrysler executives disliked the dominance in decision making by Daimler’s German managers, while the Germans resented that Chrysler’s American managers were paid two to three times as much as their German counterparts. These cultural differences created tensions, which ultimately exhib­ ited themselves in high management turnover at Chrysler.^* The loss of management talent and expertise can materially harm the performance of the acquired unit.^® This may be particularly problematic in an international business, where management of the acquired unit may have valuable local knowledge that can be difficult to replace. Third, many acquisitions fail because attempts to realize gains by integrating the op­ erations of the acquired and acquiring entities often run into roadblocks and take much longer than forecast. Differences in management philosophy and company culture can slow the integration of operations. Differences in national culture may exacerbate these problems. Bureaucratic haggling between managers also complicates the process. Again, this reportedly occurred at DaimlerChrysler, where grand plans to integrate the opera­ tions of the two companies were bogged down by endless committee meetings and by simple logistical considerations such as the six-hour time difference between Detroit and Germany. By the time an integration plan had been worked out, Chrysler was losing money, and Daimler’s German managers suddenly had a crisis on their hands. Finally, many acquisitions fail due to inadequate preacquisition screening."^® Many firms decide to acquire other firms without thoroughly analyzing the potential benefits and costs. They often move with undue haste to execute the acquisition, perhaps because they fear another competitor may preempt them. After the acquisition, however, many acquiring firms discover that instead of buying a well-run business, they have purchased a troubled organization. This may be a particular problem in cross-border acquisitions because the acquiring firm may not fully understand the target firm’s national culture and business system. Reducing the Risks of Failure These problems can all be overcome if the firm is careful about its acquisition strategy."*^ Screening of the foreign enterprise to be acquired, including a detailed auditing of opera­ tions, financial position, and management culture, can help to make sure the firm (1) does not pay too much for the acquired unit, (2) does not uncover any nasty surprises after the acquisition, and (3) acquires a firm whose organization culture is not antagonistic to that of the acquiring enterprise. It is also important for the acquirer to allay any concerns that management in the acquired enterprise might have. The objective should be to reduce unwanted management attrition after the acquisition. Finally, managers must move rap­ idly after an acquisition to put an integration plan in place and to act on that plan. Some people in both the acquiring and acquired units will try to slow or stop any integration efforts, particularly when losses of employment or management power are involved, and managers should have a plan for dealing with such impediments before they arise. PROS AND CONS OF GREENFIELD VENTURES The big advantage of establishing a greenfield venture in a foreign country is that it gives the firm a much greater ability to build the kind of subsidiary company that it wants. For example, it is much easier to build an organization culture from scratch than it is to change the culture of an acquired unit. Similarly, it is much easier to establish a set of Entry Strategy and Strategic Alliances Chapter 15 449 operating routines in a new subsidiary than it is to convert the operating routines of an acquired unit. This is a very important advantage for many international businesses, where transferring products, competencies, skills, and know-how from the established operations of the firm to the new subsidiary are principal ways of creating value. For ex­ ample, when Lincoln Electric, the U.S. manufacturer of arc welding equipment, first ven­ tured overseas in the mid-1980s, it did so by acquisitions, purchasing arc welding equipment companies in Europe. However, Lincoln’s competitive advantage in the United States was based on a strong organizational culture and a unique set of incentives that encouraged its employees to do everything possible to increase productivity. Lincoln found through bitter experience that it was almost impossible to transfer its organizational culture and incentives to acquired firms, which had their own distinct organizational cultures and incentives. As a result, the firm switched its entry strategy in the mid-1990s and began to enter foreign countries by establishing greenfield ventures, building operations from the ground up. While this strategy takes more time to execute, Lincoln has found that it yields greater long-run returns than the acquisition strategy. Set against this significant advantage are the disadvantages of establishing a green­ field venture. Greenfield ventures are slower to establish. They are also risky. As with any new venture, a degree of uncertainty is associated with future revenue and profit prospects. However, if the firm has already been successful in other foreign markets and understands what it takes to do business in other countries, these risks may not be that great. For example, having already gained great knowledge about operating internation­ ally, the risk to McDonald’s of entering yet another country is probably not that great. Also, greenfield ventures are less risky than acquisitions in the sense that there is less potential for unpleasant surprises. A final disadvantage is the possibility of being pre­ empted by more aggressive global competitors who enter via acquisitions and build a big market presence that limits the market potential for the greenfield venture. WHICH CHOICE? The choice between acquisitions and greenfield ventures is not an easy one. Both modes have their advantages and disadvantages. In general, the choice will depend on the cir­ cumstances confronting the firm. If the firm is seeking to enter a market where there are already well-established incumbent enterprises, and where global competitors are also interested in establishing a presence, it may pay the firm to enter via an acquisition. In such circumstances, a greenfield venture may be too slow to establish a sizable presence. However, if the firm is going to make an acquisition, its management should be cognizant of the risks associated with acquisitions that were discussed earlier and consider these when determining which firms to purchase. It may be better to enter by the slower route of a greenfield venture than to make a bad acquisition. If the firm is considering entering a country where there are no incumbent competitors to be acquired, then a greenfield venture may be the only mode. Even when incumbents exist, if the competitive advantage of the firm is based on the transfer of organizationally embedded competencies, skills, routines, and culture, it may still be preferable to enter via a greenfield venture. Things such as skills and organizational culture, which are based on significant knowledge that is difficult to articulate and codify, are much easier to embed in a new venture than they are in an acquired entity, where the firm may have to overcome the established routines and culture of the acquired firm. Thus, as our earlier examples suggest, firms such as McDonald’s and Lincoln Electric prefer to enter foreign markets by establishing greenfield ventures. ;sT A Strategic Alliances Strategic alliances refer to cooperative agreements between potential or actual competi­ tors. In this section, we are concerned specifically with strategic alliances between firms from different countries. Strategic alliances run the range from formal joint ventures, in 'iA' TEST PREP Use SmartBook to help retain what you have learned. Access your Instructor’s Connect course to check out SmartBook or go to iearnsniartadvantage.com for help. LO 15-b Evaluate the pros and cons of entering into strategic alliances. 450 % Parts The Strategy and Structure of International Business which two or more firms have equity stakes (e.g., Fuji Xerox), to short-term contractual agreements, in which two companies agree to cooperate on a particular task (such as de­ veloping a new product). Collaboration between competitors is fashionable; recent decades have seen an explosion in the number of strategic alliances. THE ADVANTAGES OF STRATEGIC ALLIANCES Firms ally themselves with actual or potential competitors for various strategic purposes.'^^ First, strategic alliances may facilitate entry into a foreign market. For example, many firms believe that if they are to successfully enter the Chinese market, they need a local partner who understands business conditions and who has good connections (or guanxi—see Chapter 4). Thus, Warner Brothers entered into a joint venture with two Chinese partners to produce and distribute films in China. As a foreign film company, Warner found that if it wanted to produce films on its own for the Chinese market, it had to go through a complex approval process for every film, and it had to farm out distribu­ tion to a local company, which made doing business in China very difficult. Due to the participation of Chinese firms, however, the joint-venture films will go through a stream­ lined approval process, and the venture will be able to distribute any films it produces. Also, the joint venture will be able to produce films for Chinese TV, something that for­ eign firms are not allowed to do."^^ Second, strategic alliances also allow firms to share the fixed costs (and associated risks) of developing new products or processes. An alliance between Boeing and a number of Japanese companies to build Boeing’s latest commercial jetliner, the 787, was motivated by Boeing’s desire to share the estimated $8 billion investment reqnired to develop the aircraft. Third, an alliance is a way to bring together complementary skills and assets that nei­ ther company could easily develop on its own."*"^ In 2003, for example, Microsoft and Toshiba established an alliance aimed at developing embedded microprocessors (essen­ tially tiny computers) that can perform a variety of entertainment functions in an automo­ bile (e.g., run a backseat DVD player or a wireless Internet connection). The processors rnn a version of Microsoft’s Windows CE operating system. Microsoft brought its soft­ ware engineering skills to the alliance and Toshiba its skills in developing microproces­ sors."^^ The alliance between Cisco and Fujitsu was also formed to share know-how. Fourth, it can make sense to form an alliance that will help the firm establish techno­ logical standards for the industry that will benefit the firm. For example, in 2011 Nokia, one of the leading makers of smartphones, entered into an alliance with Microsoft under which Nokia agreed to license and use Microsoft’s Windows Mobile operating system in Nokia’s phones. The motivation for the alliance was in part to help establish Windows Mobile as the industry standard for smartphones as opposed to the rival operating sys­ tems such as Apple’s iPhone and Google’s Android. THE DISADVINTAOES OF STRATEGIC ALLIANCES The advantages of strategic alliances that we have discussed can be very significant. De­ spite this, some professionals have criticized strategic alliances on the grounds that they give competitors a low-cost route to new technology and markets."^® For example, 25 years ago some commentators argued that many strategic alliances between U.S. and Japanese firms were part of an implicit Japanese strategy to keep high-paying, high-value-added jobs in Japan while gaining the project engineering and production process skills that underlie the competitive success of many U.S. companies."^’ They argued that Japanese success in the machine tool and semiconductor industries was built on U.S. technology acquired through strategic alliances. And they argued that U.S. managers were aiding the Japanese by entering alliances that channel new inventions to Japan and provide a U.S. sales and distribution network for the resulting products. Although such deals may gener­ ate short-term profits, so the argument goes, in the long run the result is to “hollow out” U.S. firms, leaving them with no competitive advantage in the global marketplace. Entry Strategy and Strategic Alliances Chapter 15 These critics have a point; alliances have risks. Unless a firm is careful, it can give away more than it receives. But there are so many examples of apparently successful alli­ ances between firms—including alliances between U.S. and Japanese firms—that the critics’ position seems extreme. It is difficult to see how the Microsoft-Toshiba alliance, the Boeing-Mitsubishi alliance for the 787, and the Fuji-Xerox alliance fit the critics’ thesis. In these cases, both partners seem to have gained from the alliance. Why do some alliances benefit both firms while others benefit one firm and hurt the other? The next section provides an answer to this question. MAKING ALLIANCES WORK The failure rate for international strategic alliances seems to be high. One study of 49 international strategic alliances found that two-thirds run into serious managerial and financial troubles within two years of their formation, and that although many of these problems are solved, 33 percent are ultimately rated as failures by the parties involved."^* The success of an alliance seems to be a function of three main factors: partner selection, alliance structure, and the manner in which the alliance is managed. Partner Selection One key to making a strategic alliance work is to select the right ally...
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