Evaluation of Foreign Modes of Market Entry - Essay Example

 Evaluation of Foreign Modes of Market Entry Globalization is the invention of advanced technology and communication. It has set interconnectedness and made a foreign country one’s neighbour particularly in areas of business, culture, and politics. Moreover, movement of goods has never before been easier. Hence, multinationals take globalization as an opportunity for profit optimization and a break to cut down on costs. The wave of globalization has challenged traditional domestic productions of the automotive industry because of lower costs of production that a foreign country may offer. Coates, Norman, (1989) a business professor, speculates that multinationals will be anywhere around the globe and consumers can also buy products anywhere. According to Johnson, J, & Tellis, J (2008),companies have been attracted to globalization because of its accrued benefits, adaptation of its products to local needs and prices on a world-wide basis, and economies of scale. In particular, subject of this essay is the complicated problem of a car manufacturer in choosing the proper entry mode for the making of his company’s car parts in a new market. At this instant, entry to China is contemplated, and US car manufacturer as a premise. China has been distinguished on the strength of its population, GDP and growth rate, that leads it apart from other BRIC countries. Its growing middle class hopefully will support the automobile industry. China has also increased its spending on Research and Development, a factor that will complement the technology of the foreign company. Besides, China has been known for low labor cost (Global Sherpa). Since globalization has become an important facet of business, this essay focuses on the strength and weaknesses of different modes of entry to a foreign market. The mode of entry is a significant decision for a firm since it will affect the company’s marketing and production strategy, and how it will confront the marketing of its product successfully. Modes of entry are affected by various variables, among them are ownership advantages, location and internalization (Agarwal,S. And Ramaswami, S.). There are about 14 modes of entry, but I found only five modes to be appropriate for the car manufacturer in the study. These are export, license and franchise, alliance, joint venture, and wholly owned subsidiary. (Johnson & Tellis). Each mode will be discussed and analyzed in the subsequent paragraphs. In evaluating, we will find which among these modes would be the best entry strategy for our car manufacturer who wants to take advantage of the low cost of production and seek new market opportunities elsewhere. The company may choose any of these modes to enter a new market and the thing that could constrain them is the degree of control, reasons that could produce different strategies of market participation as discussed below. Exporting Exporting increases profitability. Some companies found exporting ideal because of advantages of increased profitability, spreading risks, economies of scale, and enhanced innovation (Dun & Bradstreet). Exporting means a firm’s sales of goods or services produced in the home market and sold in the host country through an entity in the host country (Investopedia. n.d.). Export increases profitability because lifestyles and habits are different from each country, thus it opens up wider opportunity for products and services much more for products that have reached declining stage in the local market, or demand has diminished. Exports are one of the oldest forms of trade, and occurs on a large scale basis between two countries that have fewer barriers of trade. Growth of car exports has been observed in China in 2012 reaching 1,056,091 units, an increase of 29% from 2011 . Most of their exports go to emerging countries (“Top Chinese Automakers”.2013). Exporting allows company to spread the risks US market is swamped with various car models, making it difficult to gain its market locally. Ford cars have reached maturity stage in the US so it must look for a profitable market elsewhere. Exporting allows the company to spread the risks because when one economy suffers a recession, the impact to the exporter will not be too much since the company did not put all of their investment in one country; and as the adage says “Do not put all your eggs in one basket” will be the rule in exporting. Advantage of Economies of Scale Exporting allows the company to take advantage of the “economies of scale” which generally means lowering of average costs as a result of expanded operations that leads to a more productive and efficient operation. It is said that exporting works better for products that do not need modifications (Dun & Bradstreet). For instance, Ford cars might have lost its appeal in the US market, but can still command for a demand to global consumers elsewhere. The car when exported, does not require too much modification, hence, overhead cost is reduced. Exporting encourages company to be innovative Exporting makes companies to be innovative in ways of dealing business particularly in practices of culture. An example is dealing in the Middle East. The culture and business traditions there differ much from US or UK. Business in ME is relationship driven and is very much attached to culture and tradition. Take, for instance, its Ramadan tradition, where business is on a slow down and the culture of “on time payment.” If an exporter wants to get hold of this market, it should find innovative ways to circumvent these culture and traditions. License and Franchise Next in our discussion is license and franchise. By definition, it is a formal permission or right offered to a firm located in a host country to use a home firm’s proprietary technology or other knowledge resources in return for payment (Johnson & Tellis). License and franchise are similar, but have a different impact on the company. In franchising, company sells the right to use a model and trademark of the product while licensing lets someone use the trademark such as logo, product or business model or product subject to quality restrictions. Licensing fee usually costs less than franchise. Typically, a license fee costs $500 or less, while a franchise fee costs somewhere from $5,000 to $50,000. GM, Chrysler and Ford entered franchise agreements for dealership but my research did not provide data for franchise in manufacturing. For some reasons beyond this study, these companies planned to stop 2,200 dealerships in 2008 (Lafontaine, Francine, et. al, 2010). Besides, regulatory laws in franchising have made distribution costs and retail costs higher than what they should be. A comparison of the benefits of the two modes shows that in license, after purchase, licensee has no more obligations to the firm except buying the product while franchise requires royalty payment in future sales. The franchisor gives support to the franchisee in the form of training and access to finance and geographical territory, while in licensing the company typically gives no more support after purchase of license. In general, there are more advantages to franchise than licensing because of the legal protection it holds, such as obligation of both parties, litigations, bankruptcies and failures (Huesbach, R.). Alliance Alliance is a mode wherein a firm in the home market agrees and collaborates with a firm in the foreign market to share in the activities in the host country. A strategic alliance is advantageous for a firm entering a new territory, particularly when the country forbids importation of certain goods. Delaney, L. explains alliances are formed between two or more companies who are based in their home countries for a specified period of time in order to maximize its competitive advantage in the new territory. Alliances enable instant market access; gain new skills and technology, share resources and costs, and broaden its image. However, there are also constraints and disadvantages on this mode of entry. Company may have weaker management involvement because of equity shares. Due to these concerns, problems may occur on matters like keeping objectives on time, poor resource allocations, and loss of control over product quality, employees, operating costs and relative matters. Joint venture (JV) Joint venture is an entry mode that is similar to alliance but that ownership is shared by only two partners, one is in the home country, and the other is located in the host country. JV allows a company to enter a new market, gain access to technology, resources, and specialized staff. It is flexible, and covers only what the company wants to do, has a limited life span, thus limiting its exposure. JV is also like a partnership since it is involved in a particular undertaking. The difference, however, is the implications derived by both parties. A JV is based on a single project, while partnership is on a long, lasting business relationship. According to the RP Emery Associates (2012), a legal consultancy firm, one of the biggest advantages of this mode of entry is the ease of separating the business from the rest of the organization and the opportunity of selling it to the parent company. It also stated that almost 80% of joint ventures end up in selling of one partner to the other. However, companies may find this mode of entry difficult to enter because, as R.P. Emery stressed out, it is not easy to develop the right relationship, particularly when there is an imbalance of the level of expertise, culture, management practices, and enough leadership. The role of joint venture has been supported by various authors seeing that it best supports the interests of companies entering foreign markets specifically, China. Authors argued that joint ventures of multinationals and Chinese partners have sustained car manufacturing in China. Clive Collis ((2013), Rachel Ang (2009) and Jianxi Luau (2005) in separate studies said that the development of the local car manufacturing in China was made possible through the entry of multinationals via joint ventures. Big names such as General Motors, Ford, Toyota, Volkswagen, DaimlerChrysler, Nissan-Renault, PSA Peugeot Citroen, Honda and BMW have all established thru joint ventures. By now, as Jianxi Luau said, 90% of car manufacturing in China is controlled by joint ventures. Collis’ study provided theories of foreign direct investment, and cited advantages in the location is one of the reasons for investing, for example cheap labor. Ang’s report noted an imbalance of trade since China exports more cars than it imports. Trade with China has a marked development on auto parts as US has imported more than $5.5 billion worth of auto parts while it has exported only one eighth of that amount. Many of these imports are car standard products such as brakes, seating and interior trims, and electronic parts. Thus, it is concluded that car parts manufacturing of China is more focused on export. Wholly owned subsidiary (WOS) A wholly-owned subsidiary is an arrangement wherein all of the outstanding common stocks are in the hands of a single holding company. It is a business that is owned by another entity. The subsidiary continues to operate with the permission of the holding company. Companies enter the wholly-owned subsidiary arrangement, as cited by Tatum, M (03 March 2013) because of location, name value, or as a matter of investment. In the case of location, compelling reasons could be financial and regulatory factors that make it logical to continue on the location. There are instances when a well respected name or brand in the locality is absorbed by a company that is not known. Holding company allows the use the name of the subsidiary instead of spending so much for recognition. This allows the holding company to enjoy the recognition and market share of the subsidiary. As a matter of investment, WOS allows the company to diversify its investment while allowing customers to adjust for the change both in taste and demand. Profitability of the holding company is often at stake in the process of WOS take-over and it is not uncommon that holding company suffers a decline, Tatum expands. Joint Venture vs. Wholly-owned Subsidiary Studies of modes of entry have been critical subjects of several authors, not only in line of car manufacturing but for different products as well. A comparable result of studies of Montserrat Alvarez (2003) and Yuing-li, et. al. said that preference for a wholly owned subsidiary depends on whether the firm has large size, more international experience, and more ability to develop differentiated products. Second, if the target host offer incentives and have cheaper production factors, third, it is necessary to protect firm knowledge. Firms turn to joint venture if the host country exacts too many legal impediments and restrictions. Yung-li’s study is made for Taiwanese firms while it is for a car manufacturer for Alvarez. In the hospitality industry, Brown, Dev. and Zhou suggest that foreign ownership and control should be separated in entry and that decisions should be expanded beyond production and distribution. Empirical result of the said study implies that the absorptive capacity and trustworthiness of the local partners are deciding factors of entry. It could be inferred here that determinants would be the same for US, Taiwan and for any other ventures. In making comparisons, I used the descriptive statistics of Johnson & Tellis in their study, saying that the dominant mode of new entry into China from 1978 to 2005 is the joint venture (41%), followed by the wholly owned subsidiary (33%), and equity joint venture 10%). Exports, licensing, and franchising made up only 4%, 7%, and 5% respectively. Said research also showed that 57% entering firms comprises of companies from US, Canada, and North America, 23% from Europe, and 21% from Southeast Asia. Likewise points raised in several studies have also been consulted. Conclusion China is one of the emerging economies today. It is predicted that in the distant future, it will overshadow the United States as a leading economy, because this multinationals are eyeing on this country for market entry. My study offers four modes of entry and a richer definition for each mode. Next, I related the advantages and disadvantages for each. Literature review suggests various modes that coincided with my view. Strong findings that I put forward in the study prove that joint venture is the more popular mode of entry; that firms go into a joint venture to avoid too much legal restrictions of the host country and as an easy access. Control is significant in all modes of entry. Weighing things over, exporting has the least degree of control, followed by licensing, alliance, and joint venture while the highest form of control is the wholly owned subsidiary. Decision, however still depends on the ultimate objective of the foreign company in entering a foreign market. References Alvarez, Montserrat. (2003). Wholly-owned subsidiary vs. Joint ventures: the determinant factors in the Catalan Multinational Manufacturing Case. Pdf.[online] Available at http://ideas.repec.org/p/ieb/wpaper/112255art138.html [Accessed 07 July, 2013] Brown, Jr., Dev C.S. and Z. Zhou.(2003) Broadening the foreign market entry decision: separating ownership and control. Journal of International Business Studies 34, pp. 473-488.[online] Available at http://www.jstor.org/stable/3557163 [Accessed 07 July, 2013]. Coates, N.(1989). The globalization of the motor vehicle manufacturing industry. [online] Available at http://www.emeraldinsight.com/journals.htm?articleid=1696930&show=pdf [Accessed 07 July 2013] Collis, Clive (2013). The Role of the Joint Venture Mode of Foreign Direct Investment in the development of the Chinese Automobile Industry. GERPISA. The International Network of the Chinese Automobile Industry. [online] available http://gerpisa.org/en/node/1211[Accessed 07 July 2013] Dun&Bradstreet.(2013) The benefits of exporting [online] Available at http://dnbsmallbusiness.com.au/Essentials/The_benefits_of_exporting/indexdl_8573.aspx[Accessed 07 July, 2013] Global Sherpa. (2013) BRIC Countries, Latest News, Statistics, and original articles [online] Available at http://www.globalsherpa.org/bric-countries-brics [Accessed 07 July 2013] Huebasch, Russell. Should you license or franchise?. Small Business.Chron. Com [online] Available at http://smallbusiness.chron.com/should-license-franchise-3940.html [Accessed 07 July 2013] Investopedia. 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Advantages & Disadvantages of Joint Ventures http://www.rpemery.com/articles/advantages_and_disadvantages_jv.htm Tang, Rachel (2009) The rise of Auto Industry and its impact on the US motor vehicle industry. CRS Report for Congress. Pdf. [online] Available at http://www.fas.org/sgp/crs/row/R40924.pdf [Accessed 7 July 2013]. “Top Chinese Automakers Exporters” China Auto Web [online] Available at http://chinaautoweb.com/2013/02/top-15-chinese-auto-exporters-in-2012/[Accessed 07 July 2013] Tatum, Malcolm. (2013). What is a Wholly owned Subsidiary. Wise Geek [online] Available at http://www.wisegeek.org/what-is-a-wholly-owned-subsidiary.htm[accessed 07/July 2013] Read More