Why Do Firms Become Multinational Enterprises - Essay Example

Why do firms become multinational enterprises? The aim of this paper is to explore the nature of the multinational enterprise, and to identify the key reasons of why do firms become multinational enterprise. Multinational Enterprise There are many different definitions and interpretations of a term “multinational enterprise” or “multinational firm”. One of the most common definitions describes MNE as “an enterprise that controls and manages production establishments located in at least two countries (Caves cited in Johnson & Turner 2010, 212). Another definition defines MNEs as an enterprise that engages in foreign direct investment and control value-adding activities in more than one country” (Caves cited in Johnson & Turner 2010, 212). Still, these definitions do not expand to explanations of various structures, ownership models, organizational and geographical forms (Rugman & Collinson, 2011). While there are many different interpretations of the MNEs, there are several common characteristics that are appropriate for this type of business entity. One of the characteristics that are applicable to both of the above given definitions is that control, operational activity or business ownership should be exercised by a firm in more than one country (Johnson & Turner 2010). Another characteristic of MNE is that the company links together its affiliates with a common strategic vision and draws on a common pool of assets, information, human resources, trademarks, and patents (Rugman & Collinson, 2011). Reasons of becoming multinational enterprises Before making a decision to establish a subsidiary abroad the firm should have proper reasoning of this strategic decision. There are many different motivating factors or reasons of why firms become multinational enterprises (Rugman & Collinson, 2011). While some firms might pursue only one reason as priority based on its strategic direction, other firms might be influenced by a multitude of reasons. These reasons are classified into four broad categories, including: resource-seeking investment; market-seeking investment; efficiency-seeking investment; and strategic asset investment (Johnson & Turner 2010). Each of these categories has a subset of reasons and factors, which also should be discussed in greater detail. Below is provided a more detailed overview of these groupings. 1. Resource-seeking investment Very often firms need resources, which are not available or accessible in their home countries. In order to solve this problem, MNEs are often pursuing a strategy of investing abroad and thus to acquire or gain access to the resources that are either more costly in the home country than in foreign country or are not accessible/available at home country (Johnson & Turner 2010). Usually, these resources include primary products, raw materials, minerals, and agricultural goods (Johnson & Turner 2010). One of the examples of resource-seeking MNE is an organization extracting or producing oil in developing countries (Johnson & Turner 2010). Great examples of oil exploration can be such geographical locations as Middle East, Venezuela, and Russia (Peng & Meyer, 2011). The main location-specific advantages that the company gains are the quality and cost-efficiency of natural resources (Peng & Meyer, 2011). A firm interested in gaining access to particular natural resources, renewable or oil resources in certain locations is defined as natural resource seeking firm (Peng & Meyer, 2011). In addition to rare/limited mineral and natural resources the company might pursue access to skilled, semi-skilled or cheap unskilled labor force (Johnson & Turner 2010). Great example would be the US-based companies locating manufacturing facilities in developing countries in East Asian region. One more example of resource-seeking investments includes construction and tourism, as both sectors imply a need of specific location or territory (Johnson & Turner 2010). 2. Market-seeking investment Market-seeking companies quest to go after countries that offer strong demand for their products/goods or services (Peng & Meyer, 2011). Market-seeking investment implies investment in a country, which is viewed as a potential market for the company’s goods or services. By locating production in a market, the company gains more opportunities than by exporting goods directly to the market. For example, MNE can gain greater market size, greater proximity to the customer, and continuation of existing relationships with key customers (Johnson & Turner 2010). For example, many MNEs have focused on the USA market due to large population and high income factors (Rugman & Collinson, 2011). Nowadays, many MNEs tend to focus on emerging economies, such as BRIC countries (Brazil, Russia, India, China) due to large population, growing economy and increasing middle class. These markets are less likely to be as saturated as Western countries and, therefore, are very attractive for many firms willing to expand their business internationally. Especially attractive for MNEs has become China, after is has been accepted to the World Trade Organization in 2001 (Rugman & Collinson, 2011). Also, many companies expand their business internationally in order to serve their large clients in host countries. This form of business is more likely to refer to Business-to-Business concept especially in service industries, as the actual production or service provider should be located close to the point of consumption or nearby the customer (Czinkota & Ronkainen, 2011; Peng & Meyer, 2011). These can be service providers such as engineering firms, law firms, insurance firms, construction firms, etc. (Czinkota & Ronkainen, 2011). 3. Efficiency-seeking investment Organizations striving for rationalizing their value chains also are motivated to become MNCs. They are searching for the most beneficial or cost-effective conditions for doing business (Czinkota & Ronkainen, 2011). In other words, these firms aim to reduce their overall costs of production or business operations (Peng & Meyer, 2011). These organizations focus on concentrating different parts of their value chain in different geographical locations. Thus, the company goes abroad in order to maximize the benefits from each location (Johnson & Turner 2010). For example, the companies might become MNEs and set their operations in the home country (geographic region) of the foreign customer in order to reduce transportation costs, to respond to customer needs in more efficient and rapid manner, to achieve economies of scale, and to avoid the overhead costs associated with intermediary activities (Rugman & Collinson, 2011; Peng & Meyer, 2011). Good example here will be Indian company Tata Consultancy services, which has set up its operations in Hungary as this country was a best combination of proximity to the European clients and labour costs (Peng & Meyer, 2011). Also, the companies might become MNEs in order to overcome various tariff and non-tariff barriers, duties and import restrictions imposed by a government in a specific country/market (Czinkota & Ronkainen, 2011). By setting up a MNE affiliate in a foreign market, the company can overcome these barriers. Great examples of such behavior are the firms operating in regional and economic trade unions, such as the EU and NAFTA (Rugman & Collinson, 2011). The firm is can produce firms with the EU and transport them to any EU country with paying no tariffs, (Rugman & Collinson, 2011). Moreover, some governments provide incentives to MNEs as they generate new jobs and help to increase income level in the country. These incentives can include tax allowances, loan guarantees, infrastructure investments, advantageous funding, special protection from competitors and might be a good reason for a company to expand the business in a specific country/region (Czinkota & Ronkainen, 2011). 4. Strategic asset investment This motive for MNEs formation is based on long-term strategic objectives of a firm. These objectives can vary significantly and depend on different internal and external factors. Thus, for example, a company may acquire a competitor in order to take on the main competitor and to achieve its strategic goals (market share, sales, etc.) (Johnson & Turner, 2010). Also, a firm might want to protect its home market share and to cope with increased foreign competition. In order to achieve this goal, many firms base their operations in the home countries of their key competitors (Rugman & Collinson, 2011). Also, the company might become MNE in order to diversify itself against the potential uncertainties and risks in the domestic country (Rugman & Collinson, 2011). This form of international diversification has been broadly adopted by the Japanese firms, which have managed to reduce the negative effects of economic crisis since the 1990s by focusing on their US operations (Rugman & Collinson, 2011). In addition to the above listed concepts of strategic asset investment there is recognized innovation seeking strategy. The firm can decide to become a MNE if it aims to stay in touch with innovations and up-to-date developments in their industry, to gain access to the new technologies and ideas and to accelerate its own innovations (Peng & Meyer, 2011). A firm might develop a strategy of continuous organizational learning and growth, and thus concentrate on latest technologies and ideas (Peng & Meyer, 2011). Great example of innovative seeking firms are illustrated by: IT firms in Silicon Valley and Bangalore; Chinese firms who have acquired technologies and brands in Germany and the USA (for example, Lenovo); Bio-tech firms in Copenhagen and Cambridge (Peng & Meyer, 2011). Below is provided a summary table of the four key strategic reasons identified above with illustrative locations mentioned in the text. Strategic goals Location-specific advantages Illustrative locations mentioned in the text Natural resource seeking Quality and costs of natural resources Oil exploration in Russia, Venezuela, and Middle East Market seeking Strong market demand and customers willing to pay Marketing and sales of consumer goods anywhere in the world Efficiency seeking Economies of scale, transport and communication infrastructure, abundance of low-cost labor force and suppliers Manufacturing in Guandong, China; Logistics in Vienna, Miami, and Rotterdam Strategic Asset investment Innovative individuals, industry agglomeration Chinese acquisitions of technologies and brands in Germany, IT in Silicon Valley and Bangalore Table 1. Matching strategic goals with locations (Source: (Peng & Meyer, 2011, p. 364). References: Czinkota, M., & Roinkainen, I. (2011). Global business. New York: Routledge. Johnson, D., & Turner, C. (2010). International business. Milton Park, Abingdon, Oxon: Routledge. Peng, M., & Meyer, K. (2011). International business. Singapore: Cengage Learning Emea – M.U.A. Rugman, A., & Collinson, S. (2011). International business. Harlow, Engand: Pearson Pearson Education. Read More