Specialized Entry Modes for International Business - Thesis Example

Abstract

The study set out to research on the specialized entry modes for international business. The objectives identified in chapter one of the research include: to find out the specialized entry modes for international business and to examine the influence of political, economic, socio-cultural and technological factors on entry modes decisions for international business. Uppsala model and the transaction cost theory have been used in the theoretical review of chapter two. The theory explain the influences that surround a firm opting for the different entry modes. The study adopts a qualitative research approach where secondary sources were used in data collection. The sources include articles, books, periodicals and journals. The data was analyzed using explanatory statements where the results were analyzed inform of datasets with each data set representing the different entry strategies. The strategies identified in the results include: Greenfields investment strategy, strategic alliances, licensing and franchising, foreign direct investment, electronic commerce and turnkey contracting. The study found that Greenfields strategy requires a heavy capital outlay and that the strategy is chosen in markets with favorable technological and political factors. The strategic alliance strategy is influenced by social and economic factors where the social factors require the firm to gain market specific knowledge with the help of a local partner while economic factors influence the firm to adopt it if it does not have enough resources. Licensing and franchising strategies are adopted by firms with inadequate capital and those requiring to control their franchisee located all over the world. The e-commerce strategy is enhanced by the development of ICT in the foreign markets. FDI strategy is attractive in countries with favorable foreign investment laws. Turnkey contracting strategy is mainly used in construction related projects. Finally the influence of political, economic, socio-cultural and technological factors have been discussed.

CHAPTER ONE

1.0 Introduction

1.1 Background

Increased competition in the domestic market is increasing forcing businesses to move their operations abroad. One of the major benefits of globalization is that it has facilitated the political, economic and socio-cultural integration of the whole world turning the world into a global village. This integration has made it possible to minimize the barriers that were initially present for companies wanting to enter the foreign markets especially through elimination of the existing national boundaries. Internationalization is the process behind firms entering or requiring the specialized modes for international business. This has led to the emergence of theories on entry into foreign markets with the aim of explaining the challenges and providing alternatives to the international businesses. According to Krist (2009), internationalization of firms involves companies with operations in their home country moving part of the operations into a foreign country where they operate and abide to the customs and laws of the foreign country. The importance of internationalization to a firm is the competitive advantage it helps a company gain while at the same time helping the firm create value in the foreign markets it ventures.

International entry modes refer to the different methods that companies employ in entering a foreign market for the purpose of engaging in value creation activities. The various entry modes include: exporting, subcontracting, franchising, licensing, joint venture, strategic alliances, electronic commerce and full ownership/ FDI (Jones, 2009). This research will help analyze the different entry modes and offer insight on the strengths, weaknesses and suitability of each method. Such analysis will particularly be important because entry into a foreign market is one of the major strategic decisions that a firm may engage in and strategic decisions can determine the profitability, competiveness and loss of a company. The analysis is also particularly important because the entry mode chosen by a firm will determine the performance and survival of the established subsidiaries in the foreign market. It is also through such analysis that firms can determine the amount of resources to commit into the foreign markets, which is crucial for a firm because the economics of firms establish that such resources are usually scarce for any firm (Wagner, 2009).

1.2 Statement of the problem

Entry into a foreign country can be a major challenge for international organization particularly if the market presents a lot of barriers. These challenges are presented by the uncertainties that exist in the foreign environments. The uncertainties exists in both the demand side and the supply side of the market environments. On the demand side, uncertainties exist about the unique needs and preferences of the foreign consumers and the ability of the firm to match their products and services to the local tastes of the foreign consumers. On the supply side, uncertainties exist on the political and economic climates of the country and also the legal requirements and regulations instituted by the foreign government on production and distribution of different products and services in that country (Conconi & Zanardi, 2016).

The uncertainties that may lead to delayed investments by a firm. Many scholars have explained the uncertainty as being caused by the inability of firms to acquire adequate, reliable and accurate information about the foreign markets. The information in this context relates to the market-specific knowledge. Different firms adopt different entry modes into a foreign market depending on the conditions of the market and the amount of market intelligence they possess on the market. It is important to note that market intelligence has a huge influence on the entry mode an international firm chooses to utilize in a foreign market and further on the success it derives from the market that can be attributed to the right entry mode. Theories of entry into a foreign market all suggest that that such market knowledge cannot be taught but rather is derived from the experience gained from interactions with the foreign markets. Some critics have argued that such knowledge can be obtained from international business consultants and businesses that have previously had operations in that country. However, the reliability of such intelligence may at times be questionable and also in adequate research by a firm may lead to failure in the foreign markets. For example several companies have been forced to close doors in international markets though being successful in their domestic markets.

Coca-Cola’s failure to follow the appropriate entry mode into the Indian market saw its operations being frustrated by the government. In India, they prefer that an international company forms a joint venture with their local companies to help support their growth and protect the form the adverse effect of competition from international firms. Coke has been forced to abandon this market twice both in 1977 and in 2006. Lack of adequate market –specific knowledge saw Walmart lose about US $1B in the German market because they chose a wrong entry mode of full ownership, which made them lose out on a local partner who would advise them on the business model in that country (Stead & Stead, 2014).

1.3 Research objectives

• To find out the specialized entry modes for international business
• To examine the influence of political, economic, socio-cultural and technological factors on entry modes decisions for international business

1.4 Research questions

• Which specialized entry modes do international businesses adopt?
• What influence do political, economic, socio-cultural and technological factors have on entry modes decisions for international business?

CHAPTER TWO

2.0 LITERATURE REVIEW

2.1 Introduction

This chapter consists of review of theoretical framework and critical review and research.

2.2 Theoretical review

2.2.1 The Uppsala model

The model was developed from the research of Wiedersheim- Paul and Johanson in 1975 following their research on some Swedish manufacturing firms. It was later revised by Vahlne and Johanson in 1977 (Fonfara, 2012).the scholars concluded that as a firm progresses up the stages of the model, the degree of involvement into international market increases. The model further suggests that the level of internationalization grows through a process of continuous learning from the initial stage of exporting to the stage of establishing activities of higher level such as product development facilities and production sites. As a firm moves through the stages of the model, they continue to increase their market-specific knowledge through exposure to similar conditions in the different cultural environments. This makes them develop internationalization strategies that enables them to engage in complex activities that increases their involvement with the foreign markets (Fonfara, 2012, p. 29).

According to the theory, international businesses must acquire market- specific knowledge to be acquired from experiences and should also be complemented with objective knowledge which is acquired through an education system. Generally, the theory advises companies to begin their international operations by first adopting the traditional exports and gradually grow their complex activities in the foreign markets. It also advocates that the companies should begin their international operations from geographical and cultural close countries and later progress to those farthest to them. Before they make a decision to move their operations abroad, they have to first comprehensively understand their home markets before deciding to move to foreign markets (Petric, 2013)

Ford (2002) criticizes the theory as being very mechanistic because it requires firms to follow a certain rigid path of development when planning to engage in international business. He further claims that the theory does not clarify the complex factors that will make all the firms have to follow the specific internationalization path advocated by the theory. Moreover, the model does not address the differences that exist in the different foreign markets that may influence the period or stages the international company may have to undertake in that market before acquiring enough knowledge to warrant full involvement.

2.2.2 Transaction cost theory

According to the theory, decisions between an organization and the market will always be highly influenced by the emerging costs. This means that a company will determine the most cost effective entry strategy by calculating the total amounts of costs to be incurred after its implementation. The theory offers an explanation on the activities to be performed by a firm and those that require to be outsourced to independent agents. I also sheds light on the motivations behind the existence of multinational firms and why they engage in international interdependencies. The theory predicts of organizational choices that depict markets and firms as alternative means utilized in organizing economic activities (Sachse, 2012). Companies can utilize concepts of the theory to determine when franchising, markets or long term contracts are more viable options of doing business rather than the firms.

According to Christofor (2008), the objective of a firm utilizing concepts of this theory in choosing an entry strategy will be achievement of optimal efficiency through minimization of risks and uncertainty. The firm will also be concerned with protecting the company- specific intellectual and proprietary assets. The theory focuses on costs and the influence these costs will have on a firm’s choice of entry into a new market. Decision on choice of entry mode is made after an analysis of the transaction costs that will usually increase when transactions are characterized by frequency of transactions, asset specificity and uncertainties in the foreign market. The decision will further require a comparison of the objectives of the company in relation to the total cost of entry. The theory also views the organization structure as an effective tool for reducing transaction costs within the organization’s boundaries and between different participants in the foreign markets.

Schwen (2008) criticizes the theory based on its assumptions. He believes that firms hold a better advantage than the markets and should therefore not be used as alternatives when markets fails. The advantage they possess gives them the ability to lead and control certain economic activities through adopting competitive strategies something that the markets can rarely do. Further, it is more reasonable for firms to first continue growing their operations internally before they think of expanding to foreign markets. The theory is also said to ignore the potential negative impacts time may have on the growth rates and the impact this may have on cost minimization efforts (Eternad, 2013).

2.3 Critical review

Kaffash, Haghikhah and Kordlouie (2012) are of the idea that selection of the right entry mode and transition of operation from a domestic market to a foreign market are two important decisions for any international business and they require adequate planning and commitment of huge amounts of resource. The factors that influence that decision can be related to the target’s country market factors, the organizations internal factors, the home country market factors, and the target’s country environmental factors. They further claim that internationalization is a process of adapting the operations of an enterprise, which include the strategy, resources and structure with the demands of the international environment. Decisions on internationalization will also relate to the levels of commitment and methods of fulfilling their current activities in the foreign market.

According to Sharan (2011), an international business will be concerned about the political security, legislative conditions, the country’s stability and the fiscal policies of the foreign market before setting its operations. These conditions will also influence the entry mode selected by a given company. Political stability of a country will be determined by political systems of that country, which is mainly built on the rule of law and a stable government that is capable of upholding this rule of law. It will also include a secure domestic environment that is free of internal conflicts that may destabilize a country in any way. An insecure domestic environment will characterized by high levels of corruption, unfavorable business climates and minimal protection on intellectual properties. From his arguments, it is clear that an international business planning to enter an insecure foreign market where there exists no suitable laws for protection of intellectual properties will be careful not to use franchising and licensing as their specialized entry modes. From a transaction cost theory perspective, such insecure markets will also increase the variable costs especially when FDI is used as the entry mode.

Socio-cultural factors in the foreign market may influence the entry mode selected by an international business and also influence the decision of entry into a foreign market. The factors include the values, lifestyles, demographics, and the customs that can be associated with a given society. These factors heavily influence the consumer preference in terms of the products and services and will also affect the relationships with the potential partners in the foreign markets (Harrison, 2011). Ravelomanana, Yan, Mahazomanana and Miarisoa (2015), believes that cultural distances of countries may present entry barriers into the foreign markets. They advise that firms should choose entry modes that offer an option to partner with a local partner who will guide the foreign company and ease them into adapting into the foreign culture.

The economic factors can either make a country attractive for foreign investment or make it unattractive. The economic factors relate to inflation, interest rates and the costs of borrowing. Kyrikilix and Pantedilis (2003) claim that high inflation rates in a foreign market will increase the interest rates that also have an influence on the borrowing rates in such a country. The inflation rates will also influence the value of the domestic currency, which on the other hand will increase the foreign exchange risks of such a country. The market structure will also influence the economies of scale, capital requirements, switching costs, product differentiation and access to the distribution channels in given industry in that country (Lutz & Ron, 2010).

Gupta et al (2005) claims that companies adopting export as their entry mode will be more concerned about the absolute purchasing power parity. In relations to this, they will prefer when the exchange rate between their home country and the foreign market is identical to the ratio of the price levels in the two countries. This will motivate the firm to maximize on any currency depreciation by exporting more because the goods will be relatively cheaper. He further claims that companies entering into a foreign market will prefer a country with a stable economic system that is highly predictable to help minimize the level of uncertainties in the external environment. The companies will also prefer a monetary system that enhances economic stability and an economy with available resources that include cheap but a skilled labor force.

CHAPTER THREE

3.0 Research Methods

This section of the paper identifies the methods that were used to collect, analyze and present data. This is in addition to explaining the research design and ethical considerations that were made while carrying out the study.

3.1 Research Design

The study used qualitative research design that aims at seeking inquiries from the population in order to provide answers to research questions. This research uses inductive reasoning meaning that its objective is that of creating theories from findings (Wallinam, 2011). This research design is vital for the study because it used secondary data to collect findings because of the limitation of time, which did not allow the research to collect primary data that would be presented quantitatively. Qualitative research design is also essential in this study because it used a case study of all multinational companies to find out the specialized entry modes that they use when penetrating foreign markets.

3.2 Data Collection Methods

The investigation used secondary sources of information to collect findings. These include materials such as articles, books, journals and periodicals that were written and published by trusted organizations (Carey, 2012). The collection of findings from the trusted organizations enabled the research conclusions to be both valid and reliable. A wide range of data was collected from these sources including strategies, factors that make them favorable and their benefits and limitations. This was coupled with examples of organizations that use these strategies. Secondary research was preferred for its time and cost saving capability because the researcher only had to visit the library to gather findings from the published sources.

3.3 Population under Study

The research aims at using examples of multinational companies; these are organizations that have expanded beyond local markets meaning that they are present in more than one country (Van, 2008). These firms usually choose strategies with which to invest in the new markets, but they choose the strategy to use depending on factors that make them favorable.

3.4 Data Analysis

The data was analyzed using explanatory statements that provided information about the strategies, examples of companies that have used them and factors that influence the choice and success of these techniques. The data was analyzed in the form of data sets; that is each data set was made up of a strategy and the factors that make it suitable. This means the analysis of strategies was accompanied with factors that make it the best choice to enable the reader to understand the practicability of the strategies and the factors; given that examples were also used in the analysis of each technique.

The analysis of secondary data was advantageous because it took a short time and the cost was also favorable. The analysis also ensured validity and reliability by consulting numerous sources of data before using it in the study (Carey, 2012). The findings were checked for consistency so that the study would be assured of the reliability of the information.

CHAPTER FOUR

4.0 Analysis of the Results

4.1 Greenfields Investment Strategy

This is a technique in which an organization outlays a lot of funds to build a manufacturing unit in a new market. This means that the organization invests heavily in capital in the new state so that the new business may be able to stand on its own and manufacture goods for the new market; without relying on the headquarters. (Malhotra, Ulgado & Agarwal, 2003) argues that although this investment technique involves the outlay of existing resources in a new market, it avoids other costs such as that would arise in acquiring a new company and over paying for that venture. This strategy is in accordance with the transaction cost theory discussed in the literature because a firm invests capital assets in a new market to avoid transaction costs that would arise if the market was supplied with goods that are manufactured in another location (OECD, 2010).

The choice of this strategy may be enhanced by technological and political factors in the new market. In terms of technological factors, an organization may be able to use this technique only if it has the assets and technology required to set up a new facility. Political laws such as those set in Israel may also favor the use of Greenfields investment. Israel provides tax holidays of ten years and cash grants of 10 to 25% of the cost of investment in land and assets for any organization that invests in the nation using this strategy (OECD, 2010, p. 138). Tesco, a UK multinational company used this strategy to invest in the United States although the firm did not succeed in the market because of intense competition from the main rival, that is Wal-Mart (Allegra Strategies Limited, 2005).

4.2 Strategic Alliances

This is a technique in which an organization partners with a local firm in the foreign market. The firms share costs, profits, technology, assets, management and workforce; using the structures and rates that they agree to use in the sharing system. A multinational partners with the local firm so that that company may provide knowledge of the market. The company for example helps in determining the best marketing strategies and techniques to use to cultivate and maintain customer relationship management (Hollensen, Boyd & Ulrich, 2011)).

The main factors that influence multinational corporations to use this technique include social and economic factors. In terms of social factors, an organization forms a strategic alliance so that it may gain knowledge of the social cultural needs of the market; using the help of the partner. A multinational company also uses this strategy when it cannot be able to afford the full amount of resources required to enter the new market (OECD, 2010). The partner company contributes some of the resources required to start the new venture and make it fully operational. Companies that are compatible in terms of resources and products they produce also utilize this technique. For example, after the explosion of digital mobile phones, Sony, a Japanese based company formed an alliance with the United States organization known as Qualcomm. Qualcomm used to produce digital technologies while Sony used to produce analog products. The compatibility of products and technologies made this alliance successful (Malhotra, Ulgado & Agarwal, 2003).

4.3 Licensing and Franchising

Licensing is a procedure in which a multinational corporation allows a company in a foreign market to use its production technologies to produce and sell goods. Franchising, on the other hand, is a form of licensing whereby the MNC grants the other organization with support systems, production knowledge and managerial expertise. The franchisee uses these resources together with local knowledge and capital to produce products that meet the standards set by the franchisor (Murray & Smyth, 2011).

The motivating factors that influence companies to choose this strategy include the lack of sufficient capital to invest in the new market and the need to control the franchisee to ensure that it produces and sells goods that meet the franchisors pre-determined standards. McDonalds, a United States based firm uses this strategy to invest in over 100 countries outside the US (Gerhardt, Hazen, Lewis & Hall, 2015). McDonalds uses this method mainly because the company would not be able to afford all the resources required to set up new ventures in foreign markets. However, the company has faced a challenge of saturation of numerous McDonalds’s restaurants in regions where it has invested with the help of franchisees; especially in the US in Dallas. It is also hard for the company to locate efficient franchisees that follow all the rules and regulations required to maintain a long term relationship (Gerhardt, Hazen, Lewis & Hall, 2015).

4.4 Foreign Direct Investment

This is a technique whereby an organization acquires assets in another country and fully owns and controls the business in that location. The company transfers its resources in the new market in exchange of full control of the company. Firms choose this technique based on the laws of the new country for example, the rates of taxation and the percent that states subtract before the foreign companies send their earnings back home. These laws of the foreign country are critical as discussed in the literature because they may encourage or discourage the investors. Some states call for meetings with investors so that they may discuss and set rules at the table to avoid scaring off foreign investments, which are normally believed to increase the earnings of local states by a large margin. Coca Cola has used this strategy to invest worldwide.

4.5 Electronic Commerce

This is a technique in which a company enters new markets by using information technologies such as the internet, information systems and computer hardware. An organization does not invest in physical assets in the new market, but rather it conducts all functions online through the internet. Communication, purchasing and payment transactions are all conducted online ((Bauknecht et al, 2003). This means that the managers of the company control the business from the local place where they have established an office. This strategy is efficient because an organization is not limited in terms of geographical location. The company may be able to access all areas in the world as long as the consumers in those locations have access to the internet and they are aware of the existence of the organization and the products that it offers (Wasserman, 2012).

The choice of this strategy is influenced by the amount of technology that an organization uses or the one it may be able to acquire. For example, an organization must be able to install a payment system that may be used by consumers worldwide. Some of the efficient payment systems include electronic wallets and master cards. These payment techniques are available to most of the consumers in the world although not all countries in the world have been able to introduce these modes. The development of this organization is also influenced by the regulations such as import and export of various countries and the fluctuations of currencies in the international money market. This entry strategy is the cheapest considering that an organization does not have to invest in a large space; and communication is made easy thus enabling the company to provide customers with feedback. Amazon uses this strategy to sell its books worldwide throughc the company’s website in the section known as the Amazon Kindle (Wasserman, 2012).

4.6 Turnkey Contracting

This is a special entry mode in which a firm signs a contract with another company or a government to develop a project. The foreign firm enters the new market to finance, plan and manage the five phases of the development of a project (Czinkota, Ronkainen & Moffett, 2011). The foreign company then implements the project and trains the client on how to use it and finally hands over the development to the owner. This means that the turnkey contractor does not continue managing or operating the venture because its role ends after handing over all resources to the project sponsor. This entry strategy is common in the construction industry where construction firms complete numerous projects and deliver them to their owners.

The choice of this strategy is mainly influenced by the nature of the project that is in hand. This technique is common in the construction of airports, roads, railways, bridges and hospitals. Organizations that use this strategy include Japanese JGC, Italian Tecnimont, and Hyundai that is mainly based in South Korea. These organizations build projects for governments such as the United Arab Emirates state that contracted the firms to construct an integrated processing plant for natural gas (Cavusgil, Knight & Riesenberger, 2016).

CHAPTER FIVE

5.0 Discussion

This section provides a discussion that gives answers to the research questions.

5.1 Which specialized entry modes do international businesses adopt?

Organizations that invest abroad have a wide range of techniques that they may use to set up their businesses in the new market. These methods are known as specialized entry modes and they include licensing and franchising, turnkey contracting, foreign direct investment, Greenfields investment, and electronic commerce. Electronic commerce and turnkey contracting are the most recently developed strategies with e-commerce being fuelled by the use of the internet while turnkey contracting is enhanced by the development of economies.

5.2 What influence do political, economic, socio-cultural and technological factors have on entry modes decisions for international business?

The adoption of the above named strategies is influenced by numerous factors that make these techniques favorable for different companies in different markets.

Political factors include the influence of the government and the laws that it forms in the new market. States that promote investments from foreign firms formulate laws that encourage the multinationals to invest using various entry modes. For example, as discussed earlier, the Israeli government promotes the use of Greenfields entry mode by not imposing taxes on firms that use this method for the first ten years. The state also grants the companies that use this mode grants to help them set up the facilities required to begin operations.

Economic factors include things like foreign exchange volatility, development projects started by the government, the cost of operating business, and the availability of sufficient finances. For example, McDonalds uses franchising because the company does not usually have sufficient funds to set up new restaurants in new markets. The franchisees contribute some capital so that the business may be set up. The choice of turnkey contracting, on the other hand, is normally influenced by the development strategies and projects of the new market. This is because this method is mostly used by companies that have been assigned contracts by governments.

Social aspects also affect the choice of entry mode strategy of a foreign business. For example, the increased use of the internet has influenced Amazon to use e-commerce strategy to access consumers from all over the world through the company’s website. The buying patterns of consumers in the new market may also play a great role in the strategy that a firm chooses. For example, strategic alliances between the investing firm and local organizations in the new market enable the investor to gain knowledge of consumer behavior in the new market.

Finally, technological factors influence a company to choose strategies that match with the technology in the market. For example, e-commerce entry strategy is enhanced by the development of the internet that enables consumers in far distances to communicate with one another. The use of Greenfields is also possible when the company that uses it has the technology that is required to set up a new manufacturing facility in the foreign land. Strategic alliances, on the other hand, enable companies to combine their technologies if they are compatible. For example, the partnership between Sony and Qualcomm was enhanced by the compatibility of the technologies of these firms. Sony manufactured mobile phones while Qualcomm had digital technologies thus enabling the partnership to produce digital products.

Overall, a company that invests in a new market may choose the technique to use from a wide choice of methods. Firms should conduct sufficient research on the factors that have an effect on investing in the new market so that they may choose the right strategy. This may help to increase competitive advantage of the company in the new market.