Entry Strategy and Strategic Alliances

Entry Strategy and Strategic Alliances

Firms expand internationally must decide at the initial

1)      Which markets to enter

2)      When to enter them and on what scale

3)      Which entry mode to use

a)      Exporting

b)      Licensing or franchising to a company in the host nation

c)      Establishing a joint venture with a local company

d)     Establishing a new wholly owned subsidiary

e)      Acquiring an established enterprise

Factors affecting the choice of entry mode

 

1)      Transport costs

2)      Trade barriers

3)      Political risks

4)      Economic risks

5)      Costs

6)      Firm strategy

7)      Environment

8)      Core competencies

The optimal mode varies by situation and the company to decide what is the appropriate entry mode. One company’s entry mode may not be appropriate to another company. External variables play a part in the initial decision, denotes which to go, when to go and how to go.

Basic entry decisions (External variables: company need to identify)

Firms entering foreign market make three decisions which are

1)      Which markets to enter

The choice of foreign markets will depend on their long run profit potential. Favourable markets are politically stable developed and developing nations with free market systems and relatively low inflation rates and private sector debt. The less favourable markets are politically unstable developing nations with mixed or command economies, or developing nations with excessive levels of borrowing. Markets are more attractive when the product in question is not widely available and satisfies an unmet need.

It is based on the benefit, cost and risk analysis. When external factors are taken in consideration, the political economies of a country need to be identified to access the risk. The higher the benefit, the higher the risk can be taken. The culture of the country is identified to understand the impact of doing business. Trade barriers need to be taken in consideration. 

2)      When to enter those markets

Once attractive markets are identified, the firm must consider the timing of entry. Entry is early when the firm enters a foreign market before other foreign firms. Entry is late when the firm enters the market after firms have already established themselves in the market. 

This is where companies utilize and handle resources and capabilities in a competent manner.

First mover advantages are the advantages associated with entering a market early.

The first mover advantages include:

a)      The ability to pre-empt rivals and capture demand by establishing a strong brand name.

b)      The ability to build up sales volume in that country and ride down the experience curve ahead of rivals and gain a cost advantage over late entrants.

c)      The ability to create switching costs that tie customers into products or services making it difficult for later entrants to win business.

The first mover disadvantages are disadvantages associated with entering a foreign market before other international business.

The first mover disadvantages include:

a)      Pioneering costs which arise when the foreign business system is so different from that in a firm’s home market that the firm must devote considerable time, effort and expense to learning the rule of the game.

The pioneering costs include:

a)      The costs of business failure if the firm, due to its ignorance of the foreign environment, makes some major mistakes.

b)      The costs of promoting and establishing a product offering including the cost of educating customers.

          3)      On what scale to enter those markets – small scale basis is to export and large scale is to  FDI
 

Firms need to decide on the scale of the market entry after deciding which market to enter and the timing of entry.

Entering a foreign market on a significant scale is a major strategic commitment that changes the competitive playing field.

Firms that enter a market on a significant scale make a strategic commitment to the market which decision has a long term impact and is difficult to reserve.

Small-scale entry has the advantage of allowing a firm to learn about a foreign market while simultaneously limiting the firm’s exposure to that market.

Companies chooses which entry mode is eventually influenced by internal variables, because the internal variable plays a much more important roles than external variables. It would also depend on the resources and capabilities of the company. It also depends on the companies’ products. For example is Nokia which has a flexibility then Motorola in products.

Core competences and Entry mode (Internal variables: what Influence the choice of entry mode)

The optimal entry mode depends to some degree on the nature of a firm’s core competencies.

1)      Technology know-how

When competitive advantage is based on proprietary technology know-how, the firm should avoid licensing and joint venture arrangements unless it believes that its technology advantage is only transitory or that it can establish its technology as the dominant design in the industry.

When competitive advantage is critical based on proprietary technology know-how, the firm should undertake wholly owned subsidiaries as there is no risk of losing proprietary technology know-how but the cost and risks are high.

When competitive advantage is based on proprietary technology know-how which is not critical, the firm can using joint venture as the 2^nd choice as there are some forms of contractual control over technology know-how as the risk and cost is shared.  When competitive advantage is based on proprietary technology know-how which is no longer critical, licensing is available.

2)      Management know how

When competitive advantage is based on management know-how, the risk of losing control over the management skills is not high and the benefits from getting greater use of brand names is significant.

The entry mode applicable is franchising because franchising controls everything but the disadvantage is that is does not exploit the market completely as royalty are collected only. In addition, Stephen Hymer and John Dunning say that firms cannot license management skills. For example is McDonald’s. However, if competitive advantage is based on management know-how is critical and companies wants exploit the market, the wholly owned subsidiaries or joint venture will be ideal entry modes.

3)      Pressures for cost reductions and entry mode

When pressure for cost reductions is high, firms are more likely to pursue wholly owned subsidiaries to enter the market and uses exporting to serve the market. This will allow the firm to achieve location and scale economies as well as retain some degree of control over its worldwide product manufacturing and distribution.

Firms pursing global standardization or transnational strategies prefer wholly owned subsidiaries. After which, firms use exporting to serve the markets where EOS increases and costs decreases to counter high fixed cost of wholly owned subsidiaries. Thus, it is a dual entry strategy.

Entry modes

There are six different ways to enter a foreign market

1)      Exporting

Exporting is a common first step in the international expansion process for many manufacturing firms. It is popular and quickest to enter and exit.

Exporting is attractive because it avoids the costs of establishing local manufacturing operations. It helps firm to achieve experience curve and location economies.

Exporting is unattractive because there may be lower-cost manufacturing locations, high transport costs and tariffs which can make export uneconomical, agents in a foreign country may not act in exporter’s best interest.

2)      Turnkey projects

In Turnkey projects, the contractor agrees to handle every detail of the project for a foreign client, including the training of operating personnel. At the completion of a contract, the foreign client is handed the key to a plant that is ready for full operations. Turnkey projects are common in the chemical, pharmaceutical, petroleum refining and metal finishing industries.

Turnkey projects are attractive because they are the best way of earning economic returns from the know-how required to assemble and run a technologically complex process. They can be less risky than conventional FDI.

Turnkey projects are unattractive because the firm that enters into a turkey deal will have no long term interest in the foreign country or create a competitor. If the firm process technology is a source of competitive advantage, then selling this technology through a turnkey project is also selling the competitive advantage to potential and/or actual competitors.

3)      Licensing

Licensing agreement is an arrangement whereby a licensor grants the rights to intangible property to another entity (Licensee who are people who want to buy the knowledge) for a specified time period and in return the licensor receives a royalty from the licensee. For example is the brand name Davidoff.

The intangible property includes patents, inventions, formulas, processes designs, copyrights and trademarks.

Licensing is attractive because the firm does not have to bear the development costs and risks associated with the opening a foreign market, the firm also avoids barriers to investment and firms with intangible property that might have business applications can capitalize on market opportunities without developing those applications itself.

Licensing is unattractive because the firm does not have tight control over manufacturing, marketing and strategy required for realizing experience curve and location economies, and it limits the firm’s ability to co-ordinate strategic moves across countries by using profits earned in one country to support competitive attacks in another. Importantly, proprietary information may be lost.

One way of reducing risk is to cross licensing agreements where a firm might license intangible property to a foreign partner but requests that the foreign partner license some form of its valuable know-how to be the firm in addition to a royalty payment.

4)      Franchising

Franchising is basically a specialized form of licensing in which the franchisor not only sells intangible property to franchisee but also insists that the franchisee agree to abide by strict rules as to how it does business. Franchising is primarily done by service firms.

Franchising is attractive because firm avoids many costs and risks of opening up a foreign market and quickly build a global presence

Franchising is unattractive because it may inhibit the firm’s ability to take profits out of one country to support competitive attacks in another and the geographical distance of the firm from its foreign franchisees can make poor quality difficult for the franchisor to detect.

5)      Establishing Joint ventures with host country firm

Joint venture is the establishment of a firm that is jointly owned by 2 or more otherwise independent firms

Joint venture is attractive because they allow firm to benefit from a local partner’s knowledge of the host country’s competitive conditions, culture, language, political systems and business systems. The costs and risks of opening a foreign market are shared with the partner. Lastly, political considerations make joint ventures the only feasible entry mode.

Joint ventures are unattractive because the firm’s risks giving control of its technology to its partner. Secondly, the firm may not have the tight control over subsidiaries need to realize experience curve or location economies. Lastly is the shared ownership can lead to conflicts and battles for control if goals and objectives differ or change over time.

6)      Setting up a new wholly owned subsidiary in the host country

In wholly owned subsidiary, the firm owns 100% of the stock. Firms can set up wholly owned subsidiary in a foreign market by setting up a new operation or acquiring an established firm in the host country.

Wholly owned subsidiaries are attractive because they reduce risk of losing control over core competencies. Secondly, they give firms the tight control over operations in different countries that are necessary for engaging in global strategic co-ordination. Lastly, they may be required in order to realize location and experience curve economies

Wholly owned subsidiaries are attractive because the firms bear the full cost and risk of setting up overseas operations.

a)      Management contract

b)      Non equity partner and joint venture

Selecting an Entry mode

All entry modes have advantages and disadvantages. However, the optimal choice of entry mode involves tradeoffs.

 

Entry mode	Advantages	Disadvantages
Exporting	Ability to realise experience curve and location economies	High transportation cost   Trade barriers   Problems with local marketing agents
Turnkey	Ability to earn returns from process technology skills in countries where FDI is restricted	Creating efficient competitors   Lack of long term market presence
Licensing	Low development costs and risks	Lack of control over technology   Inability to realize location economies and experience curve   Inability to engage in global strategic co-ordination
Franchising	Low development costs and risks	Lack of control over technology   Inability to engage in global strategic co-ordination
Joint Venture	Access to partner knowledge   Sharing development costs and risks Politically acceptable	Lack of control over technology   Inability to realize location economies and experience curve   Inability to engage in global strategic co-ordination
Wholly owned subsidiaries	Protection of technology Ability to engage in global strategic co-ordination Ability to realize location economies and experience curve	High cost and risks

 Wholly Owned Subsidiaries (Greenfield Ventures or Acquisitions)

There are 2 forms of Wholly Owned Subsidiaries which are Greenfield Ventures or Acquisitions.

Acquisitions are attractive because

1)      They are quick to response

2)      They enable firms to preempt their competitors

3)      Acquisitions may be less risky than Greenfield ventures.

Acquisitions fail when

1)      The acquiring firm overpays for the required firm which is being overvalued.

2)      The cultures of acquiring and acquired firm clash

3)      Attempts to realize synergies run into roadblocks and take much longer than forecast

4)      There is an inadequate pre-acquisition screening

In order to avoid these problems, firms should screen carefully of the firm be acquired and move rapidly once the firm is acquired to implement an integration plan.

Greenfield Ventures are attractive because

1)      It gives firm a greater ability to build the kind of subsidiary company that it wants.

Greenfield Ventures are unattractive because

1)      Green ventures are slower to establish

2)      Green ventures are risky

 Decision on Greenfield or acquisition

It depends on the situation confronting the firm.

Acquisition may be better when the market already has well-established competitors or global competitors are interested in building market presence.

Greenfield ventures may be better when the firm needs to transfer organizationally embedded competencies, skills, routines and culture

The advantages of Strategic Alliances

1)      Facilitate entry into a foreign market

2)      Allows firms to share the fixed costs and associated risks of developing new products or processes

3)      Bring together complementary skills and assets that neither partner could easily develop on its own

4)      Can help a firm establish technological standards for the industry that will benefit the firm

The disadvantage of Strategic alliances

Strategic Alliances can give competitors low cost routes to new technology and markets, but unless a firm is careful, it can give away more than it receives.

The key problems why partnership fails

Clash of organisation culture

Clash of objectives

Clash of terms and references

Opportunism which is stealing partner knowledge and turn it against their partner

Making Alliances work

The success of an alliance is a function of Partner Selection, Alliance Structure and the manner in which the alliance is managed.

1)      Partner Selection

Partner selection can minimize problems of clash of organisation culture, clash of objectives and clash of terms and references. Firstly is look for partner with the same organisation culture to reduce any form of mismatch in organization culture. Secondly, identify partners which objectives can be met which means similar objectives are followed. Thirdly is to identify partners with common terms and references which are aligned to the resources and capabilities, back ground and competencies.

The advantages are good partners help firms to achieve strategic goals and has the capabilities the firm lacks and that it values, shares the firm’s vision for the purpose of the alliance and unlikely to try to opportunistically exploit the alliance for its own ends, that it expropriate the firms technological knowhow while giving away little in return.

2)      Alliance Structure

Once the partner is selected, the alliance should be structured to minimize the risk of opportunism by an alliance partner. Firstly is to make it difficult to transfer technology not meant to be transferred. Secondly is to contractual safeguards written into the alliance agreement to guard against the risk of opportunism by a partner. Thirdly is to allow for skills and technology swaps with equitable gains. Both partners are interdependent

3)      Alliance must be managed

Successfully managing an alliance requires managers from both companies to build interpersonal relationship. The ability to learn from its alliance partners is a major determinant of how much a company gains from an alliance. Lastly, research has shown that trust has played a primarily important role in successful partnership.