Chapter 14 Foreign Direct Investment and Collaborative Ventures International Business Strategy, Management & the New Realities by Cavusgil, Knight & Risenberger International Business: Strategy, Management, and the New Realities 1
Learning Objectives 1. An organizing framework foreign market entry strategies 2. Motives foreign direct investment (FDI) and collaborative ventures 3. Foreign direct investment 4. Types of foreign direct investment 5. International collaborative ventures 6. Managing collaborative ventures 7. The experience of retailers in foreign markets 8. Foreign direct investment, collaborative ventures, and ethical behavior International Business: Strategy, Management, and the New Realities 2
FDI and Collaborative Ventures Foreign direct investment (FDI) is an internationalization strategy in which the firm establishes a physical presence abroad through acquisition of productive assets such as capital, technology, labor, land, plant, and equipment. International collaborative venture refers to a cross-border business alliance in which partnering firms pool their resources and share costs and risks of the venture. Joint venture (JV): a form of collaboration between two or more firms to create a jointlyowned enterprise. International Business: Strategy, Management, and the New Realities 3
Recent Examples of FDI • Vodafone, a British firm, which acquired the Czech telecom Oskar Mobil; • e. Bay, a U. S. firm, acquired Luxembourg’s Skype Technologies, a prepackaged software company; • Japan Tobacco Inc. acquired the British cigarette maker Gallaher Group PLC for almost $15 billion; Dubai International Capital Group acquired the British theme park operator Tussauds Group for $1. 5 billion; Sing Tel, a Singapore firm, acquired 49 cross-border firms worth over $36 billion over eight years, including Cable and Wireless Optus Ltd. of Australia. International Business: Strategy, Management, and the New Realities 4
FDI: A Complex Foreign Market Entry Strategy • FDI is the most advanced and complex entry strategy, and involves establishing manufacturing plants, marketing subsidiaries, or other facilities abroad. • For the firm, FDI requires substantial resource commitment, local presence and operations in target countries, and global scale efficiency. • FDI also entails greater risk, as compared to other entry modes. International Business: Strategy, Management, and the New Realities 5
Patterns in FDI • Companies from both the advanced economies and emerging markets are active in FDI. • Destination or recipient countries for such investments include both advanced economies and emerging markets. • Companies employ multiple strategies to enter foreign markets as investors, including acquisitions and collaborative ventures. • Companies from all types of industries, including services, are active in FDI and collaborative ventures. • Direct investment by foreign companies occasionally raises patriotic sentiments among citizens. International Business: Strategy, Management, and the New Realities 6
FDI may Raise Patriotic Sentiments • The possibility of a Haier takeover of Maytag Corp. in 2005 stirred anti-Chinese sentiment in the U. S. over East Asian companies gobbling up U. S. businesses. • That same year, a bid by China oil company CNOOC Ltd. to buy California-based Unocal Corp. for $18. 5 billion raised concerns over national security. When the public objected to the possibility of a Chinese state enterprise gaining control in a critical sector such as energy, the U. S. Congress banned the deal. International Business: Strategy, Management, and the New Realities 7
Considerations Relevant to Choice of Foreign Market Entry Strategy • The degree of control it wants to maintain over the decisions, operations, and strategic assets involved in the venture; • The degree of risk it is willing to tolerate, and the timeframe in which it expects returns; • The organizational and financial resources (e. g. , capital, managers, technology) it will commit to the venture; • The availability and capabilities of partners in the market; • The value-adding activities it is willing to perform itself in the market, and what activities it will leave to partners; • The long-term strategic importance of the market. International Business: Strategy, Management, and the New Realities 8
An Organizing Framework Based on Degree of Control Available to the Focal Firm • Low-control strategies are exporting, countertrade and global sourcing. They provide the least control over foreign operations, since the focal firm delegates considerable responsibility to foreign distributors. • Moderate-control strategies are contractual relationships such as licensing and franchising and project-based collaborative ventures. • High-control strategies are equity joint ventures and FDI. The focal firm attains maximum control by establishing a physical presence in the foreign market. International Business: Strategy, Management, and the New Realities 9
International Business: Strategy, Management, and the New Realities 10
Trade-Offs in Foreign Market Entry Strategies • High-control strategies require substantial resource commitments by the focal firm. • Because the firm becomes ‘anchored’ or physically tied to the foreign market for the long term, it has less flexibility to reconfigure its operations there, as conditions in the country evolve over time. • Longer term involvement in the market also implies considerable risk due to uncertainty in the political and customer environments. International Business: Strategy, Management, and the New Realities 11
Motives for FDI and Collaborative Ventures • Firms pursue FDI and international collaborative ventures for complex and overlapping reasons. • The ultimate goal is to enhance firm competitiveness in the global marketplace. • Motives can be classified into three categories: § market-seeking motives, § resource or asset-seeking motives, and § efficiency-seeking motives. International Business: Strategy, Management, and the New Realities 12
International Business: Strategy, Management, and the New Realities 13
Market-Seeking Motives • Gain access to new markets or opportunities. The existence of a substantial market motivates many firms to produce offerings at or near customer locations. Boeing, Coca-Cola, IBM, Mc. Donald's, and Toyota all generate more sales abroad than they do at home. • Follow key customers. Firms often follow their key customers abroad to preempt other vendors from servicing them. E. g, Tradegar Industries, which supplies the plastic that its customer Procter & Gamble uses to manufacture disposable diapers. When P&G built a plant in China, Tradegar management established production there as well. • Compete with key rivals in their own markets. International Business: Strategy, Management, and the New Realities 14
Resource or Asset-Seeking Motives • Access raw materials needed in extractive and agricultural industries. E. g. , firms in the mining, oil, and crop-growing industries have little choice but to go where the raw materials are located. • Gain access to knowledge or other assets. E. g. , when Whirlpool entered Europe, it partnered with Philips to benefit from the latter firm’s well-known brand name and distribution network. • Access technological and managerial know-how available in a key market. The firm may benefit by establishing a presence in a key industrial cluster, such as the robotics industry in Japan, chemicals in Germany, fashion in Italy, and software in the U. S. International Business: Strategy, Management, and the New Realities 15
Efficiency Seeking Motives • Reduce sourcing and production costs by accessing inexpensive labor and other cheap inputs to the production process. This motive accounts for the massive development of manufacturing facilities in China, Mexico, Eastern Europe, and India. • Locate production near customers. In the fashion industry, Spain’s Zara and Sweden’s H&M locate much of their garment production in key markets such as Spain and Turkey. • Take advantage of government incentives. In addition to restricting imports, governments may offer subsidies and tax concessions to foreign firms to encourage them to invest locally. • Avoid trade barriers. By establishing a physical presence within a country, the investor obtains the same advantages as local firms. The desire to avoid trade barriers helps explain why Japanese automakers set up factories in the U. S. (1980 s). International Business: Strategy, Management, and the New Realities 16
Features of FDI • FDI is the entry strategy most associated with the MNE. Sony, Nestlé, Nokia, Motorola, and Toyota have extensive FDI-based operations around the world. • Service firms usually establish agency relationships and retail facilities. • FDI should not be confused with international or foreign portfolio investment. International portfolio investment refers to passive ownership of foreign securities such as stocks and bonds for the purpose of generating financial returns. • International portfolio investment is not direct investment which seeks control of a business abroad and represents a long-term commitment. International Business: Strategy, Management, and the New Realities 17
Key Features of FDI • FDI requires greater resource commitment by the firm. • FDI means the company must have local presence and operations. • FDI assumes the firm wants to achieve global scale efficiency. • FDI entails great risk and uncertainty. The firm sets up a permanent, physical presence in a foreign country, and exposes the firm to new risks. • FDI means the firm must have greater contact with the social and cultural factors of the host market. • MNEs need to behave in socially responsible ways in host countries. International Business: Strategy, Management, and the New Realities 18
Who Is Active in Direct Investment? • Direct investment is the typical foreign market entry strategy for large MNEs – firms with extensive experience in international business. • Exhibit 14. 3 shows the MNEs with the greatest amount of such foreign assets as subsidiaries and affiliates, worldwide. • E. g. , U. K-based Vodafone is a mobile phone supplier with numerous sales offices in most major cities around the world. International Business: Strategy, Management, and the New Realities 19
International Business: Strategy, Management, and the New Realities 20
Service Multinationals • Firms must offer services, such as lodging, construction, and personal care, when and where they are consumed. • Service firms establish either a permanent presence through FDI (e. g. , retailing), or a temporary relocation of personnel (e. g. , construction industry. • E. g. , management consulting is a service that is usually embodied in human experts who interact directly with clients to dispense advice. Firms such as Mc. Kinsey and Cap Gemini generally establish offices abroad. • Many support services, such as advertising, insurance, accounting, the law, and package delivery, are also best provided at the customer’s location. International Business: Strategy, Management, and the New Realities 21
International Business: Strategy, Management, and the New Realities 22
Leading Destinations for FDI • Advanced economies such as Australia, Belgium, Britain, Canada, Germany, Japan, Netherlands, and the United States long have been popular destinations for FDI because of their strong GDP per capita, GDP growth rate, density of knowledge workers, and superior business infrastructure. • In recent years, emerging markets and developing economies have gained appeal as FDI destinations. According to A. T. Kearney’s FDI Confidence Index, the top destination foreign investment today is China. India is now in third place, having risen rapidly in Kearney’s annual rankings International Business: Strategy, Management, and the New Realities 23
Factors Relevant to Selecting FDI Locations • • Market attractiveness Human resource factors Infrastructure Profit retention factors (e. g. , taxes) Economic environment Legal and regulatory environment Political and governmental structure International Business: Strategy, Management, and the New Realities 24
International Business: Strategy, Management, and the New Realities 25
Types of FDI • Greenfield investment vs. mergers and acquisitions • The nature of ownership: Wholly owned direct investment vs. equity joint venture • Level of integration: Vertical vs. horizontal FDI International Business: Strategy, Management, and the New Realities 26
Greenfield Investment vs. M&As • Greenfield investment occurs when a firm invests to build a new manufacturing, marketing or administrative facility, as opposed to acquiring existing facilities. • An acquisition refers to a direct investment or purchase of an existing company or a facility. • A merger is a special type of acquisition in which two firms join to form a new, larger firm. International Business: Strategy, Management, and the New Realities 27
International Business: Strategy, Management, and the New Realities 28
Nature of Ownership • Equity participation: Acquisition of partial ownership in an existing firm. • Wholly owned direct investment: A foreign direct investment in which the investor fully owns the foreign assets • Equity joint ventures : A type of partnership in which a separate firm is created through the investment or pooling of assets by two or more parent firms that gain joint ownership of the new legal entity. • Joint ventures may be the only way that a company can expand into a country. E. g. , until recently, the Chinese government prohibited foreign firms from having more than 49% equity investment in local businesses. International Business: Strategy, Management, and the New Realities 29
Level of Integration • Vertical integration: The firm owns, or seeks to own, multiple stages of a value chain for producing, selling, and delivering a product. • In forward vertical integration, the firm develops the capacity to sell its outputs by investing in downstream value-chain facilities, that is, marketing and selling operations. • Forward vertical integration is less common than backward vertical integration, in which the firm acquires the capacity abroad to provide inputs for its foreign or domestic production processes by investing in upstream facilities, typically factories, assembly plants or refining operations. International Business: Strategy, Management, and the New Realities 30
International Collaborative Ventures • A collaborative venture is essentially a partnership between two or more firms and includes equity joint ventures as well as nonequity, project-based ventures. • International collaborative ventures are sometimes referred to as international partnerships and international strategic alliances. • Collaboration helps firms overcome the often substantial risk and high costs of international business. It makes possible the achievement of projects that exceed the capabilities of the individual firm. International Business: Strategy, Management, and the New Realities 31
Equity Joint Ventures • JVs ventures are normally formed when no one party possesses all of the assets needed to exploit an available opportunity. • Typically, the foreign partner contributes capital, technology, management expertise, training, or some type of product. • The local partner contributes the use of its factory or other real estate; knowledge of the local language and culture; market navigation know-how; useful connections to the host country government; or lower-cost production factors such as labor. • The partnership allows the foreign firm to access key market knowledge, gain immediate access to a distribution system and customers, and greater control over local operations. International Business: Strategy, Management, and the New Realities 32
Project-Based, Non-Equity Ventures • Project-based, non-equity venture is a collaboration in which the partners create a project with a relatively narrow scope and a well-defined timetable, without creating a new legal entity. • Combining personnel, resources, and capabilities, the partners collaborate until the venture bears fruit, or until they no longer consider it valuable to collaborate. • Typically, partners collaborate on joint development of new technologies, products, or share other expertise with each other. Such cooperation may help them catch up with rivals in technology development. International Business: Strategy, Management, and the New Realities 33
How Project-Based Collaborations are Different From Equity Joint Ventures • No new legal entity is created; partners carry on their activity within the guidelines of a contract. • Parent companies do not necessarily seek ownership of an ongoing enterprise; they simply contribute their knowledge, expertise, personnel, and monetary resources in order to derive knowledge or access-related benefits. • Collaboration does not last indefinitely; it tends to have a well-defined timetable and an end date; partners go their separate ways once the objectives have been accomplished or the partners find no reason for continuation. • The nature of collaboration is narrower in scope, typically revolving around one or more R&D project, new products, marketing, distribution, sourcing, or manufacturing. International Business: Strategy, Management, and the New Realities 34
International Business: Strategy, Management, and the New Realities 35
Other Examples of Collaborative Ventures • A consortium is a project-based, usually nonequity venture with multiple partners fulfilling a large-scale project. It is typically formed with a contract, which delineates the rights and obligations of each member. • A cross-licensing agreement is a type of a project-based, non-equity venture where partners agree to access licensed technology developed by the other, on preferential terms. The agreement assumes each partner has or expects to have something to license. International Business: Strategy, Management, and the New Realities 36
Management of Collaborative Ventures: Understand Potential Risks in Collaboration • As a firm, are we likely to grow very dependent on our partner? • By partnering, will we stifle growth and innovation in our own organization? • Will we share our competencies excessively, to the point where corporate interests are threatened? How can we safeguard our core competencies? • Will we be exposed to significant commercial, political, cultural, or currency risks? • Will we close certain growth opportunities by participating in this venture? • Will managing the venture place an excessive burden on corporate resources, such as managerial, financial, or technological resources? International Business: Strategy, Management, and the New Realities 37
Pursue a Systematic Process for Partnering • The initial decision in internationalization is the choice of the most appropriate target market. • The chosen market determines the characteristics needed in a business partner. If the firm is planning to enter an emerging market, for example, it may want a partner with political clout or "connections. " • Exhibit 14. 8 reveals that managers need to draw on their cross-cultural competence, legal expertise, and financial planning skills in this process. International Business: Strategy, Management, and the New Realities 38
International Business: Strategy, Management, and the New Realities 39
“Compete and Collaborate” • Collaborative ventures require much due diligence, strong negotiation skills, high levels of commitment by management, competence in managing cultural differences, clear objectives, and a high level of trust among partners. • Foreign partners are certain to have their own agenda and purpose for pursuing the venture. The focal firm must be sure to maintain and negotiate its agenda as well. Intel has worked to protect its proprietary technology by not revealing too much of it to Chinese partners. • Some U. S. SMEs have regretted forming joint ventures with Chinese partners: Too much trust and not enough due diligence have often resulted in a critical loss of intellectual property. International Business: Strategy, Management, and the New Realities 40
Success Factors in Collaborative Ventures Half of all global collaborative ventures fail within the first 5 years of operations due to unresolved disagreements, confusion, and frustration: Therefore, partners should: • Be aware of cultural differences. • Pursue common values and culture. • Pay attention to planning and management of the venture. • Protect core competencies. • Adjust to new environmental circumstances. International Business: Strategy, Management, and the New Realities 41
Retailers: A Special Case of Internationalization Retailers internationalize substantially through FDI and collaborative ventures. Retailing takes various forms: • Department stores (e. g. , Marks & Spencer, Bay, Macy's); • Specialty retailers (Body Shop, Gap, Disney Store); • Supermarkets (Sainsbury, Safeway, Sparr); • Convenience stores (Circle K, 7 -Eleven, Tom Thumb); discount stores (Zellers, Tati, Target); • ‘Big box stores” (Home Depot, IKEA, Toys "R" Us). • Wal-Mart now has roughly 100 stores and 50, 000 employees in China. It sources almost all its merchandise locally, providing jobs for thousands of Chinese. International Business: Strategy, Management, and the New Realities 42
The Experience of Retailers • Internationalization of retailers has been driven by saturation of home country markets, deregulation of other markets, and opportunities of lower costs abroad. Many foreign markets have pent-up demand, fast growth, and a growing and sophisticated middle-class. • Many international retailing ventures have failed, however. The French department store Galleries Lafayette and Britain's Marks & Spencer failed in the United States and Canada. IKEA failed in Japan, and Wal-Mart left Germany defeated because of local competitors and cultural disconnects. International Business: Strategy, Management, and the New Realities 43
Wal-Mart’s Mixed Experience • Wal-Mart is the world’s largest retailer but suffered dismal results in Germany because it could not compete with local competitors and eventually exited the market. • In Mexico, Wal-Mart constructed massive U. S. -style parking lots for its new super centers. But most Mexicans don’t have cars, and city bus stops were beyond the huge lots, so shoppers could not haul their goods home. • In Brazil, most families do their big shopping once a month, on payday. Wal-Mart built aisles too narrow and crowded to accommodate the rush. It stocked shelves with unneeded leaf blowers in urban Sao Paulo. • In Argentina, Wal-Mart’s red-white-and-blue banners, reminiscent of the U. S. flag, offended local tastes. Sam’s Club flopped in Latin America partly because its huge multipack items were too big for local shoppers with low incomes and small apartments. International Business: Strategy, Management, and the New Realities 44
Barriers to Retailer Success Abroad 1. Cultural and language barriers: Retailers must respond to local market requirements, e. g. , by customizing the product and service portfolio, adapting store hours, modifying store size and layout, and meeting labor union demands. 2. Consumers tend to develop strong loyalty to indigenous retailers. As Galleries Lafayette in New York and Wal-Mart in Germany discovered, the foreign firm competes against local competitors that usually enjoy much loyalty from local consumers. International Business: Strategy, Management, and the New Realities 45
Barriers to Retailer Success Abroad (cont. ) 3. Managers must address legal and regulatory barriers. Countries have idiosyncratic laws that affect retailing. E. g. , Germany limits store opening hours, and retailers must close on Sundays. Japan’s Large-Scale Store Law meant that foreign warehouse and discount retailers needed permission from existing small retailers to enter. 4. When entering a new market, retailers must develop local sources of supply. Local suppliers may be unwilling or unable to supply. E. g. , when Toys "R" Us entered Japan, local toy manufacturers were reluctant to work with the U. S. firm. Some retailers end up importing many of their offerings, which requires establishing complex and costly international supply chains. International Business: Strategy, Management, and the New Realities 46
FDI or Franchising: A Choice for Retailers • The larger, more experienced firms, such as Carrefour, Royal Ahold, IKEA, and Wal-Mart, tend to internationalize via FDI; i. e. , they tend to own their stores. • Smaller, less experienced international firms such as Borders bookstores tend to rely on networks of independent franchisees. In franchising, the retailer adopts a business system from, and pays an ongoing fee to, a franchisor. • Other firms may employ a dual strategy; using FDI in some markets and franchising in others. Franchising provides a fast way to internationalize. Relative to FDI, it affords the firm less control over its foreign operations, which can be risky in countries with weak IP laws. • Starbucks, Carrefour, IKEA, Royal Ahold, and Wal-Mart usually internationalize through company-owned stores. FDI allows these firms to maintain direct control over their foreign operations and proprietary assets. International Business: Strategy, Management, and the New Realities 47
Success Factors for Retailers • Advanced research and planning is essential. In the run-up to launching stores in China, management at the giant French retailer Carrefour spent 12 years building up its business in Taiwan, developing a deep understanding of Chinese culture. • Establish efficient logistics and purchasing networks in each market. Scale economies in procurement are especially critical. Retailers need to organize sourcing and logistical operations to ensure that adequate inventory is always maintained. • Assume an entrepreneurial, creative approach to foreign markets. Virgin megastore expanded Virgin to numerous markets throughout Europe, North America, and Asia. Its stores are big, well lit, and music albums are arranged in a logical order. • Adjust business model to suit local conditions. Home Depot offers merchandise in Mexico that suits the small budgets of do-it -yourself builders. It has introduced payment plans for customers and promotes the do-it-yourself mindset in a country where most cannot afford to hire professional builders. International Business: Strategy, Management, and the New Realities 48
IKEA: An Exceptional Success Story • IKEA, the world’s largest furniture retailer, has experienced great international success, launching over 200 furniture mega-stores in dozens of countries. • IKEA’s success derives from strong leadership and skillful management of human resources. Management balances global integration of operations with responsiveness to local tastes. • In each store, IKEA offers as many standardized products as possible while maintaining sufficient flexibility to accommodate specific local conditions. • This is achieved in part by testing the waters and learning in smaller markets before entering big markets. For instance, IKEA perfected its retailing model in German-speaking Switzerland before entering Germany. International Business: Strategy, Management, and the New Realities 49
Corporate Social Responsibility (CSR) • CSR refers to operating a business in a manner that meets or exceeds the ethical, legal, commercial, and public expectations of stakeholders (customers, shareholders, employees, and communities). • It represents a set of core values that includes avoiding human rights abuses; upholding the right to join or form labor unions; elimination of compulsory and child labor; avoiding workplace discrimination; protecting the natural environment; and guarding against corruption, including extortion and bribery. • Exhibit 14. 9 illustrates the diversity of CSR initiatives that firms worldwide undertake. International Business: Strategy, Management, and the New Realities 50
International Business: Strategy, Management, and the New Realities 51
Petrobras: An Example of Corporate Citizenship CSR • Petrobras, the Brazilian oil company, operations span 21 countries, many of which have unstable political or social environments. • In Brazil, Petrobras has developed extensive CSRoriented programs related to poverty reduction, youth education, child labor and abuse, and fundamental rights for people with physical and mental impairments. • In Africa and elsewhere, Petrobras has developed CSR initiatives in areas such as reconstruction projects for schools, day-care centers, hospitals, and in rural communities. • In Colombia, the firm developed a program to train community health agents. In Nigeria, Petrobras cooperates with a local non-governmental organization to provide HIV/AIDS prevention education in schools. International Business: Strategy, Management, and the New Realities 52
Relativism vs. Normativism in CSR • Some believe that it is sufficient to simply follow the laws and regulations in place in each country. However, many countries are characterized by weak legal and regulatory systems, and widespread corruption. • Relativism refers to the belief that ethical truths are relative to the groups that hold them. Relativism is akin to the advice: “When in Rome, do as the Romans do. ” Accordingly, a Japanese MNE that believes bribery is wrong might pay bribes in countries where the practice is customary and culturally acceptable. It is natural for the firm to follow the values and behaviors prevailing in the countries where it does business. • Normativism is a belief in universal behavioral standards that firms and individuals should uphold. According to this view, the Japanese multinational that believes bribery is wrong will enforce this standard everywhere in the world. • The U. N. and other CSR proponents increasingly encourage companies to follow a normative approach. International Business: Strategy, Management, and the New Realities 53
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