McGraw-Hill/IrwinInternational Management
© 2005 The McGraw-Hill Companies, Inc., All Rights Reserved.
International ManagementPhatak, Bhagat, and Kashlak
McGraw-Hill/IrwinInternational Management
© 2005 The McGraw-Hill Companies, Inc., All Rights Reserved.
Chapter 7
Modes of Entry into Foreign Markets
7-3
Learning Objectives
Understand the different modes of entry into foreign markets.
The advantages, disadvantages, and risks in various entry modes.
Explain why controlling of foreign operations is important for an international company.
Explain the equity based and non-equity based control mechanisms.
Understand the non-equity entry modes such as licensing, franchising, and management service contracts, and their differences.
Explain the factors that influence the choice of entry modes.
7-4
Chapter Topics
Environmental Influences on the Foreign Entry Decision ModeExportingCountertradeContract ManufacturingLicensingFranchisingManagement Service ContractsTurnkey ProjectsEquity-Based Ventures Through Foreign Direct InvestmentTheory of Multinational Investment
7-5
Modes of Entry into Foreign Markets
Exporting
Countertrade
Contract Manufacturing
Licensing
Franchising
Management Service Contracts
Turnkey Projects
Non-Equity Strategic Alliances
Equity-based Joint Ventures
Wholly-Owned Subsidiaries
7-6
Fig 7-1: Foreign Mode of Entry Choices
Decision to Internationalize
Wholly-OwnedInternational Choices
CooperativeInternational Choices
AcquisitionEquity Joint
Ventures
Non-Equity Strategic Alliances/Licensing Contracts
Greenfield Investment
7-7
Countertrade
Arrangements whereby the flow of goods or services in both directions is an integral element of the specific terms of the business transaction
7-8
Contract Manufacturing and Licensing
Contract ManufacturingA contractual agreement between a company and a foreign producer under which the foreign producer manufactures the company’s product
LicensingThe international company, or licensor, agrees to make available to another company abroad, the licensee, use of its patents and trademarks, its manufacturing processes and know-how, its trade secrets, and its managerial and technical services. In exchange, the foreign company agrees to pay the licensor a royalty or other form of payment according to a schedule agreed upon by the two parties
7-9
Fig 7-2:Licensing as a Foreign Entry Choice
LicensingIn
ForeignCountries
Cost Advantage Risk Deflection
Revenue Source Knowledge Source
Profit-driven
Rationale
Strategic Rationale
7-10
What the Licensor Delivers to the Licensee in Complex Licensing Agreements
A patented product or service
A trademark or trade name
Manufacturing techniques
Proprietary rights generally referred to as company or industry know-how
Supply by the licensor to the licensee of components or equipment
Technical advice and services of various sorts
Marketing advice and assistance of various sorts
Capital and/or managerial personnel
7-11
Fig 7-3: Concerns of Foreign Licensing
Control
TechnologyProductionQuality
LicensingIn
ForeignCountries
Licensee-Related
Competitive PositioningPartner
SelectionPartner “Cheating”
Strategic FitLong-Term
CoordinationLong-Term Configuration
7-12
Table 7-1 Foreign Licensing: Factors for Success and Failure
Factors Leading to Success
1. Choice of reliable and competent partner 2. Inherent value of patent, trademark or know-how licensed 3. Goal congruence with partner 4. Some participation in ownership 5. Close personal contact with licensee 6. Appropriate level of control by licensor 7. Reputation of licensor and licensed asset 8. Sales assistance to licensee 9. Support of licensor’s top management10. Flexibility by both partners11. Correct timing and pacing of activity12. Detailed spelling out of contract obligations and responsibilities13. Effective coordination with other parts of licensor’s overseas activities14. Thorough research and market knowledge
Factors Leading to Failure
1. Inadequate market analysis by licensor 2. Higher start-up costs than anticipated by licensee 3. Insufficient attention paid to activity by top management of licensor 4. Poor timing 5. Lack of goal congruence with partner 6. Unanticipated competition from home, host and third country competitors 7. Inadequate licensee after sales effort 8. Partner rigidity 9. Insufficient marketing effort by both licensor and licensee10. Weak licensee market research11. Lack of fit with other licensor activities12. Lack of sales assistance to licensee
7-13
Questions to be Asked in a Licensing Contract
How many patents, processes, or trademarks will be used?How will technical assistance be rendered?Which products are included in the agreement, and to what extent?What territory is to be covered by the license?How should the licensee be compensated?The currency in which payments will be made to the licensorWhat happens if compensation cannot be paid by the licensee?If sublicensing is permitted, how should it be carried out?Geographical limitations on the marketing of the licensed product or serviceWhat are the provisions as to duration of the agreement and its cancellation?What rights does the licensor have in developments by the licensee?
7-14
Questions to be Asked … (contd.)
What visitation and inspection privileges are held by the licensor?
Can the parent company inspect accounts?
What provisions are there for satisfactory promotional/sales performance and adequate quality control?
What home and host government approvals are required?
What tax factors are involved?
How will disputes be settled?
7-15
Areas Covered in a Franchise Agreement
1. A detailed list of issues to consider regarding the cost of the franchise
2. A detailed list of issues to consider regarding the location of the franchise
3. A detailed list of issues pertaining to the buildings, equipment and supply terms
4. A detailed list of issues pertaining to the operating practices terms
7-16
Table 7-2: Type and Degree of Parent Company Control over Foreign Operations
Mode of Entry Strong Control Weak Control Non-Existent Control
Contract Manufacturing
A B,C,D
Licensing D C A,B
Franchising D C A,B
Management Service Contract
D A,C B
Joint Venture D A,B,C
Wholly-owned Subsidiary
A,B,C,D
A = Daily Management ControlB = Control over Physical assets
C = Control over Tacit Expertise and KnowledgeD = Control over Codified assets
7-17
Table 7-3: Characteristics of Entry Modes
Type of Entry Mode
Degree of Control
Systemic Risk Dissemination Risk
Resource Commitment
Export Low Low Low Low
Countertrade Low Low Low Low
Contract Manufacturing
Medium Medium Low to Medium
Low
Licensing Low Low High Low
Franchising Low to Medium
Low Medium Low
7-18
Table 7-3 (contd.)
Type of Entry Mode
Degree of Control
Systemic Risk Dissemination Risk
Resource Commitment
Management Service Contract
Medium Low Medium Low
Turnkey Low Low Low Low
Equity-based Entry: Joint Venture
Medium-High Medium-High Medium-High Medium-High
Equity-based Entry: Wholly-owned Subsidiary
High High Low High
7-19
Determinants of Foreign Mode of Entry
Firm Size
Multinational Experience
Industry Growth
Global Industry Concentration
Technical Intensity
Advertising Intensity
Country Risk
Cultural Distance
Market Potential
7-20
Determinants … (contd.)
Market Knowledge
Value of Firm Specific Assets
Contractual Risk
Tacit Nature of Know-How
Venture Size
Intent to Conduct Joint R&D
Global Strategic Motivation
Global Synergies
7-21
Table 7-4: A Representation of the O-L-I Theory of FDI
Ownership Location Advantage
Internalization
Export X X
Contractual/Licensing, etc.
X X
Wholly Owned X X X
7-22
Key Terms and Concepts
Licensing
Franchising
Management service contracts
Systemic risk
Dissemination risk
Ownership advantage
Locational advantage
Internalization