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The Five Most Common Ways to Expand Internationally
How should you get into a new market? Should a company first set up an export base or license its products to get a feel for a new country or region it wants to do business? Or does the chance of being the first one to do something make it worth taking a riskier step, like joining an alliance, making an acquisition, or even starting a new subsidiary? Many companies switch from an exporting strategy to a licensing strategy to a higher investment strategy. They use these changes as a way to learn. Each has its own benefits and drawbacks. In this section, we’ll talk about the traditional ways to get into international business. In addition to importing, companies can grow internationally through licensing agreements, partnerships and strategic alliances, acquisitions, and the creation of new, wholly owned subsidiaries, also called “greenfield ventures.” Table 7.1, “International-Expansion Entry Modes,” shows these ways to get into international markets and what they are like. 1 Each way to get into a market has its pros and cons. Firms need to think about their options to choose the mode of entry that fits their goals and strategy the best.
Advantages of the Type of Entry Disadvantages
Exporting
Easy to join, low risk
Transportation has little control, and little local knowledge, and could hurt the environment.
Getting a license or a franchise
Fast, cheap, and low risk.
With less control, the licensee could become a competitor, legal and regulatory environment (IP and contract law) must be sound.
Strategic partnerships and partnerships
Costs split less investment is needed, there’s less risk, and it’s seen as a local business. Costs are higher than with exporting, licensing, or franchising and two corporate cultures can be hard to blend.
Acquisition
Easy to get into; well-known operations
High cost, and problems with how it works with a home office
Greenfield Venture (Launch of a new, wholly owned subsidiary)
Learn about the local market, look like an insider by hiring locals, and have the most control.
High cost, high risk because of unknowns, and slow entry because of time to set up
Exporting
Exporting is the direct marketing and sale of goods made in one country in another. Exporting is an old and well-known way to reach markets in other countries. Since it doesn’t require that the goods be made in the country of destination, there is no need to invest in production facilities there. Most of the expenses that come with exporting are marketing costs.
Exporting has a low risk, but it costs a lot and gives you little control. Exporters usually don’t have much say over how their products are marketed and sold. They also have to deal with high shipping costs and possible tariffs and pay distributors for a variety of services. Also, exporting doesn’t help a company learn how to be competitive in other countries, and it makes it hard to tailor products and services to local tastes and preferences.
Exporting is usually the easiest way to get into a new international market, so this is how most companies start their international growth. When someone exports, they sell goods and services from their home country in other countries. The benefit of this way of getting into a new country is that firms don’t have to pay for setting up operations there. Firms must, however, have a way to sell and distribute their products in the new country. This is usually done by making a contract with a local company or distributor. When a company exports, it needs to think about how to label, package, and price the product for the market. In terms of marketing and promotion, the company will need to get the word out about what it has to offer, whether that’s through ads, trade shows, or a local sales force.
Companies mostly export to countries that are close to their facilities. This is because transportation costs are lower and there are often more similarities between countries that are close to each other. For example, 40% of the goods that Texas sends to other countries go to Mexico. 5 The Internet has also made it easier to sell goods abroad. Even small businesses can get important information about foreign markets, look at a target market, find out about the competition, and make lists of possible customers. Even getting licenses to export and import is getting easier as more governments use the Internet to help with these tasks.
Exporting is the most common way for entrepreneurs and small businesses to get their products into markets around the world. This is because exporting costs less than the other ways of getting into a market. Currency exchange rates are still a problem for businesses, even when they export. Larger companies usually have experts who handle the exchange rates, but small businesses rarely have this kind of knowledge. The creation of the European Union (EU) and the first move to a single currency, the euro, have made it easier for businesses to deal with fewer currencies. As of 2011, 17 of the 27 EU countries use the euro. This gives businesses access to 331 million people who use the same currency. 6
Getting a license or a franchise
If a company wants to get into an international market quickly while taking few financial and legal risks, it could look into licensing agreements with companies from other countries. In exchange for royalties, an international licensing agreement lets a foreign company (the licensee) sell the products of a producer (the licensor) or use the licensor’s intellectual property (like patents, trademarks, and copyrights). How it works is as follows: You own a business in the U.S. that sells popcorn that tastes like coffee. You’re sure that your product would be a big hit in Japan, but you don’t have the money to open a factory or sales office there. You can’t make the popcorn here and send it to Japan because it would go bad. So you sign a licensing deal with a Japanese company that lets your licensee use your special process to make coffee-flavored popcorn and sell it in Japan under your brand name. In return, the Japanese company that bought the license would pay you a royalty fee.
With a license, a company in the target country is given permission to use the property of the Licensor. Most of the time, this kind of property is not something you can touch, like trademarks, patents, and production techniques. The licensee pays a fee for the right to use the intangible property and possibly for technical help as well.
Since the licenser doesn’t have to put much money into it, licensing has the potential to give a very high return on investment. But because the licensee makes and sells the product, possible profits from making and selling the product may be lost. So, licensing saves money and poses little risk. But that doesn’t make up for the big problems that come with running a business from far away. Most of the time, licensing strategies limit control and don’t bring in much money.
Selling franchises is another popular way to grow your business abroad. In an international franchise agreement, a company (the franchiser) lets another company (the franchisee) use its brand name and sell its products or services. The franchisee is in charge of everything but agrees to run the business according to a plan set up by the franchiser. In return, the franchiser usually helps with marketing, training, and coming up with new products. Franchising is a natural way for companies that run domestically on a franchise model, like McDonald’s and Kentucky Fried Chicken, and hotel chains, like Holiday Inn and Best Western, to grow internationally.
Hired-Out Work and Contract Manufacturing
Because the cost of labor in the United States is high, many U.S. companies make their products in other countries where the cost of labor is lower. This is known as outsourcing or international contract manufacturing. A U.S. company might hire a company in another country to make one of its products under a contract. It will, however, continue to design and develop its own products and put its own label on them when they are done. Contract manufacturing is pretty common in the U.S. clothing business. Most American brands are made in China, Vietnam, Indonesia, and India, among other Asian countries. [4]
Thanks to information technology in the twenty-first century, non-manufacturing tasks can also be sent to countries with cheaper labor. For business services like software development, accounting, and claims processing, more and more U.S. companies are using a large pool of relatively cheap skilled workers. American insurance companies have sent a lot of their paperwork about claims to Ireland for years. India has become a center for software development and customer call centers for American companies because it has a large, well-educated, and English-speaking population. As you can see from Table 7.1, “Selected Hourly Wages, United States, and India,” India is attractive not only because it has a large pool of knowledge workers, but also because its hourly wages are much lower.
Table 7.1: Some hourly wages for the U.S. and India
- U.S. Wage per Hour by Job (per year)
- Indian Hourly wage (per year)
Middle-level manager
$29.40 an hour, or $60,000 a year.
$13,000 per year at $6.30 per hour.
Expert in information technology
$72,000 a year, or $35.10 an hour.
$15,000 per year at $7.50 per hour.
Hands-on worker
$27,000 per year, or $13.00 per hour.
$2.20 an hour is $5,000 a year.
Source: “Huge Wage Gaps for the Same Work Between Countries – June 2011,” WageIndicator.com, http://www.wageindicator.org/main/WageIndicatorgazette/wageindicator-news/huge-wage-gaps-for-the-same-work-between-countries-June-2011 (Links to an external site.)
Links to a site outside of Google.
(viewed on September 20, 2011)
Strategic partnerships and partnerships
A strategic alliance with a local partner is another way to get into a new market. A strategic alliance is a contract between two or more businesses that say they will work together in a certain way and for a certain amount of time to reach a common goal. To figure out if the alliance approach is right for the company, the company needs to think about what value the partner could bring to the project, both in terms of tangible and intangible things. When you work with a local company, it’s likely that they know more about the local culture, market, and ways of doing business than a company from outside the area. Partners are especially helpful if they have a well-known brand name in the country or if they already have relationships with customers that the company might want to reach. For example, Cisco and Fujitsu worked together to make routers for Japan. In the alliance, Cisco decided to co-brand with the Fujitsu name so that it could use Fujitsu’s reputation in Japan for IT equipment and solutions while still keeping the Cisco name to take advantage of Cisco’s global reputation for switches and routers. 7 In a similar way, Xerox signed strategic alliances to increase sales in countries like India, Brazil, and Central and Eastern Europe. 8
In recent years, strategic alliances and joint ventures have become more and more common. They let companies share the costs and risks of entering international markets. Even though the returns may have to be split, they give a company a lot of freedom that it wouldn’t have if it went it alone with direct investment.
As a company grows globally, there are many reasons why it might want to form a partnership. These include (a) making it easier to get into a market, (b) sharing risks and rewards, (c) sharing technology, (d) developing products together, and (e) following government rules. There are also other benefits, such as political connections and access to distribution channels, which may depend on who you know.
Alliances like this are often good when (a) the partners’ strategic goals are similar but their competitive goals are different; (b) the partners’ size, market power, and resources are small compared to the leaders in the industry; and (c) the partners can learn from each other while keeping their own unique skills secret.
What if a company wants to do business in another country but doesn’t have the skills or resources to do so? Or, what if the government of the target country doesn’t let foreign companies do business there unless they have a local partner? In these situations, a company might make a strategic partnership with a local business or even with the government. A strategic alliance is an agreement between two companies (or between a company and a country) to work together to reach business goals that are good for both. For example, Viacom, one of the biggest media companies in the world, works with Beijing Television to make music and entertainment shows in Chinese. [5]
A partnership can help in a number of ways:
- Enhancing marketing efforts
- Increasing sales and share of the market
- Making things better
- Bringing down the costs of production and distribution
- Using the same tools
Alliances can be as small as an informal agreement to work together or as big as a joint venture, in which the partners pay a separate entity (like a partnership or a corporation) to run their business together. Hearst, which publishes magazines, is one example of a company that works with companies in more than one country. So, young women in Israel can read Cosmo Israel, which is written in Hebrew, and women in Russia can pick up a version of Cosmo that is written in Russian. The U.S. edition is used as a starting point, and content that is relevant to each country is added to it. Hearst can sell the magazine in more than fifty countries because of this method. [6]
Strategic alliances can also help small businesses that are too small to make the investments they need to enter a new market on their own. Also, if a foreign-owned company wants to do business in some countries, it has to team up with a local company. For example, Saudi Arabia has a law that says non-Saudi companies that want to do business there must have a Saudi partner. In many Middle Eastern countries, this is a common rule. Even if there weren’t this kind of rule, a foreign company often needs a local partner to help them work around the differences that would otherwise make it impossible to do business in the area. Walmart, for example, tried several times over almost a decade to grow its business in Mexico but failed each time until it found a strong local partner with the same business values.
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