Entering new markets opens the possibility of increasing revenue and/or decreasing the costs of goods sold, thereby increasing profits. It may also allow a company to follow its existing customers abroad, attack competitors in their home markets, guarantee a continued supply of raw materials, acquire technology or ingenuity, diversify geographically or satisfy stockholders' desire to expand.
Choosing the mode of entry
For many companies, going global may be a matter of survival: there may simply not be enough domestic demand to keep them in business.
Selecting a mode of entry into a foreign market is among the most crucial strategic decisions a company can make. Weighing all factors and choosing the proper method can result in huge competitive advantages or it can cripple the organisation.
Here is an overview of possible modes of entry, each with its own pros and cons.
1. Acquisition of existing company
A merger may mean short-term cash, but not necessarily future stability. Half of merged entities never achieve their projected financial and market goals. Acquiring a company also means acquiring existing business, synergy and staff problems. And, bottom line, should the acquisition be financed by cash or stock?
Pros
- Established market
- Skilled workers available
- Licences are "grandfathered" in
- Technology, clients and vendors instantly acquired
- Negotiations usually occur at top level, target handles licensing and compliance
- Instant branding
- Reduction of competition
- Increased knowledge base.
Cons
- Hidden surprises?
- Which employees are politically connected, and with whom?
- "Favours" and concessions are assumed
- Technology often outmoded, vendors usually chosen for reasons other than merit
- Branding often not part of HQ's ideals
- Acquisition often expensive and time-consuming
- Blending of corporate cultures
- Necessity to train local management (and HQ's management)
- Potential tax and legal problems.
2. Greenfield investment
A greenfield investment starts with bare ground and builds up from there. Coca-Cola, McDonald's and Starbucks are great examples of US firms that have invested in greenfield projects around the world.
Pros
- Economies of scale and scope in production, marketing, finance, research and development, transportation and purchasing
- Greater control in all aspects
- Best long-term strategy
- Commitment to market
- Vendor financing often available
- Work with authorities from the beginning
- Control over your brand
- Control over staff
- Press opportunities.
Cons
- Higher expense
- Competition in these markets difficult to overcome
- Entry into markets may take years to happen
- Costly barriers to entry
- Governmental regulations may put multinational enterprises at a disadvantage in the short term.
3a. Licensing
Licensing is a contractual arrangement whereby a company transfers (via a licence) the right to distribute or manufacture a product or service to a foreign country, or the right to use any type of expertise that may include patents, trademarks, company name, technology and technological know-how, design and/or business methods. The licensee pays a fee and/or percentage of sales in exchange for the rights.
This approach works best where there are barriers to import and investment, where legal protection is possible in the target environment, and where there is a low sales potential in the target country.
Pros
- Quick, easy entry into foreign markets; allows a company to "jump" border and tariff barriers
- Lower capital requirements
- Potential for large ROI, returns realised fairly quickly
- Low risk, since you enter with established product and have fewer financial and legal risks.
Cons
- Control by licensor is low
- Licensee may become a competitor
- Intellectual property may be lost
- Licence period usually limited
- Poor quality management can damage brand reputation in other licence territories.
3b. Technology licensing
A licensor's patents, trademarks, service marks, copyrights, trade secrets or other intellectual property may be sold or made available to a licensee for compensation negotiated between parties in advance.
Pros
- Provides "reverse flow" of technology in which original licensor shares in technical improvements developed by the licensee
- Licensee uses intangible property and receives technical assistance.
Cons
- Can yield loss of control over technology
- Loss of intellectual property
- Weakened control over technology because it's been transferred to unaffiliated firm.
3c. Franchising
This type of licensing agreement offers an efficient model for distributing goods and services. The franchisee gains control over operations in exchange for some type of payment and the promise to abide by the terms of the contract.
Pros
- Market entry with less financial, legal and political risk
- Economies of scale through ordering with owner and other franchisees
- Partners can see the business up close, first hand.
Cons
- Licensor has little direct control.
- Licensee has lower profits than if it owned business or exported its own goods.
4a. Direct exporting
One option is sale of the product or service by the home-country firm directly to a foreign firm. Costs and prices are lowest if production occurs in only a few locations around the world and efficiently produced goods are exported to most markets. This approach works best where there is limited sales potential in the target market; little product application is required; and distribution channels are close to plants.
Pros
- No investment required in foreign production facilities
- Minimised risk and investment, along with speedy entry
- Maximum economies of scale prevent competitors from gaining "first-mover" advantage in new markets
- Sell excess production capacity
- Gain information about foreign competition
- Stabilise seasonal market fluctuations
- Reduce dependence on existing markets.
Cons
- More expensive due to tariffs, marketing expenses, transport costs
- Difficulty coordinating cooperation of exporter, importer, transport provider and government
- Limited access to local information; company viewed as "outsider"
- Need to develop customer base and logistics of moving goods overseas
- Difficulty overcoming trade barriers
- Loss of control over pricing and marketing
- Task of finding customers.
4b. Indirect exporting
Another option is selling goods and services through various types of intermediary. Foreign agents can be hired for their knowledge of business practices, language, laws and culture in overseas markets. Some points worth noting:
- Commissioned agents, who are the agents exporters most often use, are paid a percentage only when the sale is made.
- Retainer agents are paid a fixed amount to do certain work for a specific period of time.
- Retainer/commissioned agents work on a retainer, but also receive a percentage from each sale. The retainer provides them with funds to help run their business, while the commission provides additional incentive to work harder on the firm's behalf.
Pros
Agents can:
- identify customers and markets
- uncover new opportunities/markets for your product
- translate and act as interpreter in business dealings
- validate translation of your publicity materials
- assist with local travel and/or living arrangements
- provide guidance with local government regulations.
Cons
Agents:
- often work for numerous businesses, and truly work for the buyer, not the seller
- prioritise clients based on product, incentives and/or base pay
- are not guaranteed to make inroads in market share.
4c. Use of an export management company
As an off-site export sales department representing your product, an export management company (EMC) typically:
- conducts market research
- develops marketing strategy
- uses existing foreign distributors or sales representatives to put your product into the foreign market
- acts as an overseas distribution channel or wholesaler
- takes ownership of goods
- operates on a commission basis.
Pros
- Faster entry into overseas market
- Better focus on exporting, since most firms give priority to domestic problems
- Lower out-of-pocket expenses
- Opportunity to study methods and potential of exporting.
Cons
- No quality control of export strategies and after-sales service
- Can create competition from EMC's other products
- Reluctance of some foreign buyers to deal with a third-party intermediary
- Added costs and higher selling prices due to EMC's gross profit margin requirements (unless offset by economies of scale).
4d. Piggyback exporting
Piggyback exporting is using a company with an established export distribution system to sell another company's product in addition to its own. The requisite logistics associated with selling abroad are borne by the exporting company.
Pros
- International experience not required
- Fast entry to the international market
- Little or no increased financial commitment.
Cons
- Low control by exporting business
- Possible choice of wrong market, wrong distributor
- Inadequate market feedback
- Potentially lower sales
- Higher risk in general
- Brand erosion.
5. Contract manufacturing
This method involves contracting with a local manufacturer to produce products to the firm's specifications. It works best when the risks of investing in a foreign country are high, when stringent import barriers exist, or when there is a lack of raw materials at home.
Pros
- Generates employment and foreign exchange for the host country
- Usually easy access to entry as host country knows laws, politics, customs.
Cons
- Could lose control of quality; possible low quality workers
- Not in control of pricing or marketing
- No equity in the subcontractor
- Your competition may be a customer!
6. Management contract
Under this type of arrangement, one firm provides management in all or specific areas for another firm, in exchange for a fee. Hilton Hotels, for example, provides management services for non-owned overseas hotels that use the Hilton name. In exchange, Hilton probably earns a fee that is a percentage of sales and, more importantly, gains brand recognition.
Pros
- Entry to the market rather simple
- Use business experience to help similar companies in other countries to set up, operate and collect on services
- Allows experienced company to research the market for other modes of entry.
Cons
- Lack of profit (a percentage of sales is not typically the largest margin possible when operating a business)
- Foreign company gains insight into business procedures of the export company
- Detrimental to the export company in the long run if the foreign firm ever becomes a competitor.
Conclusion
Entering or expanding in a foreign market can be achieved through a wide variety of methods. A business should select the best mode of entry only after carefully analysing each alternative and comparing it with the others.
In general, exporting requires the least amount of resources and allows for the lowest level of control. Wholly owned subsidiaries, on the other hand, require the most resources but allow for the most control. As for technology, exporting is the least risky while licensing is generally the most risky.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
