International Business by Daniels and Radebaugh Chapter 13

International Business by Daniels and Radebaugh Chapter 13 Country Evaluation and Selection 1

Objectives To discuss company strategies for sequencing the penetration of countries and committing resources To explain how clues from the environmental climate can help managers limit geographic alternatives To examine the major variables a company should consider when deciding whether and where to expand abroad To overview methods and problems of collecting and comparing information internationally To describe some simplifying tools for determining a global geographic strategy To introduce how managers make final investment, reinvestment, and divestment decisions 2

Introduction Companies lack resources to take advantage of all international opportunities • Choice of where to operate an important business strategy – appealing countries are those with similar economic, political, cultural, and geographic conditions • Companies must: – determine the order of entry into potential countries – set the allocation of resources and rate of expansion among countries 3

Choosing Marketing and Production Sites and Geographic Strategy Companies must determine where to market and where to produce • Decisions on market and production locations may be highly interdependent Process of determining overall geographic strategy must be flexible • Country conditions change • Plan must allow company to: – respond to new opportunities – withdraw from less-profitable operations • Managers can use several geographic strategies 4

Place of Location Decisions in IB Operations OPERATIONS EXTERNAL INFLUENCES OBJECTIVES PHYSICAL AND SOCIETAL FACTORS STRATEGY MEANS COMPETITIVE ENVIRONMENT Modes Functions Overlaying Alternatives • Choice of countries • Organization and control mechanisms 5

Flowchart for Choosing Where to Operate OBJECTIVES STRATEGIES Overlaying Tactic: Choice of Countries Choosing new locations • Scan for alternatives • Choose and weight variables • Collect and analyze data for variables • Use tools to compare variables and narrow alternatives Allocating among locations • Analyze effects of reinvestment versus harvesting in existing operating locations • Appraise interdependence of locations on performance • Examine needs for diversification versus concentration of foreign operations Making final decisions • Conduct detailed feasibility for new locations • Estimate expected outcome for reinvestment • Make location and allocation decisions based on company’s financial decision-making tools 6

Scan for Alternatives Scanning techniques based on broad variables indicate opportunities and risks • Without scanning a company may: – overlook opportunities – examine too many possibilities • Cost of too many studies may erode profits Choose and Weight Variables Environmental climate—conditions in a host country that could affect success of foreign enterprise opportunities—determined by revenues less costs • Market size—sales potential most important – managers may have to estimate current demand – indicators of market size and future sales » GNP » per capita income growth » population » growth rates » level of industrialization 7

Choose and Weight Variables (cont. ) Opportunities (cont. ) • Ease and compatibility of operations – companies are attracted to countries that » are located nearby » share the same language » share similar legal, cultural, and economic systems – escalation of commitment—the greater the investment in examining a foreign investment opportunity, the more likely it will be accepted, regardless of its merit – companies often limit consideration of proposals to countries that: » offer size, technology, and other factors familiar to company personnel » allow acceptable percentage of ownership » permit sufficient profits to be remitted 8

Choose and Weight Variables (cont. ) Opportunities (cont. ) • Costs and resource availability – companies go abroad to secure resources that are unavailable at home – companies must consider a variety of costs of factors of production » trade-offs between labor costs and capital intensity – companies with rapidly evolving technologies try to locate production close to product-development activities – companies need to be near suppliers and customers – corporate tax rates on income affect location decisions – cost comparisons among countries difficult » complicated by technology differences 9

Choose and Weight Variables (cont. ) Opportunities (cont. ) • Red tape—increases operating costs – degree of red tape is not directly measurable » subjective evaluation is necessary Risks—most investors prefer certainty to uncertainty, given the same expected return • Return on investment (ROI)—average of the various returns deemed possible for investments – greater uncertainty increases investors requirements for ROI • Insurance may reduce company’s risk • Foreign investments generally have greater risk than domestic investments – less familiar with foreign environments – liability of foreignness—foreign companies have a lower survival rate than local companies 10

Comparison of ROI Certainty INVESTMENT A ROI AS PERCENTAGE 0 5 10 15 20 Estimated ROI PROBABILITY. 15. 20. 30. 20. 15 WEIGHTED VALUE 0 1. 0 3. 0 10% INVESTMENT B PROBABILITY 0. 30. 40. 30 0 WEIGHTED VALUE 0 1. 5 4. 0 4. 5 0 10% 11

Choose and Weight Variables (cont. ) Competitive risk—company’s innovative advantage may be short lived • Initiation lag—strategy for exploiting temporary innovative advantage • Companies may try to find countries in which significant competition is least likely • Advantages of locating where competitors are – competitors bear costs of evaluating location – competitors attract suppliers and personnel – competitors attract buyers – clusters of competitors may provide access to information about new developments Monetary risk—must estimate country’s monetary situation and predict future exchange rates and controls • Liquidity preference—investors want some holdings to be liquid, even with lower returns 12

Choose and Weight Variables (cont. ) Political Risk—due to changes in political leaders’ opinions and policies, civil disorder, and animosity between host and home countries • May result in property takeovers, damaged property, disrupted operations, and changed rules governing business • Companies assess political risks based on: – past patterns of political risk » foreign investors may be compensated for asset takeover or property damage – examination of governmental decision makers – cross-section of opinions – use of expert analysts – examination of countries’ social and economic conditions » frustration among local populace may cause 13 disruptions in business

Collect and Analyze Data Companies undertake business research to: • Reduce uncertainties in the decision process • Narrow the alternatives they consider • Assess the merits of their existing programs Must compare the cost of information with its value Problems with Research Results and Data on many countries is lacking, obsolescent, or inaccurate Reasons for inaccuracies • Inability of governments to collect data • Educational qualifications of government officials limit collection and analysis of data • Economic factors hamper retrieval and analysis • Publication of false or purposely misleading data – people’s desire and ability to cover up data on themselves 14

Problems with Research Results and Data (cont. ) Comparability problems • Problems with information comparability arise from: – differences in collections methods, definitions, and base years » accounting rules differ » variance in measures of investment flow » differences in activities taking place outside the market economy – distortions in currency conversions » exchange rates 15

External Sources of Information Individualized reports—consultants conduct studies for a fee Specialized studies—research organizations prepare specific studies that are sold to interested firms Service companies—published reports of firms that provide services to international clients • Reports usually lack specificity Governmental agencies—statistical reports on a variety of topics International organizations and agencies—have large research staffs that compile data and publish reports and recommendations Trade associations—publish data on technical and competitive factors for a specific industry Information service companies—maintain data bases The Internet—information expanding rapidly • Concerns about reliability of the information 16

Internal Generation of Data MNEs may have to conduct studies • May simply involve being observant and asking questions Country Comparison Tools Used for narrowing alternatives and allocating operational emphasis among countries Grids—tools that • May depict acceptable or unacceptable conditions • Rank countries by important variables 17

Simplified Grid to Compare Countries for Market Penetration VARIABLE WEIGHT I II IV --- U A A A -- A A 0 -5 0 -3 --2 3 -2 4 3 1 2 2 1 3 1 2 4 1 2 3 2 2 1 3 2 -- 2 18 1 10 2 18 0 10 -0 -1 -- 2 0 0 1 3 1 4 1 3 3 2 2 3 3 14 13 V 1. Acceptable (A), Unacceptable (U) factors a. Allows 100% ownership A b. Allows licensing to majority-owned subsidiary A 2. Return (higher number = preferred rating) a. Size of investment needed b. Direct costs c. Tax rate 0 -2 -d. Market size, present 0 -4 -e. Market size, 3– 10 years f. Market share, immediate potential (0– 2 years) 0 -2 -g. Market share, 3– 10 years 0 -3 0 -2 TOTAL 3. Risk (lower number = preferred rating) a. Market loss, 3– 10 years b. Exchange problems c. Political-unrest potential d. Business laws, present e. Business laws, 3– 10 years TOTAL 0 -4 0 -3 -0 -3 0 -4 -0 -2 1 3 2 18

Country Comparison Tools (cont. ) Opportunity-risk matrix—used to: • Decide on indicators and weight them • Evaluate each country on the weighted indicators • Plot to see relative placements • Key element is the projection of the future country location Country attractiveness-company strength matrix • Highlights the company’s product advantage country by country • Must be used with caution Environmental scanning—the systematic assessment of external conditions that might affect a company’s operations • MNEs conduct scanning continuously – sophisticated companies tie scanning to the planning process 19

Opportunity-Risk Matrix 10 C F Decreased risk A E B D 0 = No operations in the country = Current operations = Future placement = World average rating, present = World average rating, future 5 10 Increased opportunity 20

Country Attractiveness-Company Strength Matrix High Dominate/divest Joint venture Country attractiveness Invest/grow Individualized strategies Medium Individualized strategies Harvest/divest Combine/license Low High Medium Low Competitive strength 21

Allocating among Locations Reinvestment decisions—involve replacing depreciated assets or adding to the existing stock of capital • Most of the value of a foreign investment comes from reinvestment – once committed to a locale, company may not have option to move its assets elsewhere • Experienced personnel in a country best judges of what is needed in the locale – may be delegated certain investment decisions Harvesting (divesting)—advisable when investment outlook is better in other countries • Reduces commitments in countries with poorer performance outlooks • Ought to be planned • Takes place by selling or closing facilities • Government may require performance contracts that make divestment difficult 22

Allocating Among Locations (cont. ) Interdependence of locations—profit figures from individual operations may obscure the real impact those operations have on overall company activities • Also difficult to ascertain returns from subsidiaries – sales and purchases of subsidiaries may be made from and to units of parent company Diversification strategy—company moves into many foreign markets, increasing commitments within each Concentration strategy—company moves to only one or a few foreign countries until it develops a strong involvement and competitive position there Making Final Country Selections Most companies examine proposals one at a time • Proposal accepted if it meets minimum threshold criteria • Proposal comparison limited by time and cost 23

Product and Market Factors Affecting Choice Between Diversification and Concentration Strategies PRODUCT OR MARKET FACTOR 1. Growth rate of each market 2. Sales stability 3. Competitive lead time 4. Spillover effects 5. Need for product adaptation 6. Need for communication adaptation 7. Economies of scale in distribution 8. Extent of constraints PREFER DIVERSIFICATION IF: Low Short High Low Low PREFER CONCENTRATION IF: High Long Low High 24