ISM LESSON 5
Study Notes for Session 5: Internationalization and Market Entry Modes
Table of Contents
Rationale for Internationalization
Market Entry Modes
Choosing a Mode of Entry
Internal and External Factors Affecting Entry Mode Choice
Pros and Cons of Market Entry Modes
International Growth Models
Key Takeaways
Practice Questions
1. Rationale for Internationalization
Definition: Internationalization is the process by which a company expands its business operations beyond its domestic market to new foreign markets.
Key Reasons for Companies to Internationalize:
Market Seeking:
Objective: To access new customers in foreign markets.
Justification: Particularly important when growth in the domestic market is limited.
Example: Starbucks expanded globally to serve new customers in regions with growing middle-class populations.
Efficiency Seeking:
Objective: Companies seek cost efficiencies through offshoring or outsourcing.
Justification: Aiming to gain access to cheaper labor, materials, or better production conditions.
Example: Manufacturing companies moving operations to countries with lower production costs.
Resource Seeking:
Objective: Firms aim to access new resources.
Justification: These may include raw materials or talent not available in their home market.
Example: Oil companies establishing operations in resource-rich countries.
Strategic Asset Seeking:
Objective: Companies seek to acquire strategic assets such as technology or distribution channels in foreign markets.
Example: Technology companies acquiring startups with innovative technologies.
Diversification of Risk:
Justification: By operating in multiple markets, companies can spread risk and avoid being overly reliant on any single economy.
2. Market Entry Modes
Definition: A market entry mode refers to the strategy or method a company uses to enter a new international market.
Factors Influencing Entry Mode Choice: Choice depends on company objectives, resources, and market conditions.
Types of Market Entry Modes:
E-commerce/Virtual Presence:
Definition: Selling products and services online without physical presence in the market.
Exporting:
Indirect Exporting: Involves selling products through intermediaries like export consortia (e.g., Japan Sake and Shochu Makers Association) or freight forwarders (e.g., Nippon Express).
Direct Exporting: Selling products directly to customers or through large retailers or agents in the foreign market.
Licensing:
Definition: A contract where the licensor allows the licensee to use intellectual property (brand name, technology, etc.) in exchange for royalties.
Example: Nestlé licensing Starbucks coffee for retail sales globally.
Franchising:
Definition: A form of business where the franchisor grants the franchisee the right to operate under its brand and business model.
Example: McDonald's global expansion through franchising.
Management Contracts:
Definition: The company provides managerial expertise and operational control to a foreign company in exchange for fees.
Joint Ventures (JVs):
Definition: Two or more parties form a new entity, sharing resources, risks, and profits equally (50/50).
Example: Toyota's joint ventures with Chinese manufacturers.
Wholly Owned Subsidiaries:
Definition: The parent company holds 100% ownership in the foreign subsidiary.
Achievement methods: Achieved through greenfield investments (building operations from scratch) or acquisitions.
Strategic Alliances:
Definition: Collaborative partnerships between firms to share resources in areas such as manufacturing, marketing, or distribution.
3. Choosing a Mode of Entry
Rules and Approaches for entering new markets:
Naive Rule: The company uses the same entry mode for all markets, ignoring differences between countries.
Pragmatic Rule: A company chooses the most workable entry mode for each market, without considering all options.
Strategic Rule: The company systematically compares and evaluates all possible entry modes before making a decision.
4. Internal and External Factors Affecting Entry Mode Choice
Internal Factors:
Firm Size: Larger firms with more resources are more likely to choose riskier modes like wholly owned subsidiaries.
International Experience: Firms with more international experience are likely to choose more direct forms of market entry.
Product Complexity and Differentiation: Complex and differentiated products can necessitate greater control in foreign markets.
Risk Tolerance (Costs/Risks): Higher risk tolerance may lead companies to opt for modes offering greater control, such as wholly owned subsidiaries or joint ventures.
Control/Managerial Reasons: Strategic goals of management, including control over operations or brand consistency, can influence entry mode choice.
Company Size/Flexibility: Influence of size and flexibility on adaptation to new market conditions, affecting entry mode.
Relationships: Existing relationships with suppliers, distributors, or partners can impact entry mode choice, especially in new markets.
Speed: Desired speed of market entry can sway the choice; for instance, acquisitions provide faster access compared to greenfield investments.
Long-term Objectives: Long-term strategic aims like brand establishment or market leadership can dictate high-control mode preferences.
External Factors:
Market Size and Growth: Large and fast-growing markets may justify higher-risk, higher-investment modes.
Government Policies and Regulations: Favorable trade regulations and stable political conditions attract investment. In contrast, restrictive policies may require strategic partnerships or alliances.
Cultural Distance: Significant cultural differences encourage partnerships or joint ventures to mitigate risks associated with local customer behavior.
Competitive Environment: The level of competition can influence entry mode; high competition may necessitate more investment and control.
Economic Stability: Economic indicators like inflation and growth affect market attractiveness; firms may prefer low-resource-intensive modes during instability.
Infrastructure Availability: Quality of physical and digital infrastructure (e.g., logistics and communication) impacts mode choice.
Local Business Practices: Established local norms and practices may favor strategic alliances or joint ventures.
Legal and Regulatory Framework: Legal restrictions on foreign ownership and labor laws affect the choice of entry mode.
5. Pros and Cons of Market Entry Modes
Evaluation of Each Mode:
Entry Mode
Advantages
Disadvantages
E-commerce
Low cost, global reach, easy scalability
Limited physical presence, local barriers
Exporting
Low risk, low investment
Limited control over market, competition
Licensing
Low investment, quick market entry
Risk of losing control over IP
Franchising
Rapid expansion, brand presence
Loss of control over operations
Joint Venture
Shared risk, local knowledge
Conflicts between partners
Wholly Owned Subsidiary
Full control, higher profits
High investment, higher risk
6. International Growth Models
Different Paths of International Growth:
Slow and Steady (Stage Models):
Definition: Companies expand internationally after gaining sufficient domestic experience.
Example: Zara’s incremental expansion using the Uppsala Model, starting in culturally close markets.
Uppsala Model Description:
A theory suggesting firms gradually expand through sequential steps, prioritizing markets that are culturally and geographically close.
Emphasizes experiential learning through four stages:
No regular export activities (sporadic exports)
Export via independent representatives (agents or distributors)
Establishment of a sales subsidiary
Establishment of production/manufacturing facilities abroad
Application: Zara entered Portugal before expanding to other European countries based on gained experience.
Quick and Ready (Born Global):
Definition: Firms that internationalize rapidly, targeting global markets from inception.
Characteristics of Born Global Firms:
Global Mindset: A target on multiple international markets from the onset rather than initial domestic expansion.
Niche Focus: Operate in specialized industries with unique products/services that appeal universally.
Use of Technology: Digital platforms enable rapid internationalization without significant physical presence.
Rapid Expansion: Quick movement into international markets typically within the first few years.
Example: Spotify and Airbnb exemplify born global companies, leveraging technology to scale quickly into diverse markets.
7. Key Takeaways
Internationalization Drivers: Market opportunities, cost efficiencies, and resource acquisition motivate international expansion.
Market Entry Mode Selection: Balancing risk and control while considering internal resources and external market conditions is crucial.
Systematic Decision-Making: A structured approach to selecting entry modes enhances effective and sustainable international growth.
8. Practice Questions
Discuss the pros and cons of franchising as a market entry mode, providing examples of companies that have successfully used this method.
Answer: Franchising allows for rapid expansion and local expertise but risks include potential loss of operational control and brand consistency. Companies like McDonald's and KFC have successfully utilized franchising.
Compare and contrast the Uppsala Model and Born Global model of internationalization. Provide examples of companies that followed each model.
Answer: The Uppsala Model emphasizes gradual learning and market proximity (e.g., Zara). The Born Global model focuses on immediate internationalizing from inception (e.g., Spotify) with the primary distinction being their approach and speed of entry.
Explain how cultural distance can affect the choice of entry mode for a service firm.
Answer: Cultural distance impacts entry method preference; firms may utilize joint ventures or franchising to leverage local insights and mitigate cultural misunderstandings, adapting better to customer expectations in diverse markets.