THE MULTINATIONAL ENTERPRISE

Intra-corporate Structure: Structure that deals with what is happening inside of

a corporation. An intra-company analysis considers those areas that are internal.
The specific areas that are addressed are the anatomy of the corporation, the
overall goals, objectives and mission of the company, the products and services
that the company offers, and get to the root consideration of why the company is
looking to go international and its position in the industry. Once the company
analyzes these, it can gain a better understanding of whether or not a global or
international strategy makes sense. A company should go global, then, to reduce
costs of purchasing materials, get suppliers to compete for your business, enlarge
the market, increase profits, the product require new skill or technology, and the
company wants to stay ahead of the competition.

Inter-corporate Structure: The relationship of the corporation and its

environments. What is outside of the corporation. This method of analyzing the
company switches the focus from internal working to external factors.

Some examples of external areas analyzed here are external variables, government
policies, geo-cultural and political/legal environments, and market opportunities.
This second area looks into how international business strategies will be affected by
things outside the company’s control. Although the items identified during the inter-
corporate analysis are not immediately controllable by the company, they can take
action that will enable them to adjust to these factors.

M.N.E. (Multinational Enterprise): Large firms whose operations and functions

span national borders. Operates in different countries and adjusts products and
practices to each at a higher relative costs.
Transnational Corporation (TNC): Corporations owned and managed by
nationals in different countries.
Criteria Identifying a Multinational: Structure (anatomy itself), performance,
coordination, and behavior.
Microeconomic advantages of the firm operating internationally: Cost reduction,
sales expansion, income and sales smoothing, and variety.

A. Anatomy of a corporation
There are promoters and sponsors.
1. The promoters or founders create the corporation. They have the ideas of type of
industry, products, no liability unless corporation once formed assumes it.
2. The sponsors back the ideas of the promoters and incur no liability.
Three requirements must be met to form a corporation:
1. The Charter of the Corporation must be written
2. The Articles of the Corporation, stating the relation between the corporation and
the State. This must be filed with the Secretary of the State.
3. The by-laws, constitution and regulations of the corporation.
Then the corporation comes into existence.

CORPORATE STRUCTURE: Shareholders and, stockholders who do not intervene

in the day to day operations of the corporation but the only interest is in the return
of their investments , bondholders, Board of Directors, CEO’s, management,
supervisors, foremen, and employees.
The purpose of the corporation is to make a profit (goals and objectives). The board
of directors is responsible to the shareholders with right to dividends not the
investment per se, they are the legal representatives, and can be sued.
There are a minimum of three members on the Board (President, Treasurer, and
Secretary), and usually there are seven, nine, or thirteen members. The board acts
as a whole, and should be insured because propensity of legal issues such as
derivative suits. The anatomy of the corporation differs from the international
markets vs. the domestic market. It also differs among the various industries and
how they serve the global markets. Variables "outside" of the corporation include
the consumers (actual customers and potential customers), suppliers, alliances and
partners, the investment community, distributors, the media community, trade and
professional organizations, international organizations, government, unions and
competition, and the public in general.
Minimization of costs is the goal of cost-seeking corporations. In an inelastic market
demand, corporations may control price and are sometimes impenetrable. They
control quantities geographically. Since tariffs are expensive, foreigners are
prevented from entering the markets.

PHASE I: INTRACORPORATE RESEARCH

There are two analyses: Inter- and intra-corporate research and analysis. The
corporation's purpose is to interact with the environment. When doing this, the
corporate "bubble" is pierced. We need to understand and recognize the anatomy
of the corporation, how to enter, why to go international, and how it answers the
basic economic questions.
Firms continually enact strategies to improve their cash flows and therefore
enhance shareholder's wealth. Some strategies involve the penetration of foreign
markets.
Since foreign markets can be distinctly different from local markets, they create
opportunities for improving the firm's cash flows. Many barriers to entry into foreign
markets have been reduced or removed recently, thereby encouraging firms to
pursue international business (producing and/or selling goods in foreign countries).
Consequently, many firms have evolved into multinational corporations (MNCs),
which are defined as firms that engage in some form of international business.
Initially, firms may merely attempt to export products to a particular country or
import supplies from a foreign manufacturer. Over time, however, many of them
recognize additional foreign opportunities and eventually establish subsidiaries in
foreign countries.
Some businesses, such as Dow Chemical, Exxon, Intel, and Proctor and Gamble,
commonly generate more than half their sales in foreign countries. A prime
example is the Coca-Cola Company, which distributes its products in more than 180
countries and uses 53 different currencies; over 65 percent of its total annual
operating income is typically generated outside the United States. Source:
corporate information; http://www.corporateinformation.com; corporate world:
www.kotra.co.kr/e_main/links/bizlink/. Click on "biz_corp1.html."

A. Anatomy of a corporation:
The composition of industry differs. It differs in the domestic market vs. the
international market and it differs among businesses. We will use Ohio as the home
state of incorporation. A domestic corporation is any business that is incorporated
within the state of Ohio. A foreign corporation is any business outside the state of
Ohio (for example, California). An international corporation is any business outside
of the United States.

B. Definitions of multinationals:
An understanding of international financial management is crucial to not only the
large MNCs with numerous foreign subsidiaries but also to the small firms that
conduct international business. Many small U.S. firms generate more than 20
percent of their sales in foreign markets, for example, Ferro and BPL International
(Ohio). The small U.S. firms that conduct international business tend to focus on the
niches that have made them successful in the United States. They tend to penetrate
specialty markets where they will not have to compete with large firms that could
capitalize on economies of scale, for example, specialized computer chips and
products for small markets such as computers for disable consumers. While some of
the small firms have established subsidiaries, many of them use exporting to
penetrate foreign markets. Seventy-five percent of U.S. firms that export have
fewer than 100 employees. This s more prominent today with e-commerce.
International business is even important to companies that have no intention of
engaging in international business, since these companies must recognize how their
foreign competitors will be affected by movements in exchange rates, foreign
interest rates, labor costs, and any other type of short run macroeconomic
fluctuations such as inflation. Such economic characteristics can affect the foreign
competitors' cost of production and pricing policy.
Companies must also recognize how domestic competitors that obtain foreign
supplies or foreign financing will be affected by economic conditions in foreign
countries. If these domestic competitors are able to reduce their costs by
capitalizing on opportunities in international markets, they may be able to reduce
their prices without reducing their profit margins. This could allow them to increase
market share at the expense of the purely domestic companies.

MNC: (Multinational Corporation) is a firm having operations in more than one

country, international sales and a multinational mix of managers and owners. (e.g.,
Ford, Toyota, GE, IBM, Intel, Sony with headquarters both in N.Y. and Tokyo). A MNE
ordinarily consists of a parent company and at least six subsidiaries typically with a
high degree of strategic interaction among the units. Some MNC have more than a
hundred subsidiaries and follow absolute and comparative advantages policies.
MNC also have different number of foreign production sites and thus different
numbers of international markets. This company earns profits in different markets
and not only operates in different countries but, owns alliances in other countries
and has no allegiance to a particular country.
MNC are based and owned in one country with manufacturing facilities in two or
more countries in which profits are not invested. The company is owned by
stockholders in several countries and is based in two or more countries.

Multi-domestic corporations: are corporations that operate production facilities

in different countries but make no attempt to integrate overall operations.

Global Corporation: operates beyond national borders and in more than one
country, sees the globe as one single market without borders, and earns profits in a
global basis. It pursues integrated activities on a worldwide scale, sees the whole
globe as one market and moves products, manufacturing, capital and even
personnel wherever they can gain advantages. They operate with resolute
consistency with relative price as if the whole world or large areas are single ones.
They sell the commodity the same way everywhere that is a standardized
commodity.
They usually have strong base on economic regions such as the Pacific Rim,
NAFTA, and EU. Products are developed for the entire globe market and the
company gives changes in order to be able to move from regional to product line
based on profits. Centers and senior executives are from different countries. For
example; GE, Texas Instruments, Hitachi, ICI British Chemical, Daewoo, and
Hyundai.

MNE: (Multinational enterprise) is any business which has productive activities

in two or more countries and manufactures and markets products and services in
different countries. MNE is an efficient agent for transferring capital, managerial
skills, culture, technology, industrial know how, product design, line and brand
name, and goods and services across countries. MNE also transfers information
such as its superior information gathering ability, headquarters’ discoveries, and
exploit opportunities beyond the domestic market. MNE can bear the risks of
ventures great size and financial strengths better than the domestic company can
do. In the 1980's, there was a rise of non U.S. MNEs and the growth of the mini
multinationals in the 1990's. United States. MNEs account for 2/3 of all direct
investment, but in 2000, of the 260 largest MNE, only 48.5% were U.S. owned
multinationals; Great Britain had 18.8%; Japan had 3.5%, and Latin America had
5%. Other countries with MNEs are: France, Germany, Canada, Sweden,
Netherlands, Switzerland, Hong Kong, Singapore. Countries with mini multinationals
in 2000's are Israel, Germany, United States, Australia, Italy, Brazil and Mexico with
medium to small size companies such as Lubricating Systems of Kent, Ohio, Swan
Optical and Cardiac Science.
Multinationals do extensive overseas operations including manufacturing in
different countries. The UNCTAD ( United Nations Conference on Trade and
Development) in 1999 reported that about 40,000 MNE have about 378,000
affiliates with more than $318 trillion in investment. Source: UNCTAD Economic
Report, 2002.
Service Companies: such as banks, investment financial companies, brokerage
houses, legal, airlines, hotels, health, entertainment, travel agencies, tourism, and
accounting are the growing multinationals of the 21th. Century. For example,
orchestras easily make contracts for one performance for over $150,000.00 ( e.g.,
The Cleveland Orchestra with $350,000.00 per performance).

Internationally oriented firms - Garcia’s Rule of Thumb which covers all

small firms engaged in international business.
Whereby international sales are considered as an expansion of domestic sales.
Corporations of approximately $120 million who want to enter the international
market (mid-size corporations), and export less10% of sales, should be considered
an international organization (Business should be handled internally). For example,
the companies have “on retainer” to help with sales, or they hire one internal
person for international business. Not profitable. ? (Indirect exporting of indirect
investment).
If a company's volume of sales is more10% but less 20% of total sales, it should
have a separate department within the company, internally controlled. This
department will specialize in handling the international sales. ? (Direct exporting of
indirect investment).
If its volume of sales is more 20%, it will have an international division, consistent
in elements of finance, marketing, accounting, engineering, and, so on. The facility
is separate physically and it has more control over the production schedules. If sales
continue over 40%, a subsidiary is formed. There is a separate plant, in form of a
joint venture. ? (Direct investment).
The larger the firm, the more variables involved.
Export Traffic Publications - Department of Commerce - helps with international
corporations, exportations.

Other organizations which affect the corporation are: International

Organizations; Common Markets, Free Trade Zones; Financial and Investment
Institutions; Alliances and Partners; Distributors; Trade and Professional
Organizations; Custom Unions; Constituency; General Public, Media; and Trade
Areas.

World Class Organizations (WCO):

Quality is having a major impact on international operations. One reason is
because it transcends national boundaries and allows firms to compete in a
borderless world. Another is because, paradoxically, as technology increases, costs
tend to be driven down, and only the most effective MNCs succeed.
This emphasis on quality is leading MNCs to become increasingly more
competitive in terms of both products and services. One way in which successful
MNCs are going beyond total quality to sustain, and even increase.
Their world competitiveness is through learning. Total quality has become just the
cost of entry into today's highly competitive world economy. Now, MNCs not only
must adapt, they must anticipate and even create change. They must transform
themselves into learning organizations. Three of the major characteristics of
learning organizations are openness, creativity, and self-efficacy.
World-class organizations (WCOs) are able to compete with anybody, anywhere,
anytime. There are several major pillars that form the basis for WCOs: customer-
based focus, continuous improvement, flexible or virtual organizations, creative
human resource management practices, an egalitarian climate, and technological
support. Today, more and more firms are adopting the characteristics of WCOs,
because they realize this is the only way of ensuring that they can compete, and in
the long run even survive, in today's environment. Examples of WCO are: IBM, Sony,
Hewlett-Packard, GE, Honda, Xerox, Ritz-Carlton and Walt-Mart.
Main Characteristics of WCO:
1. Customer based focus
2. Continuous improvements
3. Fluid, flexible, and virtual organization.
4. Global outsourcing: use of worldwide suppliers regardless of where they are
geographically able to conduct business as if it were a very large corporate
enterprise when in fact small, but able to make competencies, outsource or partner
5. Creative human resources
6. Egalitarian climate
7. Technological support.
Multinational Enterprise (MNE):
This company conducts business in more than one country or market area. MNEs
are generally large firms whose operations and functions expand beyond the
spectrum of national boundaries. They do not have to be a large corporation.
However, Peat-Marwick is an MNE, but it is also a partnership.

Transnational corporations (TNCs) are corporations owned and managed by

the United States in different countries. Transnational corporations also tend to view
the world as one giant market for purpose of business. TNCs combine elements of
function, product, and geographic designs, while relying on network arrangements
to link worldwide subsidiaries.
Advantages of MNE:
1. Advance Technology: It has better access to advance technological levels which
makes them extremely competitive when entering new foreign markets.
2. Learning Curve: Productivity of the MNE in manufacturing industries increases
through the experience production.
3. Product Development: It can capitalize in development of products in one
market, and; if successful, uses that success to exploit other foreign markets.
4. Financial Strength: Because of its sheer size, MNEs can be larger than
governments of countries in which they operate. (g. GM is larger than fifty
countries. They are able to capitalize easier, at lower costs, than local foreign
companies. The issue of control is important.
5. Management: Being large organizations, MNEs have depth in management
ranks. MNCs can afford to employ individuals with specialized business skills to
enhance company’s profits and/or effectiveness.
6. Reduction of Political Risk: Because there are different political and economic
systems in existence there is more risk involve for the MNCs, but MNEs do business
in many different sovereignties and therefore, they are able to spread the risk over
many other locations.
7. Rationalized Production and Global Sourcing: MNEs are able to produce different
components in different markets and sell their products in different markets.
8. Less Interdependence: Because of regionalization and because of realignments
at the macro and micro levels.

GOAL OF THE MNC

The commonly accepted goal of an MNC is to maximize shareholder's wealth.
Developing a goal is necessary since all decisions should contribute to its
accomplishment. Thus, if the objective were to maximize earnings in the near
future, the firm's policies would be different than if the objective were to maximize
shareholders' wealth.
The focus of this course is on U.S. based MNCs. Most of the concepts are generally
transferable to MNCs that are based in other countries, but there are several
exceptions that would have to be considered if the focus was not on MNCs based in
the United States. For example, even a general statement about the goal of the
MNC might be questioned when considering MNCs based in other countries; some
MNCs based outside the United States tend to focus more on satisfying the
respective goals of their respective governments, banks, or employees.
The focus is also on MNCs, whose parents completely own any foreign
subsidiaries. This implies that the U.S. parent is the sole owner of the subsidiaries.
This is the most common form of ownership of U.S.-based MNCs, and it enables
financial managers throughout the MNC to have a single goal of maximizing the
value of the entire MNC instead of maximizing the value of any particular foreign
subsidiary.

Conflicts Against the Goals of MNC:

It has often been argued that managers of a firm may make decisions that conflict
with the firm's goal to maximize shareholders' wealth. For example, a decision to
establish a subsidiary in one location versus another may be base on the location's
appeal to a particular manager rather than on its potential benefits to shareholders.
Decisions to expand may be determined by the desires of managers to make their
respective divisions grow, in order to receive more responsibility and
compensation.
If a firm were composed of only one owner who was also the sole manager (sole
proprietorship), a conflict of goals would not occur. However, for corporations with
shareholders who differ from their managers, a conflict of goals can exist. This
conflict is often referred to as the agency problem.
The costs of ensuring that managers maximize shareholders' wealth (referred to as
agency costs) are normally larger for MNCs than for purely domestic firms, for the
following reasons. First, MNCs that have subsidiaries scattered around the world
may experience larger agency problems because monitoring managers of distant
subsidiaries in foreign countries is more difficult. Second, foreign subsidiary
managers raised in different cultures may not follow uniform goals. Third, the sheer
size of the larger MNCs can also create large agency problems. Fourth, some non-
U.S. managers tend to downplay the short-term effects of decisions, which may
result in decisions for foreign subsidiaries of the U.S.-based MNCs that are
inconsistent with maximizing shareholder wealth.
Financial managers of an MNC with several subsidiaries may be tempted to make
decisions that maximize the values of their respective subsidiaries. This objective
will not necessarily coincide with maximizing the value of the overall MNC. Consider
a subsidiary manager who obtained financing from the parent firm (headquarters)
to develop and sell a new product. The manager estimated the costs and benefits of
the project from the subsidiary's perspective and determined that the project was
feasible. However, the manager neglected to realize that any earnings from this
project remitted to the parent would be taxed heavily by the host government. The
estimated after-tax benefits received by the parent were more than offset by the
cost of financing the project. While the subsidiary's individual value was enhanced,
the MNC's overall value was reduced. If financial managers are to maximize the
wealth of their MNC's shareholders, they must implement policies that maximize the
value of the overall MNC rather than the value of their respective subsidiaries. For
many MNCs, major decisions by subsidiary managers must be approved by the
parent. However, it is difficult for the parent to monitor all decisions made by
subsidiary managers.

Financial Management of the Multinational Corporation

Since multinational corporations are involved in payables and receivables
denominated in different currencies, product shipments across national borders,
and subsidiaries operating in different sovereignties, they face a different set of
problems than corporations with a purely domestic operations. The corporate
treasurer and other financial decision makers of the multinational corporations
operate in a cosmopolitan setting that offers profit and loss opportunities never
considered by the executives of purely domestic corporations. Therefore, the
attributes of financial management in the multinational corporation are very unique.
The basic issues such as control, cash management, intra-corporation transfers, and
capital budgeting are face by all corporations. The problems particular to the
internationally oriented corporation are more complex than those of the domestic
corporations such as financial controls, cash management, intra-corporation
transfers, and capital budgeting.

Financial Control
Any business corporation must evaluate its operations and functions periodically to
better allocate resources and increase income and in general to acquire its goals
and objectives. The financial management of a multinational corporation involves
exercising control over foreign operations. The responsible individuals at the parent
office or headquarters review financial reports from foreign subsidiaries with a view
toward modifying operations and assessing the performance of foreign managers.
Typical control systems are based on setting standards with regard the to sales,
profits, inventory, or other specific variables and then examining many financial
statements and reports to evaluate the achievement of such goals. There is no
"correct" system of control. Methods vary across industries and even across
corporations in a single industry. All methods have the common goal of providing
management with a means of monitoring the performance of the corporation's
operations, new strategies, and goals as conditions change. However, establishing a
useful control system is more difficult for a multinational corporation than for a
purely domestic corporation. For instance, should foreign subsidiary profits be
measured and evaluated in foreign currency or the domestic currency of the parent
corporation? The answer to this question depends on whether foreign managers are
to be held responsible for currency translation gains or losses.
If top management wants foreign managers to be involved in currency management
and international financing issues, then the domestic currency of the parent would
be a reasonable choice.
On the other hand, if top management wants foreign managers to concern
themselves with production operations and functions, and behave as other
managers (managers not themselves a part of a foreign multinational) in the foreign
country would, then the foreign currency would be the appropriate currency for
evaluation.
Some multinational corporations prefer a decentralized management structure in
which each subsidiary has a great deal of autonomy and makes most financing and
production decisions subject only to general parent company guidelines. In this
management setting, the foreign manager may be expected to operate and think as
the stockholders of the parent corporation would want obtain goals and objectives,
so the foreign manager makes decisions aimed at increasing the parent's domestic
currency value of the subsidiary. The control mechanism in such corporations is to
evaluate foreign managers based on a their ability to increase that value. Other
corporations prefer more centralized management in which financial managers at
the parent make most of the decisions. They choose to move funds among divisions
based on a system wide view rather than what is best for a single subsidiary. A
highly centralized system would have foreign managers evaluated on their ability to
meet goals established by the parent for key variables like sales or labor costs.
The parent-corporation managers assume responsibility for maximizing the value of
the corporation, with foreign managers basically responding to directives from the
top. Therefore, the appropriate control system is largely determined by the
management style of the parent.
Considering the discussion to this point, it is clear that managers at foreign
subsidiaries should be evaluated only on the basis of things they control. Foreign
managers often may be asked by the parent corporation to follow policies and
relations with other subsidiaries of the corporation that the managers would never
follow if they sought solely to maximize their subsidiary's profit. Actions of the
parent that lower a subsidiary's profit should not result in a negative view of the
foreign manager. In addition, other actions beyond the foreign manager's control
such as changing tax laws, foreign exchange controls, or inflation rates that could
result in reducing foreign profits through no fault of the foreign manager. The
message to parent company managers is to place blame fairly where the blame
lies. In a dynamic world, corporate fortunes may rise and fall because of events
entirely beyond any manager's control.

Cash Management
Cash management involves utilizing the corporation's cash as efficiently as possible.
Given the daily uncertainties of economics and business, corporations must
maintain some liquid resources. Liquid assets are those that are readily spent. Cash
is the most liquid asset. But since cash (and traditional checking accounts) earns no
interest, the corporation has a strong incentive to minimize its holdings of cash.
There are highly liquid short-term securities that serve as good substitutes for
actual cash balances and yet pay interest. The corporate treasurer is concerned
with maintaining the correct level of liquidity at the minimum possible cost.
The multinational faces the challenge of managing liquid assets denominated in
different currencies. The challenge is compounded by the fact that subsidiaries
operate in foreign countries where financial market regulations, banking,
accounting, monetary policies, and institutions differ.
When a subsidiary receives a payment and the funds are not needed immediately
by this subsidiary, the managers at the parent headquarters must decide what to do
with the funds. For instance, suppose a U.S. multinational's Costa Rican subsidiary
receives 500 million colons. Should the colons be converted to dollars and invested
in the United States, or placed in Costa Rican colons investments, or converted into
any other currency in the world? The answer depends on the current needs of the
corporation as well as the current regulations in Costa Rica. If Costa Rica has strict
foreign exchange controls in place, the 500 million colons may have to be kept in
Costa Rica and invested there until a future time when the Costa Rican subsidiary
will need them to make a payment.
Even without legal restrictions on foreign exchange movements, we might invest
the colons in Costa Rica for 30 days if the subsidiary faces a large payment in 30
days and we have no need for the funds in another area of the corporation, and if
the return on the Costa Rican investment is comparable to what we could earn in
another country on a similar investment (which interest rate parity would suggest).
By leaving the funds in colons we do not incur any transaction costs for converting
colons to another currency now and then going back to colons in 30 days. In any
case, we would never let the funds sit idly in the bank for 30 days.
There are times when the political, legal, or economic situation in a country is so
unstable that we keep only the minimum possible level of assets in that country.
Even when we will need colons in 30 days for the Costa Rican subsidiary's payables,
if there exists a significant threat that the government or Central Bank could
confiscate or freeze bank deposits or other financial assets, we would incur the
transaction costs of currency conversion to avoid the political risk associated with
leaving the money in Costa Rica.
Multinational cash management involves centralized management. Subsidiaries and
liquid assets may be spread around the world, but they are managed from the
home office of the parent corporation. Through such centralized coordination, the
overall cash needs of the corporation are lower. This occurs because subsidiaries do
not all have the same pattern of cash flows. For instance, one subsidiary may
receive a dollar payment and finds itself with surplus cash, while another subsidiary
faces a dollar payment and must obtain dollars. If each subsidiary operated
independently, there would be more cash held in the family of multinational foreign
units than if the parent headquarters directed the surplus funds of one subsidiary to
the subsidiary facing the payable.
Centralization of cash management allows the parent to offset subsidiary payments
and receivables in a process called netting. Netting involves the consolidation of
payables and receivables for one currency so that only the difference between them
must be bought or sold. For example, suppose Ohio Instruments in the United
States sells $2 million worth of car phones to its European sales subsidiary and buys
$3 million worth of computer frames from its European manufacturing subsidiary.
If the payment and receivable both are due on the same day, then the $2 million
receivable can be used to fund the $3 million payable, and only $l million must be
bought in the foreign exchange market. Rather than buy $3 million to settle the
payable and sell the $2 million to convert the receivable into dollars, incurring
transaction costs twice on the full $5 million, the corporation has one foreign
exchange transaction for $l million.
Had the two European operations not been subsidiaries, the financial managers
would still practice netting but on a corporate wide basis, buying or selling only the
net amount of any currency required after aggregating the receivables and
payables of all subsidiaries over all currencies. Effective netting requires accurate
and timely reporting of transactions by all divisions of the corporation.
The parent financial managers determine the net payer or receiver position of each
subsidiary for the weekly netting. Only these net amounts are transferred within the
corporation. Netting could still occur by leading or lagging currency flows. Leads
and lags increase the flexibility of parent financial managers, but require excellent
information flows between all divisions and headquarters.

Intra-corporation Transfers
Since the multinational corporation is made up of subsidiaries located in different
political and economic jurisdictions, transferring funds among divisions of the
corporation often depends on what governments will allow. Beyond the transfer of
cash, the corporation will have goods and services and resources moving between
subsidiaries. The price that one subsidiary charges another subsidiary for internal
goods transfers is called a transfer price. The setting of transfer prices can be a
sensitive internal corporate issue because it helps to determine how total
corporation profits are allocated across divisions. Governments are also interested
in transfer pricing since the prices at which goods are transferred will determine
tariff and tax revenues in those economies.
The parent corporation always has an incentive to minimize taxes by pricing
transfers in order to keep profits low in high-tax countries and by shifting profits to
subsidiaries in low-tax countries. This is done by having intra-corporation purchases
by the high-tax subsidiary made at artificially high prices, while intra-corporation
sales by the high-tax subsidiary are made at artificially low prices. Governments
often restrict the ability of multinationals to use transfer pricing to minimize taxes.
The U.S. Internal Revenue Code, for example, requires “arm 's-length pricing”
between subsidiaries charging prices that an unrelated buyer and seller would
willingly pay. When tariffs are collected on the value of trade, the multinational has
the incentive to assign artificially low prices to goods moving between subsidiaries.
Customs officials may determine that a shipment is being "under-invoiced" and may
assign a value that more truly reflects the market value of the goods.
Transfer pricing may also be used for "window-dressing", that is, to improve the
apparent profitability of a subsidiary. This may be done to allow the subsidiary to
borrow at more favorable terms, since its credit rating will be upgraded as a result
of the increased profitability. The higher profits can be created by paying the
subsidiary artificially high prices for its products in intra-corporation transactions.
The corporation that uses transfer pricing to shift profits from one subsidiary to
another introduces an additional problem for financial control. It is important that
the corporation be able to evaluate each subsidiary on the basis of its contribution
to corporate income. Any artificial distortion of profits should be accounted for so
that corporate resources are efficiently allocated. Multinational corporations are
frequently called upon by tax authorities to justify the prices they use for internal
transfers.

Capital Budgeting
Capital budgeting refers to the evaluation of prospective investment alternatives
and the commitment of funds to preferred projects. Long- term commitments of
funds expected to provide cash flows extending beyond one year are called capital
expenditures. Capital expenditures are made to acquire capital assets, like
machines or factories or whole companies. Since such long-term commitments
often involve large sums of money, careful planning is required to determine which
capital assets to acquire. Plans for capital expenditures are usually summarized in a
capital budget.
Multinational corporations considering foreign investment opportunities face a more
complex problem than do corporations considering only domestic investments.
Foreign projects involve foreign exchange risk, political risk, control, and foreign tax
regulations. Comparing projects in different countries requires a consideration of
how all factors will change over countries.
There are several alternative approaches to capital budgeting. A useful approach for
multinational corporations is the adjusted present value approach. We work with
present value because the value Qf a dollar to be received today is worth more than
a dollar to be received in the future, say one year from now. As a result, we must
discount future cash flows to reflect the fact that the value today will fall depending
on how long it takes before the cash flows are realized.
For multinational corporations, the adjusted present value approach is presented
here as an appropriate tool for capital budgeting decisions. The adjusted present
value (APV) measures total present value as the sum of the present values of the
basic cash flows estimated to result from the investment (operations flows) plus all
financial effects related to the investment.
Capital budgeting is an imprecise science, and forecasting future cash flows is
sometimes viewed as more art than science. The typical corporation experiments
with several alternative scenarios to test the sensitivity of the budgeting decision to
different assumptions. One of the key assumptions in projects considered for
unstable countries is the level of political risk that must be accounted for. Cash
flows should be adjusted for the threat of loss resulting from government
expropriation or regulation.
Impact of Management Control
The magnitude of agency costs can vary with the management style of the MNC. A
centralized management style can reduce agency costs because it allows managers
of the parent to control foreign subsidiaries and therefore reduces the power of
subsidiary managers. However, the parent's managers may make poor decisions for
the subsidiary if they are not as informed as subsidiary managers about financial
characteristics of the subsidiary.
The alternative style of organizing an MNC's management is a decentralized
management style. This style is more likely to result in higher agency costs because
subsidiary managers may make decisions that do not focus on maximizing the
value of the entire MNC. Yet, this style gives more control to those managers who
are closer to the subsidiary's operations and environment.
To the extent that subsidiary managers recognize the goal of maximizing the value
of the overall MNC and are compensated in accordance with that goal, the
decentralized management style may be more effective.
Given the obvious tradeoff between centralized and decentralized management
styles, some MNCs attempt to achieve the advantages of both styles. That is, they
allow subsidiary managers to make the key decisions about their respective
operations, but the decisions are monitored by the parent's management to ensure
that they are in the best interests of the entire MNC.

Impact of Corporate Control

The MNC is subject to various forms of corporate control that can be used to reduce
agency problems. First, the MNC may partially compensate its board members and
its executives with its stock, which can encourage them to make decisions that
maximize the MNC's stock price.
However, this may only effectively control decisions by managers and board
members who receive stock as compensation. In addition, some managers may still
make decisions that conflict with the MNC's goal if they do not expect their
decisions to have much of an impact on the stock price. A second form of corporate
control is the threat of a hostile takeover if the MNC is inefficiently managed. In
theory, this threat is supposed to encourage managers to make decisions that
enhance the MNC's value, since other types of decisions would cause the MNC's
stock price to decline. Other firms would be more likely to acquire the MNC at such
a low price and might terminate the existing managers.
In the past, this threat was not very imposing for managers of subsidiaries in
foreign countries because foreign governments commonly protected the
employees; therefore, the potential benefits from a takeover were effectively
eliminated. However, governments have recently recognized that such
protectionism may promote inefficiencies and they are now more willing to accept
takeovers and the subsequent layoffs that occur in following takeovers.
A third form of corporate control is monitoring by large shareholders. United States
based MNCs are commonly monitored by mutual funds and pension funds because
a large proportion of their outstanding shares are held by these institutions. Their
monitoring tends to focus on broad issues to ensure that the MNC uses a
compensation system that motivates managers or board members to make
decisions to maximize the MNC's value, to use excess cash for repurchasing shares
of stock rather than investing in questionable projects, and to ensure that the MNC
does not insulate itself from the threat of a takeover (by implementing anti-
takeover amendments, for example). Those MNCs that tend to make decisions that
appear inconsistent with maximizing shareholder wealth are subjected to
shareholder activism in which pension funds and other large institutional
shareholders lobby for management changes or other changes. For example, MNCs
such as Eastman Kodak, Ford, IBM, and Sears Roebuck were subjected to various
forms of shareholder activism.
Like U.S. mutual funds and pension funds, foreign-owned banks also maintain large
stock portfolios (unlike United States commercial banks, which do not use deposited
funds to purchase stocks).
The foreign banks are large and hold a sufficient proportion of shares of numerous
firms (including some United States based MNCs) to have some influence on key
corporate policies. Their additional role as a tender to many of these firms enhances
their ability to monitor corporate policies. However, these banks have not played a
major role in corporate control. In general, they do not attempt to intervene unless
a particular firm is experiencing major financial problems.
Corporate control on MNCs based in the United States has increased and is
sometimes cited as the reason for the unusually strong stock price performance of
U.S. firms during the 1990's, since corporate policies are now undertaken with more
awareness about their impact on the stock price. Other countries are adopting U.S.
corporate control practices as a means of forcing local firms to make decisions that
satisfy their respective shareholders.

Constraints Interfering with the MNC's Goals

When financial managers of MNCs attempt to maximize their firm's value, they are
confronted with various constraints that can be classified as environmental,
regulatory, or ethical in nature.

Environmental Constraints: Each country enforces its own environmental

constraints. Some countries may enforce more of these restrictions on a subsidiary
whose parent is based in a different country. Building codes, disposal of production
waste materials, and pollution controls are examples of the restrictions that force
subsidiaries to incur additional costs. Many European countries have recently
imposed tougher anti-pollution laws as a result of severe pollution problems.

Regulatory Constraints: Each country also enforces its own regulatory

constraints pertaining to taxes, currency convertibility rules, earnings remittance
restrictions, and other regulations that can affect cash flows of a subsidiary
established there. Because these regulations can influence cash flows, they must be
recognized by financial managers when assessing policies. Also, any change in
these regulations may require revision of existing financial policies, so financial
managers should not only recognize the regulatory restrictions that exist in a given
country but also monitor them for any potential changes over time.
Ethical Constraints: There is no consensus standard of business conduct that applies
to all countries. A business practice that is perceived to be unethical in one country
may be totally ethical in another. For example, the United States-based MNCs are
well aware of common business practices in some less developed countries that
would be declared illegal in the United States. Bribes to governments in order to
receive special tax breaks or other favors are common. A recent report presented to
Congress by the Justice Department, estimated that U.S. firms lost out on billions of
dollars of international business transactions because of bribes provided by foreign
competitors. The United States Foreign Corruption Practices Act forbids U.S.
corporations to engage in this type of behavior. See: Country Reports on Economic
Policy and Trade Practices (United States Department of State)
www.state.gov/www/issues/economic/trade_reports/index.html.
The MNCs face a dilemma. If they do not participate in such practices, they may be
at a competitive disadvantage. Yet, if they do participate, they receive poor
reputations in countries that do not approve of such practices.
Some United States-based MNCs have made the costly choice to refrain from
business practices that are legal in certain foreign countries but not legal in the
United States.(e.g., dumping chemicals such as fertilizers, otudated medicines, and
food not approved by the FDA in the United States). That is, they follow a worldwide
code of ethics. This may enhance their worldwide credibility, which can increase
global demand for the products they produce.

Four main criteria to identifying a MNE:

1. Structure of Corporation
2. Behavior
3. Performance
4. Coordination

1. Structure refers to the number of countries in which the MNE operates. Also
refers to the nature of corporate ownership. Examples: Suzuki owned by GM,
Gillette is U.S. owned, an Mitsubishi is owned by Japan, even though GM owns a
large percentage. For the majority of MNEs, the ownership of the corporation is
maintained in the parent country, even though they might list shares of stock and
have ownership in different countries. For example: Kereitsus in Japan, Chaebols in
South Korea such as Samsung, Lucky Star and Daewoo, and mergers in the U.S.

2. Performance is the percentage of total revenues, profits, assets and

employees coming from abroad. The greater the reliance of the corporation on
foreign materials, production, personnel and product plants, the more global the
corporation is.
If they derive 40% or more from outside the home country, the MNE is considered
Stateless Corporation. At Nestle, 98% of business is done abroad-Switzerland is
home country. Hoffman La Roche, 96%-Switzerland, Michelin, 78%-France, Sony,
66%-Japan, Gillette, 65%-U.S.

3. Behavior is the attitude of top management toward the role of international

operations within the total corporate strategy. In most of the European
corporations, the majority of CEOs are from foreign countries. The U.S. is an
exception.

4. Coordination is how the firm looks at its worldwide operations, multi-domestic

or global. Multi-domestic is where each country is considered a different market
(Japan uses the term multi-cultural corporation). The corporation is really a
collection of subsidiaries. Global is where the firm views the entire world as one
market and standardizes its products.
 Globalization Effect Forces
Organizational Characteristics of a Multinational: Formalization, specialization, and
centralization. Factors: strategies of multinational, employee’s attitudes, and local
market conditions.
1. Formalization: is define as the use of structures and systems in decision
making, communicating and controlling, for example, Korean firms with better
working environments when workers expect their jobs to be set forth more strictly
and formally. Korea and Japan respond more to formalization than U.S. workers and
Taiwan sees more objective as opposed to subjective formalization.
Objective Formalization: refers to the number of documents, organizational
charts, information booklets, operational instructions, written job schedules and
descriptions, procedure manuals, written policies, schedules, and programs.
Subjective Formalization: tends to be vague and with less specific goals and
procedures, informal controls, and more cultural induced values.
2. Specification: are the organizational characteristics that assign individuals to
specific well define tasks. International specialization can be:
Horizontal Specialization: which is the assignment of jobs so that individuals
are given a particular function to perform and tend to stay within the confines of the
area, for example, jobs in customer service, sales, training, recruiting, purchasing,
and market research.
Vertical Specialization: is the assignment of work to groups or departments
where individuals are collectively responsible to perform. For example, Level of
hierarchy (principle/ agent), risk takers and risk avoidance, Keiretsus, in Japan,
Chaebols in South Korea, and mergers in Taiwan.
3. Centralization: Is a management system under which important decisions are
made at the top of the pyramid. ( principle-agent).
Decentralization is moving down to the lower level personnel. All important
decisions are taken by individuals or private institutions and the function of the
government is simply to provide a framework and stability within which the market
operates. For example, United States of America and Germany.

Philosophical Positions Influencing the Training Process of a MNE:

1. Ethnocentric MNE: put home office people in charge of key international

management positions. The multinational headquarters group and the affiliated
world company managers all have the same basic experiences, attitudes, and
beliefs about how to manage operations, run corporations, and market, (e. g.,
Japanese Keiretsu such as Mazda and Mitsubishi, traditional suppliers, and chaebols
in Korean firms). It will do all training at headquarters.

2. Polycentric MNE: is an MNE that places local nationals in key positions and
allows these managers to appoint and develop their own people as long as the
operations are sufficiently profitable. For example, East Asia, Australia and in
general, markets where the expatriates tend to be not expensive for the
corporations.
It will do the training of employees relying on local management to assure
responsibility of seeing that the training function is carried out.

3. Regiocentric MNE: relies on local managers from particular geographic areas

to handle operations in and around the area, (e.g., in common markets or trade
zones). It often relies on regional group operation and cooperation of local
managers, (e.g., Gillette corporation).

4. Geocentric MNE: seeks to integrate diverse regions of the world through a

global approach to decision making. For example, IBM and John Deere.

C. Advantages for the corporation to operate in the international arena

from a micro economic point of view:
1. Cost reduction, minimization of costs
2. Sales expansion
3. Income and sales smoothing
4. Greater variety

Cost reduction: Corporations go to different markets to take advantage of the

production components and their costs. Corporations that have the advantage of
cost differentials have leadership advantages over other markets. These
corporations maintain R&D and technology at home. China, Indonesia and
Honduras are examples of a labor cost country. Rationalization of production is
where a firm will produce different components of a product in different markets to
take advantage of lower costs.

Sales expansion: The larger the sales, the more profitable the company is in the
long run. Japan, for example has sales growth. Japan sacrificed profit in the short
term for many years to build a large market share in the long run (e.g., 200 years).
The United States is more concerned with short term profits. Companies produce
for the larger market to reduce costs by increasing efficiency and using machines to
full capacity.

Income and sales smoothing: Advantages accrue to corporations that can

minimize the year-to-year swing in sales and income and short run fluctuations such
as unemployment and inflation. They enhance the smoothing process by their
involvement in other countries, because different countries are in different
economies and business cycles. (One country may be coming out of a recession,
for example, while another may be at the peak of its growth cycle.) Employee
training helps smooth the situation, another is to go to different countries and train
them. This helps to minimize risk.

Greater variety: Offer as many varieties as possible. Different products and

processes are introduced to different markets. An example: Coca Cola. Latin
America likes fruit juices. Coca Cola sales were good, but in order to capture a
greater market share, it offered a variety of carbonated juices to Latin America,
called “Fanta.” It was successful. Then they were introduced to the United Staes
and other lines such as frozen juice and “Fruitopia”.

Political Risk: any change in the political environment that may adversely affect
the value of the firm’s business activities. Political risk is not only the threat of
political upheaval but also the likelihood of arbitrary and discriminatory
governmental policies and actions that will result on financial loss or competitive
disadvantage;, for example, increase prices, tariffs, quotas, price controls, content
requirements, and measures directly to the MNE such as partial divestment of
ownership, local content, remittance restrictions, expatriate employment, and
limitations on export requirements.
Examples of political risk:
1. Expropriation; impact on loss of future profits
2. Confiscation; impact on loss of future profits and assets
3. Campaigns against foreign goods; impact on loss of sales and increase
in cost of public relations
4. Mandatory labor benefits legislation ? increase in operating costs
5. Kidnap - Terrorism - Civil Wars and disruption of production, increased security
costs, increased management costs, lower productivity, destructions of supplies,
lost sales
6. Inflation; higher operating cost
7. Currency Devaluations and currency risks; reduced value of repatriated
earnings
8. Tax; decreased profits; subsidization, abatements and dumping.
Macro political; Civil Wars, i.e., Somalia, Bosnia, Middle East, decreased in
Rwanda in 90's, Congo, Zaire
Micro political; Euro-currency, 1970's oil embargo, Financial crash of ‘89.
Euro-Disney by French farmers, Chinese operations

Decrease Political Risk:

Match risks with rewards (profits)
Overseas Private Investment Corp. (OPIC); U.S. government sponsored which
insures U.S. investments from nationalization, insurrections, revolutions and foreign
export changes, and currency inconvertibility. Multilateral Investment Guarantee
Agency (MIGA), subsidiary of World Bank (1988). Lloyds of London underwrites
political risk, although it is really expensive.

Ways of Overcoming Political Risk

1. Sell shares of subsidiary to host citizens such as 10%,10% and 80%.
2. Short-term lease in new equipment
3. Good corporate citizen to build domestic support
4. Purchase inputs from local suppliers
5. Employ and train host country citizens in key management and administrative
decisions
6. Support local charities
-- Spain; Plant closing (shut down) laws on severance pay
– India; limited ownership of domestic business in order to avoid control by
foreigners - i.e., pharmaceuticals
-- China; in order to sell product, product must have high percentage of materials
bought in China
-- South Korea; Banking policies, foreigners (banks) have difficulty obtaining
Korean currency thus making it harder to compete with Korean banks.
-- Government can funnel credit at preferential interest
-- Mexico; energy industry - oil should be accrued only by citizen
-- Greece; restricts ownership on TV (25%)
-- Portugal; 15% - Flemish (Dutch-speaking) in Belgium must own 51% of
commercial broadcast
 Intellectual Property Rights: (Patents, Copyrights) International Convention for
the Protection (Paris Convention) of Industrial Property Rights. Literary and artistic
works (Beune Convention), Universal Copyright Convention.
-- East European, Poland, repatriation of profits
-- Japan with its administrative delays
-- Latin America with its administrative delays and briberies

MNC have been criticized by host countries for many reasons:

1. Rise of interest rates because capital needed locally.
2. Majority of ownership (by shareholders) of subsidiary are owned by parent
company,
therefore, residents don’t have control over operations of company within
borders.
3. Key managerial and technical positions are held by expatriates, as a result, they
do not contribute in the “learning by doing” process of host country.
4. Little training to host employer/employees.
5. They do not adapt technology to host country’s needs.
6. Concentration of research and development in home country.
7. Lack of contribution to host exports and balance of payments.
8. Worsen Y ( income) distribution.
9. Earn excessive profits and fees due to their goals, particularly monopoly power.
10. Dominate major industrial sector.
11. Tend to be more accountable to home country.
12. Contribute to inflation by stimulating D (demand) for scarce resources.
13. Create alliances with corrupt host country elites.
14. They recruit best personnel and managers from host at the expense of local
entrepreneurs.
15. Host country educates and trains employer/employees.
16. Disregard to employer/employee safety and environment.
17. Disregard culture and social impact

Globalization Effect Forces:

1. Advances in computer and communication technology. Increased flow of ideas
and information across borders - cable, www, e-mail.
2. Transportation.
3. Reduction on barriers of international trade by government host, increase in new
markets by international firms which are exporting to them or building production
facilities for local manufacturer.
4. Unification and socialization of global community, such as preferential trade
arrangements, NAFTA, EU, ASEAN, which group several markets into a single
market
5. Explosive growth in DI in the trillions of dollars.
U.S. DI 25.3% to 43%, Japan from 3% to 13%, Europe 40% to 43%. There are
37,000 MNE with $316 trillion. Source: U.S. Commerce Department, 2001.
6. Lessening of U.S. dominance.
7. Mini nationals ? small and medium size firms with exporting, research facilities
and sale facilities.
8. Privatization.
9. Globalization of market economic system.
Globalization forces which changed U.S.A. multinationals in the 1980's and
90's:
1. Massive deregulation.
2. Collapse of Communism and end of Cold War.
3. Sale of hundreds of billions of dollars of state owned firms around the world in
massive privatization efforts designed to shrink the public sector.
4. The revolution of information technology.
5. The rise in the market for corporate control with its waves of takeovers, mergers,
acquisitions and leveraged bought outs.
6. The jettisoning of statist policies and their replacement by the free market
policies in the Third World countries.
7. The unprecedented number of nations submitting themselves to the exacting
regions and standards of the global market place.
8. Degree of internationalization/globalization of the U.S. economy.
9. The integration of worldwide operations of flexibility, adaptability, and speed,
(e.g,. The Limited with 3,200 stores but headquartered in Columbus, Ohio).
10. Increase of foreign direct investment in the U.S. by foreign of other countries.

THE ECLECTIC PARADIGM OF INTERNATIONAL PRODUCTION

1. Ownership-Specific Advantages (of enterprise of one nationality or affiliates of
same) over those of another.
Hierarchical-Related Advantages
a. Property right and/or intangible asset advantages .
Product innovations, production management, organizational and marketing
systems, innovator capacity, non-modifiable knowledge, 'bank' of human capital
experience, marketing, finance, know-how, and so forth.
b. Advantages of common governance, i.e., of organizing with complementary
assets.
(i) Those that branch plants of established enterprises may enjoy over de novo
firms. Those due mainly to size, product diversity and learning experiences of
enterprise, (e.g., economies of scope and specialization). Exclusive or favored
access to inputs, (e.g., labor, natural resources, finance, information). Ability to
obtain inputs on favored terms due to size or monopsonistic influence.
Ability of parent company to conclude productive and cooperative inter-firm
relationships, as between Japanese auto assemblers and their suppliers. Exclusive
or favored access to product markets. Access to resources of parent company at
marginal cost. Synergistic economies (not only in production, but in purchasing,
marketing, finance arrangements, etc.).
(ii) Those that specifically arise because of multi-nationality. Multi-nationality
enhances operational flexibility by offering wider opportunities for arbitraging,
production shifting and global sourcing of inputs. More favored access to and/or
better knowledge about international markets, for information, finance, labor etc.
Ability to take advantage of geographic differences in factor endowments,
government intervention, markets, etc. Ability to diversify or reduce risks, (e.g., in
different currency areas, and creation of options and/or political and cultural
scenarios). Ability to learn from societal differences in organizational and
managerial processes and systems.
Balancing economies of integration with ability to respond to differences in
country-specific needs and advantages.
Alliance or Network-Related Advantages
 a. Vertical Alliances
(i) Backward access to R&D, design engineering and training facilities of
suppliers. Regular input by them on problem solving and product innovation on the
consequences of projected new production processes for component design and
manufacturing. New insights into, and monitoring of, developments in materials,
and how they might impact on existing products and production processes.
(ii) Forward access to industrial customers, new markets, marketing techniques
and distribution channels, particularly in unfamiliar locations or where products
need to be adapted to meet local supply capabilities and markets. Advice by
customers on product design and performance. Help in strategic market
positioning.
b. Horizontal Alliances
Access to complementary technologies and innovative capacity. Access to
additional capabilities to capture benefits of technology fusion, and to identify new
uses for related technologies. Encapsulation of learning and development times.
Such inter-firm interaction often generates its own knowledge feedback
mechanisms and path dependencies.
c. Networks
(i) Similar firms
Reduced transaction and coordination costs arising from better dissemination and
interpretation of knowledge and information, and from mutual support and
cooperation between members of network.
Improved knowledge about process and product development and markets.
Multiple, yet complementary, inputs into innovative developments and exploitation
of new markets. Access to embedded knowledge of members of networks.
Opportunities to develop 'niche' R&D strategies; shared learning and training
experiences, as in the case of cooperative research associations. Networks may
also help promote uniform product standards and other collective advantages.
(ii) Business districts
As per (i) plus spatial agglomerative economies, (e.g., labor market pooling).
Access to clusters of specialized intermediate inputs, and linkages with knowledge-
based institutions, (e.g., universities, technological spill-over).

2. Internalization Incentive Advantages (i.e., to circumvent or exploit

market failure)
Hierarchical-Related Advantages
Alliance or Network-Related Advantages
Avoidance of search and negotiating costs.
To avoid costs of moral hazard, information asymmetries and adverse selection,
and to protect reputation of internalizing firm.
To avoid cost of broken contracts and ensuing litigation.
Buyer uncertainty (about nature and value of inputs (e.g., technology) being sold).
When market does not permit price discrimination.
Need of seller to protect quality of intermediate or final products.
To capture economies of interdependent activities (see b. above).
To compensate for absence of future markets.
To avoid or exploit government intervention (e.g., quotas, tariffs, price controls, tax
differences, etc.).
To control supplies and conditions of sale of inputs (including technology).
To control market outlets (including those which might be used by competitors).
 To be able to engage in practices, (e.g., cross-subsidization, predatory pricing,
leads and lags, transfer pricing, etc.) as a competitive (or anti-competitive)
strategy.
While, in some cases, time- limited inter-firm cooperative relationships may be a
substitute for FDI, in others, they may add to the incentive advantages of the
participating hierarchies, R&D alliances and networking which may help strengthen
the overall competitiveness of the participating firms.
Moreover, the growing structural integration of the world economy is requiring
firms to go outside their immediate boundaries to capture the complex realities of
know-how trading and knowledge exchange in innovation, particularly where
intangible assets are tacit and need to speedily adapt competitive enhancing
strategies to structural change.
Alliances or network related advantages are those which prompt a voice rather
than an 'exit' response to market failure; they also allow many of the advantages of
internalization without the inflexibility, bureaucratic or risk-related costs associated
with it. Such quasi-internalization is likely to be most successful in cultures in which
trust, forbearance, reciprocity, and consensus politics are at a premium. It suggests
that firms are more appropriately likened to archipelagos linked by causeways
rather than self-contained 'islands' of conscious power. At the same time, flagship
or lead MNCS, by orchestrating the use of mobile 0 advantages and immobile
advantages, enhance their role as arbitragers of complementary cross-border value-
added activities.

3. Location-Specific Variables (these may favor home or host countries)

Hierarchical-Related Advantages
Spatial distribution of natural and created resource endowments and markets.
Input prices, quality and productivity, (e.g. labor, energy, materials, components,
semi-finished goods).
International transport and communication costs.
Investment incentives and disincentives (including performance requirements,
etc.).
Artificial barriers (e.g., import controls) to trade in goods.
Societal and infrastructure provisions (commercial, legal, educational, transport,
and communication).
Cross-country ideological, language, cultural, business, political, etc. differences.
Economies of centralization of R&D production and marketing.
Economic system and policies of government: the institutional framework for
resource allocation. Source: Dunning, John, “Reappraising Eclectic International
Business Studies”, (2001), p. 475-76.

The L-specific advantages of alliances arise essentially from the presence of a

portfolio of immobile local complementary assets, which, when organized within a
framework of alliances and networks, produce a stimulating and productive
industrial atmosphere. The extent and type of business districts, industrial or
science parks and the external economies they offer participating firms are
examples of these advantages which, over time, may allow foreign affiliates and
cross-border alliances and network relationships to better tap into, and exploit, the
comparative technological and organizational advantages of host countries.
Networks may also help reduce the information asymmetries and likelihood of
opportunism in imperfect markets. They may also create local institutional
thickness, intelligent regions and social embedded-ness. Source: “Paragism in an
Age of Alliance Capitalism”, Journal of International Business Studies, 1999.

Illustration of types of activity that favor MNEs

Natural resource seeking Capital, technology, access to markets;
complementary assets; size and negotiating strengths Possession of natural
resources and related transport and communications infrastructure; tax and other
incentives To ensure stability of supplies at right price; control markets To gain
privileged access to resources vis-à-vis competitors
(a) Oil, copper, bauxite, bananas, pineapples, cocoa, hotels
(b) Export processing, labor-intensive products or processes
Market seeking Capital, technology, information, management and organizational
skills; surplus R&D and other capacity; economies of scale; ability to generate brand
loyalty Material and labor costs; market size and characteristics; government policy
(e.g. with respect to regulations and to import controls, investment incentives, etc.)
Wish to reduce transaction or information costs, buyer ignorance or uncertainty,
etc., to protect property rights To protect existing markets, counteract behavior or
competitors; to preclude rivals or potential rivals from gaining new markets
Computers, pharmaceuticals, motor vehicles, cigarettes, processed foods, airline
services
Efficiency seeking
(a) of product
(b) of processes As above, but also access to markets; economies of scope,
geographical diversification and international sourcing of inputs (a) Economies of
product specialization and concentration
(b) Low labor costs: incentives to local production by host governments (a) As for
second category plus gains from economies of common governance
(b) The economies of vertical integration and horizontal diversification As part of
regional or global product rationalization and/or to gain advantages of process
specialization (a) Motor vehicles electrical appliances, business services, some R&D
(b) Consumer electronics, textiles and clothing, cameras, pharmaceuticals
Strategic asset seeking Any of first three that offer opportunities for synergy with
existing assets Any of first three that offer technology, markets and other assets in
which firm is deficient Economies of common governance; improved competitive or
strategic advantage; to reduce or spread risks To strengthen global innovatory or
production competitiveness; to gain new product lines or markets Industries that
record a high ratio of fixed to overhead costs and which offer substantial economies
of scale or synergy
Trade and distribution (import and export merchanting) Market access; products
to distribute Source of inputs and local markets; need to be near customers; after-
sales servicing, etc. Need to protect quality of inputs; need to ensure sales outlets
and to avoid underperformance or misrepresentation by foreign agents Either as
entry to new markets or as part of regional or global marketing strategy A variety of
goods, particularly those requiring contact with subcontractors and final consumers
Support services Experience of clients in home countries Availability of markets,
particularly those of ‘lead’ clients Various (see above categories) As part of regional
or global product or geographical diversification (a) Accounting advertising,
banking, producer goods
(b) Where spatial linkages are essential (e.g. airlines and shipping)
C. Why should a company go international?
There are three important questions that the corporation must answer and there
are several reasons to the above question.
1. Does the company have an idea or use which will give a niche or advantage
internationally?
2. What causes the firm to go internationally and succeed in a foreign environment
against competitors from both domestic firms and other MNE’s?
3. What happen to the character, structure, and image of company during the
course of internationalization?

Nine reasons:
1. Larger market, market power, production possibilities, geographic, product
or both. Check population and income as determinants of market size. The
corporation will attain greater profits from foreign markets than those received
locally.

2. Growth and expansion to secure future market or deal with future

competitors. Factors of growth are: rapid increasing expansion of technology,
liberalization of government policies, privatization, development of institutions
encouraging growth, and increase in global competition.

3. Optimization of resources. More people. United States's GDP is less than

the World’s GDP. Keep the same share of market, but increase market space.
Utilize idle materials, spread the risk, minimized competitive risk, protect
investment sand cost smoothing. The corporation can accomplish this because its
leadership in innovation 9technology intensive industries).

4. Corporations need to compete, keep up with the competition. The

corporation watches competitors’ actions. If a company sets operations in new
markets, or markets a new product abroad, companies take immediate actions in
order not to lose market shares. Therefore, when companies go international, others
follow in order to minimized the risks. International when foreigners come to the
United States; so for domestic companies to compete, they must go international.
(Leadership advantage vs. following the leader.) Competitive environment varies
from country to country because the number and strength of competitors, suppliers
and customers and because of regulations on how a company can compete.
Competition has become global via new products becoming global quickly,
companies can now produce in different markets, domestic companies as new
competitors, and suppliers and customers have become international.

5. Corporations need to maximize profits. Corporations will obtain greater

profits from abroad than from being merely domestic companies. Dynamic vs. static
equilibrium, fixed vs. variable resources. Therefore, there are economic reasons to
go international such as direct investment, control, access to foreign markets,
higher sales internationally, and partial or total ownership.

The next four are very important (items 6-9):

 6. Vertical integration. This is extremely important in centralization or
decentralization of operating activities in the global market and global production.
It allows a company to control the upswing (upstream) or downswing (downstream)
of the market without actual ownership in the decision to buy or make component
parts that go in their final product. To maximize profits, control market and control
customers, the firm must discern against competition. Companies become vertically
integrated to assure sources of supply, dominate distribution channels, avoid
dependence on others (suppliers) and to deny such suppliers to the competition.
Example: GM attempts to control ore mines in Venezuela to guarantee the ore for
GM only. Control where production is sold: price, geography, and distribution
downstream, (wholesales to retailer, customer, geographic distribution). Component
parts in house ( vertical), for example, the auto industry has more than ten
thousand components and the company needs to make decisions as to make or use
these components. Reebok and Nike also have to make these type of decisions and
all their production has been out source primarily in low wage markets. Problems
with vertical integration are that the economies and their exchange rates are
volatile; there is change in relative factors of production. Vertical integration gives
the corporation control and assurance of supply and distribution without owning
them.
When making these decisions always look at the trade-offs. Advantages of vertical
integration are: protection of technology, when firms are not efficient internally than
external suppliers at the performing activity, lower costs, facilitation of specialized
investment but creates interdependence, proprietary products enable firm to
produce a product containing superior features and comparative advantage, and,
improve scheduling, planning, coordination and inventory systems.
Reasons for vertical => protect secrecy or minimize effects of government
restrictions, cost of involvement, costs of negotiations, need for financial, human,
and technical resources to undertake projects, control of key resources and
operations, which otherwise may fall in the hands of competitors.

Horizontal expansion occurs when a company goes abroad at the same level
in the value chain as its domestic operation. Horizontal integration occurs when
the company integrates its own operations and avoid buying and selling to other
companies in the same area or industry or licensing technology to them i.e., Xerox
manufactured and sold copiers in Mexico.

The Vertical approach involves movement along the value chain, (i.e., Alcoa’s
participation in ownership of bauxite production facilities in Australia). Downstream
or Backward Vertical, (i.e., Alcoa’s control over supplies that it needs for its
aluminum production in United States). Alcoa acquires a Central American plant to
make aluminum cans from its United States-made aluminum. Forward or upstream
integration.
Horizontal integration may be difficult culturally when the rules of the game are
different or you have trouble acquiring or operating. For example, Eastern Europe
(Hungary) exporting or licensing is unavailable. There are advantages, however, in
transportation costs, market imperfections, following the costumers, product life
cycles, and location.

7. Oligopoly, monopoly competitor - ownership and control: Colluding,

cooperating, corroborating and coordinating. This gives corporations superior size
and larger scope of operations. Companies jostle with each other for larger shares
of the world market. Monopoly or oligopoly position gives the company size and
ability to operate and produce in foreign markets. Regulated or natural monopolies
are where the governments allow a company to manufacture the product and
control the price.
There is manipulation of price only when the demand is inelastic, no substitutes,
consumers can not postpone purchase, and small percentage of consumer’s budget
compared to the benefits obtained, and the market can only afford one producer.
Examples of oligopolies: GM, Ford, Daimler-Chrysler. Examples of foreign oligopolies
are cartels.
Cartels offer unique products not found outside of the cartel. Example: Oil,
diamonds, magnesium, coffee, etc. They collude, cooperate and coordinate. They
control the supply and/or price. All member countries in the cartel must work
together for the cartel to be successful and control a particular commodity or
resource.

Oligopolies (cartels) - various companies producing similar product or service

work together to control markets for the type of products they produce involve
more than a partner.
Formal agreements to set prices, establish levels of production, sales, allocate
market territories (OPEC). Japan - Recession cartel such as The Ministry of
International trade and Industry (MITI).

8. Economies of Scale and Economies of Scope.

Economies of Scale - Cost advantages associated with large scale of production.
As the firm produces more units, amounts changed in quantity produced, the cost
per unit falls because fixed costs (plant, equipment and supervisory personnel) are
spread out over more units of production. Eventually, the cost per unit might
increase or firm incurs more fixed costs to produce additional units. (Whirlpool
produces 50% of all washers in United States.)
This is the main reason for going international. It is the reduction of the unit’s
costs as a producer that makes larger quantities of the product by changing more
than one factor of production. Such a production results from reduction of the
marginal cost due to increased specialization, the use of capital equipment, benefits
of quantity purchase or economies of mass production.
It deals with how corporations use the factors of production efficiently to
minimize cost. Four stages of factors of production:
a. Very Short Run. The Corporation cannot change any of the factors of
production, because they are all fixed; there are not outputs produced in the very
short run. Short run supply of labor is fixed. Fixed costs are the costs of setting up
production facilities in foreign markets, develop a new product lines, sunk costs,
and develop markets. The only way to recuperate high costs is to sell the product
worldwide or to manufacture it worldwide.
b. Short Run. All factors of production are fixed except one. In the U.S., capital or
labor is a factor more able to change. In the Short Run - The Law of Diminishing
Marginal Returns. Increase variable input to fixed inputs. Costs decrease. If
continue to add inputs, the costs then increase. If factors of production are added,
even if free, the cost increases.
c. Long Run. Change all resources, except technology. One reason why
companies go international. The costs are variable in the long run supply of labor
(wages and salaries).
d. Very Long Run. Change all factors of production, including technology. Long
Run - Economies of Scale - same as the Law of Diminishing Returns, except it is in
the long run.
If all inputs are changed for only one output or one industry, then we are working
under Economies of Scale. Economies of scale is when production occurs in only one
industry while economies of scope is producing in more than one industry. If inputs
increase 40% and outputs increase more than 40%, then increasing returns to scale
or scope. If inputs increase 40% and outputs increase 40% (they are equal), there
is constant returns to scale or scope. If inputs increase 40% and outputs increase
less than 40%, there is decreasing returns or diseconomies of scale or scope.

Experience Curve: is the systematic reduction in production costs that have

been observed to occur over the life of the product. Each time accumulated output
doubles, the product’s production costs decrease.

Economies of Scale: is the reduction of unit costs achieved by producing large

volume of product as plant output increases unit costs decrease.
Greater levels of production result in the lower cost per unit, therefore, greater
profitability.
Economies of scale source is the ability to spread fixed costs over large volume.
The ability of the MNE to employ increasing specialized equipment and personnel.
For example, Adam Smith’s division of labor is for the MNE to expand if able to
utilize and make full use of specialized equipment and produce large amounts of
output required to justify the hiring of specialized personnel. For example metal
stamping machinery in the auto industry.
Thus, because MNE can produce large quantities of output and fully utilize
equipment and personnel. An MNE can have lower cost for the production.
Firms that use economies of scale have competitive advantage to spreading fixed
costs of building productive capacity over large output and markets.
There is an increasing production by single plants as rapidly as possible and since
international marketing is larger than domestic, a firm that serves different markets
from different locations is capable of accumulating larger volumes. For example, in
the semiconductor companies, a decrease in cost by setting up manufacturing in
different locations at once and accommodate demands for local responsiveness
manufacturing in different locations makes the company less dependent on
locations. Being too dependent on one location makes the firm too risky. For
example, floating exchange rates, flexibility in manufacturing technology, mass
customization and, short term economic cycles.

9. Product Life Cycle (introduction, growth, maturity, and decline). PLC

includes birth, growth, maturity, and decline over time. With the international
market, the life of the product is prolonged without too much more expense. The
PLC in the international market is shorter.
The PLC was given to us by Raymond Vernon in 1966. The same firm that
pioneers the production in the domestic market undertakes production for
consumption in foreign markets. For example, Xerox in the United States, Fuji in
Japan and Rank X in Great Britain, peanut butter and jelly slices, Heinz with purple
and green squeezable ketchup bottles, and Smuckers with squeezable jelly bottles.
Investment on those markets where local production grows larger to support local
production or marketing, subsequently shifts production to developing countries
when product standardization and market saturation give rise to price competition
and cost pressures. For example, investment in third world countries or developing
countries where labor costs are low.

D. The Corporation needs to review and analyse the operations,

functions, product and customers. A product must be “sellable" on the
international market; it must have international appeal and use. Does my product
have an international appeal and use? The economy of the country must be
studied. Is there a demand for my product or idea? How can the demand be
increased or changed? Will the company be able to supply the demand--produce
enough to serve the market? Legal systems are weak in the international market.
Start with a small market and expand. Know the capabilities and competitors. Are
there substitutes to the product? What poses a threat to the product in the
international market? Do your competitors or customers sell overseas?

E. What a company wants to do, and whether to enter or not. One can
make things happen by making an active decision. Some considerations include
moral codes and customer operational variables.

F. Set up objectives. Stretch the goals of the corporation. The objectives must be
practical and attainable, yet somewhat difficult to achieve, (i.e, for your corporation,
a piece of cake, but for the competitors, it must be a challenge).

PHASE II. TRANSITIONAL STAGE FOR THE CORPORATION

DECISIONAL AND OPERATIONAL VARIABLES

A. There are five steps in the decision making process.

1. Production. How a corporation converts inputs into outputs efficiently,
expanding inputs for more outputs. Economies of Scale/Scope. Economic efficiency
and technology efficiency, decrease costs, and increase profits.

2. Marketing allocation. Look at how to handle intercorporate research and

analysis. Choose products and markets for international market, methods of entry,
and entry strategies.

3. Managerial organization. How to organize internationally, department or

branch. A division or branch has more influence over production schedules and
allocation than an export department. Personnel management, finance, logistics
(warehousing and transportation), and methods of entry and entry strategies.
Expatriates vs. local, geocentric, homocentric and heterocentric.

4. World economy. Must decide which world economy to participate in, and
which is more successful. One can minimize risk with countries that have the same
economic system as ours.

Three key economic indicators of countries same as ours to check into are:
a. GDP (per capita income). Economic growth and economic development.
 b. Quality of life - measured by life expectancy.
c. Percentage of GDP generated from agriculture, minerals (extractive) vs.
percentage of GDP generated from services and manufacturing.

World Bank classification of countries

First World: High income countries, heavily industrialized, high quality of life,
high purchasing power, high educational level. Japan has more purchasing power
than the United States, but no credit, no place to invest the income by individuals.
Non-socialist, northern hemisphere of the world. Includes the European
community, United States, Switzerland, Canada, Scandinavian countries, Japan in
the southern hemisphere, as well as New Zealand and Australia which are part of
the British Commonwealth system. The country must have a GDP per capita of
$3,600.00 or more. Source: http://www.wb.org
The U.S.A. average per capita income family of four is $38,000.00. The U.S. is
considered de-industrialized and service oriented. Average for individuals is
$30,000.00. In 2002 the average doctor salary was $156,000.00, lawyer was
$110,000.00, CEO was $2.3 million; college professor was $84,000.00, and average
McDonald’s worker was $12,000.00. Source: World Bank web site, 2002.
For current statistics check on http://www.wb.org
Second World or Economies in Transition: (Eastern European nations)
Advanced industrialized with former socialist system. Centrally planned, or formally
centrally planned economies. European non-market economies. Same as European
former Socialist countries. Even though they are not socialists, they are still not a
market economy - somewhat in-between. Politically unstable. Undergoing rapid
changes. GDP less $3,600.00 but greater than $490.00.
Third World or Developing Economies: These countries are middle and/or low
income and newly industrialized. The low income countries are the developing
countries, such as African and Latin American countries, but also some European
countries such as Moldavia with a GDP per capita of $120.00. There is low per-
capita income, low quality of life, short life expectancy (of 40 years or less), low
purchasing power, and GDP is less than $410.00. Income distribution is unfair and
uneven. The middle income countries have one or two of the economic indicators.
GDP is less than $3,600.00 and greater than $490.00
The newly industrialized countries are no longer mainly agricultural but also
extractive. They own resources that are exported to industrialized countries,
example: Oil. They have a high per capita income, better quality of life, and are
moving from agricultural to industrialization. Examples: South Korea, Argentina,
Israel, Brazil, Chile, Costa Rica, Saudi Arabia, and South Africa, with about $6.300.00
per capita. In the U.S., no taxes are paid when income is $12,600.00, and one is
considered indigent when income is $8,600.00.

5. Products to sell and produce with regards to the level of income and distribution
of income. Inferior, superior or normal goods and services. Decisions and
operational variables.
The level of income determines how wealth is distributed among the countries
of the world. Brunei is the wealthiest with a GDP per capita of $2,000,000.00.
Distribution of income - how wealth is distributed within the country. In the
U.S., 42% of the wealth is owned by 68% of the people. In Latin America, 2% owned
90% of the wealth in past decades, now 12% own about 74% of wealth, and now,
with the new economic systems, the distribution is about 18% of the population
owing 43% of wealth.

What type of commodities?

With inferior products (YE is -), the consumption decreases as income increases
(Giffin goods). With superior (YE is +) products, as the income increase, the
demand increases. With normal (YE = 1) products, consumption remains
unchanged as income increases and decreases. Examples of these products: Bread,
furniture, hay and sometimes gas. From country to country, these categories
change. An example: What is inferior in the U.S. may be normal in Japan and
superior in Rwanda or Moldavia.

International Firm's Operations and Political Conditions. Operations and

functions are directly related to politics and other environmental variables. Every
market has two sectors: Private and public. The power of the public sector over the
market depends on the country. Scandinavian and German governments own
private businesses. In Japan, the government has absolute control over the
businesses through the MITI ( Minister of Trade and Industry). And in the U.S.,
government operated businesses are inefficient. If one assumes the government
doesn't exist, then the market controls the country's inputs.
See, http://www.ashland.edu/~jgarcia/comparative
1. Economic communications. The allocation of economic resources - opportunity
costs, utility, absolute advantage.
2. Preference articulation. How buyer and seller interact, articulate and
communicate economic decisions.
The outputs in a market economy are: (1) What to produce, (2) how to
produce, (3) for whom to produce, and (4) how can flexibility be maintained
through the changes over time.
Inputs and outputs are based on government interactions.
Inputs to the government:
1. Preference articulation. Citizens input into government (Example: Lobbyist,
interest groups).
2. Preference aggregation. Political idealist - Democrats, Republicans - parties.
3. Political communications. Mass media, television, radio, newspapers.
Outputs
Outputs of the Government:
1. Legislative - laws governing how the market will be run
2. Judicial - interpret, adjudicate
3. Executive - enforces
Corporations must look at the operational variables, such as marketing,
accounting, communications, comparative risk minimization, sales expansion,
acquisition, diversification, forward capital, hedging, colleting and paying late, leads
and lags of inter-corporate payments, and factors of production. They must also
look at functional variables, such as finance, technology, exporting and importing,
global manufacturing and supply, chain management, accounting, human
resources, degree of competition, and degree of integration to efficiently coordinate
the economic activities. Other variables include exchange rates, currency
availability, and politics.
 Key economic characteristics and issues that corporations must consider.
Corporations must consider the political structure, the economic system, and
whether the industry is in the public or private sector of that international market.
A privately owned company should be concerned about the tendency for public
ownership. A public company has the concern of crowd-in, crowd-out risks and
possibilities.
There is also the issue of whether a private company can survive in a country
where most of the industries are publicly owned. Does government view foreign
capital as being in competition, or in partnership with its public or local enterprises?
How much should it be submissive to the private sector?

Key economic characteristics:

1. General framework - capitalistic, social or command markets, planned,
centralized, ownership of resources
2. Elections
3. Degree of equality - growth, inflation
4. Factor endowment - raw materials: Quality and quantity. Factors of production
seekers, such as labor and raw materials
5. Market size and structure - larger markets are harder to enter
6. Extent of social overhead capital - electrical, gas power, transportation,
communication
7. International interactions and trade patterns - balance of payments

Leading Indicators:
Indicators that tell us what is likely to happen within twelve to fifteen months.
4. Average workweek for production workers on manufacturing
2. Average weekly claims for unemployed insurance
3. Net orders for consumer goods and materials
4. Vendor performance, measured as a percentage of companies reporting slower
deliveries from suppliers
5. Index of Consumer expectations
6. New orders from non defense capital goods
7. Number of new building permits issued for private housing units
8. Stock prices of 50 common stocks
9. Interest rate spread in ten year bond less federal fund rates
10. Money supply as M2 = currency and demand deposits plus time deposits of
less than $1,000,000.00

Five key economic factors that influence economic growth and

development:
1. Economic growth, Efficiency and Economic Development and Circular
Flow. Developing countries have strong economic growth. Politically and
financially, they are risky because they grow too quickly. East and South Asia and
Chile have especially strong growth, and the growth is not risky. In Chile the growth
is phenomenal.
Causes of Growth:
1. Institutions compatible with incentives to grow
2. Technological developments
3. Availability of resources
4. Capital accumulation - Investment in productive capacity
 5. Entrepreneurship
6. Health, education, and living standards
7. Infrastructure such as transportation

2. Privatization. Private ownership. The trend is towards privatization of

enterprises. How it is done, which to privatize, and who can participate is
determined by the country. Eastern Europe, Mexico, Argentina, Germany, U.K.,
parts of Russia and France to a lesser degree, are all going towards more
privatization.
France has neither privatization nor nationalization. Russian privatization is
decentralization, and it favors keeping insiders in control of the business. In volatile
countries, foreigners are less willing to invest. (element of risk).

3. Inflation such as demand pull, cost push, and structural inflation,

hyperinflation, and stagflation which affect interest rates, cost of living and
consumer confidence. If it is rapid, prolonged, and sustained, it increases the
average aggregate prices of all commodities and goods and services in the market.

4. Balance of payments - what we owe to the rest of the world with respect to
what the rest of the world owes us. Categories in balance of payments: current
accounts, balance of trade, capital (short term and long term) accounts, gold, errors
and omissions.

5. External debt - Latin American nations (Mexico, and Brazil), and Africa nations
are debtor nations. Large portions of export earnings go toward servicing debt. The
U.S. was a creditor nation, but became a debtor nation in the 1970's, however it still
has the highest productivity in the world.

International firms must check changes in investment patterns due to:

1. Economic conditions. This influences us the most.
Full production is 100% full utilization of all factors of production. Full
employment is not necessarily at 100% utilization of all factors of production but
their practical utilization not necessarily at a 100% capacity.

2. Technological conditions. Technology changes from market to market and

week to week. Factors that influence technology: ? PRODUCTION X TECHNOLOGY =
PROFIT
a. Need capital
b. Other products partially displace products through substitution
c. Market might not be ready
d. No gain in demand of product due to changes
Two types of technology:
1. software - human skills, information, know-how, services, and management
2. hardware - machines and equipment
Technology may be dynamic or static
Dynamic - observable changes
Static - changes over time, economic or technologic efficiency
 3. Wars and insurrections. Can cause transportation as well as communication
difficulties. During WWII, world trade volume went back to what it was in 1938.
There is a decrease in resources and control of natural resources. The emphasis is
changed from one type of goods to another. Creates shortages.

4. Political and Economic organizations. Stimulate international business.

There are different patterns of investment. GATT, W.T.O. and U.N. create
organizations which influence the way countries do business, which is different in
developing and developed countries.
Marketing management is the planning and coordinating of all activities and tasks
in order to have a successful marketing program. Marketing research gives us
marketing entry conditions. With indirect investment there is less control. Direct
investment allows for more control.

Intra-corporate and inter-corporate factors all impact market entry.

Intra-corporate factors:
1. Product characteristics
2. Corporate policies and structure
3. Corporate strengths and competitive position
Inter-corporate factors:
1. Domestic governmental policies
2. Comparative host country's cost
3. Geo-cultural environment
4. Political and legal environment
5. Market opportunities
6. Economic development and performance
Marketing is the collection of factors undertaken by the corporation related to its
goals and objections for profit. A firm's success is determined by how it relates to
the market place.

There are seven tasks firms have to perform in order to be successful in selecting
the market or country:
1. Study its prospective buyers. Where and who are they?
2. Develop products and services that satisfy the customers' needs and wants.
3. Set prices and terms on the product - to get a reasonable profit and be
reasonable to the buyers.
4. Distribution of product in the market
5. Inform the market about the product and persuade the buyers to get
interested.
6. To win with the product, give implied warranties and after-sales services.
7. Monitor the market activity of competitors (domestic and international) and
develop long term strategies

Firms need information systems to identify factors in the international market. They
need to consider:
1. International economic factors
2. Legal and political factors
3. Degree of competition
In making decisions, corporations need to study the international studies and
cultural research. They need to rank the markets in making the decisions.
How to enter the country/market: There are four stages:
1. Selection process
2. Channels of distribution
3. Coordination of global logistics
4. Forms of financing

Selection of the market/country depends on these factors:

1. Must meet the company's goals and objectives
2. Size of the company with respect to sales and assets
3. Company's product line
4. The competitors (with respect to product life cycle)

Criteria of selecting methods of entry

1. Number of markets/countries. Companies differ as to the number of countries
they would like to enter. This gives the market coverage they desire.
2. Penetration of that particular market. The number of markets covered and the
quality of coverage. Example: Should it be the whole market or just the capital.
3. Market feedback. The more direct the investment, the more feedback that one
can get. Choose the method of entry that gives the desired feedback.
4. Learning experience. The more directly involved, the more experience one gets
in the market.
5. Control. One of the most important criteria. Management/share holders control
from all to nothing. Is it a wholly-owned subsidiary, or an export company?
6. Incremental Marketing costs. With a more direct entry, incur higher costs. Less
costs with indirect entry.
7. Profit possibilities. Costs, profit margins are more important than profit
possibilities.
8. Investment requirements. Direct entry has high investment requirements.
Capital is needed to finance inventories and expand credit. Indirect entry has low
investment requirements.
9. Administrative requirements. Vary by entry modes. Accounting, advertising,
currency, red tape, licensing, indirect exporting.
10. How much exposure to foreign problems. With direct, there are more
problems, such as labor, regulations and other country peculiarities.
11. Personnel requirements. With direct entry, need more skilled internal
personnel.
12. Flexibility. If the company expects to stay in the foreign market in the long
run, it must be flexible. Market changes, company situations, objectives and goals
change. Company needs to have an ability to change with the changing market.
13. Element of Risk. Foreign markets are riskier than the domestic markets. Risk
is a function of the methods and amount of involvement in the market. Risk
analysis needs to be done. The more direct entry and the more visible the
company, the more political vulnerability there is.

Indirect Methods of Entry

The corporation supplies the product from the production in the domestic market
and sells in the foreign market. It is a small percentage in the balance of
payments.
Exporting is a generic name for indirect investment. With exporting, companies
maintain control over the product. It is the most inexpensive investment strategy in
the long run, but riskier. Exporting and shipping may or may not be the
responsibility of the manufacturer.
In the United States the most important indirect investment is in the form of
agriculture: soybeans, wheat, corn, rice. In these, the United States supplies 47-
58% of the whole world production. Another big export is in the automobile
industry.

Three stages in the mechanics of Exporting:

1. Selection of the product
2. Selection of the approach of selling. Two approaches: Direct and indirect
3. Ascertaining the market

Indirect approach to exporting - sales occur in the domestic market. Intermediaries

are used in distribution. The key is to not let the buyer and seller meet. Title and
possession of the product pass in the domestic market. (As does liability,
warranties, guarantees, after sales service, distribution).
Direct approach - selling in the foreign market
Indirect approach - selling to an intermediary which takes product abroad.
Advantages of exporting:
1. Most convenient way of doing international business
2. Little capital outlay
3. Excellent way to sell excess capacity, excess product
4. Not subject to political risk
5. No worries of laws, taxes
Disadvantages of exporting:
1. Transportation costs
2. Product may lack features desired in the foreign market
3. Competition may grow.
Indirect exporting is the simplest form of getting involved in the foreign country.
Disadvantages of indirect exporting:
1. Many competitors
2. Manufacturing may change
3. Middlemen may change manufacturers
Distribution may be by:
1. Selling to the individual firms
2. Commission houses
3. Export Manufacturing Companies (EMCs), which find the customers.
4. Export trading companies, which have good connections in the international
business and know the people to buy from and sell to.
Direct Exporting
Manager of the corporation assigns the job of exporting to someone within the
company. The company handles the business expense of the export. It is a
separate department or subsidiary. Deals directly with the sales channels.
Corporation never parts with the titles or possession of the product until the product
reaches the customers. It takes longer to establish and more management time is
needed to maintain.

Direct Investment
1. Foreign or overseas distributors. Distributor has exclusiveness for a foreign
market.
2. Direct sellers or users
3. Establish own sales office in the foreign market
Overcome disadvantages by:
1. Modifying product
2. Revise the product description so it is subject to lower tariffs.