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MODES OF ENTRY INTO OVERSEAS MARKETS

This Chapter covers the following topics.

1. Three modes of entry to overseas markets


2. The criteria for selecting a mode of entry
3. Exporting: Introduction
4. Indirect exports
5. Director exports
6. Rationale for overseas production
7. Methods of overseas production

1. THREE MODES OF ENTRY TO OVERSEAS MARKETS

1.1 If an organization has decided to enter an overseas market, the way it does
so is of crucial strategic importance. The mode of entry affects a firm’s entire
marketing mix of its control over the mix elements.

1.2 Broadly, three ways of entering foreign markets can be identified.

a. Indirect exports These are sales to intermediary organizations


at home which then resell the product to customers overseas.

b. Director exports These are sales to customers overseas.


These may be intermediary organizations based abroad or end-users.

c. Overseas manufacture A firm may set up its own production


operation overseas or enter into a joint venture with an enterprise in the
overseas market. As an example, a number of Japanese companies
have established factories in the UK to manufacture for the UK and
European markets.

1.3 Each of these modes (or levels of involvement) is discussed in more detail
below.

2. THE CRITIERIA FOR SELECTING A MODE OF ENTRY

2.1 The most suitable mode of entry varies:

a. among firms in the same industry (eg a new exporter as opposed to a


long-established exporter);

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b. according to the market (eg some countries limit imports to protect
domestic manufacturers whereas others promote free trade);

c. over time (eg some countries become more – or less – hostile to direct
inward investment by foreign companies).

2.2 To choose a mode of entry to a particular market, a firm should consider the
following issues.

a. Company marketing objectives. in relation to volume, a timescale and


coverage of market segments. Thus setting up an overseas production
facility would be inappropriate if sales are expected to be low in volume,
or the product is only to be on sale for a limited period.

b. Company size. A small firm is less likely than a large one to possess
sufficient resources to set up and run a production facility overseas. Not
only would the firm have to provide investment capital and organizational
ability but it would also have to support the costs of continuing operations.

c. Mode availability. A firm might have to use different modes of entry to


enter different markets. For example, Indian governments since
independence have usually been hostile to foreign producers who wish to
own and operate production facilities located in India, especially if they
wish to repatriate the profits to the investor’s home country.

d. Mode quality. In some cases, all modes may be possible in theory, but
some are of questionable quality or practicality. The lack of suitably
qualified distributors or agents would prelude the export, direct or indirect,
of high technology goods needing installation, maintenance and servicing
by personnel with specialist technical skills.

e. Personnel requirements. These vary according to which mode of entry is


used. When a firm is unable to recruit IM staff from either home or
overseas, indirect exporting or the use of agents based overseas may be
the only realistic option.

f. Market information feedback. In some cases a firm can receive feedback


information about the market and its marketing effort from its sales staff or
distribution channels. In these circumstances direct export or joint
ventures may be preferred to indirect export.

g. Learning curve requirements. Firms which intend a heavy future


involvement in IM might need to learn from the experience that close
involvement in an overseas market can bring. This argues against the
use of indirect exporting as the mode of entry.

h. Risks. Some risks, such as political risk or the risk of the expropriation of
overseas assets by foreign governments, might discourage firms from
using overseas production as the mode of entry to overseas markets.

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Instead, firms might prefer the indirect export mode as it is safer. On the
other hand, the risk of losing touch with customers and their requirements
would encourage either direct export or overseas production.
i. Control needs. Control over the marketing mix and the distribution
channel varies greatly by mode of entry. Production overseas by a wholly
owned subsidiary gives a firm absolute control while indirect export offers
virtually no control to the exporter.

3. EXPORTING: INTRODUCTION

General

3.1 Exporting is the easiest, cheapest and most commonly used route into a new
foreign market. Many firms become exporters in an unplanned, haphazard and
reactive way, simply by accepting orders from potential customers who happen
to be based overseas. However, it is also common for a firm to take a proactive
approach to exporting, by systematic planning and the identification and selection
of target markets for its exports. This gives rise to several advantages over
those entry modes which require greater involvement in the overseas market.

a. The principal benefit is that exporters are able to concentrate


production in a single location, giving economies of scale and consistency
of product quality.

b. Firms lacking the know-how and experience can try IM on a small


scale.

c. Exporting enables firms to develop and test their IM plans and


strategies before risking investment in overseas operations.

d. Exporting avoids many risks (eg of overseas production) and


enables firms to minimize their production costs, administration
overheads and personnel requirements.

3.2 Although exporting requires a low involvement in the overseas market, this does
not necessarily imply that only low investment is needed. Exporting requires
investment in market research, strategy formulation and careful implementation
of the marketing mix. The initial success of Japanese car firms in the USA and
Europe was based on research and strategic planning that was both extensive
and costly.

4. INDIRECT EXPORTS

4.1 Indirect exporting is where a firm’s goods are sold abroad by other
organizations. In this case a firm is not really engaging in true international
marketing. There are four ways of indirect export.

a. Export houses.
b. Specialist export managers.

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c. UK buying offices of foreign stores and governments.
d. Complementary exporting.

Export houses

4.2 Export houses are firms which facilitate exporting on behalf of the
producer. There are three main types of export house.

a. Export merchants act as export principals. They buy goods from a


producer and sell them abroad.

b. Confirming houses also act as principals. Their main function is to


provide credit to customers when the producer is unwilling to do so.

c. Manufacturers’ expert agents are based at home, but sell abroad


for the producer. An agent will usually cover a particular sector or
industry, (eg pottery). Remuneration is by commission.

4.3 Advantages of export houses

a. The producer gains the benefits of the export house’s market


knowledge and contacts.

b. Except in the case of export agents (paragraph 4.2 c) the


producer is relieved of the need:

i) to finance the export transaction;


ii) to suffer the credit risk;
iii) to prepare export documentation.

c. The producer does not bear the overhead costs of export


marketing.

d. In some cases export merchants receive preferential treatment


from foreign institutional and organisational customers.

e. Where export agents are used, the producer retains considerable


control over the market.

4.4 Disadvantages of export houses

a. Usually the producer has little control over the market and the
marketing effort.

b. Ultimately, it is not the producer’s but the merchant’s decision to


market a product, and so a producer is at the merchant’s mercy.

c. Any goodwill created in the market usually benefits the merchant


and not the producer.

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d. As with all intermediaries, an export house or merchant might
service a variety of producing organizations. An individual producer
cannot rely on the merchant’s exclusive loyalty. The merchant’s efforts
are divided between the marketing requirements of products from a
number of different suppliers.
e. Export houses are not normally willing to enter into long term
arrangements with a producer.

Specialist export managers

4.5 Specialist export management firms offer a full export management


service. In effect, they perform the same functions as an in-house export
department but are normally remunerated by way of commission.

a. Advantages of using a specialist export manager are the same as


those for export houses. In addition, a producing firm:

i) immediately gains its own export department without


incurring overheads;
ii) retains full market control;
iii) can normally expect a long term relationship with the
export manager.

b. Disadvantages do exist however.

i) As the export manager is an independent organization, it


can leave the producer’s service (subject to contractual
obligations) and the producer will have gained no in-house
exporting expertise.
ii) As the producer does not learn from the experience of
exporting, this may adversely affect future IM strategic options by
restricting those available.
iii) The SEM may not have sufficient knowledge of all the
producer’s markets.

UK buying officer of foreign stores and governments

4.6 Many foreign governments and foreign companies (eg department stores)
have buying offices set up permanently in the UK. In addition, other foreign
companies send representatives on buying expeditions on the UK. The BOTB
has details of these visits.

Complementary exporting

4.7 Complementary exporting (‘piggy back exporting’) occurs when one


producing organization (the carrier) uses its own established IM channels to
market the products of another producer (the rider) as well as its own. The
carrier may act as:

a. a simple transporter, using spare capacity in its distribution


network.

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b. An agent, selling the rider’s goods for commission;

c. A merchant, buying and selling the rider’s goods.

4.8 Advantages of complementary exporting

a. The carrier earns increased profit from a better use of distribution


capacity and can sell a more attractive product range.
b. The rider obtains entry to a market at low cost and low risk.

4.9 Turnkey contracts may also provide opportunities for complementary


exporting. A single firm engaged on a particular project overseas (eg
construction and civil engineering projects in the Middle East) will often acquire
products and services from other firms in the home country for the project.

5. DIRECT EXPORTS

5.1 Direct exporting occurs where the producing organization itself performs
the export tasks rather than using an intermediary. Sales are made indirectly to
customers overseas who may be the wholesalers, retailers or final users.

Sales of final user

5.2 In this case, there are clearly no intermediaries. Typical customers


include industrial users, governments or mail order customers. Marketing in this
environment is similar to marketing in the domestic market, although there are
the added problems of distance, product regulations, language and culture.

Overseas agencies

5.3 Strictly speaking an overseas export agent is an overseas firm hired to


effect a sales contract between the principal (ie the exporter) and a customer.
Agents do not take title to goods; they earn a commission. In practice, however,
the phrase is often understood to include distributors (who do take title). Some
agents merely arrange sales; others hold stocks and/or carry out servicing on the
principal’s behalf.

5.4 Advantages of overseas agents

a. They have extensive knowledge and experience of the overseas


market and the customer base.

b. Their existing product range is usually complementary to the


exporter’s. This may help the exporter penetrate the overseas market.

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c. The exporter does not have to make a large investment outlay.

d. The political risk is low.

5.5 Disadvantages

a. An intermediary’s commitment and motivation may be weaker


than the producer’s.

b. Agents usually want steady turnover. Using an agent may not be


the most appropriate way of selling low volume, high value goods with
unsteady patterns of demand, or where sales are infrequent.

c. Many agents are too small to exploit a major market to its full
extent. Many serve only limited geographical segments.

d. As a market grows large it becomes less efficient to use an agent.


A branch office or subsidiary company will achieve economies of scale.

As with all intermediaries, the use of an agent requires careful planning,


selection, motivation and control.

Distributors/stockists

5.6 Distributors are customers with preferential rights to buy and sell a range
of a firm’s goods in a specific geographical area.

Distributors earn profit, not commission. They differ from wholesalers only in that
their selling and marketing activities on behalf of a producer are restricted
geographically.

5.7 Stockists are distributors who receive more favourable financial rewards
than distributors as they normally undertake to carry at least a certain minimum
level of stock.

5.8 The advantages and disadvantages of distributors and stockists are


similar to those associated with overseas agents.

Company branch officers abroad

5.9 A firm can establish its own office in a foreign market for the purpose of
marketing and distribution.

5.10 Advantages

a. When sakes have reached a certain level, branch offices become


more effective than agencies (see paragraph 5.5d above).

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b. Sales performance will improve, as the commitment and
motivation of a producer’s own staff should be more effective than those
of an agent.

c. The producer retains complete marketing control.

d. The producer should be able to acquire more accurate and timely


market information.
e. Customer service should improve. Intermediaries are notorious
for poor performance in this respect.

5.11 Disadvantages

a. Higher investment, overhead and running costs are entailed.

b. There can be a political risk, particularly expropriation of assets.

c. The firm will be subject to local employee legislation (eg minimum


number of local staff, dismissal, trade union membership) which it may
not welcome.

6. RATIONALE FOR OVERSEAS PRODUCTION

6.1 Firms that are fully committed to international marketing are often drawn into
overseas manufacture. This give rise to several major benefits.

a. Some markets (eg the USA) are so large that economies of scale cab still be
gained from overseas production.

b. Production costs are lower in some countries overseas than at home.

c. For firms producing weighty or bulky products (eg brewers), overseas


production can reduce storage and transportation costs.

d. Overseas production can overcome the effects of tariff and non-tariff barriers
to imports.

e. Where an overseas government is a customer, manufacture in the overseas


market may be a factor in winning orders.

6.2 For firms which are late entrants to a market, taking over a firm in the overseas
market can be a more effective way of establishing a production facility overseas
than building one from scratch. Alternatively the firm might enter into cooperative
agreements with firms in the overseas market.

7. METHODS OF OVERSEAS PRODCUTION

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7.1 A firm’s strategic choice of overseas production method depends on its
objectives, resources and level of commitment to IM.

Licensing

7.2 A licensing agreement is a commercial contract whereby the licensor gives


something of value to the licensee in exchange for certain performances and
payments. The licensor may provide any of the following.

a. Rights to produce a patented product or use a patented production


process.

b. Manufacturing know-how (unpatented).

c. Technical advice and assistance including the supply of essential


materials, components, plant.

d. Marketing advice and assistance.

e. Rights to use a trademark, brand etc.

7.3 Licensing is growing in extent and importance throughout the world. It is used by
small, medium and large firms, as it has many advantages. These are listed
below.

a. It requires no investment save the continuing costs of monitoring the


agreement.

b. It enables entry into markets that would otherwise be closed (eg by tariffs,
government attitude and policies).

c. As a mode of entry, it is relatively simple and quick.

d. The licensor gains access to knowledge of local conditions.

e. New products can be introduced to many countries quickly because of


low investment requirements.

f. It provides all the usual benefits of overseas production (cheaper


transport, lower import barriers and so on).

7.4 Licensing also suffers from drawbacks, however, among these are:

a. Revenues from licenses are very low, usually less than 10% of turnover.
The significance of this naturally depends on the profit margins that might
otherwise be expected.

b. A licensee may eventually become the licensor’s competitor. During the


license period, the licensee may gain enough know-how from the licensor
to be able to operate independently.

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c. Although the contract may specify a minimum sales volume, there is
some danger that the licensee will not fully exploit the market.

d. Product quality might deteriorate if the licensee has a more lax attitude to
quality control than the licensor.

e. Governments may impose restrictions or conditions on the payment of


royalties to the licensor or on the supply of components.
f. It is often difficult to control the licensee effectively. The licensee’s
objectives often conflict with those of the licensor and disagreements are
common.

7.5 Astute management of the license agreement is essential. Therefore licensors


should:

a. be careful in the choice of licensees (eg identify criteria that must be


satisfied);

b. design contracts that protect both parties;

c. control of licensee, by, say, having an equity interest in the licensee’s


business or by retaining control over key input components;

d. take action to motivate the licensee.

Franchising

7.6 Franchising is a type of licensing. The franchise agreement specifies, in more


detail than a license agreement, exactly what is expected of the franchisee. In a
franchise arrangement, the franchisor supplies a standard package of goods,
components or ingredients along with management and marketing services or
advice. The franchisee supplies capital, personal involvement and local market
knowledge. Avis, Holiday Inn, Pepsi Cola, Kentucky Fried Chicken and
Macdonalds have franchise arrangements in many countries.

7.7 The advantages and disadvantages of franchising are largely the same as those
of licensing.

 An extra benefit, however, is that it provide some leverage for controlling


the franchisee’s activities as it involves the franchisor’s supply of ingredients or
components.

 A particular disadvantage of franchising is that the search for competent


candidates is both costly and time consuming where the franchisor requires many
outlets (eg Macdonalds in the UK). This has led to decisions by Burger King and
Kentucky Fried Chicken to reduce the number of franchised outlets in the UK (by buying
back the franchise).

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Contract manufacture

7.8 In the case of contract manufacture a firm (the contractor) makes a contract with
another firm (the contractee) abroad whereby the contractee manufactures or
assembles a product on behalf of the contractor. The contractor retains full
control over marketing and distribution whilst the manufacture is done by a local
firm. Firms such as Del Monte, Colgate, and Procter and Gamble, use this
method of entry to overseas markets.

Advantages of contract manufacture include the following.

a. There is no need to invest in plant overseas.


b. Risks associated with currency fluctuations, is largely avoided.
c. The risk of asset expropriation is minimized.
d. Control of marketing is retained by the contractor.
e. A product manufactured in the overseas market may be easier to sell,
especially to government customers.
f. Lower transport costs and, sometimes, lower production costs can be
obtained.

7.9 Contract manufacture is perhaps best suited:

a. to countries where the small size of the market discourages investment in


plant;

b. to firms whose main strengths are in marketing rather than production.

7.10 Contract manufacture does involvement some disadvantages, which include the
following

a. Overseas contractee producers who are reliable and capable cannot


always be easily identified.

b. Sometimes the contractee producer’s personnel must receive intensive


and substantial technical training.

c. The contractee producer may eventually become a competitor.

d. Quality control problems in manufacturing may arise.

Joint Ventures

7.11 A joint venture is an arrangement where two firms (or more) join forces for
manufacturing, financial and marketing purposes and each has a share in both
the equity and the management of the business.

7.12 Licensing, franchising and contract manufacture are loose forms of join venture.
However joint ventures are bound by much stronger formal ties.

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7.13 A joint venture is usually an alternative to seeking to buy or build a wholly owned
manufacturing operation abroad and can offer substantial advantages.

a. Some governments discourage or even prohibit foreign firms setting up


independent operations. Instead, they encourage joint ventures with
indigenous firms. This is because:

i) some governments regards uncontrolled investments from


overseas as a type of colonial exploitation;
ii) they are averse to sending precious foreign exchange outside the
country;

iii) joint ventures generally involve a transfer of know-how and


technology that benefits for local economy. Joint venturing
between outside and local firms is encouraged, for example, in
India, Nigeria and the former USSR.

b. As the capital outlay is shared, joint ventures are especially attractive to


smaller or risk-averse firms, or where very expensive new technologies
are being researched and developed (such is the civil aerospace
industry).

c. When finds are limited, a joint ventures permit coverage of a larger


number of countries since each one requires less investment by each
participator.

d. A joint venture can reduce the risk of government intervention as a local


firm is involved (eg Club Mediterranee pays much attention to this factor).

e. Licensing and franchising often give a company income based on


turnover, and any profits from cost reductions accrue to the licensee. In a
joint venture, the participating enterprises benefit from all sources of
profit.

f. Joint ventures can provide close control over marketing and other
operations.

g. A joint venture with an indigenous firm provides local knowledge, quickly.

7.14 The major disadvantage of joint ventures is that there can be major conflicts of
interest between the different parties. Disagreements may arise over.

profit shares;
amounts invested;
the management of the joint venture; and
the marketing strategy

For these reasons firms such as IBM have, in the past, been reluctant to engage in joint
ventures, although this policy has changed with the announcement of cooperative
agreements with Apple (for work stations) and Siemens.

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7.15 There is always a potential for conflict. A company should minimize it by:

a) careful selection of partners;


b) formulation of jointly beneficial contracts; and
c) pre-arranging for arbitration to resolve any clashes that occur, etc

Wholly owned overseas production

7.16 Establishing and running of production facility in an overseas market


demonstrates that fullest commitment to that market. Production capacity can be
built from scratch, or, alternatively, an existing firm can be acquired.

7.17 Acquisition, as a mode of entry, is rapid and offers the benefits of an existing
management team, market knowledge and all the other trappings of a ‘going
concern’. General Motors, for example, enjoyed these gains on entry to the UK
market by the acquisition of Vauxhall Motors. At the same time, acquisitions
which go wrong (in the financial sector the Midland Bank’s purchase of the
California based Crocker Bank) can have serious and long term penalties.

7.18 Entry to an overseas market by creating new capacity can be beneficial if there
are no likely candidates for takeover, or if acquisition is prohibited by the
government.

a) This entry mode enables the use of the newest production


technology.

b) The investing company may also be able to start afresh with new
forms of managing industrial relations.

7.19 These were major benefits for Nissan Motors when the company created new
capacity in Sunderland and Tennessee. However, another reason for direct
inward investment by Japanese companies in Europe is the threat of being
excluded from the single European market. The UK has been a prime site
because of government support and relatively low labour costs.

7.20 Advantages of wholly owned overseas manufacture

a) The firm does not have to share its profits with partners of any
kind.

b) The firm does not have to share or delegate decision making and
so there are no losses in efficiency arising from inter-firm conflict.

c) There are none of the communication problems that arise in joint


ventures, license agreements etc.

d) The firm is able to operate a completely integrated and synergistic


international system.

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e) The firm gains a more complex ‘feel’ for IM and more varied
experience from overseas production than from other arrangements.

7.21 There are also major disadvantages.

a. The substantial investment funding required prevents some firms from


establishing operations overseas.

b. Suitable managers, whether recruited in the overseas market or posted


abroad from home, may be difficult to obtain.
c. Some overseas governments discourage, and sometimes prohibit, 100%
ownership of an enterprise by a foreign company.

d. This mode of entry forgoes the benefits of an overseas partner’s market


knowledge, distribution system and other local expertise.

8. CONCLUSION

8.1 It is possible to identify three modes of entry to foreign markets:

a. Indirect exports;
b. Direct exports;
c. Overseas manufacture.

8.2 The choice of mode of entry is affected by:

a. The firm and its products and history;


b. The foreign market;
c. The degree of involvement the firm wants in the foreign market.

8.3 Indirect exporting occurs when a firm uses an intermediary. Direct exporting is when
the firm exports directly to the overseas markets or overseas agency.

8.4 Some firms set up overseas branch offices to facilitate direct exports, but others
enter the overseas market for good, as it were, by setting up production facilities
overseas.

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