Singapore Country Analysis
Foreign Market Entry and Country Risk Management
What is the best way to enter a foreign market? The optimal choice will depend on a multitude of country and asset-specific characteristics. There are differences in resource commitment, control, and gaining knowledge between the various modes of entry. The main reason for investment-based foreign market entry are the potential for higher sales and lower costs. Corporations often try to extend their product life cycles by entering foreign markets.
a) Export trade. Exporting relies on domestic production and foreign sales. May use agent, distributors, foreign sales branch, or subsidiary to aid in exporting. The fastest way to gain access to a foreign market is by exporting through a foreign sales agent but it also has the lowest sales potential. With more experience the exporting firm can be more active in marketing and distribution with a foreign sales branch or subsidiary.
i. Foreign sales agents handle the marketing and distribution in the foreign market. Exporting through a foreign sales agent provides the least control over marketing and distribution channels and prevents exporter from gaining experience in the market. Using a foreign sales agent requires little investment in time and resources from the exporter and insulates the exporter from costs and risks of foreign sales. The producer retains control of production at home.
ii. Foreign subsidiaries are incorporated in the host country. Foreign branches are part of the parent instead of a separate entity in the host country. This type of entry gives the exporting firm more control over distribution and marketing but requires a bigger resource commitment. It offers greater potential sales than a sales agent. It eliminates agency costs associated with sales agents. It also allows the exporter to learn more about the market and become more responsive to the markets needs.
b) Import trade. Importing relies on foreign production and domestic sales. Foreign products can be used to produce domestic revenue.
c) Licensing: In an international license agreement, a domestic company (the licensor) contracts with a foreign company (the licensee) to market the licensor's product in a foreign country in return for royalties, fees, or other compensation. Licensing allows rapid access into a foreign market with little resource commitment. Licensing agreements also have the highest potential for loss of production technology. A reciprocal marketing agreement is where two companies form a strategic alliance to co-market each other's product. Management contracts are a form of licensing agreement in which a company licenses its organizational or management expertise to another company. Licensing provides quick and relatively low-risk entry into foreign markets as long as the parent can protect its intellectual property rights.
d) Foreign Direct Investment (FDI) - an investment in which you control the firms operations. Building productive capacity directly in a foreign country is called foreign direct investment. This foreign market entry mode has the highest resource commitment but provides the company a permanent foothold in the country. Problems in overcoming cultural distance are greatest through foreign direct investment. FDI is one of the most difficult entry modes. With established operations in the foreign country, multinational corporations are able to promote their products and services more effectively. FDI differs from portfolio investment in the amount of control you have over the operations of the firm. Portfolio investment you just buy some of the firm's shares. If you buy enough shares you gain control of the firm and you end up with FDI.
e) Cross border mergers and acquisitions is the most popular type of investment-based foreign market entry. Cross-border mergers and acquisitions is where a domestic parent acquires the use of an asset in a foreign country. This is done in one of the three following ways: Cross border acquisition of assets, Cross border acquisition of stock, or cross border merger.
i. Acquisition of assets: The acquisition abroad of companies, property, or physical assets such as plant or equipment has increased dramatically over time. Exposure to political risk is highest with foreign acquisitions. Capital market investment restrictions are the biggest obstacle for foreign acquisition.
ii. Acquisition of stock: You gain control of the firm through acquiring stock from either management (friendly offer) or investors (hostile offer).
iii. In a cross border merger two companies pool their assets and liabilities to form a new company. Usually done in a stock for stock offer where the stockholders of both firms approve the offer.
f) Joint venture - an international joint venture is an investment-based strategic alliance in which two or more companies pool their resources to execute a well-defined mission. The incentive to act opportunistically and violate the terms of the agreement is great once the foreign partner has acquired the production technology. For manufacturing firms with patents, the most important difference between various foreign market entry modes for manufacturing firms is whether or not the parent firm maintains control of production. The most important element of a successful partnership is in choosing the right partner.
g) Franchising - an agreement in which the domestic company (the franchisor) licenses its trade name or business system to an independent company (the franchisee) in a foreign market. An international franchise agreement is an agreement in which a domestic company licenses its trade name or business system to an independent company in a foreign market. Corporations have the least control over production in licensing agreements.
Foreign sourcing of inputs or production can help lower operating cost and increase the operating cash flows of the MNC.