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INTERNATIONAL BUSINESS MANAGEMENT

LESSON 2:
WHY GO INTERNATIONAL?

We have discussed the nature of international business and the Canada


precautions that the multinational companies should take while The Canadian economy’s growth rate is like ly to pick up in
operating in foreign countries. The basic question of “why do the 1996. An index of business confidence shows higher real
Business firms of a country go to other countywide?” might have spending on machinery and equipment in the first half of 1996,
been in your minds. Therefore, we answer this question, before reflecting a high level of producer confidence. On the consump-
proceeding further. tion side, however, the picture is less promising. Low consumer
To achieve Higher Rate of Profits: As we have discussed in demand has been strengthened by a high unemployment rate
various courses/subjects like Principles and Practice of Manage- of 9.8 per cent, high household debt levels, and consumer
ment, Managerial Economics and Financial Management that worries over job security. Even so, retail sales are expected to
the basic objective of the business firms is to earn profits. pick up soon. So, the forecast for personal expenditure growth,
When the domestic markets do not promise a higher rate of rather than being downgraded, remains unchanged.
profits, business firms search for foreign markets, which But the low spending level has helped in restraining inflation.
promise for higher rate of profits. For example, Hewlett Packard Consumer prices rose by only 13 per cent in the first half of’
earned 85.4% of its profits from the foreign markets compared 1996 well within the central bank’s target range of between 1
to that of domestic markets in 1994. Apple earned US $ 390 and 3 per cent allowing the fifth round of interest rate cuts in
million as net profit from the foreign markets and only US $ 1996 independent of US economic conditions. As the data
310 millions as net profit from its domestic market in 1994. available so far suggest that an upturn on the industrial front is
Expanding the Production Capacities beyond the Demand of Linder way. Also, the trade surplus is favourable as strong net
the Domestic Country: Some of the domestic companies external demand enhanced by the low Canadian dollar, low
expanded their production capacities more than the demand for domestic demand, and a stronger US growth rate led to a
the product in the domestic countries. These companies, in Canadian $4.10 billion trade surplus in May 1996.
such cases, are forced to sell their excess production in foreign Japan
developed countries. Toyota of Japan is an example. (See Box 1. In recent months, the prospects of a sustained recovery in
3 for Economies of Developed Countries). Japan have improved although the Economic Planning Agency
Article 2.1 has warned that the recovery ‘is still fragile, and that expansion-
ary trends have yet to be confirmed. Recently, there have been
The Economies of Developed Countries
increasing signs of an upturn in private consumption, led by
United States Improving job opportunities and rising wages. Retail sales
In the US, the rate of growth of Gross Domestic Product rebounded in June 1996, rising by 2 per cent over June 1995,
(GDP) rose by 2.6 per cent in the second quarter of 1996 over after posting declines in two previous months. Consensus Inc.’s
the corresponding period of 1995 much higher than the first forecasts for private consumption growth in both 1996 and
quarter growth rate of 1.7 per cent. The rate of growth of 1997 have been upgraded to 3.5 and 2.6 per cent respectively.
personal consumption rose strongly throughout the first half On the supply side, however, the picture is less optimistic, with
of 1996 overshadowing the economy’s performance on the another fall industrial output growth indicating that inventories
business investment front, which slowed between April and are still being worked off. Meanwhile, utility costs rose by 1.3
June 1996. Buoyant consumer demand has prompted further per cent while food prices jumped by 6.8 per cent in July 1996.
speculation about the future course of the inflation curve and However, Consensus Inc. forecasts negligible inflation pressure
shortterm interest rates. in 1996 although more significant price rises are expected in
Recent data present a contradictory picture. While some surveys 1997, Although the trade surplus narrowed to Y3 trillion in the
point to a stronger rate of growth of industrial production in first, half of 1996, the pace of contraction is slowing due to
the third quarter of 1996, the growth rate of durable goods Japan’s higher competitiveness following the depreciation of
orders fell by 0.8 per cent between May and June 1996. Besides, the yen last year
statements by Alan Greenspan, the Chairman of the Federal
Australia
Reserve, confirm a weaker growth prognosis. With growth
Despite stronger thanexpected economic growth in the first
showing signs of easing, there is a likelihood that interest rates
quarter of 1996, the “Reserve Bank of Australia (RBOA)
will be on hold. But Consensus Inc. predicts that 10-year
lowered the cash rate by 0.5 per cent to 7 per cent in endJuly
treasury bond rates will increase from the 1995 level of 5.6 per
1996. The governor of the RBOA said that the lower, and
cent to 6.7 per cent by November 1996,
declining, rate of growth o f wages suggested that economic
growth had fallen below its potential levels. Moreover, recent
indicators of consumer spending point to a softer private

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consumption growth rate in the second quarter of 1996 while Article 2.2

INTERNATIONAL BUSINESS MANAGEMENT


excess capacity and high inventories suggest that industrial
Ibm Gives Fastest Computer to the World
Production growth is likely to remain depressed over the next
International Business Machines Corporation unveiled the
few months.
fastest computer in the world, which the US government will
After a peak of 5.1 per cent in the last quarter of 1995, inflation use to simulate nuclear weapons tests.
declined to 3.4 per cent in the first half of 1996. This trend has
The supercomputer, able to process more in a second than one
also been reinforced by the weakening growth of weekly
person with a calculator could do in 10 million years, was made
earnings, which averaged 3.7 per cent in the first six months of
for the US department of energy’s Accelerated Strategic Com-
1996. However, an upward pressure on wages is building,
puting Initiative (ASCI.). The system could ease congressional
which will determine the course of both inflation and monetary
opposition to the United States signing the Comprehensive
policy in the short run. In fact, Consensus Inc, expects that the
Test Ban Treaty, banning all actual nuclear weapons testing
90day ‘bank bill rate will fall to 6.8 per cent over the next three
worldwide.
months.
“Without underground testing, we need simulations to make
Severe Competition in the Home Country: The countries
sure the stockpile is safe, reliable and operational,” said David
oriented towards market economies since 1960s had severe
Cooper, a member of the President’s Council on Computing
competition from other business firms in the home countries.
and chief information officer of Lawrence Livermore Lab in
The weak companies, which could not meet the competition of
California, where the system will be run. Called ASCI, White
the strong companies in the domestic country, started entering
super computer will churn the factors involved in a nuclear
the markets of the developing countries.
detonation, including the weapon’s age and design. This could
Limited Home Market: When the size of the home market is eventually allow the government to manage its entire stockpile
limited either due to the smaller size of the population or due of nuclear weapons without any real nuclear tests, Cooper said.
to lower purchasing power of the people or both, the compa- The US Senate last year filed to ratify the test ban treaty, insisting
nies internationalise their operations. For example, most of the on the nation’s right to continue testing nuclear weapons
Japanese automobile and electronic firms entered US, Europe underground.
and even African markets due to the smaller size of the home
“If you polled the weapons designers right now, they would
market. ITC entered the European market due to the lower
say that testing is still more effective,” Cooper said. The new
purchasing power of the Indians with regard to high quality
supercomputer is a major step toward full simulation but is not
cigarettes.
yet capable of testing the nuclear weapons stockpile to stan-
Similarly, the mere six million population of Switzerland is the dards set by experts. A system that could replace actual nuclear
reason for Ciba Geigy to internationalise its operations. In fact, tests must have a computing capability of 100 teraflops, or
this company was forced to concentrate on global market and trillions of operations per second, versus the ASCI White
establish manufacturing facilities in foreign countries. computing capacity as tested by IMB of 12.3 teraflops, Cooper
Political Stability vs Political Instability: Political stability does said “We’re still on timescale to do by 2004,” he added. The
not simply mean that continuation of the same party in power, system contains 8,192 copper microprocessors and is 1,000
but it does mean the continuation of the same policies of the times more powerful than its chess playing predecessor ‘Deep
Government for a quite longer period. It is viewed that USA is Blue,’ which defeated World Champion Gary Kasparov in 1997.
a politically stable country. Similarly, UK, France, Germany, Italy IBM Is selling the system, which will take up the floor space
and Japan are also politically stable countries. equivalent to two basketball courts and weighs as much as 17
Most of the African countries and some of the Asian countries fullsized elephants to the DOE for $110 million.
like Malaysia, Indonesia, Pakistan and India are politically But designing the most powerful computer in the world has
instable countries. other pay-offs of IBM, including bragging rights that could
Business firms prefer to enter the politically stable countries and allow it to take a greater share in the supercomputer market, as
are restrained from locating their business operations in well as the use of the advanced technology in its lower-level
politically instable countries. In fact, business firms shift their computer products.
operations from politically instable countries into politically “We’re seeing more and more that deep computing will become
stable countries. a critical element In how real business is run every day, and that
It’s not just in the territory of the propeller heads,” said
Availability of Technology and
Nicholas Donofrio, IBM senior vicepresident technology and
Managerial Competence:
manufacturing.
Availability of advanced technology and managerial competence
in some countries act as pulling factors for business firms from High Cost of Transportation:
the home country. The developed countries due to these Initially companies enter foreign countries through their
reasons attract companies from the developing world. In fact, marketing operations. At this stage, the companies realise the
American companies, in recent years, depend on Japanese challenge from the domestic companies. Added to this, the
companies for technology and management expertise.’ (Box 1.4 home companies enjoy higher profit margins whereas the
presents information regarding latest technology in computers). foreign firms suffer from lower profit margins. The major

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factor for this situation is the cost of transportation of the Having discussed the need for international business, we shall
INTERNATIONAL BUSINESS MANAGEMENT

products. discus the basis for international business.


Under such conditions, the foreign companies are inclined to Stages of Internationalisation
increase their profit margin by locating -their manufacturing The internationalization process generally includes fives stages.
facilities in foreign countries where there is enough demand Viz domestic company, international company, multinational
either in one country or in a group of neighboring countries. company, global company and transnational company. Now, we
For example, Mobil, which was supplying the petroleum will study stage of internationalization in detail.
products to Ethiopia, Kenya, Eritrea, Sudan etc. from its Stage 1: Domestic Company
refineries in Saudi Arabia, established its refinery facilities in Domestic company limits its operations, mission and vision to
Eritrea in order to reduce the cost of transportation. Similarly, the national political boundaries. These companies focus its
Caterpillar located its manufacturing facilities at different centers view on the domestic market opportunities, domestic suppliers,
in order to reduce the cost of transportation. This company domestic financial companies, domestic customers etc.
produces highvalue added parts in limited locations and less
These companies analyze the national environment of the
valued and noncritical components and assembles the final
country, formulate the strategies to exploit the opportunities
products in a number of foreign countries.
offered by the environment. The domestic companies’ uncon-
Nearness to Raw Materials: The source of highly qualitative scious motto is that, “if its not happening in the home country,
raw materials and bulk raw materials is a major factor for it is not happening”
attracting the companies from various foreign countries. Most
The domestic company never thinks of growing globally. If it
of the US based and European based companies located their
grows, beyond its present capacity, the company selects the
manufacturing facilities in Saudi Arabia, Bahrain, Qatar, Oman,
diversification strategy of entering into new domestic markets,
Iran and other Middle East countries due to the availability of
new products, technology etc. The domestic company does not
petroleum. Theses companies, thus, reduced the cost of
select the strategy of expansion/penetrating into the interna-
transportation.
tional markets.
Availability of Quality Human Resources at Less Cost :
This is a major factor, in recent times, for software, high Stage 2: International Company
technology and telecommunication companies to locate their Some of the domestic companies, which grow beyond their
operations in India. India is a major source for high quality and production and/or domestic marketing capacities, think of
low cost human resources unlike USA, developed European internationalizing their operations. Those companies who
countries and Japan. Importing human resources from India by decide to exploit the opportunities outside the domestic
these firms is costly rather than locating their operations in country are the stage two companies. These companies remain
India. Hence these companies started their operations in India ethnocentric or domestic country oriented. These companies
and other similar countries. believe that the practices adopted in domestic business, the
people and products of domestic business are superior to those
To Avoid Tariffs and Import Quotas: It was quite common
of other countries. The focus of these companies is domestic
before globalization that governments imposed tariffs or duty
but extends the wings to the foreign countries. Markets and
on imports to protect the domestic company. Sometimes
extend the same domestic operations into foreign markets. In
Government also fixes import quotas in order to reduce the
other words, these companies extend the domestic product,
competition to the domestic companies from the competent
domestic price, promotion and other business practices to the
foreign companies. These practices are prevalent not only in
foreign markets. Normally internationalization process of most
developing countries but also in advanced countries.
of the global companies starts with this stage two process.
For example, Japanese companies are competent competitors to Most of the companies following this strategy due to limited
the US companies. USA imposed tariffs and quotas regarding resources and also to learn from the foreign markets gradually
import of automobiles and electronics from Japan. Harley before becoming a global company without much risk.
Davidson of USA sought and got five years of tariffs protec- The international company holds the marketing mix constant
tion from Japanese imports. Similarly, Japan places high tariffs and extends the operations to new countries. Thus the
on imports of rice and other agricultural goods from USA. international company extends the domestic country marketing
o avoid high tariffs and quotas, companies prefer direct mix and business model and practices to foreign countries.
investment to go globally. For example, companies like Sony,
Stage: 3 Multinational Company
Honda and Toyota preferred direct investment if] various
Sooner or later, the international companies learn that the
countries by establishing subsidiaries or through joint ventures
extension strategy (i.e., extending the domestic product, price
in various foreign countries including USA and India, Similarly,
and promotion to foreign markets) will not work. The best
General Electrical, and Whirlpool also have foreign subsidiaries.
example is that Toyota exported Toyopet cars produced for
Xerox, Canon, Phillips, Unilever, Lucky Gold Star, South
Japan in Japan to USA in 1957. Toyopet was not successful in
Korean Electronics Company, Pepsi, Coca Cola. Shell, Mobil etc.
USA. Toyota could not sell these cars in USA as they were over
established manufacturing facilities in various foreign countries
priced, underpowered and built like tanks. Thus these cars were
in order to avoid tariffs, import duties and quotas.
not suitable for the US markets. The unsold cars were shipped
back to Japan.

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Toyota took this failure as a rich learning experience and as a companies satisfy many of the characteristics of a global

INTERNATIONAL BUSINESS MANAGEMENT


source of invaluable intelligence but not as failure. Toyota, corporation.
based on this experience designed new models of cars suitable
Characteristics of a Transnational Company
for the US market. The international companies turn into
The characteristics of a transnational company include: geocen-
multinational companies when they start responding to the
tric orientation, scanning or information acquisition, longrun
specific needs of the different country markets regarding
visions etc. We discuss these characteristics in detail.
product, price and promotion.
(i)Geocentric Orientation: A transnational company is
This statue of multinational company is also referred to as
geocentric in its orientation. This company thinks globally and
multidomestic. Multidomestic company formulates different
acts locally. This company adopts global strategy but allows
strategies for different markets; thus, the orientation shifts from
value addition to the customer of a domestic country. This
ethnocentric to polycentric. Under polycentric orientation the offices
company allows adaptation to add value to its global offer.
/branches/subsidiaries of a multinational company work like
Table 1.1 presents stages of internationalization.
domestic company in each country where they operate with
distinct policies and strategies suitable to that country con- The assets of a transnational company are distributed through-
cerned. Thus they operate like a domestic company of the out the world, independent and specialized. The R & D facilities
country concerned in each of their markets. of a transnational company are spread in many countries, but
specialized in each Country based on the local needs and
Philips of Netherlands was a multidomestic company of this stage
integrated in world R & D project. Similarly, the production
during 1960s. It used to have autonomous national organizations and
facilities are spread but specialized and integrated.
formulate the strategies separately for each country. Its strategy did
work effectively until the Japanese companies and Matsushita started In case of Caterpillar, manufacturing and assembly facilities are
competing with this company based oil global strategy. Global strategy located in many countries. Components are shipped for
was based on focusing the company resources to serve tile world market. assembly and the assembled product is shipped to the place o f
the customer.
Philips strategy was to work like a domestic company, and
produce a number of models of the product consequently it Units of the transnational corporation in different countries
increased the cost of production and price of the product. But create and develop the knowledge in all functions and share
the Matsushita’s strategy was to give the value, quality, design among them. Thus knowledge and experience is shared jointly.
and low price to the customer. Philips lost its market share as Transnational gains power and competitive advantage by
Matsushita offered more value to the customer developing and sharing knowledge and experience. of the
knowledge among all, Colgate operating companies across
Consequently Philips changed its strategy and created “industry
globe is an example here.
main groups” in Netherlands which are responsible for
formulating a global strategy for producing, marketing and R & (ii) Scanning or information Acquisition: Transnational
D. companies collect the data and information worldwide. These
companies scan the environmental information regarding
Stage 4: Global Company economic environment, political environment, social and
A global company is the one, which has either global marketing cultural environment and technological environment. These
strategy or a global strategy. companies collect and scan the information regardless geo-
Global company either produces in home country or in a single graphical and national boundaries.
country and focuses on marketing these products globally, or (iii) Vision and Aspirations: The vision and aspiration of
produces the products globally and focuses on marketing these transnational companies are global, global markets, global
products domestically. customers and grow ahead of other global/transnational
Harley designs and produces super heavy weight motorcycles in companies
USA and markets in the global market. Similarly, Dr. Reddy’s (iv) Geographic Scope: The transnational companies scan the
Lab designs and produces drugs in India and markets globally. global data and information. by doing so, they analyze the
Thus Harley and Dr. Reddy’s Lab are examples of global global opportunities regarding the availability of resources,
marketing focus. Gap procures products in the global countries customers, markets, technology, research and development etc.
and markets the products in its retail organization in USA. Similarly, they also analyze the global challenge and threats like
Thus gap is an example for global sourcing company. competition from the other global companies, local companies
Harley Davidson designs and produces in USA and gains of host countries, political uncertainties and the like. They
competitive advantage as Mercedes in Germany. The Gap formulate global strategy. Thus the geographic scope of a
understands the US consumer and got competitive advantage. transnational company is not limited to certain countries in
analyzing opportunities, threats and formulating strategies.
Stage 5:’Fransnational Company
Transnational company produces, markets, invests and operates (v) Operating Style: Key operations of a transnational are
across the world. It is an integrated global enterprise which links globalize. The transnational companies globalize the functions
global resources with global markets at profit. There is no pure like R & D, product development, placing key human resources,
transnational corporation. However, most of the transnational Procurement of high valued material etc. For example, the R
&D activity of Proctor & Gamble, and key human resource

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11.625.1 7
activity of Colgate are the joint and shared activity of the units Unfortunate you cannot find good foreigners who are willing to
INTERNATIONAL BUSINESS MANAGEMENT

of these companies in various countries. . live in the United States, were out headquarters is located.
vi) Adaptation: Global and transnational companies adapt American executives are more mobile. In addition, American
their products, marketing strategic and other functional have the drive and initiate we like. In fact, the European
strategies to the environmental factors of the market concerned, nationals would prefer to report to an American rather than to
For example, Mercedes Benz is a super luxury car in North so other European”.
America, luxury automobile in Germany, standard taxi in Company C: “We are a multinational firm. Our product
Europe. division executives have world w profit responsibility. As our
(vii) Extensions: Some products do not require any change organizational chart shows, the United States is just one region
when they are marketed in other countries. Their market is just o par with Europe, Latin America, Africa, etc. in each division”.
extension. For example, Casio calculators of Japan, Hero pens of The executives from company C go on to explain, “the
China, and BIC’s line of pens, butane lighters and razors. worldwide product division cone is rather difficult to imple-
ment. The senior executives in charge of these divisions have Ii
(viii) Creation through Extension: Transnational companies
overseas experience. They have been promoted from domestic
create the global brand through extending the product to the
posts and tend to view fore consumer needs as really basically
new market. Rothmans Cigarette extended its product to many
the same as ours. Also, product division executives tend focus
European countries and African countries and created it as
on the domestic market because the domestic market is larger
global and national basis
and generates more revenue than the fragmented foreign
(ix) Human Resource Management Policy: The markets. The rewards are for global performance, but strategy is
transnational company’s human resource policy is not restricted focus on domestic. Most of our senior executives simply do
by national political or legal constraints. It selects the best not understand what happens overseas and really do not trust
human resources and develops them regardless of nationality, foreign executives, even those in key positions”.
ethnic group etc. But the international company reserves the top
Company D (nonAmerican) : ‘We are a multinational firm.
and key positions for nationals
We have at least 18 nationalities represented at our headquarters.
(x) Purchasing: Transnational company procures world-class Most senor executives speak at least two languages. About 30
material from the best source across the globe. percent of our staff at headquarters is foreigners.
Tutorial He continues by explaining “since the voting shareholders must
Questions for Discussion by law come from the home country, the home country’s
interest must be given careful consideration. But we are proud
Q:1 what are the various reasons which motivates the domestic
of our nationality; we should not be ashamed of it. Infact,
firms to go for international business?
many times we have been reluctant to use homecountry ideas
Q:2 what are the stages of internationalization? overseas, to our detriment, especially in our U.S. Subsidiary. Our
Tutorial country produces good executives’ who tend to stay with us a
long time. It is harder to keep executives from the United
Case Discussion States.
Which Company is Truly Multinational? Questions for Discussion
Four senior executives of the world’s largest firms with 1. Which company is truly multinational?
extensive holdings outside the host country speak.
2. What are the attributes of a truly multinational
Company A: “We are a multinational firm. We distribute our company?
products in about 100 countries We manufacture in over 17
3. Why quibble about how multinational a company is?
countries and do research and development in three countries.
We look at all new investment projects both domestic and
overseas using exactly the same criteria”.
The execution from company A continues, “of course most of
the key posts in our subsidiaries are held by homecountry
nationals. Whenever replacements for these men are sought, it
is practice, if not the policy, to look next to you at the head
office and pick someone (usually a ho country national) you
know and trust”.
Company B. “We are a multinational firm. Only 1 percent of
the personnel in our affiliate companies are nonnational. Most
of these are US executives in temporary assignments. In major
markets, the affiliates managing director is of the local national-
ity”. He continues, “Of course there are very few nonAmericans
in the key posts at headquarter. The few we have are so Ameri-
canized that we usually do not notice their nationality.

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