CHAPTER THREE

Entry Modes in International Marketing

Learning Objectives
After reading this chapter, the student should be able to:

 To explain these market entry strategies: exporting, licensing, joint venture,

manufacturing, assembly operations, management contract, turnkey operations, and
acquisition.

 To explain the factors that should be considered in choosing entry modes

“A merchant, it has been said very properly, is not necessarily the citizen of any particular
country. It is in great measure indifferent to him from what places he carries on his trade; and a
very stifling disgust will make him move his capital, and together with the industry which it
supports, from one country to another.” Adam
Smith

4.1. Introduction
Once a company decides to target a particular country, it has to determine the best mode of
entry. Its broad choices are indirect exporting, direct exporting, licensing, joint ventures and
direct investments. Each succeeding strategy involved more commitment, risk, control and
profit potential.
A. EXPORTING
Exporting is a strategy in which a company, without any marketing or production organization
overseas, exports a product from its home base. Often, the exported product is fundamentally
the same as the one marketed in the home market.
Many manufacturing firms begin their global expansion as exporters and only later switch to
another mode for serving a foreign market. Exporting has two distinct advantages:
First, it avoids the costs of establishing manufacturing operations in the host country.

Second, exporting may help a firm achieve experience curve and location economies. By
manufacturing the product in a centralized location and exporting it to other national markets,
the firm may realize substantial scale economies from its global sales volume.
This is how Sony came to dominate the global TV market, Matsushita (Panasonic brand) came
to dominate VCR market, and Samsung gained market share in computer chips.
Other advantages of exporting include: Need for limited finance,  Less Risk,  Motivation for
exporting,  Ease in implementing the strategy
Types of Exporting
There are direct and indirect approaches to exporting to other nations.
i. Indirect Export
Companies typically starts with indirect exporting that is they work through independent
intermediacies to export their products. There are four types of intermediaries.
Domestic-based export merchant: Buys the manufacturer’s products and then sells them
abroad.
Domestic based export agent: Seeks and negotiate foreign purchases and is paid a commission.
Included in this are trading companies.
Cooperative organization: Carries on exporting activities on behalf of several producers and is
partly under their administrative control. Often used by producers of primary product – fruits,
nuts and so on.
Export – management company: Agrees to manage a company’s export activities for a fee.
ii. Direct Export
Companies eventually may decide to handle their own exports. The investment and risk are
somewhat greater. The company can carry on direct exporting in several ways;
Domestic based export department or division: An export sales manager carries on the actual
selling and draws market assistance as needed. The department might evolve into a self-
contained export department performing all the activities involved in export and operating as a
profit center.
Overseas sales branch or subsidiary: An overseas sales branch allows the manufacturer to
achieve greater presence and programs control in the foreign market. The sales branch handles
sales and distribution and might handle warehousing and promotion as well. It often servers as
a display center and customer – service center also.
Traveling export sales representation: The company sends home – based sales representatives
abroad to find business.
Foreign-based distributors or agents: The company can hire foreign based distributors or
agents to sell the company’s goods. These distributors and agents might be given exclusive
rights to represent the manufacturer in that country or only limited rights. Whether companies
decide to enter foreign markets through or indirect exporting, one of the best ways to initiate
or extend export activities is by exhibiting at an overseas trade show.
B. LICENSING
When a company finds exporting ineffective but is hesitant to have direct investment abroad,
licensing can be a reasonable compromise. Licensing arrangement represents signing of an
agreement with a foreign-based enterprise. It is an arrangement whereby a licensor grants the
rights of intangible property to another party, called licensee, for a specified period, and in
return receives a royalty fee. Intangible property includes patents, processing know-how,
trademarks, inventions, formulas, copyrights, and designs etc. of the company.

Through this agreement, licenser can enter the foreign market at little risk and the licensee
gets the benefits of gaining the manufacturing technology and marketing of a well-known
product or brand. Licensing does not involve marketing facilities. If the cost of production is
comparatively lower in the licensee’s country, the licenser can import the product from the
licensee to improve its competitive position in its own market.

Licensing is an alternative entry and expansion strategy with considerable appeal. A company
with technology, know how, or a strong brand image can use licensing agreements to
supplement its bottom-line profitability with no investment and very limited expenses. The
only cost is the cost of signing the agreements and of policing their implementation. Licensing,
therefore, is very lucrative for firms lacking the capital to develop operations overseas. In
addition, licensing can be attractive when a firm is unwilling to commit substantial financial
resources to an unfamiliar or politically volatile foreign market.

Licensing is frequently used when a firm possess some intangible property that might have
business applications, but it does not want to develop those applications itself. For Example,
Coca-Cola has licensed its famous trademark to clothing manufacturers, which have incorporated the
design into their clothing.
Licensing also has some serious drawbacks:
First, it does not give a firm the tight control over manufacturing, marketing, and strategy that
is required for realizing experience curve and location economies.

Second, competing in a global market may require a firm to co-ordinate strategic moves across
countries by using profits earned in one country to support competitive attacks in another. By
its very nature, licensing limits a firm’s ability to do this. A licensee is unlikely to allow a
multinational firm to use its profits, beyond those due in the form of royalty payments, to
support a different licensee operating in another country.
Another problem with licensing is the risk associated with licensing technological know-how to
foreign companies. Technological know-how constitutes the basis of many multinational firms’
competitive advantage. Most firms wish to maintain control over how their know-how is used,
and a firm can quickly lose control over its technology by licensing it. For example; RCA
Corporation, for example, once licensed its color TV technology to Japanese firms including
Matsushita (Panasonic brand) and Sony. The Japanese firms quickly assimilated the
technology, improved on it, and used it to sell their products all over the world. Now these
firms have bigger share of TV market than RCA.

There are several forms of licensing arrangements:

i. Franchising

Franchising is the practice of using another firm's successful business model. A parent company
allows entrepreneurs to use the company's strategies and trademarks; in exchange, the
franchisee pays an initial fee and royalties based on revenues. The parent company also
provides the franchisee with support, including advertising and training, as part of the
franchising agreement.

Franchising is a faster, cheaper form of expansion than adding company-owned stores,

because it costs the parent company much less when new stores are owned and operated by a
third party. On the flip side, potential for revenue growth is more limited because the parent
company will only earn a percentage of the earnings from each new store.

Franchising is basically a specialized form of licensing in which the franchiser not only sells
intangible property to the franchisee, but also insists that the franchisee agree to abide by
strict rules as to how it does business.
For example, McDonald’s and KFC are good examples of firms that have grown by using a
franchising strategy. McDonald’s has strict rules as to how franchisees should operate a
restaurant. These rules extend to control over the menu, cooking methods, staffing policies,
and design and location of a restaurant. McDonald’s also organizes the supply chain for its
franchisees and provides management training and financial assistance.

ii. Turnkey Contract

Turnkey contract is a business arrangement in which a project is delivered in a completed

state. Rather than contracting with an owner to develop a project in stages, the developer is
hired to finish the entire project without owner input.

In a turnkey project, the contractor agrees to handle every detail of the project for a foreign
client, including the training of operating personnel. They are more common with the firms
that specialize in design and construction and in chemical, pharmaceutical, petroleum refining,
and metal refining industries, all of which use complex, expensive production technologies. At
completion of the contract, the foreign client is handed the ‘key’ of the plant that is ready for
full operation, hence, the name turnkey.

The firm that enters into a turnkey project with a foreign enterprise may inadvertently create a
competitor. For example, many of the Western firms that sold oil refining technology to firms
in Saudi Arabia, Kuwait, and other Gulf states now find themselves competing with these firms
in the world oil market. Another disadvantage is that, if the firm’s process technology is a
source of competitive advantage, then selling this technology through a turnkey project is also
selling competitive advantage to potential and/or actual competitors.

Turnkey contracts are major strategies to build large plants. They often include a training and
development of key employees where skills are sparse - You would not own the plant once it is
handed over. For example, nuclear power plants, airports, oil refinery, national highways,
railway line etc.

iii. Contract Manufacturing

Contract manufacturing is a process that establishes a working agreement between two

companies. As part of the agreement, one company custom produces parts or other materials
on behalf of their client. In most cases, the manufacturer also handles the ordering and
shipment processes for the client. As a result, the client does not have to maintain
manufacturing facilities, purchase raw materials, or hire labor in order to produce the finished
goods.

There are a number of examples of pharmaceutical contract manufacturing currently

functioning today, as well as similar arrangements in food manufacturing, the creation of
computer components and other forms of electronic contract manufacturing. Even industries
like personal care and hygiene products, automotive parts, and medical supplies are often
created under the terms of a contract manufacture agreement.
Coca Cola and Pepsi are from the beverage industry. They manufacture flavored soda water.
They contract local beverage manufacturing plants. They also take over many popular local
beverage companies.

Home Depot sells General Electric water heaters. General Electric doesn't own a water heater
factory. Instead, they contract with Rheem, who has a huge water heater factory; Rheem
makes water heaters to GE's specifications, puts a GE label on them and ships them in GE-
labeled packaging.

iv. Management contract

The company can sell a management contract to the owners of a foreign hotel, airport, hospital
or other organization to manage these businesses for a fee.
Management contracting is a low risk method of getting into a foreign market, and it yields
income from a beginning. Management contracting prevents the company from competing
with its clients

C. JOINT VENTURE

Foreign investors may join with local investors to create a joint venture in which they share
ownership and control.
Forming a joint venture might be necessary or desirable for economic or political reasons. The
foreign firm might lack the financial, physical or managerial resources to undertake the venture
alone. Or the foreign government might require joint ownership as a condition for entry.
Joint ownership has certain drawbacks. The partners might disagree over investment,
marketing or other policies. I.e. one partner might want to reinvest earnings for growth, and
the other partner might want to withdraw these earnings.

D. FOREIGN DIRECT INVESTMENT

The ultimate form of foreign involvement is direct ownership of foreign-based assembly or

manufacturing facilities. The foreign company can buy part or full interest in a local company or
build its own facilities. As a company gains experience in export, and if the foreign market
appears large enough, foreign production facilities offer distinct advantages, as enumerated
below.

1. The firm could secure cost economies in the form of cheaper labor or raw materials,
foreign government incentives, freight savings and so on.
 2. The firm will gain a better image in the host country because it creates jobs.
3. The firm develops a deeper relationship with government, customers, local
suppliers, and distributors, enabling it to adapt its products better to the local marketing
environment. Etc.
4. The main disadvantages of direct investment is that a firm exposes its large
investment to risks such as blocked or devalued currencies, worsening markets, or
expropriation. The firm will find it expensive to reduce or close down its operations, since
the best country might require substantial severance pay to the employees.
Foreign direct investment can be Green field (I.e. 100% owned new entity), and Acquisition (100%
owned of already established business).

E. STRATEGIC ALLIANCES (SA)

Strategic alliances is a relationship between two or more parties to pursue a set of agreed upon goals
or to meet a critical business need while remaining independent organizations.

Strategic alliances refer to co-operative agreements between potential or actual competitors to

cooperate out of mutual need and to share risk in achieving common objectives. Strategic alliances run
the range from formal joint ventures in which two or more firms have equity stake, like Fuji-Xerox
venture for Japan; to short-term contractual agreements, in which two companies agree to cooperate
on a particular task such as developing a new product, like Coca-Cola and Nestle joined forces to
develop the international market for ‘ready to drink’ tea and coffee, which currently sell in significant
amounts only in Japan.

For example, Starbucks partnered with Barnes and Nobles bookstores in 1993 to provide in-house
coffee shops, benefiting both retailers. In 1996, Starbucks partnered with Pepsico to bottle, distribute
and sell the popular coffee-based drink, Frappacino.

Today, Nokia and Microsoft have officially entered a strategic alliance that makes Windows Phone 7
Nokia’s primary smart-phone platform, but also extends into many other Microsoft services such as
Bing, Xbox Live and Office.

A strategic alliance implies:(i)that there is a common objective;(ii)that one partner’s weakness is offset
by the other’s strength;(iii)that reaching the objectives alone would be too costly, take too much time,
or be too risky; and (iv)together their respective strengths make possible what otherwise would be
unattainable. In short, a strategic alliance is a synergistic relationship established to achieve a common
goal where both parties benefit.

Strategic alliances also allow firms to share the fixed costs and associated risks of developing new
products or processes. Motorola’s alliance with Toshiba also was partially motivated by a desire to
share high fixed costs of setting up an operation to manufacture microprocessors.

The microprocessor business is so capital intensive – Motorola and Toshiba each contributed close to $I
billion to set up their facility – that few firms can afford the costs and risks by themselves. Similarly, an
alliance between Boeing and a number of Japanese companies to build the 767 was motivated by
Boeing’s desire to share the estimated $2 billion investment required to develop the aircraft.

An alliance is also a way to bring together complimentary skills and assets that neither company could
easily develop on its own. An example is the alliance between France’s Thomson and Japan’s JVC to
manufacture VCRs.

For Example JVC and Thomson are trading core competencies. Thomson needs product technology and
manufacturing skills, while JVC needs to learn how to succeed in the fragmented European market.
Similarly, AT&T struck a deal in 1990 with NEC Corporation of Japan to trade technological skills. AT&T
gave NEC some of its computer aided design technology, and NEC gave AT&T access to the technology
underlying its advanced logic computer chips. Such trading of core competencies seems to underlie
many of the most successful strategic alliances.

F. The Internet

The internet is a new channel for some organizations and the sole channel for a large number of
innovative new organizations. The e-Marketing space consists of new Internet companies that have
emerged as the Internet has developed, as well as those pre-existing companies that now employ e-
Marketing approaches as part of their overall marketing plan. For some companies the Internet is an
additional channel that enhances or replaces their traditional channel(s). For others the Internet has
provided the opportunity for a new online company.

4.2. Selecting Entry Modes

Firms should consider several strategic factors when selecting an entry mode.

Cultural differences can reduce managers’ confidence in their ability to control operations in
the host country. A lack of cultural familiarity can cause a firm to avoid investment entry and
pursue exporting or contractual entry.

Political instability in a host country increases the risk exposure of assets. Political uncertainty
can cause companies to avoid investment entry in favor of other modes. But a target market’s
laws can encourage investment if, for example, it imposes high tariffs or low quota limits on
imports.

Market size is often a determining factor in entry mode choice. Rising incomes can encourage
investment to help a firm better understand the target market and prepare for growing
demand. For example, companies are undertaking enormous investments in China, but making
far more modest investments or pursuing exporting and contractual entry in smaller markets.

Low-cost production and shipping can give a company an advantage by helping it control total
costs. If producing in a host country lowers a firm’s total production costs, it can encourage
investment, licensing, or franchising.

As international experience grows, a firm may select entry modes that require deeper
involvement, but which also involve greater exposure to risk.