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Chapter 13 - The Strategy of International Business

The Strategy of International Business

Learning objectives 

Explain the concept of strategy.

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Recognize how firms can profit from expanding globally.

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Understand how pressures for cost reductions and pressures for local responsiveness influence strategic choice.

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Identify the different strategies for competing globally and their pros and cons.

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In this chapter the focus shifts from the environment to the firm itself and, in particular, to the actions managers can take to compete more effectively as an international business. This chapter looks at how firms can increase their profitability by expanding their operations in foreign markets, the different strategies that firms pursue when competing internationally, and the various factors that affect a firm‟s choice of strategy. Subsequent chapters build on the framework established here to discuss a variety of topics including the design of organization structures and control systems for international businesses, strategies for entering foreign markets, the use and misuse of strategic alliances, strategies for exporting, and the various manufacturing, marketing, R&D, human resource, accounting, and financial strategies that international businesses pursue. The opening case explores the evolution of Avon‟s international strategy. Avon‟s international sales dropped significantly in 2005, but after making several changes to its strategy, recent results have been much more promising. The closing case describes how IBM changed its strategy in foreign markets from a highly localized one to a more globally integrated approach.

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OUTLINE OF CHAPTER 13: THE STRATEGY OF INTERNATIONAL BUSINESS Opening Case: Avon Products Introduction Strategy and the Firm Value Creation Strategic Positioning Operations: The Firm as a Value Chain Global Expansion, Profitability and Growth Expanding the Market: Leveraging Products and Competencies Location Economies Experience Effects Leveraging Subsidiary Skills Summary Cost Pressures and Pressures for Local Responsiveness. Pressures for Cost Reductions Pressures for Local Responsiveness Management Focus: Local Responsiveness at MTV Networks Choosing a Strategy Global Standardization Strategy Localization Strategy Transnational Strategy International Strategy The Evolution of Strategy Management Focus: Vodafone in Japan Management Focus: Evolution of Strategy at Proctor & Gamble Chapter Summary Critical Thinking and Discussion Questions Closing Case: The Evolving Strategy at IBM

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CLASSROOM DISCUSSION POINT Pick a few well-known international companies like McDonalds, Nokia, and MTV. Then, ask students to think about the strategies each of the firms use. Next, ask students to identify the type of industry each firm is operating in, and jot their response on the board. Try to organize the responses using the framework presented in the text. Then, ask students to outline the basic strategies each firm uses, and organize their responses using the framework on the board. Finally, try to get students to recognize how each industry influences the type of strategy each firm followed.

OPENING CASE: Avon Products The opening case describes the evolution of Avon‟s international strategy. The company, which relies on foreign sales for some 70 percent of its total revenues, saw its sales drop significantly beginning in 2005. The company, hurt by changes in regulations in China and economic weakness in Eastern Europe, Russia, and Mexico, was forced to completely revamp its international strategy. Thanks to the changes, Avon is now beginning to see an uptick in sales and revenues. Discussion of the case can revolve around the following questions: 1. How important are international sales to Avon? Why did the economic woes in Eastern Europe, Russia, and Mexico in the mid-2000s create so many problems for Avon? What does this tell you about the global economy and international strategy? 2. What type of strategy did Avon use prior to 2005? What type of strategy is Avon following today? 3. What are the advantages of Avon‟s new strategy? Why was it essential to change the company‟s strategy approach? Discuss the benefits of the new strategy, and also any shortcomings it may have. Another Perspective: To learn more about Avon and its operations in foreign markets go to {http://www.avoncompany.com/world/index.html}, and click on the individual markets. To learn about Avon‟s recent strategy in developing countries go to {http://www.businessweek.com/news/2011-09-01/brics-no-cure-for-global-economicgrowth-as-avon-shares-sink.html}.

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LECTURE OUTLINE FOR CHAPTER This lecture outline follows the Power Point Presentation (PPT) provided along with this instructor‟s manual. The PPT slides include additional notes that can be viewed by clicking on “view”, then on “notes”. The following provides a brief overview of each Power Point slide along with teaching tips, and additional perspectives. Slides 13-3-13-5 Strategy and the Firm How can firms compete more effectively internationally? A firm‟s strategy can be defined as the actions that managers take to attain the goals of the firm. Slides 13-6-13-8 Value Creation If consumers perceive the value of a good to be much higher than the actual cost of producing that good, profit margins will be higher. Porter emphasizes two basic strategies to create value and attain competitive advantage: low cost strategy and differentiation strategy. Slides 13-9-13-11 Strategic Positioning Not all positions on the efficiency frontier are viable. Firms must choose a strategic position that is viable. Another Perspective: Firms often face resistance when they change their strategic course. To learn how to stay on track, consider {http://www.businessweek.com/managing/content/aug2010/ca20100810_373428.htm}. Slides 13-12-13-15 Global Expansion, Profitability, and Profit Growth Expanding globally allows firms to increase their profitability and rate of profit growth in ways not available to purely domestic enterprises. Slides 13-16-13-17 Expanding the Market: Leveraging Products and Competencies The success of firms that expand internationally depends on the goods or services they sell, and on their core competencies (skills within the firm that competitors cannot easily match or imitate). Slides 13-18-13-19 Location Economies Location economies are the economies that arise from performing a value creation activity in the optimal location for that activity. Slides 13-20-13-23 Experience Effects Experience effects are systematic reductions in production costs over the life of the product. The speed with which a firm moves down the experience curve will determine how much advantage it has over its competitors

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Slide 13-24 Leveraging Subsidiary Skills A global corporation can find vital skills developed in one foreign subsidiary and leverage them in another part of the world. In order to take advantage of subsidiary skills the company must have sophisticated processes that identify new skills that could be of interest. Once these skills are identified, managers must have the capability to transfer them elsewhere. Managers need to keep in mind the complex relationship between profitability and profit growth when making strategic decisions about pricing. Slides 13-25-13-27 Cost Pressures and Pressures for Local Responsiveness Firms that compete in the global marketplace typically face two types of competitive pressures:  pressures for cost reductions  pressures to be locally responsive Slide 13-28 Pressures for Cost Reduction International businesses often face pressures for cost reductions because of the competitive global market. Slides 13-29-13-30 Pressures for Local Responsiveness Pressure for local responsiveness comes from differences in consumer tastes, infrastructure, distribution channels, or host government demands. Slides 13-31-13-36 Choosing a Strategy There are four basic strategies to compete in the international environment:  global standardization  localization  transnational  international The global standardization strategy focuses on increasing profitability and profit growth by reaping the cost reductions that come from economies of scale, learning effects, and location economies. The localization strategy focuses on increasing profitability by customizing the firm‟s goods or services so that they provide a good match to tastes and preferences in different national markets.

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The transnational strategy tries to simultaneously:  achieve low costs through location economies, economies of scale, and learning effects  differentiate the product offering across geographic markets to account for local differences  foster a multidirectional flow of skills between different The international strategy involves taking products first produced for the domestic market and then selling them internationally with only minimal local customization. Slides 13-37-13-38 The Evolution of Strategy Strategy is an evolutionary process. Firms need to change their strategic approach as the environment changes.

CRITICAL THINKING AND DISCUSSION QUESTIONS QUESTION 1: In a world of zero transportation costs, no trade barriers, and nontrivial differences between nations with regard to factor conditions, firms must expand internationally if they are to survive. Discuss. ANSWER 1: The theory of comparative advantage suggests that activities should take place in the countries that can perform them most efficiently, given that different countries are endowed with different factors of production. If there are no barriers or costs to trade, then it is likely that many industries will be based out of the countries that provide the best set of factor endowments. Given location economies, a company can develop a global web of value-creation activities to take advantage of differing factor endowments in differing locations. For firms already located in the countries with the most favorable factor endowments for their industry, however, there may not be a need to expand internationally at a certain point in time. As factor endowments evolve, the firm may want to disperse its valuecreating activities to those markets that offer comparative advantages. If the firm is in a competitive market (think of the example of Clear Vision), it will benefit from international expansion that includes its value-creating activities because of the cost position and product differentiation opportunities such expansion can confer. A firm may be able to survive in a local market without international expansion, as long as the local market is not targeted by competitors that have taken advantage of the economies offered by dispersing their value-creation activities internationally. An example is an inefficient, high-priced locally-owned supermarket that has not yet faced the entry of Wal-Mart in its market.

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QUESTION 2: Plot the position of the following firms on Figure 13.6: Procter & Gamble, IBM, Nokia, Coca Cola, Dow Chemicals, US Steel, and McDonald‟s. In each case justify your answer. ANSWER 2: Most students will probably agree that Proctor & Gamble, Nokia, Coca Cola, and McDonalds are facing pressures for localization as well as cost pressures. This will push the firms towards the upper right hand quadrant of Figure 13.6. However, it is important to keep in mind as illustrated in both the Opening Case and the Closing Case, that strategy is not static, but rather evolves, and so then will the position of these firms in the diagram. US Steel and Dow Chemical both produce commodity type products. Consequently, price (and pressure for cost reductions) is likely to be a key factor in the firms‟ strategy, and accordingly these firms could be placed in the upper left hand quadrant of the diagram. Most students will probably place IBM in the upper right hand quadrant of the diagram. More details on IBM‟s strategy can be found in the Opening Case. QUESTION 3: In what kind of industries does a localization strategy make sense? When does a global standardization strategy make most sense? ANSWER 3: A localization strategy makes sense when pressures for local responsiveness are high. This situation is common when there are significant differences in consumer tastes and preferences between markets, when differences in infrastructure and traditional practices require customization, and when host government demands require local adaptation. Many students will probably suggest that the auto industry often faces pressure for local responsiveness as does the fast food industry. In contrast, when pressures for cost reductions are strong and there is little pressure for local responsiveness, a global standardization strategy makes sense. Some examples of industries where the global standardization strategy is common are the semiconductor industry and the bulk chemical industry. QUESTION 4: Reread the Management Focus on Procter & Gamble, then answer the following questions: a) What strategy was Procter & Gamble pursuing when it first entered foreign markets in the period up until the early 1980s? b) Why do you think this strategy became less viable in the 1990s? c) What strategy does Proctor & Gamble appear to be moving toward? What are the benefits of this strategy? What are the potential risks associated with it? ANSWER 4: a) Many students will probably suggest that Procter & Gamble took a reactive approach to its strategy in the early 1990s, but was more proactive in the late 1990s and early 2000s. The company‟s initial reorganization was a reaction to a changing marketplace and sluggish profits, however, when it became apparent that the reorganization attempt was not really fixing the problems that existed, the company embarked on a new strategy. This time, rather than simply trying to adjust its existing strategy as the company had done in 1993, Procter & Gamble completely dismantled the structure that had been in

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place for a quarter of a century and reorganized as a company ready to operate in a global marketplace. b) Numerous factors prompted Procter & Gamble to change its strategy. Because of its country-by-country approach to the market, the company had extensive duplication of manufacturing, marketing, and administrative facilities that was driving up costs. In addition, the retailers that the company relied on were operating globally and demanding deeper discounts from Procter & Gamble. With its new strategy, the company has eliminated these problems. Now, Procter & Gamble‟s competitors are facing many of the same challenges. Some students will probably suggest that a key element that competitors can learn from Procter & Gamble‟s experiences is that operating in a global market is significantly different from selling internationally to individual markets. c) Today, Procter & Gamble is trying to take a transnational approach to markets. The company has reorganized into business units, each responsible for its own profits. Each unit has been directed to develop global brands where possible, and keep costs low. While this new approach eliminates many of the problems facing the company under its old structure, it does introduce a new challenge in that there is little communication between business units which effectively minimizes the possibility of cross-unit learning and information sharing. Another Perspective: Students can explore Procter & Gamble‟s strategy in more depth by going to the company‟s web site at {http://www.pg.com/en_US/index.jhtml}. Click on “P&G Global Operations” to compare the domestic site to those in numerous foreign locations. QUESTION 5: What do you see as the main organizational problems that are likely to be associated with implementation of a transnational strategy? ANSWER 5: This is a student judgment question. Implementation difficulties include communication issues, trust issues, multiple roles, flexibility and culture issues, among many others. For example, with GM, some European operations may need to collaborate with operations in Latin America. Actions related to such a loss of autonomy might function as a hurdle to implementation.

CLOSING CASE: The Evolving Strategy at IBM The closing case describes the changing international strategy at IBM. When IBM initially began its foreign expansion, it took a highly localized approach to foreign markets. Over time though, IBM shifted its approach to a more globally integrated strategy that better fit with changing competitive conditions. A discussion of the case can revolve around the following questions:

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QUESTION 1: In the 1970s and 1980s Palmisano states that IBM was organized as a classic multinational enterprise. What does this mean? Why do you think IBM was organized that way? What were the advantages of this kind of strategic orientation?

ANSWER 1: In 1972, IBM moved away from its international strategy where most activities were undertaken in the United States and products were then sold through overseas sales to a new multinational approach in which the company established mini versions of itself in multiple markets in several countries. This new strategy was attractive to IBM because it allowed the company to cope with the barriers to crossborder trade that effectively segmented markets. In addition, the strategy enabled IBM to better meet the demands of local markets. QUESTION 2: By the 1990s the classic multinational strategic orientation was no longer working well for IBM. Why not? ANSWER 2: Over time, IBM‟s multinational approach to strategy began to lose its effectiveness forcing the company to develop a new strategy. Three major trends prompted this shift. The first was the emergence of the global economy. The second trend was the more global nature of the company‟s customers, and the third trend was the presence of strong new competitors from developing countries. IBM‟s multinational approach did not provide the flexibility and integration necessary to meet the changes associated with these trends. QUESTION 3: What are the strategic advantages to IBM of its globally integrated enterprise strategy? What kind of organizational changes do you think had to made at IBM to make this strategy a reality? ANSWER 3: IBM refers to its new strategy as a global integration approach. Under this strategy, IBM has integrated operations both vertically and horizontally, located operations in the optimal place where ever in the world that may be, and thinks of its workforce as being global rather than being associated with specific countries, regions, or business units. Most students will probably recognize that this new strategy will have required a considerable shift in IBM‟s corporate culture away from the notion that operations are unconnected and where duplication was the norm to a more global outlook in which managers are competent operating in a variety of cultures and countries, and where new ideas can emerge anywhere within the organization. QUESTION 4: In terms of the strategic choice framework introduced in this chapter, what strategy do you think IBM is pursuing today? ANSWER 4: Most students will probably agree that IBM‟s current strategy most closely resembles the transnational approach to markets. Another Perspective: Students can explore IBM‟s global operations at the company‟s web site as {http://www.ibm.com/}.

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INTEGRATING iGLOBES There are several iGLOBE video clips that can be integrated with the material presented in this chapter. In particular, you might consider the following:

Title: Detroit Carmakers Look To Expand Across The Globe Run Time: 5:08 Abstract: This video examines the changes in the global auto industry over the last year, and discusses where the industry is likely to be headed.

Key Concepts: globalization, competitive strategy, global competition, global production, global economy, joint ventures, exports and imports, human resources Notes: At the recent auto show in Detroit the atmosphere was calmer and more restrained than in previous years, signaling the struggles that have challenged not only automakers from the United States, but also those from other parts of the globe over the last twelve months. Auto sales in the United States are down significantly from five years ago when some 17 million vehicles were sold. Analysts anticipate sales in 2010 to be just 11 or 11.5 million – a drop of some 40 percent. According to auto industry expert Micheline Maynard of the New York Times, the global auto industry has changed forever. It is no longer dominated by the Big Three. Today, U.S. manufacturers are playing a less dominant role, and other companies are emerging as big players. China in particular figures to play a key role in the future, both as a market and as a manufacturer. Just ten or twenty years ago, China was largely ignored by most auto makers. Demand for cars in China was low, and manufacturing took place elsewhere. Germany‟s Volkswagen was only auto maker to really make an effort in the market. Over time however, other companies began to source parts and form production joint ventures with Chinese companies. Today, China has its own auto companies and is making its presence in the industry known. This shift in power was evident at the recent auto show. No longer were Chinese companies displaying their products in the basement or other obscure parts of the building. Instead, they showed their products alongside those of industry giants like Ford. Moreover, it appears that China is planning to be a key player in the future. China, like other auto producers is hoping to capitalize on new demand for electric and hybrid vehicles. In fact, according to Maynard, every auto maker at the show was focusing on hybrids reflecting the trend for more environmentally-friendly vehicles. At the moment, Ford seems to be faring the best of the Big Three. The company is introducing new models, and is seeing its market share slowly inch back up. Of the Big Three, Ford is the only company that did not receive government bailout funds, a fact that would seem to be contributing to its better health. The future for Chrysler and General Motors is less clear. Both companies went through bankruptcies last year, and now have

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new CEOs who are likely to influence future directions for the firms. Chrysler is being led by the head of Italian auto maker Fiat, while the new CEO at General Motors is an industry outsider. However, given that the United States is still feeling the effects of the recent recession, it seems probable that all three U.S. companies will be setting their sights on foreign markets for growth, and that opportunities in China will be at the center of their plans.

Discussion Questions: 1. Reflect on the changes in the global auto industry over the last year. How has the power structure in the industry changed? What does this imply for the future? 2. Discuss the emergence of China as a player in the auto industry. What challenges do you see for Chinese auto makers are they attempt to become more global players? How do you think U.S. consumers will react to the presence of a Chinese auto maker? 3. Chrysler, which went through bankruptcy last year, is now being led by the former head of Italian auto maker Fiat, Sergio Marchionne. Discuss how this change could influence the nature of Chrysler. How might the management style of Marchionne differ from the management style of previous Chrysler CEOs? How do you think Marchionne will be received by other Chrysler executives? 4. Consider how the changes in the auto industry over the last few years are changing patterns of global trade and investment. What new patterns are likely to emerge over the next decade? Why is the Chinese market likely to be important for U.S. auto makers?

INTEGRATING VIDEOS There are also several longer video clips that can be integrated with the material presented in this chapter. In particular, you might consider the following from International Business DVD Volume 6:

Title: Chinese Flavors for American Snacks Learning Objectives The purpose of this video is to help you:  Explore cultural differences across markets.  Identify how national culture influences firm strategy.  Understand international marketing strategy.  Recognize the impact of foreign companies on the host country.

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Key Words       

Culture Cultural change International marketing strategy Foreign direct investment First mover advantages Impact of the multinational company on the host country Globalization

Synopsis The brands in the busy supermarket in Beijing may be recognizable to most Americans, but the flavors certainly are not. Lays potato chips sold in Beijing are blueberry flavored rather than sour cream and onion. Cheetos come in strawberry and milk, and Minute Maid sells aloe juice instead of orange juice. American companies hoping to capitalize on China‟s $186 billion fast food and processed food market have entered the country en masse. However, while they are selling the same brands they sell in the United States, they have developed much different flavors in the hopes of better attracting Chinese buyers. Frito Lay recognized early on that Chinese taste buds were quite different from American taste buds. Popular flavors in the United States did not appeal to Chinese consumers prompting Frito Lay and other U.S. companies to research Chinese preferences and develop products specifically for the local market. Accordingly, Tropicana sells cantaloupe juice, Chips Ahoy cookies are orange flavored, and Wrigley‟s sells Chinese herbal medicine gum. Even toothpaste companies are selling products designed to tempt Chinese consumers. Crest sells a lotus flower flavored product, while Colgate offers salt flavored toothpaste. U.S. companies focused on the Chinese culture as a starting point for developing new product flavors. Product researchers inspired by traditional Chinese cooking came up new flavors like Szechuan spicy, sweet and sour tomato, and mango. Pepsi Co‟s Harry Hill points out that because the market is so competitive, new products are being launched on a regular basis. The same trend is changing the strategies of fast food companies in China. McDonald‟s has introduced purple taro pie, Starbucks sells drinks with jelly cubes on the bottom, and spicy squid on a stick is available at Kentucky Fried Chicken. Analysts note that while the flavor game may seem a bit outrageous to some, in China it is serious business. The country will soon be if not the largest, the second largest consumer market in the world. Companies need to ensure they are doing everything they can to capture a share of the market.

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Discussion Questions 1. Discuss the implications of globalization on the food industry in China. 2. What makes China so attractive to U.S. food companies? Discuss why it is important to gain market share in the country. How has Frito Lay approached the market? 3. Reflect on the standardization versus adaptation debate as it relates to marketing fast food and processed food in China. Using the „4Ps‟ of marketing, discuss how companies should approach the market. Which elements in the marketing mix can be standardized? Which elements must be adapted to suit local preferences? 4. How is Western culture influencing China‟s culture? Discuss how companies like Frito Lay and McDonald‟s are contributing to this change. What are the implications of this trend?

INCORPORATING globalEDGE™ EXERCISES Use the globalEDGE™ site {http://globalEDGE.msu.edu/} to complete the following exercises:

Exercise 1 The globalization of multinational corporations impacts the product and service choices available to customers. As such, several classifications and rankings of multinational corporations are prepared by a variety of sources. Find the Global 2000 rankings publish by Forbes and identify the criteria used in evaluating top global companies. Extract the ranking of the top 20 companies paying particular attention to the home countries, industries, and asset level represented. Based on the data gathered, what generalizations can you make?

Exercise 2 The top management of your company, a manufacturer and marketer of wireless devices, has decided to pursue international expansion opportunities in Africa. In order to achieve some economies of scale, your strategy is to minimize local adaptation. Focusing on the African country of your choice, prepare an executive summary that features aspects of the product where standardization will simply not be possible, and adaptation to local conditions will be essential.

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Answers to the Exercises Exercise 1 The Forbes 2000 listing is readily available and listed below. Use the “Global 2000” search term to locate the resource at http://globaledge.msu.edu/ResourceDesk/. Also, this resource can be found under the globalEDGE category “Research: Rankings”. Be sure to click on the Resource Desk link to search this area of the globalEDGE website. Search Phrase: “Global 2000” Resource Name: Forbes: Global 2000 Website: http://www.forbes.com/global2000 globalEDGE™ Category: “Research: Rankings”

Exercise 2 The country specific information can be found in the Country Insights section of globalEDGE. Both summary and detailed information regarding each country can be accessed by using the drop-down menu on the right, or by clicking the “Africa” link. For illustration purposes, we will choose South Africa. The synopsis information indicates that the languages of the country (Afrikaans, English), religions (Christian, indigenous beliefs), and voltage used (220V) will be three of the critical variables that have to be considered in the adaptation of the product. More detailed analysis by following the external links, such as the Country Commercial Guide, will highlight additional aspects. globalEDGE™ Location: Country Insights / Region: Africa / South Africa Resource Name: South Africa Website: http://globaledge.msu.edu

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