1. Fourth Edition International Business

2. CHAPTER 12 The Strategy of International Business

3. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-3 Chapter Focus Shifting focus from the international environment to the firm. Actions managers can take to compete more effectively. How firms can increase profitability by expanding to foreign markets. Different international strategies. Pros and cons of the strategies. Factors affecting strategic choice. Tactics.

4. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-4 Firms Profit Π = Profits = TR – TC Profits (π*Q) = (P*Q) – (ATC*Q)

5. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-5 Profitability Profitability is a rate of return concept: ROS (return on sale) = (Π/TR)

6. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-6 Profitability Profitability is a rate of return concept: ROS (return on sale) = (Π/TR) ROI (return on investment) = (Π /I)

7. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-7 Strategy and the Firm Strategy Actions taken by managers to attain firm’s goals.

8. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-8 Firm’s Strategy Strategy could be to maximize: Π = Profits = TR – TC ROS (return on sale) = (Π/TR) ROI (return on investment) = (Π /I)

9. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-9 Value Creation Figure 12-1 V = Consumer Value: The highest price a consumer is willing to pay for a product V - P P - C V - C V P C

10. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-10 Value Creation Figure 12-1 V = Consumer Value: The highest price a consumer is willing to pay for a product P = Market Price: What actually a consumer pays for a product V - P P - C V - C V P C

11. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-11 Value Creation Figure 12-1 V = Consumer Value: The highest price a consumer is willing to pay for a product P = Market Price: What actually a consumer pays for a product C = Cost of Production V - P P - C V - C V P C

12. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-12 Value Creation Figure 12-1 V = Consumer Value: The highest price a consumer is willing to pay for a product P = Market Price: What actually a consumer pays for a product C = Cost of Production V-P = Consumer Surplus V - P P - C V - C V P C

13. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-13 Value Creation Figure 12-1 V = Consumer Value: The highest price a consumer is willing to pay for a product P = Market Price: What actually a consumer pays for a product C = Cost of Production V-P = Consumer Surplus P-C = Profit Margin V - P P - C V - C V P C

14. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-14 Value Creation Figure 12-1 V = Consumer Value: The highest price a consumer is willing to pay for a product P = Market Price: What actually a consumer pays for a product C = Cost of Production V-P = Consumer Surplus P-C = Profit Margin V-C = Value Added by the firm V - P P - C V - C V P C

15. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-15 High Profit Strategy A firm could choose: Low Cost Strategy: Strategy of lowering cost of production.

16. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-16 High Profit Strategy A firm could choose: Low Cost Strategy: Product Differentiation Strategy: Strategy of increasing the value of the product to consumers by making the product more valuable through superior design, quality, etc.

17. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-17 The Firm as a Value Chain A firm could be considered as a value chain composed of a series of distinct value creation activities. It could be categorized as: Primary activities or Support activities.

18. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-18 Primary Activities have to do with design, c reation, and delivery of the product. The Firm as a Value Chain R & D (design) Production in manufacturing (physical) and in service MTV programs Marketing & Sales through brand name positioning and advertising “bottled water” value is increased After sale service

19. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-19 Materials Management: controls transmission of physical materials from Procurement through production. Support Activities The Firm as a Value Chain

20. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-20 Human Resources: Ensures that the company has the right mix of people Ensures that people are well trained, well compensated and motivated Materials Management Support Activities The Firm as a Value Chain

21. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-21 Information Systems: refers to the communication features of the Internet for managing inventories, tracking sales, pricing of the product, Dealing with customers, etc. Human Resources Materials Management Support Activities The Firm as a Value Chain

22. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-22 Company Infrastructure:The environment within which all of the firm’s activities such as production, marketing, sales, service take place. It includes organizational structure, control systems, and culture of the firm. Information Systems Human Resources Materials Management Support Activities The Firm as a Value Chain

23. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-23 Profiting from Global Expansion Realize location economies. Trade barriers and transportation costs permitting, the firm will benefit from basing each activity that it must perform to deliver a commodity to its customer (given the economic, social, political, cultural conditions are appropriate) at a place where that activity is done most efficiently. Firms operating internationally are able to:

24. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-24 Profiting from Global Expansion Realize location economies. Realize greater cost economies. For example, cloths might be designed in Paris (better designers: They are the most capable designers to add value to cloths), materials could be purchased from India (cheap raw materials: minimize the cost of value creation), and produced in China (cheap skilled labor: minimize the cost of value creation). Firms operating internationally are able to:

25. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-25 Profiting from Global Expansion Realize location economies. Realize greater cost economies. Earn a greater return from the firm’s distinctive skills or core competencies (Firm skills that competitors can not easily match or imitate). Firms operating internationally are able to:

26. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-26 Profiting from Global Expansion Realize location economies. Realize greater cost economies. Earn a greater return from the firm’s distinctive skills or core competencies. Earn a greater return by leveraging valuable skills developed in foreign operations and transferring them to the firm’s other operations. Firms operating internationally are able to:

27. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-27 Profiting from Global Expansion Profitability is constrained by product customization and imperative of localization producing unique products to appeal to the local tastes and preferences.

28. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-28 Caveats Needs for consideration: Transportation costs. Trade barriers. Political risks. Economic risks. 1.Low labor costs. 2.Proximity to U.S. 3.NAFTA.

29. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-29 Experience Curve Cost of production goes down systematically as production increases. Every time production doubles, cost of production decreases to 80% what is was. Total output Cost of production 4 units $100 8 units$80 16 units$64 32 units$51.2

30. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-30 Experience Curve Cost of production goes down systematically because: 1-- Learning effects: Cost savings that come from “learning by doing.”

31. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-31 Experience Curve Cost of production goes down systematically because: 1-- Learning effects: Cost savings that come from “learning by doing.” Are more significant in complex tasks.

32. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-32 Experience Curve Cost of production goes down systematically because: 1-- Learning effects: Cost savings that come from “learning by doing.” Are more significant in complex tasks. Decline and cease after two – three years.

33. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-33 Experience Curve Cost of production goes down systematically because: 1-- Learning effects: Cost savings that come from “learning by doing.” Are more significant in complex tasks. Decline and cease after two – three years. 2-- Economies of Scale: Reduction in unit cost achieved through volume production.

34. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-34 Experience Curve Cost of production goes down systematically because: 1-- Learning effects: Cost savings that come from “learning by doing.” Are more significant in complex tasks. Decline and cease after two – three years. 2-- Economies of Scale: Reduction in unit cost achieved through volume production. Sources: Spread fixed costs over volume.

35. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-35 Experience Curve Cost of production goes down systematically because: 1-- Learning effects: Cost savings that come from “learning by doing.” Are more significant in complex tasks. Decline and cease after two – three years. 2-- Economies of Scale: Reduction in unit cost achieved through volume production. Sources: Spread fixed costs over volume. Employing specialized equipment or personnel

36. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-36 The Experience Curve Figure 12.3 B A Accumulated Output Unit Costs Strategic Significance Moving down the curve reduces the cost of creating value. Strategic Significance Moving down the curve reduces the cost of creating value.

37. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-37 Leveraging Core Competencies core competencies are firm skills that competitors can not easily match or imitate.

38. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-38 Leveraging Core Competencies core competencies are firm skills that competitors can not easily match or imitate. Value of core competencies are greatest when: 1.Skills and products are most unique.

39. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-39 Leveraging Core Competencies core competencies are firm skills that competitors can not easily match or imitate. Value of core competencies are greatest when: 1.Skills and products are most unique. 2.Value placed by consumers is great.

40. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-40 Leveraging Core Competencies core competencies are firm skills that competitors can not easily match or imitate. Value of core competencies are greatest when: 1.Skills and products are most unique. 2.Value placed by consumers is great. 3.Few capable competitors with skills or products.

41. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-41 Leveraging Subsidiary Skills Note: Skills can be created anywhere in a multinational’s global operations network.

42. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-42 Leveraging Subsidiary Skills Note: Skills can be created anywhere in a multinational’s global operations network. Challenges for managers are: 1.To have the humility to recognize valuable skills can come from anywhere.

43. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-43 Leveraging Subsidiary Skills Note: Skills can be created anywhere in a multinational’s global operations network. Challenges for managers are: 1.To have the humility to recognize valuable skills can come from anywhere. 2.To establish incentives to encourage local employees to acquire new skills.

44. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-44 Leveraging Subsidiary Skills Note: Skills can be created anywhere in a multinational’s global operations network. Challenges for managers are: 1.To have the humility to recognize valuable skills can come from anywhere. 2.To establish incentives to encourage local employees to acquire new skills. 3.To create a process to identify new skill development.

45. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-45 Leveraging Subsidiary Skills Note: Skills can be created anywhere in a multinational’s global operations network. Challenges for managers are: 1.To have the humility to recognize valuable skills can come from anywhere. 2.To establish incentives to encourage local employees to acquire new skills. 3.To create a process to identify new skill development. 4.To facilitate transfer of new skills within the firm.

46. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-46 Pressures for Cost Reduction and Local Responsiveness Figure 12.4 Company A Company C Company B High Cost pressures Low Low High Generally reflects the position of most companies Pressures for local responsiveness

47. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-47 Cost Reduction Mass producing a standardized product at an optimal location. Intense: in commodity industries. Where competitors are in low cost locations. Where there is persistent excess capacity. Where there are low switching costs. Because of greater international competition. Local responsiveness Arise from: Differences in consumer taste and preferences. Differences in infrastructure and traditional practices. Differences in distribution channels. Host government demands.

48. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-48 Local Responsiveness Delegate marketing to national subsidiaries. Delegate manufacturing and production to foreign subsidiaries. Delegate production and marketing to national subsidiaries Taste and preference Infrastructure And practice Distribution channels Manufacture locally. Host government

49. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-49 Four Basic Strategies Figure 12.5 High Cost pressures Low Low High Global Strategy Transnational Strategy Multi domestic Strategy International Strategy Pressures for local responsiveness

50. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-50 Strategic Choices Transnational Exploit experienced based cost and location economies, transfer core competencies within the firm, and pay attention to local responsiveness needs. Transnational Exploit experienced based cost and location economies, transfer core competencies within the firm, and pay attention to local responsiveness needs. International create value by transferring skills to local markets where skills are not present. International create value by transferring skills to local markets where skills are not present. Multidomestic oriented toward achieving maximum local responsiveness. Multidomestic oriented toward achieving maximum local responsiveness. Global increase profitability through cost reductions from experience curve effects and location economies. Global increase profitability through cost reductions from experience curve effects and location economies.

51. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-51 Cost Pressures and Pressures for Local Responsiveness Facing Caterpillar Figure 12.6 Caterpillar Tractor High Cost pressures Low Low High Pressures for local responsiveness

52. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-52 The Advantages and Disadvantages of the Four Strategies Table 12.1a StrategyAdvantagesDisadvantages GlobalExploit experience curve effects Exploit location economies Lack of local responsiveness International Transfer distinctive competencies to Foreign Markets Lack of local responsiveness Inability to realize location economies Failure to exploit experience curve effects

53. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12-53 The Advantages and Disadvantages of the Four Strategies StrategyAdvantagesDisadvantages Multi-domestic Customize product offerings and marketing in accordance with local responsiveness Inability to realize location economies Failure to exploit experience curve effects Failure to transfer distinctive competencies to foreign markets Transnational Exploit experience curve effects Exploit location economies Customize product offerings and marketing in accordance with local responsiveness Reap benefits of global learning Difficult to implement due to organizational problems Table 12.1