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2. chapter The Strategy of International Business McGraw-Hill/Irwin Global Business Today, 5e © 2008 The McGraw-Hill Companies, Inc., All Rights Reserved. 11

3. INTRODUCTION In this chapter, we focus on the firm itself and, in particular, on the actions managers can take to compete more effectively as an international business. Chapter 11: The Strategy of International Business

4. STRATEGY AND THE FIRM A firm’s strategy can be defined as the actions that managers take to attain the goals of the firm. Profitability can be defined as the rate of return the firm makes on its invested capital. Profit growth is the percentage increase in net profits over time. Chapter 11: The Strategy of International Business

5. Value Creation The more value customers place on the firm’s products, the higher the price the firm can charge for those products The value created by a firm is measured by the difference between V (the price that the firm can charge for that product given competitive pressures) and C (the costs of producing that product) Chapter 11: The Strategy of International Business

6. Firms can increase their profits: by adding value to a product so that customers are willing to pay more for it by lowering the costs There are two basic strategies for improving a firm’s profitability: a differentiation strategy a low cost strategy Chapter 11: The Strategy of International Business

7. Strategic Positioning A central tenet of the basic strategy paradigm is that in order to maximize its long run return on invested capital, a firm must: Pick a position on the efficiency frontier that is viable in the sense that there is enough demand to support that choice Configure its internal operations so that they support that position Make sure that the firm has the right organization structure in place to execute its strategy Chapter 11: The Strategy of International Business

8. Operations: The Firm as a Value Chain The firm can be thought of a value chain composed of a series of distinct value creation activities, including production, marketing, materials management, R&D, human resources, information systems, and the firm infrastructure These value creation activities can be categorized as primary activities and support activities Chapter 11: The Strategy of International Business

9. Primary Activities The primary activities of a firm have to do with creating the product, marketing and delivering the product to buyers, and providing support and after-sale service to the buyers of the product Support Activities Support activities provide the inputs that allow the primary activities of production and marketing to occur Chapter 11: The Strategy of International Business

10. Classroom Performance System All of the following are examples of primary activities except Logistics Marketing and sales Customer service Production Chapter 11: The Strategy of International Business

11. Organization: The Implementation of Strategy The term organization architecture can be usedto refer to the totality of a firm’s organization, including formal organizational structure, control systems and incentives, organizational culture, processes, and people. Chapter 11: The Strategy of International Business

12. Organizational structure refers to: the formal division of the organization into subunits the location of decision-making responsibilities within that structure the establishment of integrating mechanisms to coordinate the activities of subunits including cross functional teams and or pan-regional committees Chapter 11: The Strategy of International Business

13. Controls are the metrics used to measure the performance of subunits and make judgments about how well managers are running those subunits Incentives are the devices used to reward appropriate managerial behavior Processes are the manner in which decisions are made and work is performed within the organization Organizational culture is the norms and value systems that are shared among the employees of an organization By people we mean not just the employees of the organization, but also the strategy used to recruit, compensate, and retain those individuals and the type of people that they are in terms of their skills, values, and orientation Chapter 11: The Strategy of International Business

14. In Sum: Strategic Fit In sum, for a firm to attain superior performance and earn a high return on capital, its strategy must make sense given market conditions. Chapter 11: The Strategy of International Business

15. GLOBAL EXPANSION, PROFITABILITY, AND PROFIT GROWTH Firms that operate internationally are able to: Expand the market for their domestic product offerings by selling those products in international markets Realize location economies by dispersing individual value creation activities to locations around the globe where they can be performed most efficiently and effectively Realize greater cost economies from experience effects by serving an expanded global market from a central location, thereby reducing the costs of value creation Earn a greater return by leveraging any valuable skills developed in foreign operations and transferring them to other entities within the firm’s global network of operations Chapter 11: The Strategy of International Business

16. Expanding the Market: Leveraging Products and Competencies A company can increase its growth rate by taking goods or services developed at home and selling them internationally The success of firms that expand in this manner is based not only on the goods or services they sell, but also on their core competencies (skills within the firm that competitors cannot easily match or imitate) Core competencies enable the firm to reduce the costs of value creation and/or to create perceived value in such a way that premium pricing is possible Chapter 11: The Strategy of International Business

17. Location Economies Firms can benefit by basing each value creation activity at that location where economic, political, and cultural conditions, including relative factor costs, are most conducive to the performance of that activity Firms that pursue such as strategy can realize location economies (the economies that arise from performing a value creation activity in the optimal location for that activity, wherever in the world that might be) Chapter 11: The Strategy of International Business

18. Locating a value creation activity in the optimal location for that activity can have one of two effects: It can lower the costs of value creation and help the firm to achieve a low cost position It can enable a firm to differentiate its product offering from the offerings of competitors Chapter 11: The Strategy of International Business

19. Creating a Global Web By taking advantage of location economies in different parts of the world, multinational firms create a global web of value creation activities Under this strategy, different stages of the value chain are dispersed to those locations around the globe where perceived value is maximized or where the costs of value creation are minimized Chapter 11: The Strategy of International Business

20. Some Caveats Introducing transportation costs and trade barriers complicates this picture Political risks must be assessed when making location decisions Chapter 11: The Strategy of International Business

21. Experience Effects The experience curve refers to the systematic reductions in production costs that have been observed to occur over the life of a product Learning Effects Learning effects are cost savings that come from learning by doing So, when labor productivity increases, individuals learn the most efficient ways to perform particular tasks, and management learns how to manage the new operation more efficiently Chapter 11: The Strategy of International Business

22. Economies of Scale Economies of scale refers to the reductions in unit cost achieved by producing a large volume of a product. Sources of economies of scale include: the ability to spread fixed costs over a large volume the ability of large firms to employ increasingly specialized equipment or personnel Chapter 11: The Strategy of International Business

23. Strategic Significance Moving down the experience curve allows a firm to reduce its cost of creating value Serving a global market from a single location is consistent with moving down the experience curve and establishing a low-cost position Chapter 11: The Strategy of International Business

24. Leveraging Subsidiary Skills Managers must recognize that valuable skills that could be applied elsewhere in the firm can arise anywhere within the firm’s global network (not just at the corporate center) Managers must also establish an incentive system that encourages local employees to acquire new skills Summary Managers need to keep in mind the complex relationship between profitability and profit growth when making strategic decisions about pricing Chapter 11: The Strategy of International Business

25. Classroom Performance System When different stages of a value chain are dispersed to those locations around the world where value added is maximized or where the costs of value creation are minimized, _____ is (are) created. Experience effects Learning effects Economies of scale A global web Chapter 11: The Strategy of International Business

26. 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 These pressures place conflicting demands on the firm. Chapter 11: The Strategy of International Business

27. Pressures for cost reductions and pressures to be locally responsive are shown in Figure 11.8. Chapter 11: The Strategy of International Business

28. Pressures for Cost Reductions Pressures for cost reductions are greatest: in industries producing commodity type products that fill universal needs (needs that exist when the tastes and preferences of consumers in different nations are similar if not identical) where price is the main competitive weapon when major competitors are based in low cost locations where there is persistent excess capacity where consumers are powerful and face low switching costs Chapter 11: The Strategy of International Business

29. Firms facing pressures for cost reductions: must try to lower the costs of value creation by mass-producing a standard product at the optimal locations worldwide Chapter 11: The Strategy of International Business

30. Pressures for Local Responsiveness Pressures for local responsiveness arise from: differences in consumer tastes and preferences differences in traditional practices and infrastructure differences in distribution channels host government demands Chapter 11: The Strategy of International Business

31. Differences in Consumer Tastes and Preferences Strong pressures for local responsiveness emerge when consumer tastes and preferences differ significantly between countries Differences in Infrastructure and Traditional Practices Pressures for local responsiveness emerge when there are differences in infrastructure and/or traditional practices between countries Chapter 11: The Strategy of International Business

32. Differences in Distribution Channels A firm's marketing strategies may have to be responsive to differences in distribution channels between countries Host Government Demands Economic and political demands imposed by host country governments may necessitate a degree of local responsiveness Chapter 11: The Strategy of International Business

33. Classroom Performance System Pressures for local responsiveness come from all of the following except Excess capacity Host government demands Differences in consumer tastes and preferences Differences in distribution channels Chapter 11: The Strategy of International Business

34. CHOOSING A STRATEGY Firms use four basic strategies to compete in the international environment: global standardization localization transnational international Chapter 11: The Strategy of International Business

35. Global Standardization Strategy A 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 strategic goal is to pursue a low-cost strategy on a global scale This strategy makes sense when there are strong pressures for cost reductions and demands for local responsiveness are minimal Chapter 11: The Strategy of International Business

36. Localization Strategy A 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 Localization is most appropriate when there are substantial differences across nations with regard to consumer tastes and preferences, and where cost pressures are not too intense Chapter 11: The Strategy of International Business

37. Transnational Strategy A 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 subsidiaries in the firm’s global network of operations A transnational strategy makes sense when cost pressures are intense, and simultaneously, so are pressures for local responsiveness. Chapter 11: The Strategy of International Business

38. International Strategy An international strategy involves taking products first produced for the domestic market and then selling them internationally with only minimal local customization When there are low cost pressures and low pressures for local responsiveness, an international strategy is appropriate Chapter 11: The Strategy of International Business

39. The Evolution of Strategy An international strategy may not be viable in the long term To survive, firms may need to shift to a global standardization strategy or a transnational strategy in advance of competitors Similarly, localization may give a firm a competitive edge, but if the firm is simultaneously facing aggressive competitors, the company will also have to reduce its cost structures, and the only way to do that may be to shift toward a transnational strategy Chapter 11: The Strategy of International Business

40. Classroom Performance System When pressures are high for local responsiveness, but low for cost reductions, a _______ makes sense. Global standardization strategy International strategy Transnational strategy Localization strategy Chapter 11: The Strategy of International Business

41. STRATEGIC ALLIANCES Strategic alliances refer to cooperative agreements between potential or actual competitors Chapter 11: The Strategy of International Business

42. The Advantages of Strategic Alliances Strategic alliances: facilitate entry into a foreign market allow firms to share the fixed costs (and associated risks) of developing new products or processes bring together complementary skills and assets that neither partner could easily develop on its own Chapter 11: The Strategy of International Business

43. The Disadvantages of Strategic Alliances Strategic alliances can give competitors low-cost routes to new technology and markets, but unless a firm is careful, it can give away more than it receives Chapter 11: The Strategy of International Business

44. Making Alliances Work The success of an alliance seems to be a function of three main factors: partner selection alliance structure the manner in which the alliance is managed Chapter 11: The Strategy of International Business

45. Partner Selection A good partner has three principal characteristics: a good partner helps the firm achieve its strategic goals and has the capabilities the firm lacks and that it values a good partner shares the firm’s vision for the purpose of the alliance a good partner is unlikely to try to opportunistically exploit the alliance for its own ends: that it, to expropriate the firm’s technological know-how while giving away little in return Chapter 11: The Strategy of International Business

46. Alliance Structure Alliances can be designed to make it difficult to transfer technology not meant to be transferred Contractual safeguards can be written into an alliance agreement to guard against the risk of opportunism by a partner Both parties can agree in advance to swap skills and technologies to ensure a chance for equitable gain The risk of opportunism by an alliance partner can be reduced if the firm extracts a significant credible commitment from its partner in advance Chapter 11: The Strategy of International Business

47. Managing the Alliance Successfully managing an alliance requires managers from both companies to build interpersonal relationships A major determinant of how much a company gains from an alliance is its ability to learn from its alliance partners Chapter 11: The Strategy of International Business

48. CRITICAL THINKING AND DISCUSSION QUESTIONS 1. In a world of zero transportation costs, no trade barriers, and non-trivial differences between nations with regard to factor endowments, firms must expand internationally if they are to survive. Discuss. Chapter 11: The Strategy of International Business

49. CRITICAL THINKING AND DISCUSSION QUESTIONS 2. Plot the position of the following firms on Figure 11.8 - Procter & Gamble, IBM, Nokia, Coca-Cola, Dow Chemical, US Steel, and McDonald's. In each case justify your answer. Chapter 11: The Strategy of International Business

50. CRITICAL THINKING AND DISCUSSION QUESTIONS 3. Re-Read the Management Focus box on Procter & Gamble and then answer the following questions: a) What strategy was Procter & Gamble pursuing when it first entered foreign markets in the period up until the 1980s? b) Why do you think this strategy became less viable in the 1990s? c) What strategy does Procter & Gamble appear to be moving toward? What are the benefits of this strategy? What are the potential risks associated with it? Chapter 11: The Strategy of International Business