Factors contributing to internationalization and the market entry strategies: Study of US firms’ foreign investments in China

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1.     Introduction……………………………………………………………………………………………… 2

2.     Factors contributing to internationalization of US firms in China…………………….. 2

2.1      Low labor cost in China……………………………………………………………………. 2

2.2      Technology and knowledge transfer…………………………………………………… 4

3.     Foreign market entry strategies of US firms into China………………………………….. 5

3.1      Franchising……………………………………………………………………………………… 6

3.1.1     Definition………………………………………………………………………………. 6

3.1.2     Advantage and disadvantages………………………………………………….. 6

3.2      Foreign direct investment (FDI)…………………………………………………………. 7

3.2.1     Definition………………………………………………………………………………. 7

3.2.2     Advantage and disadvantages………………………………………………….. 8

4.     Market entry mode selection and the implications to marketing mix………………… 8

4.1      Franchising……………………………………………………………………………………… 9

4.1.1     Promotion………………………………………………………………………………. 9

4.1.2     Price……………………………………………………………………………………… 9

4.2      Foreign direct investment (FDI)……………………………………………………….. 10

4.2.1     Product………………………………………………………………………………… 10

4.2.2     Place……………………………………………………………………………………. 11

Reference list………………………………………………………………………………………………… 12

 

Factors contributing to internationalization and the market entry strategies

–          Study of US firms’ foreign investments in China

 

1.        Introduction

 

Within the trend of globalization which refers to a set of processes that increasingly make the parts of the world inter- dependently integrated (Roberts & Hite 2007, p. 12) and division of labor which refers to the differentiation and specialization of labor within complex production processes and diversified production systems (Barnes 2008, p. 100) and also driven by a number of factors whether pushing or pulling the companies to international their business in term of the functions of production, marketing and even human resource management, this study will choose the examples regarding the US firms’ foreign investments in China to find out and conclude some factors that contributing to internationalization and also how the market entry strategies and international marketing mix would be applied by the US firms.

 

2.        Factors contributing to internationalization of US firms in China

 

2.1    Low labor cost in China

 

Labor cost per worker in various industries especially in the manufacturing sector and other industries that involve large amount of labor force as a kind of major input is sometimes used as a measure of international competitiveness (Dunning 1985). According to Engardio, Roberts and Bremner (2004) China is able to provide approximately 30% to 50% lower prices than the United States’ labor force and this assist China in obtaining import share in not only low end positions such as simple assembly, but also in higher value industries. And though this finding is in 2004, still nowadays, with the increase of wages and living cost in China for the workers with the pressure building out there in the Chinese low-skill labor market for the higher wages (Acharya 2011, p. 66), China still enjoy a low cost advantage in term of labor cost though such advantage has been decreased. One factor that enhance the low labor cost in China is the so called demographic dividend which refers to economic returns related to the demographic bonus (when the labor force far has a much larger size than the dependent population) (Gragnolati,Jorgensen,Rocha & Fruttero 2011, p. 247), and the demographic dividend operates through several channels as proposed by Bloom, canning and Sevilla (2003): Labor supply, saving leading to increase in physical capital and investment in human capital. The demographic bonus (when the labor force far has a much larger size than the dependent population) is believed would continue in the coming years indicating that the low cost could still be maintained and act as a major key factor contributing to the market entry of foreign firms (including the United States firms) into the Chinese market.

 

For example, Apple Inc, which originate and produces the iPod and iTunes, Mac laptop and desktop computers, the OS X operating system, and the innovative iPhone and iPad (apple.com 2011), it is believed and widely accepted that because Apple’s production of the main products is a labor intensive process since pruning, thinning, and harvesting must be done manually, and also because the Chinese manufacturers have the existing access to an abundant supply of low cost labor, companies will be able to utilize effectively more labor than in they can obtain in other major manufacturing countries and at the same time keeping one of the lowest cost around the globe (Bonarriva 2011, p. 6). This explains why After ten suicides at Chinese manufacturer Foxconn last year which produces many key parts of the Apple’ products, Apple has made a review of supplier responsibility behaviors, which includes the record of the child labor violations, toxic conditions, and other violations of the code of conduct and in addition Apple also sent COO Tim Cook to Foxconn, where a suicide prevention team was formed and they were sent to cope with the issues there (huffingtonpost.com 2011), but still Apple seems to be not willing to change to a new company to produce the Apple product’s major parts in another country because the low labor cost is there in China and Foxconn provides just the needed intense and skilled low end assembly line workers.

 

2.2    Technology and knowledge transfer

 

Technology transfer could be referred as the transfer of systematic knowledge for the manufacture of a product, for the application of a process or for the rendering of a service. And according to WTO working group on trade and transfer of technology, transfer of technology is based on the assumption that developing countries require the techniques invented and used in the industrialized nations to increase thier technological capacity and via which they would achieve faster development and also narrow up such gap in technology (Coriat 2008, p. 121). There are five different ways through which the technology transfer could be done to China according to Elspeth Thomson and Jon Sigurdson (2007, p. 64):

 

l  Technology transaction under which foreign patent holders ell their patent right to Chinese manufacturer

 

l  Technology licensing though which the foreign patent holders grant authorization to Chinese companies to utilize their patents with charge

 

l  Joint venture technology licensing

 

l  Equipment buying

 

l  Co-production and research and development

 

In addition, the US firms may also be proactively participating in the technology transfer process using a so called knowledge transfer. According to Ron Hira and Anil Hira (2008, p. 3), the United States companies especially the MNCs (multinational companies) are actively embracing off shoring and the senior managers and executives are being trained and educated that off shoring is an “imperative” if they would like to remain in their positions. There are a lot of companies that have used programs to accelerate the process that they call as “knowledge transfer” in which they ask the US workers to train foreign replacements. Both the technology and knowledge transfer will stimulate the companies from the developed economies to develop into the developing and emerging markets because the needed high technology and talented people are being gained by the developing economies gradually and even in a fast speed which could be seen in many Asian countries and China is a typical country of this kind due to its large dependency of the foreign direct investments.

 

For example, let’s look at the example of IBM or the International Business Machines Corporation which is a multinational technology and consulting corporation headquartered in Armonk, New York, United States. IBM produces and markets computer (both business and residential) hardware and software, and it also provides infrastructure, hosting and consulting services in areas covering a lot of divisions from mainframe computers to nanotechnology (Shelly 2010). IBM originally has 25 research and development (R&D) centers in the US, Europe and Asia. It has strategically established two major research and development centers in Beijing and Shanghai of China. In 2005 it announced that the company will establish new research and development centers in China and also other emerging markets and economies to encourage the technology development in open standard and open source code (highbeam.com 2005). With more and more US origin multinational corporations (MNCs) opening up their R&D (research and development) centers in the mainland of China, it is obvious not because of the low labor cost alone (though it is one of the reasons), the technology being transferred into China has enabled such relocation of the R&D centers.

 

3.        Foreign market entry strategies of US firms into China

 

In case of the firms seeking to expand abroad, the management decisions involve choosing suitable market entry strategies in foreign markets (Glowik & Smyczek 2011, p. 96). Foreign market entry is regarding a firm’s intension of getting involved in a foreign market using different mode of foreign market entry. And mode of entry into a foreign market has continues been chosen as the most disputable issue in the field of international business research with influential consequences for companies and policy makers (Erramilli & Rao 1993; Davidson 1982). And based on the transaction cost theory (Williamson 1985; Williamson 1975), there are three major types of foreign market entry strategies for a company to internationalize their business which are: contractual modes, cooperative methods and foreign direct investment (FDI). While the first category usually includes direct and indirect exporting, licensing, franchising, Turnkey operations, the second type usually covers strategic alliance, setting up of joint venture and foreign direct investment (FDI) which refers to investment that is made to acquire a lasting interest in an enterprise in a country other than that of the investors (Rugman 1994, p. 152) usually involves participation in management, joint-venture, transfer of technology and expertise (Kakabadse, Abdulla, Abouchakra & Jawad 2011, p. 87). Below we will talk about the advantages and disadvantages of two major types for foreign market entry mode that are usually applied by the US firms in the emerging Chinese market: franchising and foreign direct investment (FDI).

 

3.1    Franchising

 

3.1.1            Definition

 

The term franchise refers to a contractual relationship where one party (the franchisor) licenses another party (the franchisee) to use the franchisor’s own properties such as the trade name, trademarks, copyrights, and other property in the distribution and sale of goods or services in consistency with the well built standards and practices (Oswald 2011, p. 155).

 

3.1.2            Advantage and disadvantages

 

The major advantage for the franchisee, according to Jennifer Took (2005) is being part of a larger franchise system. Quality of goods and service notwithstanding, it is the quality of the relationship between the franchisor and franchisee that is all important. And to the franchisor, they would be able to get access to a large market share in a short period. Take KFC as an example which makes a great success in the Chinese market using an ambitious franchising strategy. KFC is part of Yum! Brands, Inc., the world’s largest restaurant company in terms of system restaurants, with more than 36,000 locations around the world (kfc.com 2010). KFC was the first to bring franchising to China in 1992. With a rapid expansion in the franchising through good location strategies KFC continues to be the number one quick-service restaurant brand and the largest and fastest growing restaurant chain in mainland China today, with nearly 3,500 restaurants in more than 700 cities (yum.com 2011). But there are also disadvantages such as the lowered profitability rate because of the sharing of income with the franchisees.

 

3.2    Foreign direct investment (FDI)

 

3.2.1            Definition

 

As mentioned above, foreign direct investment (FDI) refers to investment that is made to acquire a lasting interest in an enterprise in a country other than that of the investors (Rugman 1994, p. 152), or more specifically foreign investment refers to the net inflows of investment to acquire a lasting management interest (10 percent or more of voting stock) in an enterprise operating in an economy other than that of the investor. It is the sum of equity capital, re-investment of earning and other long term capital, and short term capital as demonstrated in the balance of payments(Cherunilam p. 464).

 

3.2.2            Advantage and disadvantages

 

Though with a higher cost and higher risks by establishing the business in a foreign country, it is believed that a foreign direct investment implies the existence of an optimal combination of ownership, locational and internationalization advantages: Ownership advantages originate from a company’s sock of knowledge, location advantages are determined by spatial differences and opportunities materialize in the mode of internationalization (Morsink 1998, p. 30). Take Ford as an example which is an American multinational automaker based in Dearborn, Michigan, a suburb of Detroit (ford.com 2011) and is the second largest automaker in the U.S. and the fifth-largest in the world based on annual vehicle sales in 2010 (thetruthaboutcars.com 2011). It has long entered in to the local production in China. According to the earlier news, Ford Motor Co. (NYSE:F) and its joint venture (JV) partners in China, Mazda and Chongqing Changan Automobile would jointly establish a new engine production plant in the southwestern Chongqing city. And the said plant will include a investment of five hundred million, will be the third plant of the JV which has already been operating two assembly plants in the local market and one in Chongqing while the other in Nanjing (dailymarkets.com 2010). There are many more cases like Ford’s expansion in China using a FDI mode which gives the US firms a large extent of control over the new business.

 

4.        Market entry mode selection and the implications to marketing mix

 

Marketing mix refers to variables that a marketing manager can control to influence a brand’s sale or market share. And usually in many cases, the variables will be categorized into a four Ps of marketing mix model which includes: product strategies, price strategies, promotion strategies and place strategies (McCarthy 1996). Below we will talk about some implications of adopting a franchising foreign market entry mode or a FDI (foreign direct investment) entry mode to some of the marketing mix that could be used by the US firms in their foreign market practices in China.

 

4.1    Franchising

 

4.1.1            Promotion

 

Promotion includes all those activities which a company carries out to persuade and stimulate people into the buying of their products. Such activities usually make up the tools of promotion mix. And the various elements of promotion are: advertising, personal selling, sales promotion and publicity (McCaffery 2004). For US companies that focus on franchise business, promotion mix is important, for example it is claimed by Don E. Schultz, William A. Robinson and Lisa Petrison (1998 p. 8) that sales promotion will have a residual market value which means that there might be a long term impact on the brand franchise after the promotion is over. Other elements such as advertising and publicity are also important for a foreign brand to increase its brand awareness in China. The timing of using the promotional factors is critical. In Chinese there several festivals such as the national labor day, national holiday and spring festival during which people will purchase many more commodities than they do in the usual days. During these festivals, foreign companies and brands should follow the local market needs and intensively use the promotional activities and elements to get their brand exposed to as many potential customers as possible to increase brand awareness.

 

4.1.2            Price

 

The art of pricing refers to the ability to influence consumer price acceptance, adapt pricing structures to shift the competitive playing field, and align pricing strategy to the competitive strategy, marketing strategy, and industrial policy (Smith 2011, p. 8). For franchise business in China, they could use the pricing strategy more effectively to attract the Chinese consumers. For example, the use of psychological pricing, such as the 99.9 and 88.8 will be helpful because of the Chinese consumer’s cultural background. On the other hand, if a company is entering the Chinese market using a franchising strategy, at the beginning stage, the company could require and assist its franchisees to adopt a penetration pricing which means that company would use a strategy adopted in order to achieve quickly a high volume of sales and deep market penetration of a new product. And only after gaining certain market share, the company would be able to achieve the economy of scale which is critical to a franchise business because the number of franchisee shops or stores would decide the brand awareness and influence in the market.

 

4.2    Foreign direct investment (FDI)

 

4.2.1            Product

 

The product strategy is about how the product are design, manufactured and packaged into the final products and services to meet the functional and psychological needs of the target customers. In term of product design, the foreign countries that have plants in China if they would like to sell the product in the Chinese market, it should integrate the local features such as cultural preference into the product design to make them more attractive to the Chinese customers. One very important product decision that many companies would need to make is to choose between product standardization which is usually coming with a low cost strategy or product differentiation which provide product uniqueness to customers to make them perceive that the product offered is different from other competitors’ offers. When foreign companies that use a foreign direct investment (FDI) mode to enter into the Chinese market and make their products to meet the needs of the Chinese local consumers, the degree of product localization which is a kind of product differentiation through introducing changes to the existing products. For example, some years after KFC entered into the market of mainland of China, the global well known fast food brand finally entered into a fast growing track and one critical product strategy that the company has been adopting to outperform the other global competitors such as McDonald and the local players is the localization of its products to satisfy the localized needs. It offers products such as the chicken roll of old Beijing which are not available in other regional markets. Also these localized products prove to be a success because they fit in well with the local taste and people in China love these Chinese style western foods very much especially when KFC could provide products all over China with standardized taste and quality which other local Chinese fast food companies could not offered right now.

 

4.2.2            Place

 

Place strategy deals with how the end products would be transported and distributed to the hands of the customers. To make it easier, distribution could classified into two major categories: direct distribution and indirect distribution. Within a direct distribution, companies will directly sell their products to the customers while within an indirect distribution strategy, usually middlemen such as wholesaler and retailer would be included in the distribution. For most companies that are entering the Chinese markets using a FDI mode, though they product the products in China, it does not mean that it will automatically obtain the access to the local distribution channels. Hence approaching to the wholesaler and retailer such as the local shopping markets would be a recommended method to make the product more exposed to the potential customers at the beginning stage of the marketing of the products. Still the companies could gradually establish their own distribution channels such as using a B2C (business to customers) way to reduce the distribution cost by employing the middlemen.

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