Selection of entry modes and generic strategies: Case study of Geely Holding Group Co. Ltd

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1.        Introduction of Geely Holding Group Co. Ltd

 

Set up in 1986 in east China’s Zhejiang province, Geely started the auto manufacturing business in year 1997 (Unknown 2009). With more than 10 years’ effort, Geely has established itself as one of the top 10 auto manufacturers and top 500 firms in China. Emgrand, Gleagle and Englon brands are the newest car models that Geely released within a single year (2009) in hope of changing the original strategy of low price positioning. The sale volume last year was 325,000, this digit is expected to increase to 412,000 this year (Unknown 2010). The ambition of Geely to expand into the foreign market is perfectly demonstrated in its recent widely debatable deal amount to $2.7 billion with the American auto giant, Ford, to purchase its loss making Volvo car unit (Cowell 2010). And this easy will focus on the theoretical and practical analysis of Geely’s strategy to enter the European auto industry.

 

1.1    Research objectives

 

There are many issues that need to be cleared when planning a foreign market entry. And in this essay, the following four research objectives will be put under careful examination.

 

1.1.1            The timing and motivations of Geely’s foreign market expansion

 

1.1.2            UK auto industry analysis

 

1.1.3            Selection of entry modes and generic strategies

 

1.1.4            Barriers to Geely’s expansion into Europe market

 

2.        Findings

 

2.1    The motivations for foreign market entry

 

The motivations for a company to expand its business which includes design, R&D, production, trading or marketing of the business processes could be passive or active. On the negative side, a company may be forced to move out the home country to seek new markets for development by the policies and regulations enacted by the government to restrict the expansion of some industries domestically such as the heavy polluting industries. What’s more the hyper domestic competition would usually exert pressure for the companies to expand their business in foreign market as a way of avoiding competition. In this point, those underdogs in any highly competitive industries are more eager to expand their business in the foreign market than the leaders because if they are not growing in another way they are facing great challenges from the industrial leaders. So in case of over competition companies are forced to turn to the oversea market, but even in case of low level of competition, the same thing may happen. For example, before the 1991 liberalization Indian had restrictions that not only protected the domestic business from foreign entry but also prohibited domestic competitions (Unknown 2010). In this case, leading companies that want to keep growth are the most eager one to turn to the oversea for opportunities because it has been doing quite well domestically and the market in the home country does not provide the appropriate situation that can fully utilize their competitive advantages.

 

On the other hand, there are also many positive motivations that provide incentives to the multinational companies to extend their business activities abroad. Resource attraction is one of the most reasons for foreign investment. According an early study done to investigate the foreign direct investment (FDI) of US some of the reasons that make Malaysia attractive to the FDI are its undervalued currency, low cost of labor and fairly low inflation rate (Prempeh 2003). Other resources such as natural resources, low tax rate and customer demands especially could also attract foreign investment. What’s more because of the different market conditions from one country to another, a company could find that its domestically low cost products could charge a premium price which brings extra profits for the company. Speaking from the countries’ angle, home based multinational companies are playing important roles in creating export which brings income to the home countries. In many countries, governments will enact policies to encourage exports. For example, Japanese Prime Minister Yukio Hatoyama faced by the economic slowdown in Japan has refined his strategy to boost domestic demand to encourage export. And recently the government has increased involvement in the international business in term of sending some of Japan’s economic ministers to U.S. and some Asian countries to help the Japanese companies get the bid for the projects in the infrastructure exports. And Tokyo even change a statute which governs Japan Bank for International Cooperation that manages lending money in order to provide funding to the railway projects in the developed countries (Hayashi 2010). In this way, the Japanese government creates advantages for the Japanese companies to get the bid for the projects in other countries.

 

2.2    Industry competitive analysis

 

With sufficient external or internal motivations for a company to expand to foreign markets, a company needs to select a target market at first. And when seeking marketing opportunities outside the home countries, it is important to have an investigation about the target industry in which the company operates of the target market to see understand the industry in the country that the company is planning to enter into in term of attractiveness and competitive intensity. The most famous theory involving the industry competitive analysis is Porter (1998)’s Five Forces model. Porter in this model summarizes five forces that together decide the competitive intensity and the attractiveness of an industry.

 

Figure 1 Porter’s five forces industry analysis

 

There are three kinds of threats horizontally in the model: threat from new entrants, threat from current competitors and threat from substitute products. The threat from the current competitors is easy to observe, high competitive pressure will cause heavy pressure on the prices, margin generation and finally influence the profitability of the industry (Recklies 2001). A large number of players with similar strategies, little product differentiations and a low growth rate of the industry are common factors that contribute to a high competitiveness within an industry. When an industry has low level of inside rivalry, the market become attractive but then another threat is coming through, the threat of new entrants. When an industry has low barriers of entry which means that it is easy to enter into the industry, for example there are no discriminating policies by the government to protect the domestic industry against the foreign entry or control the competition, then threat of new entrants is expected to rise. And the third threat is from the substitute products, this kind of threat is not easy to observe but it could be devastative to the industry as a whole. In the free market with abundant products as we have today, consumers have options to choose the products they in their preference to meet their need. For instance, to meet the need of entertainment, customers could go to play computer games, go fishing, and watching TV and so on. One of the results of the existence of the competitive substitute products is a limitation on the rise of prices in the competitive products (Miles 2008).

 

On the other hand there are two forces that coming from vertical competition: the bargaining power of customers and the bargaining power of suppliers. There are two kinds of the bargaining power of customers. The first type is the customers’ price sensitivity; this will be jointly determined by the leverage between the demand of the customers and the supply of the producers. If the customers have no choices and have to buy the products then the bargaining power of customers will be lowered. Another type of bargaining power of customers is demonstrated through negotiations (Mallon 2005). Large buyer tend to have stronger bargaining power, such as the global retail giant Wal-mart, because of its large quantity of supply globally it has strong bargaining power over the suppliers to get low prices. The second bargaining power comes from suppliers. Different from the relationship between a company and its customers, the relationship with the suppliers is generally considered to be more stable. So, there is also countervailing supplier bargaining power that derives from the costs to the assembler of switching suppliers (Monteverde & Teece 1982). And weak supplier bargaining power is preferred by companies. The interactions and leverage between five forces jointly decide the competitiveness and the attractiveness of an industry. And a low competitiveness will encourage foreign entry in normal cases.

 

2.3    Foreign market entry modes and generic strategies

 

After indentifying an attractive market, the next steps come to decide how to enter into the foreign market with appropriate strategies.

 

 

2.3.1            Foreign market entry modes

 

There are many modes for foreign market entry, such as exporting, contractual manufacturing, joint venture and so on. These entry modes differ in dimensions of span of control, commitment of resources, risks and ownership. Carlson (1966) was the first one to introduce the concept of business entity as a bundle of tangible and intangible resources required for the production and marketing, and to apply it to the international activities of companies (Madhok 1997). Under this perspective, international business is actually the form to gain resources from foreign countries and apply it into the business process. Below the Hennart (2009)’s bundling assets theory that has been studied in assignment 1 will be reviewd here to help analysze the determinents of selecting entry mode.

 

Figure 2 Optimal mode of foreign market entry.

 

According to this bundling mode, the transactional character of the asset owned by the multinational company and the assets that owned by the local owners but is demanded by the multinational company in order apply it into the expanding of its business in the target market. There are four situations in the category of this model. Take the cell 4 as an example, when the multinational company’s assets and the local complementary assets are both difficult to transact which means they have the claimant of the same level. And the leverage between the multinational company and the local owner is to set up a joint venture firm which will benefit the both parties.

2.3.2            Generic strategies

 

After having selected a mode foreign market entry, a company needs to design corresponding strategies to guide the entering process in a strategic level. The essence of strategy formulation is coping with competition. As mentioned above there are five forces in an industry that crate competition for the companies inside it. A company’s strategic goal is to find a position in the industry where his or her company can best defend itself against these forces or can influence them in its favor (Smith 1999). Michael E. Porter (1998) in his famous book Competitive Strategy described a model that categorized three types of strategies according to two dimensions: scope of target market and source of competitive advantages.

Figure 3 Porter’s generic strategies

 

By indentifying a company’s positions in the two dimensions, there are three strategies indentified in Porter’s generic strategies theory which are recommended to the respective positions in the matrix. When a company is targeting a narrow market, a focus strategy or a niche strategy is applicable. This is usually happening to small firms which cannot manage a cost focus or a differentiation focus in a wide scope (Unknown 2010). The cost leadership means the lowest cost of operation in the industry. Note cost leadership rather than price leadership is the generic strategy (Stahl & Grigsby 1997). A company could be cost leadership but still charge medium price to gain a profitability which is above the average industrial level. While the cost leadership focuses on the lowest cost of their products, the differentiation strategy is on the other extreme in pursuit of producing the most unique products that could charge premium for the uniqueness in satisfying the customers’ needs. What’s more, the contingency factors also play roles in applying the generic strategies (Murray 1988). As Michael E. Porter (1985) said in his book, Competitive Advantage, “Cost advantage and differentiation in turn stem from industry structure”. So a targeted market structure study is needed before deciding which generic strategy is to be used.

 

2.4    Barriers of foreign expansion

 

After setting the issues of entry mode and generic strategies selection, a company that intent to enter into a new market also needs to do some preparation work for some barriers and problems that may appear during the entry process. Here are some common barriers according summarized by the practical experiences of international business by many multinational companies:

 

2.4.1            Barriers at the intra-organizational level

 

When a multinational company operates in a foreign country with different cultures, languages and management styles, any differences could be creating a barrier if it is not timely fixed. Many managers and employees from the west are mostly from low context cultures system such as Germany and USA, they tend to understand the direct meaning of messages without thinking there might be some extra meanings. In contrast, the eastern managers and employees are used to assuming that there should be hints inside the words because they are from high context cultures (Hofstede 1994). Other than cultural gap, barriers in the intra-organizational level could also contain issues that involve language, religion, staffing and other topics that may cause difficulties to the efficiency of the company.

2.4.2            Barriers at the inter-organizational level

 

According to a research that studied the motivations and barriers of the multinational companies’ R&D activities in China, the GuanXi network is curial to business efficiency and success. And this kind of relationship network also requires investment in term of time, effort and money (Gassmann & Han 2004). The power of the GuanXi network can be seen from the pressure for “donation of a must” that the big multinational companies felt after the Sichuan earthquake on 19th March 2009. Soon after the earthquake, there were rumors on the internet about CEO of Korean mobile phone giant Samsun who refused and stopped the employees from making donations. Even though on April 16th, 28 days after the earthquake, announcement had been made by Samsung that Samsung China will donate 30 million RMB through international Red Cross together with other relief effort (Unknown 2008), but the tardiness and unwillingness had damage the reputation of the Korean companies and provoked some boycotting activities in certain regions. This is an example of the kind of barrier that a foreign company may face if it does not follow to local rules. And there are many other inter-organizational barriers to a smooth entry and operation in foreign countries differing from situation to situation.

 

3.        Analysis

 

Here in this part concentration will put on the case with Geely in analyzing its entry strategies into the Europe market.

 

3.1.1            The timing and motivations of Geely’s foreign market expansion

 

With a strong growing trend, China has passed US in term of auto sale last year to become the No.1 auto market in the world (see Chart 1) despite that this has close relation with the economic recession in the US. With increasing important role that China has been playing in the world auto industry, the need for Chinese auto manufacturers to get involved in the foreign auto market become more and more necessary.

 

Chart 1 Current and future prediction on Chinese auto sale (Resource: Ristau, D. 2010)

Even before the stunning acquisition with world famous brand Volvo (Shirouzu 2009), Geely’s plan was to use Volvo to build a new Volvo plan in China of the annual production capacity of 300,000 vehicles with the low cost advantages. What’s more Geely planned to use Volvo’s plant in Europe in a full swing to sell 600,000 cars in the European and North American markets (Shirouzu 2009).

 

Behind the great ambition that Geely has to expand its business in the oversea market, such ambitious moves have a clear support from the government which is a critical motivation for Geely to expand in such a fast speed. Firstly, Geely’s move of expansion is in accord with the “going out” policy set up in 2002 as a decade-long economic goal for the Chinese firms. Secondly, even though Geely is not a state owned company, optics and financial realities show the footprint of the government interventions. Minister of industry and Information Technology, Li Yizhong showed up in the signing ceremony in Sweden. What’s more, the deal was partly financed by the provincial governments and a state owned banks (Sandersfeld 2010).

 

Other than the government support, the timing of the expansion also comes from the global economic slowdowns which directly help closing the deal in a desirable result for Geely. Before this acquisition, never in the history had the government help the private business in doing business internationally with such effort. This has also close relationship with the economic crisis. Because the economic crisis in which China has suffered great lost directly because of its huge investment in the US bonds and stock market. After this failure, there seems to be no stable and safe investment for its huge currency reserve of which most are US dollars. So the infrastructure building and funding private companies to expand into the foreign market become an option for the use of the currency reserve.

 

3.1.2            The UK auto industry analysis

 

As the diversified situations from country to country in the European market, for a more convincing study below the industry analysis will be focused on the UK market which is the first target market that Geely planned to enter into.

 

Internal rivalry in UK auto industry is very intense with the high concentration. There are 8 top global auto companies which occupy 90 percent of the global sale revenue and top fifty auto part companies (Unknown 2008). But the auto industry is considered to be an oligopoly which helps reduce the effects of price competition. So the rivalry is less intense then we generally think of.

 

Potential entrants are difficult to enter into the UK auto market with the big companies occupying the major market share and the distribution channel. An entrant that plans to enter the UK auto market has to invest heavily in areas of distribution channel building, brand marketing and so on.

 

In contrast, the bargaining power of suppliers is considered to be low in the auto industry all over the world as the suppliers of auto parts are so varied and fragmented. And in most case, auto parts companies are relying on several auto makers to give them the orders. If the auto manufacturer decides to change suppliers, the suppliers will suffer great lost. So they are quite susceptible to the demand and requirement of the auto makers.

 

Historically because the buyers of autos are rarely buying in large quantities, they would not have too much bargaining power. But now with lower price cars, the sensitivity of prices has increased the bargaining power of the customers.

 

Two factors that drive the buyers to turn to public transports from driving a car: sense of protecting the environment and the price of fuel. The more and more popular idea of saving consumption of gasoline to reduce CO2 emission is being prevailing in people’s mind and people tend to use the public transport. On the other hand, the price of the gasoline which represents the major the cost of driving a car will keep people from buying a car if it is too high.

 

3.1.3            Selection of entry modes and generic strategies

 

In term of the selection of entry modes for Geely, as mentioned in the conclusion part of assignment 1, theoretical analysis has proved the entry mode of inefficiency in entering the European market with the help of the Hennart (2009)’s bundling model of assets. Because the local assets of Volvo are hard to transact except the technology part, other assets such as the management skills and corporate cultures are not easily manageable for Geely as a small auto manufacturer without too much oversea management experience. And the model does not support such way of foreign entry. So the acquisition is not recommended especially it is not advisable for Geely to continue to fully use the capacity of Volvo’s plant in Sweden to produce vehicles in the old way which cannot utilize the cost leadership of Geely to create competitiveness.

 

In the area of generic strategies selection, despite the strategic movement of Geely to move to a differentiation strategy from the cost leadership positing in the domestic market which is demonstrated by its release of 3 types of new cars with higher prices in 2009 as mentioned earlier in assignment 1, but in the European market a mix of the cost leadership strategy and differentiations strategy for Geely will be recommended in this particular scenario. The reasons are three folds: Firstly, low cost is the best source of competitiveness for Geely. With the plan to build up a Volvo plant in China which is one of the most desirable benefits that Geely could get from the deal, Geely would be able to manufacture cars of Volvo models with low cost which thanks to the low labor cost, management cost and undervalue Chinese currency. In this way, Geely is able to provide cheapest Volvo car bears the hope of Chinese expansion ambition in the auto industry. Secondly, the cheapest Volvo could only be cheapest in price not the quality of the vehicle. Volvo’s original core competitiveness is the safety of its cars, if the made-in-China version Volvo car reach the target of cost cut by compromising the safety of the car, then at least in the European market such cars would not be considered as the same Volvo that in the customers’ impression. And in fact the European countries would not allow the import of cars which cannot manage to meet the standard of safety. And even the new Volvo cars are meeting the standard of EU, if the quality does get compromised, the Volvo’s competiveness of being the safest car will lose and only low cost leadership will make the deal in discount in a large extent. Thirdly, the mixed strategy of cost leadership and differentiations could be achieved in Geely’s case. With the full transferring of technology from Volvo and low cost of manufacturing in China, such mixed strategy could be adopted practically.

 

3.1.4            Barriers to Geely’s expansion into Europe market

 

The most obvious party that expressed different idea against the acquisition is the unions at Volvo. Even before reaching the deal between Geely and Ford, the Volvo unions had expressed their concern about the possible acquisition by a Chinese firm. They demanded the presentation of a competent management team for Volvo and $2 billion was ready before the deal. Whatever strategic changes that Geely intend to do in the future could be influenced by the powerful Unions especially when Geely is reportedly to have set the goal to pull out the Swedish carmaker out of red by 2011 (Unknown 2010). And obviously for Geely, the experience to deal with the relationship with a powerful Union is not enough as the unions in China do not have influence as their Swedish counterparts have.

 

The modularity problems could also appear. Even though Geely’s intention to integrate the safety technology from Volvo into its low cost cars which lack just the quality of safety is very sound seemingly, but the modularity problem could make this out of the question. Take note that Geely is a small and low cost auto maker in China which Volvo is already a premium brand. There are obvious different between the technologies, process that adopted by the two car producers. It would not be easy to just integrate the technologies into the low cost car in a simply way. What’s more transferring such sophisticated technologies would take time and efforts (Morcillo 2010). Thinking about the fact that, the sale volumes of Geely and Volvo are almost the same, but the sale revenue of Volvo was 6 times bigger than Geely. This fact has demonstrated the gap of power between these two companies and explains the source of the major concern and critics. And in fact take into the consideration of their different production lines, modularity problem would appear and it takes a lot of effort to fix them. And this would be a major barrier for Geely to transact the asset of Volvo. What is more, integrating the technology from Volvo into the building of Geely’s car is not the final result that Geely desires to see happen. But control the cost while integrating the cost would be the final target to be achieved and expected by Geely. To achieve this goal the synergy effect must be fulfilled at the first hand to solve the modularity problem.

 

4.        Conclusion

 

After the analysis we have above, it is safe to use the analysis to provide the prudent answers to the questions that given in the beginning of the essay as research objectives. To answer to questions about the timing and the motivations of Geely’s expansion into oversea market, the government support and growth of the Chinese auto market provide the major motivations for Geely to expand into the foreign market. And the analysis suggests a general high competitive environment in the UK auto market which is not very attractive to the potential entrants because of the overwhelming control by the major car companies. And in term of the entry mode, with the help of the model, I suggest a non-equity entry mode such as direct export would be suitable for Geely because that in a short period Geely would not manage to transact the assets owned by Volvo. And about the selection of generic strategies, take into the consideration that Geely could adopt both cost leadership strategy and differentiations strategy which are both important to keep the new car competitive, I suggest a mix strategy to combine both advantages. And about the topic of the barriers that may appear in Geely’s expansion process, two issues may pose difficulties for the company: the influence of powerful unions and the modularity problem.

 

5.        Recommendations

 

In term of foreign market entry mode selection, I recommend that Geely shut the Sweden plant after transferring the technology back to China which probably happens after the building of the Volvo plan in Tianjin city, north China as described in Geely’s expansion plan. But instead, the marketing function of Volvo would be preserved and developed to expand the market in Europe which is the focus of Geely’s business in Europe in the foreseeable future. In this way, Geely will change the entry mode from Greenfield investment to direct export which is a kind of non-equity foreign entry mode.

 

Another recommendation is given to the area of the synergy or modularity problem of the acquisitions. As mentioned above, Geely and Volvo are two distinctly different auto manufacturers with different production process and sophistications of the technologies and skills. So closed observation is needed in examining the viability of the integration process of the two systems, and to provide timely report on the integration process.

 

iv Appendix

 

Volvo Cars unions demand answers as Geely buy looms

 

2010/3/26 00:48 BJT

  

* Labour opposition sets up potential hurdle

* Volvo Cars unions say can’t recommend Geely purchase

* Need info on capital, management to endorse deal

* Ford and Geely seen signing deal in coming days

STOCKHOLM, March 25 (Reuters) – Unions at Ford Motor’s Volvo Car Corporation on Thursday withheld their backing for a planned acquisition by Zhejiang Geely, setting the stage for a potentially troublesome takeover by the Chinese automaker.

Ford and Zhejiang Geely Holding Group, China’s largest private carmaker and the parent of Hong Kong-listed Geely Automobile, are expected to sign an acquisition deal for Volvo Cars in the coming days.

But the Volvo unions said in a joint statement they had still not received any information about how the capital needs of Volvo would be met, nor about which investors were backing the deal and the composition of management of the company. Organised labour cannot block the deal, but the backing of employees and politically influential unions will be important if Zhejiang Geely’s goal of pulling the Swedish carmaker out of the red by 2011 is to be achieved.

“With this total lack of information we can today not give our support to carrying out the deal,” the unions said.

“Our responsibility toward our members demand that we get answers to our questions regarding the future of Volvo Car Corporation,” they added.

The unions, which had previously expressed concerns over the potential acquisition by the Chinese firm, also demanded that a competent management team for the automaker be presented well before the deal, worth up to $2 billion, was finalised.

Zhejiang Geely said earlier this week that talks with Ford were on track toward a signing by the end of the month while the Financial Times reported an agreement might be concluded as early as Sunday. [ID:nLDE62M010]

The Chinese group was picked as preferred bidder for Volvo Cars in October last year, setting the stage for what could be the biggest acquisition to date by China’s fast-growing auto sector.

 

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