Global Business

Study guide for Final exam

Global Business

Please note that not all terms and definitions are included in this guide. Please make sure you know your text book chapters. Chapter 9: Regional Economic Integration One notable trend in the global economy in recent years has been the accelerated movement toward regional economic integration. Regional economic integration refers to agreements between countries in a geographic region to reduce tariff and nontariff barriers to the free flow of goods, services, and factors of production between each other. Despite the rapid spread of regional trade agreements designed to promote free trade, there are those who fear that the world is moving toward a situation in which a number of regional trade blocks compete against each other. In this scenario of the future, free trade will exist within each bloc, but each bloc will protect its market from outside competition with high tariffs. Several levels of economic integration are possible in theory. From least integrated to most integrated, they are a free trade area, a customs union, a common market, an economic union, and, finally, a full political union. In a free trade area all barriers to the trade of goods and services among member countries are removed. In a theoretically ideal free trade area, no discriminatory tariffs, quotas, subsidies, or administrative impediments are allowed to distort trade between member nations. Each country, however, is allowed to determine its own trade policies with regard to nonmembers. The most enduring free trade area in the world is the European Free Trade Association (EFTA). EFTA currently joins four countries-Norway, Iceland, Liechtenstein, and Switzerland. Other free trade areas include the North American Free Trade Agreement (NAFTA). The customs union is one step further along the road to full economic and political integration. A customs union eliminates trade barriers between member countries and adopts a common external trade policy. Customs unions around the world include the current version of the Andean Pact (between Bolivia, Columbia, Ecuador, and Peru). Like a customs union, the common market has no barriers to trade between member countries and a common external trade policy. Unlike in a customs union, in a common market, factors of production also are allowed to move freely between members. Thus, labor and capital are free to move, as there are no restrictions on immigration, emigration, or cross-border flows of capital between markets.

Currently, MERCOSUR, the South America grouping that includes Brazil, Argentina, Paraguay, Venezuela, and Uruguay, is aiming to eventually establish itself as a common market. An economic union entails even closer economic integration and cooperation than a common market. Like the common market, an economic union involves the free flow of products and factors of production between members and the adoption of a common external trade policy. Unlike a common market, a full economic union also requires a common currency, harmonization of the member countries’ tax rates, and a common monetary and fiscal policy. The European Union (EU) is an economic union, although an imperfect one since not all members of the EU have adopted the euro, the currency of the EU, and differences in tax rates across countries still remain. In a political union, independent states are combined into a single union. The EU is on the road to at least partial political union. The United States provides an example of even closer political union. The case for regional integration is both economic and political. Regional economic integration can be seen as an attempt to achieve additional gains from the free flow of trade and investment between countries beyond those attainable under international agreements such as the World Trade Organization. The political case for integration has two main points: 1) by linking countries together, making them more dependent on each other, and forming a structure where they regularly have to interact, the likelihood of violent conflict and war will decrease, and 2) by linking countries together, they have greater clout and are politically much stronger in dealing with other nations. The Maastricht Treaty, signed in 1991, committed the EU to adopt a single currency, the euro, by January 1, 1999. The euro is now used by 15 of the 27 member states. By adopting the euro, the EU has created the second largest currency zone in the world after that of the U.S. dollar. For now, three EU countries, Britain, Denmark, and Sweden, are opting out of the euro-zone. There are a number of reasons why the Europeans decided to establish a single currency in the EU. First, they believe that business and individuals will realize significant savings from having to handle one currency, rather than many. Second, and perhaps most importantly, the adoption of a common currency will make it easier to compare prices across Europe. Third, faced with lower prices European producers will be forced to look for ways to reduce their production costs in order to maintain their profit margins. Fourth, the introduction of a common currency should give a strong boost to the development of a highly liquid pan-European capital market. Finally, the development of a pan-European euro denominated capital market will increase the range of investment options open both to individuals and institutions.

Chapter 10 – Foreign Exchange Market THE FUNCTIONS OF THE FOREIGN EXCHANGE MARKET The foreign exchange market serves two main functions. The first is to convert the currency of one country into the currency of another. The second is to provide some insurance against foreign exchange risk (the adverse consequences of unpredictable changes in exchange rates). For example, an American exporter that gets paid by a German importer in deutsche marks can convert the deutsche marks to dollars on the foreign exchange market. The exchange rate is the rate at which one currency is converted into another. Currency conversion (1) converting payments a company receives in foreign currencies into the currency of its home country; (2) converting the currency of a company's home country into another currency when they must pay a foreign company for its products and services in their currency (3) international businesses may use foreign exchange markets when they have spare cash that they wish to invest for short terms in money markets (of another country (4) currency speculation. Provide insurance To protect against the possible adverse consequences of unpredictable changes in exchange rates. This can be accomplished through the use of a forward exchange. It is difficult to image how international commerce would work without the existence of the foreign exchange market. Without it, international trade would have to be completed on the basis of barter, rather than currency exchange. The foreign exchange market is the lubricant that enables companies based in countries that use different currencies to trade with each other. The foreign exchange market is not located in any one place. It is a global network of banks, brokers, and foreign exchange dealers connected by electronic communications systems. When companies wish to convert currencies, they typically go through their own banks rather than entering the market directly. The foreign exchange market has been growing at a rapid pace, reflecting a general growth in the volume of cross-border trade and investment. Currency speculation typically involves the short-term movement of funds from one currency to another in the hopes of profiting from shifts in exchange rates. The spot exchange rate is the rate at which a foreign exchange dealer converts one currency into another currency on a particular day. When a U.S. tourist in Japan goes to a bank to convert her dollars into Japanese yen, the exchange rate is the spot exchange rate. A forward exchange occurs when two parties agree to exchange currency and execute the deal at some specific date in the future. A forward exchange rate occurs when two

parties agree to exchange currency and execute the deal at some specific date in the future. Rates for currency exchange are typically quoted for 30, 90, or 180 days into the future. Arbitrage, (the process of buying a currency low and selling it high). A currency is said to be freely convertible when a government of a country allows both residents and non-residents to purchase unlimited amounts of foreign currency with the domestic currency. A currency is said to be externally convertible when non-residents can convert their holdings of domestic currency into a foreign currency, but when the ability of residents to convert currency is limited in some way. A currency is nonconvertible when both residents and non-residents are prohibited from converting their holdings of domestic currency into a foreign currency. Free convertibility is the norm in the world today, although many countries impose some restrictions on the amount of money that can be converted. The main reason to limit convertibility is to preserve foreign exchange reserves and prevent capital flight (when residents and nonresidents rush to convert their holdings of domestic currency into a foreign currency). Foreign Exchange Risk A foreign exchange risk is a risk that the value of currencies will change in the future. A change in foreign exchange rates could have a dramatic impact on a company engaged in international commerce. For example, if a U.S. agricultural equipment firm had a contract to deliver 100 tractors to a German customer in three months, and the U.S. dollar strengthened against the German deutsche mark (i.e. currency values changed), the U.S. agricultural equipment firm would end up with less dollars (after the deutsche marks it was paid were exchanged for dollars) than originally anticipated. Chapter 11 The international monetary system refers to the institutional arrangements that countries adopt to govern exchange rates. When the foreign exchange market determines the relative value of a currency, that country is adhering to a floating system. A pegged exchange rate means that the value of a currency is fixed to a reference country and then the exchange rate between that currency and other currencies is determined by the reference currency exchange rate. A dirty float occurs when the value of a currency is determined by market forces, but with central bank intervention if it depreciates too rapidly against an important reference currency. Countries that adopt a fixed exchange rate system fix their currencies against each other. The practice of pegging currencies to gold and guaranteeing convertibility is known as the gold standard. For example, under the gold standard one U.S. dollar was defined as equivalent to 23.22 grains of "fine (pure) gold. The Gold Standard has it origin in the use of gold coins as a medium of exchange. The gold standard worked reasonably well from

the 1870s until the start of World War I in 1914, when it was abandoned. During the war several governments financed their massive military expenditures by printing money. This resulted in inflation, and by the war's end in 1918, price levels were higher everywhere. Several countries returned to the gold standard after World War I. However, the period that ensued saw so many countries devalue their currencies that it became impossible to be certain how much gold a currency could buy. Instead of holding onto another country's currency, people often tried to exchange it into gold immediately, least the country devalue its currency in the intervening period. This put pressure on the gold reserves of various countries, forcing them to suspend gold convertibility. As a result, by the start of World War II, the gold standard was dead. The great strength of the gold standard was that it contained a powerful mechanism for simultaneously achieving balance-of-trade equilibrium by all countries, as explained in the example provided on pages 294-295 of the textbook. This strength is the basis for reconsidering the gold standard as a basis for international monetary policy. Pegged Exchange Rate Regime Under a pegged exchange rate regime a country will peg the value of its currency to that of a major currency so that, for example, as the United States dollar rises in value, its own currency rises, too. Pegged exchange rates are popular among many of the world's smaller nations. As with a full fixed exchange rate regime, the great virtue claimed for a pegged exchange rate regime is that it imposes monetary discipline on a country and leads to low inflation. Fixed Rate System Under a fixed rate system the value of a currency is fixed (usually in terms of U.S. dollars) and is only allowed to change under a specific set of circumstances. The value of a fixed rate system is that it introduces monetary discipline (on a country level), discourages currency speculation, reduces uncertainty (in regard to future currency movements), and, according to the proponents of fixed rates, has little or no effect on trade balance adjustments. In contrast, under a floating rate system, currencies are allowed to float freely (in practice, the majority of floating rate systems are either managed in some way by government intervention or are pegged to another currency). The benefits of a floating rate system is that it gives countries monetary policy autonomy and, according to the proponents, provides a way for countries to correct trade deficits (i.e. an exchange rate depreciation should correct a trade balance by making a country's exports cheaper and its imports more expensive). There is no right or wrong answer to this question - we simply don't know which system is better. We do know that a fixed rate system modeled along the lines of the Bretton Woods system will not work. Conversely, advocates of a fixed rate system argue that speculation is a major disadvantage of floating rates. Perhaps a modified fixed rate system will produce the type of economic stability that will contribute to greater growth in international trade and investments. Bretton Woods In 1944, at the height of World War II, representatives from 44 countries met at Bretton Woods, New Hampshire, to design a new international monetary system. With the

collapse of the gold standard and the Great Depression of the 1930s fresh in their minds, these statesmen were determined to build an enduring economic order that would facilitate postwar economic growth. The agreement reached at Bretton Woods established two multinational institutions - the International Monetary Fund (IMF) and the World Bank. The task of the IMF would be to maintain order in the international monetary system and that of the World Bank would be to promote general economic development. The aim of the Bretton Woods agreement, of which the IMF was the main custodian, was to try to avoid a repetition of the chaos that occurred between the wars through a combination of discipline and flexibility. The IMF lending policies require the recipient countries to implement governmental reforms to stabilize monetary policy and encourage economic growth. One of the principal ways for a developing nation to spur economic growth is to solicit foreign direct investment and to provide a hospitable environment for the foreign investors. These characteristics of IMF lending policies work to the advantage of international businesses that are looking for investment opportunities in developing countries. The World Bank The World Bank was established by the 1944 Bretton Woods agreement. The official name for the World Bank is the International Bank for Reconstruction and Development (IBRD). The bank's initial mission was to help finance the building of Europe's war torn economy by providing low-interest loans. As it turned out, the role of the World Bank in Europe was overshadowed by the Marshall Plan, under which the U.S. lent money directly to European nations to help them rebuild in the aftermath of World War II. As a result, the bank turned its attention to lending money for development in Third World nations. Although the World Bank does not play a direct role in monetary policy, it contributes to the global money system by providing low interest loans to developing countries. These loans, which are used for such things as public-sector projects (i.e. power stations, roads, bridges, etc.), agricultural development, education, population control, and urban development, are intended to promote economic development and increase the standard of living in developing countries. As the result of some disappointment in regard to loaning money to countries that do not practice sound economy policy, the World Bank has recently devised a new type of loan. In addition to providing funds to support specific projects, the bank will now also provide loans for the government of a nation to use as it sees fit in return for promises on macroeconomic policy. A number of broad types of financial crisis have occurred over the last quarter of a century, many of which have required IMF involvement. A currency crisis occurs when a speculative attack on the exchange value of a currency results in a sharp depreciation in the value of the currency, or forces authorities to expend large volumes of international currency reserves and sharply increase interest rates in order to defend prevailing exchange rate.

A banking crisis refers to a situation in which a loss of confidence in the banking system leads to a run on the banks, as individuals and companies withdraw their deposits. A foreign debt crisis is a situation in which a country cannot service its foreign debt obligations, whether private sector or government debt. Chapter 12 Strategy and the Firm A firm’s strategy can be defined as the actions that managers take to attain the goals of the firm. Profit is defined as the difference between total revenues and total costs. Profitability is a ratio or return concept. Firms that operate internationally are able to: (1) Earn a greater return from their distinctive skills, or core competencies. (2) Realize location economies by dispersing particular value creation activities to locations where they can be performed most efficiently. (3) Realize greater experience curve economies, which reduce the costs of value creation. Location Economies Trade barriers and transportation costs permitting, the firm will benefit by basing each value creation activity it performs 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. 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 refer to cost savings that come from learning by doing. Labor, for example, learns by repetition how to carry out a task, such as assembling airframes, most efficiently. The term economies of scale refers to the reduction in unit cost achieved by producing a large volume of a product. Economies of scale have a number of sources, one of the most important of which seem to be the ability to spread fixed costs over a large volume. The term economies of scale refers to the reductions in unit cost achieved by producing a large volume of a product. Economies of scale have a number of sources, one of the most important of which seems to be the ability to spread fixed costs over a large volume. Another source of scale economies arises from the ability of large firms to employ increasingly specialized equipment or personnel.

Core Competence Core competence refers to the skills within the firms that competitors cannot easily match or imitate. These skills may exist in any of the firm's value creation activities (i.e. manufacturing, marketing, sales, materials management, etc.). These skills typically enable a firm to produce a product or service that competitors find difficult to duplicate. For instance, Home Depot has a core competence in managing home improvement superstores. Home Depot's competitors have found this core competence difficult to imitate. Core competencies are the most valuable as a tool for helping firms enter foreign markets when they are unique, when the value placed on them by consumers is great, and when there are very few capable competitors with similar skills and/or products in foreign markets. According to the textbook, firms with unique and valuable skills can often realize enormous returns by applying those skills, and the products they produce, to foreign markets where indigenous competitors lack similar skills and products. International Strategies The four basic strategies that firms use to compete in international markets are: an international strategy, a multidomestic strategy, a global strategy, and a transnational strategy. Each of the strategies is briefly described below. International Strategy - Firms that pursue an international strategy try to create value by transferring valuable skills and products to foreign markets where indigenous competitors lack those skills and products. These firms tend to centralize product development functions at home, and establish manufacturing and marketing functions in each major country in which they do business. An international strategy makes sense if a firm has a valuable core competence that indigenous competitors in foreign markets lack and if the firm faces relatively weak pressures for local responsiveness and cost reductions. Typically, local responsiveness is fairly modest. Multidomestic Strategy - Firms pursuing a multidomestic strategy orient themselves toward achieving maximum local responsiveness. These firms tend to transfer skills and products developed at home to foreign markets. Consistent with their strategy of local responsiveness, however, they tend to establish a complete set of value creation activities - including production, marketing, and R&D - in each major market in which they do business. A multidomestic strategy makes sense when there are high pressures for local responsiveness and low pressures for cost reductions. The high cost structure associated with the duplication of production facilities makes this strategy inappropriate in industries where cost pressures are intense. Global Strategy - Firms that pursue a global strategy focus upon increasing profitability by reaping the cost reductions that come from experience curve effects and location economies. That is, they are pursuing a low cost strategy. The majority of the value chain activities for a global firm are concentrated in a few favorable locations. Global firms are not very locally responsive. Instead, they prefer to market a standardized

product worldwide. This strategy makes most sense in those cases where there are strong pressures for cost reductions, and where demands for local responsiveness are minimal. Transnational Strategy - A transnational strategy is an ambitious strategy in which a firm tries to simultaneously exploit experience-base cost economies and location economies, transfer distinctive competencies within the firm, and pay attention to pressures for local responsiveness. This type of strategy makes sense when a firm faces high pressures for cost reductions and high pressures for local responsiveness. Barlett and Ghoshal admit that building an organization that is capable of supporting a transnational strategic posture is complex and difficult. In essence, a transnational strategy requires a firm to simultaneously achieve cost efficiencies, global learning, and local responsiveness. These are contradictory demands that are difficult to achieve at the same time in practice. Which strategy is the best? There is no compelling answer to this question. The most advantageous strategy is the one that best complements a firm's distinctive competencies and its ultimate goals and objectives. Strategic Alliances Strategic alliances are cooperative agreements between potential or actual competitors. Strategic alliances run the range from formal joint ventures, in which two or more firms have equity stakes, to short-term contractual arrangements, in which two companies agree to cooperate on a particular task. Strategic alliances are definitely on the rise. The 1980s and 1990s have seen an explosion in the number of strategic alliances that have been formed worldwide. Chapter 13 First-Mover Advantages The advantages frequently associated with entering a market early are commonly known as first-mover advantages. One first-mover advantage is the ability to preempt rivals and capture demand by establishing a strong brand name. A second advantage is the ability to build sales volume in that country and ride down the experience curve ahead of rivals, giving the early entrant a cost advantage over later entrants. A third advantage is the ability of early entrants to switching costs that tie customers into their products or services. Such switching costs make it difficult for later entrants to win business creating barriers to entry. Pioneering costs Pioneering costs are costs that an early entrant has to bear that a later entrant can avoid. Pioneering Costs arise when a business system in a foreign country is so different from that in a firm’s home market that the enterprise has to devote considerable time, effort and expense to learning the rules of the game. Pioneering costs include the costs of business failure if the firm, due to its ignorance of the foreign environment, makes some major mistakes. Pioneering costs also include the costs of promoting and establishing a product offering, including then cost of educating the customers.

Foreign Market Entry Strategies The six different ways for a firm to enter a foreign market include: A. Exporting - involves manufacturing a product in a central location and shipping it to foreign markets for sale. B. Turnkey projects - in a turnkey project; a contractor from one country handles every detail of the design, construction, and start-up of a facility in a foreign country, and then hands the foreign client the key to a facility that is ready for operation. C. Licensing - in a licensing agreement, a company from one country grants the rights to intangible property (such as patents, processes, and trademarks) to a company in another country in exchange for a royalty fee. A licensing agreement is an arrangement whereby a licensor grants the rights to intangible property to another entity (the licensee) for a specified time period, and in return, the licensor receives a royalty fee from the licensee. Intangible property includes patents, inventions, formulas, processes, designs, copyrights, and trademarks. D. Franchising - is a specialized form of licensing in which the franchiser sells intangible property (normally processes and trademarks) to a franchisee, but also insists that the franchisee agree to abide by strict rules as to how it does business. The McDonalds Corporation, for example, has been very successful in selling franchises to both domestic and foreign franchisees. E. Joint Ventures - entails establishing a firm that is jointly owned by two or more otherwise independent firms. F. Wholly Owned Subsidiary - this form of foreign market entry entails setting up a new operation (or acquiring an existing company) in a foreign country. A wholly owned subsidiary is a company that is completely owned by another company. One choice that a firm has for entering a foreign market is to setup a new operation in that market or purchase an existing firm. In either case, if the original company owns 100% of the new operation, it is "wholly owned subsidiary" of the original firm. Establishing a wholly owned subsidiary may be appropriate for two additional reasons. First, expanding via the wholly owned subsidiary route gives a firm tight control over its operations in various countries. This strategy maximizes a firm's potential to engage in global strategic coordination (i.e., using profits from one country to support competitive attacks in another). Second, a wholly owned subsidiary strategy may be required if a firm is trying to realize location and experience curve economies.

Selecting an Entry Mode Optimal entry mode The optimal entry mode for these firms depends to some degree on the nature of their core competencies. In particular, a distinction can be drawn between firms whose core competency is in technological know-how and whose core competency is in management know-how. Technological Know-How If a firm’s competitive advantage (its core competence) is based upon control over proprietary technological know-how, licensing and joint venture arrangements should be avoided if possible in order to minimize the risk of losing control over that technology, unless the arrangement can be structured in a way where these risks can be reduced significantly. When a firm perceives its technological advantage as being only transitory, or the firm may be able to establish its technology as the dominant design in the industry, then licensing may be appropriate even if it does involve the loss of know-how. By licensing its technology to competitors, a firm may also deter them from developing their own, possibly superior, technology Management Know-How The competitive advantage of many service firms is based upon management know-how. For such firms, the risk of loosing control over their management skills to franchisees or joint venture partners is not that great, and the benefits from getting greater use of their brand names can be significant. Pressures for Cost Reductions and Entry Mode The greater the pressures for cost reductions, the more likely it is that a firm will want to pursue so me combination of exporting and wholly owned subsidiaries. This will allow it to achieve location and scale economies as well as retain some degree of control over its worldwide product manufacturing and distribution ESTABLISHING A WHOLLY OWNED SUBSIDIARY: GREEN-FIELD VENTURE OR ACQUISITION? A firms can establish a wholly owned subsidiary in a country by building a subsidiary from the ground up (green-field strategy), or by acquiring an established enterprise in the target market (acquisition strategy). Acquisitions have three major points in their favor. First, they are quick to execute. Second, in many cases firms make acquisitions to preempt their partners. Third, managers may believe acquisitions to be less risky than green-field ventures. Acquisitions fail for several reasons. First, the acquiring firms often overpay for the assets of the acquired firm. Second, many acquisitions fail because there is a clash between the cultures of the acquiring and acquired firm. Third, many acquisitions fail because attempts to realize synergies by integrating the operations of the

acquired and acquiring entities often run into roadblocks and take much longer than forecast. Finally, many acquisitions fail because of inadequate pre-acquisition screening. Green-field strategy- The big advantage of establishing a green-field venture in a foreign country is that it gives the firm a much greater ability to build the kind of subsidiary company that it wants. However, green-field ventures are slower to establish. They are also risky. In general, the choice between acquisitions and green-field ventures will depend on the circumstances confronting the firm. Export Firms In the United States, over 95 percent of firms that export are small businesses. Suppose Boeing decided to build an assembly plant in Iceland and, in an effort to maintain maximum control, decided to operate the plant completely on its own. This is an approach to foreign market entry referred to as wholly owned subsidiary. Other than licensing, the form of foreign market entry that results in a firm in the host country paying a royalty to the firm that has the rights to a product or service is called franchising. The greater the pressures for cost reductions are the most likely a firm will want to pursue some combination of exporting and wholly owned subsidiaries. Chapter 14 Export management companies Export management companies are export specialists that act as the export marketing department or international department for client firms. EMCs normally accept two types of export assignments. EMCs start-up exporting operations for a firm with the understanding that the EMC will have continuing responsibility for selling the firm’s products. In theory, the advantage of EMCs is that they are experienced specialists who can help the neophyte exporter identify opportunities and avoid common pitfalls. However, studies have revealed a large variation in the quality of EMCs. Therefore, an exporter should carefully review a number of EMCs, and check references from an EMC's past client, before deciding on a particular EMC. Export Strategy G) In addition to utilizing EMCs, a firm can reduce the risks associated with exporting if it is careful about its choice of exporting strategy. First, particularly for the novice exporter, it does to help to hire an EMC, or at least an experienced export consultant, to help with the identification of opportunities and navigate through the tangled web of paperwork and regulations so often involved in exporting. Second, it often makes sense to initially focus on one, or a handful, of markets. Third, it may make sense to enter a foreign market on a fairly small scale in order to reduce the costs of any subsequent

failure. Fourth, the exporter needs to recognize the time and managerial commitment involved in building export sales, and should hire additional personnel to oversee this activity least the existing management of the firm be stretched too thin. Fifth, in many countries it is important to devote a lot of attention to building strong and enduring relationships with local distributors and / or customers. Sixth, it is important to hire local personnel to help the firm establish itself in a foreign market. Finally, it is important for the exporter to keep the option of local production in mind. Two distinct advantages of exporting Two distinct advantages of exporting are: It avoids the often-substantial cost of establishing manufacturing operations in the host country; and it may help a firm achieve experience curve and location economies. Most manufacturing firms begin their global expansion through exporting. Financing Exports and Imports There are three principle mechanisms used to finance exports and imports. These are: the letter of credit, the draft (or bill of exchange), and the bill of lading. The following is a description of each one of these items. Letter of Credit: A letter of credit is issued by a bank at the request of an importer. The letter of credit states the bank will pay a specified sum of money to a beneficiary, normally the exporter, on presentation of particular, specified documents. This process is reflected in the following example. If Goodyear Tire sold 10,000 tires to a company in France, the French company could go to a bank and request a letter of credit to assure Goodyear that it will get paid. If the French company is creditworthy, the bank would issue a letter of credit. The letter of credit would stipulate that upon receipt of the 10,000 tires by the French Company, the bank would pay Goodyear the agreed upon amount. This type of arrangement helps the system of international commerce work. Without some assurance of payment, a company like Goodyear may be reluctant to ship products to a foreign company that it is not very familiar with. Draft: A draft, sometimes referred to as a bill of exchange, it the instrument normally used in international commerce for payment. A draft is simply an order written by an exporter instructing an importer, or an importer's agency, to pay a specified amount of money at specified time. A draft, sometimes referred to as a bill of exchange, is the instrument normally used in international commerce for payment. A draft is simply an order written by an exporter instructing an importer, or an importer's agent, to pay a specified amount of money at a specified time. A sight draft is payable on presentation to the drawee while a time draft allows for a delay in payment - normally 30, 60, 90, or 120 days. Bill of Lading: The third critical document for financing international trade is the bill of lading. The bill of lading is issued to the exporter by the common carrier transporting the merchandise. It serves three purposes: it is a receipt, a contract, and a document of title. As a receipt, the bill of laden indicates the carrier has received the merchandise described on the face of the document. As a contract, it specifies that the carrier is obligated to

provide a transportation service in return for a certain charge. As a document of title, it can be used to obtain payment or a written promise of payment before the merchandise is released to the importer. The bill of laden can also function as collateral against which funds may be advanced by the exporter to its local bank before or during shipment and before final payment by the importer. Counter Trade Countertrade is an alternative means of structuring an international sale when conventional means of payment are difficult, costly, or nonexistent. It denotes a whole range of barter like agreements; its principle is to trade goods and services for other goods and services when they cannot be traded for money. An example of when countertrade can be used it when a government restricts the convertibility of its currency to preserve its foreign exchange reserves so they can be used to service international debt commitments and purchase crucial importers. Since the currency is not convertible, the exporter may not be able to be paid in its home currency. Barter is a direct exchange of goods and/or services between two parties without a cash transaction. Barter is viewed as the most restrictive countertrade arrangement. It is used primarily for one-time-only deals in transactions with trading partners who are not creditworthy or trustworthy. Buyback When a firm builds a plant in a country—or supplies technology, equipment, training, or other services to the country—and agrees to take a certain percentage of the plant's output as partial payment for the contract, it is called buyback. Eight Strategic Steps To Successful Exporting (1) Hire an EMC or at least an experienced export consultant to help identify opportunities and navigate through the web of paperwork and regulations so often involved in exporting. (2) Initially focus on one market or a handful of markets. (3) Enter a foreign market on a small scale to reduce the costs of any subsequent failure. (4) Recognize the time and managerial commitment involved in building export sales and should hire additional personnel to oversee this activity. (5) Devote a lot of attention to building strong and enduring relationships with local distributors and/or customers. (6) Hire local personnel to help the firm establish itself in a foreign market. (7) Be proactive about seeking export opportunities. (8) Keep the option of local production in mind. U.S. Department of Commerce (DOC) U.S. firms can increase their awareness of export opportunities by contacting the U.S. Department of Commerce (DOC) and its district offices throughout the country, which are the most comprehensive sources of information. Within the DOC, there are two organizations dedicated to providing businesses with intelligence and assistance for

attacking foreign markets: the International Trade Administration and the United States and Foreign Commercial Service Agency. These agencies provide the potential exporter with a “best prospects” list, which gives the names and addresses of potential distributors in foreign markets along with the businesses they are in, the products they handle, and their contact person. The DOC has assembled a “comparison shopping service” that for a small fee, companies can receive a customized market research survey on a product. The survey provides information on marketability, the competition, comparative prices, distribution channels, and names of potential sales representatives. The DOC organizes trade events that help potential exporters make foreign contacts and explore export opportunities. There are exhibitions at international trade fairs that are held in major cities worldwide. It also has a matchmaker program, in which department representatives accompany groups of U.S. businesspeople abroad to meet with qualified agents, distributors, and customers. Nearly every state and many large cities maintain active trade commissions whose purpose is to promote exports. They usually provide counseling, information gathering, technical assistance, and financing. There are also a number of private organizations, such as commercial banks and major accounting firms that are beginning to provide assistance to would-be exporters. Chapter 15 Production refers to activities involved in creating a product. Logistics refers to the procurement and physical transmission of material through the supply chain, from suppliers to customers. The objectives of the production and logistics function are to lower the costs, and increase product quality by eliminating defective products from both the supply chain and the manufacturing process. These two objectives are interrelated. There are three ways in which improved quality control reduces costs. First, productivity increases because time is not wasted manufacturing poor quality products that cannot be sold. This saving leads to a direct reduction in unit costs. Second, increased product quality means lower re-work and scrap costs. Third, greater product quality means lower warranty and re-work costs. The net effect is to lower the costs of value creation by reducing both manufacturing and service costs. E) The main management technique that companies are utilizing to boost their product quality is total quality management (TQM). TQM is a management philosophy that takes as its central focus the need to improve the quality of a company’s products and services.

Many companies have adopted a successor to TQM programs known as a Six Sigma program (a statistically based philosophy that aims to reduce defects, boost productivity, eliminate waste, and cut costs throughout a company.) The growth of international standards in some cases focused greater attention on the importance of product quality. In Europe, for example, the European Union requires that the quality of a firm’s manufacturing processes and products be certified under a quality standard known as ISO 9000 before the firm is allowed access to the European marketplace. The TQM concept was developed by a number of American consultants such as: W. Edwards Deming, Joseph Juran, and A.V. Feigenbaum. Added to the objectives of lowering costs and improving quality are two further objectives take on particular importance for international businesses. First, production and logistics functions must be able to accommodate demands for local responsiveness. Second, production and logistics must be able to respond quickly to shifts in customer demand. The type of technology a firm uses in its manufacturing can be pivotal in location decisions. Three characteristics of a manufacturing technology are of interest here: the level of its fixed costs; its minimum efficient scale; and its flexibility. Fixed Costs In some cases the fixed costs of setting up a manufacturing plant are so high that a firm must serve the world market from a single location or from a very few locations. Minimum Efficient Scale The larger the minimum efficient scale (the level of output at which most plant-level scale economies are exhausted) of a plant, the greater the argument for centralizing production in a single location or a limited number of locations. Flexible Manufacturing and Mass Customization The term flexible manufacturing technology or lean production as it is often called – covers a range of manufacturing technologies that are designed to (i) reduce set up times for complex equipment (ii) increase the utilization of individual machines through better scheduling, and (iii) improve quality control at all stages of the manufacturing process. Flexible manufacturing technologies allow a company to produce a wider variety of end products at a unit cost that at one time could only be achieved through the mass production of a standardized output. The term mass customization has been coined to describe this ability. Mass customization implies that a firm may be able to customize its product range to suit the needs of different customer groups without bearing a cost penalty. Flexible machine cells are another common flexible manufacturing technology. A flexible machine cell is a grouping of various types of machinery, a common materials handler, and a centralized cell controller (computer).

The adoption of flexible manufacturing technologies can help improve the competitive position of firms. Most importantly, from the perspective of an international business, flexible manufacturing technologies can assist in the process of customizing products to different national markets in accordance with demands for local responsiveness. When fixed costs are substantial, the minimum efficient scale of production is high, and/or flexible manufacturing technologies are available, the arguments for concentrating production at a few choice locations are strong. Alternatively, when both fixed costs and the minimum efficient scale of production are relatively low, and when appropriate flexible manufacturing technologies are not available, the arguments for concentrating production at a few choice locations are not as compelling. Basic research centers Basic research centers have all of the following characteristics: fundamental research is conducted, are the innovative engines of the firm, attempt to develop the basic technologies that become new products. Logistics Logistics encompasses the activities necessary to get materials to a manufacturing facility, through the manufacturing process, and out through a distribution system to the end user. The logistics function is complicated in an international business by distance, time, exchange rates, customs barriers, and the like. Efficient logistics can have a major impact upon a firm's bottom line. Just-in-time systems The basic philosophy behind JIT systems is to economize on inventory holding costs by having materials arrive at a manufacturing plant just in time to enter the production process, and not before. Just-in-time systems generate major cost savings from reduced warehousing and inventory holding costs. In addition, JIT systems help the firm to spot defective parts and take them out of the manufacturing process - thereby boosting product quality. In general, the trends toward just-in-time systems (JIT), computer-aided design (CAD), and computer-aided manufacturing (CAM) seem to have increased pressures for firms to establish long-term relationships with their suppliers. The Role of Information Technology and the Internet Web-based information systems play a crucial role in materials management. Electronic Data Interchange (EDI) facilitates the tracking of inputs, allows the firm to optimize its production schedule, allows the firm and its suppliers to communicate in real time, and eliminates the flow of paperwork between a firm and its suppliers. Chapter 16 Market segmentation refers to identifying distinct groups of consumers whose purchasing behavior differs from others in important ways. Firms must adjust their marketing mix from segment to segment. In international business, segmentation needs to consider the existence of segments that transcend national borders and understand differences across countries in the structure of segments.

For a segment to transcend national borders, consumers in that segment must have some compelling similarities that lead to similarities in purchasing behavior. Where such similarities do not exist, there must be some customization if the firm is to maximize performance in the market. This customization may be in the product, the packaging, or simply the way in which the product is marketed. Global market segments are much likely to exist in industrial products (e.g., memory chips, chemical products, and corporate bonds) than in consumer products. Push and Pull Communication Strategy The main decision with regard to communications strategy is the choice between a push and a pull strategy. A push strategy emphasizes personal selling rather than mass media advertising in the promotional mix. A pull strategy depends more on mass media advertising to communicate the marketing message to potential customers. Firms that sell industrial products or other complex products favor a push strategy. One of the strengths of direct selling is that it allows the firm to educate potential customers about the features of the product. Push strategies also tend to be emphasized (somewhat by default) when distribution channels are short and when few print or electronic media are available. An example of when a push strategy would be appropriate is a machine tool company that is selling a new manufacturing robotics product. The direct selling nature of the push strategy would provide the firm a forum to educate their potential customers relative to the merits of the new product. A pull strategy is generally favored by firms in consumer goods industries that are trying to sell to a large segment of the market. For such firms, mass communication has cost advantages, and direct selling is rarely used. Pull strategies are also used when distribution channels are long. In most cases, using direct selling to push a product through many layers of a distribution channel would be impractical. As a result, a pull strategy, which makes use of print or electronic media to get its message across, is much more practical. An example of when a pull strategy would be appropriate is a soft drink company marketing its product in a new country that has fairly long distribution channels but sufficient media available. Distribution Strategy A firm's distribution strategy is the way that it gets it product in the hands of consumers. Wholesale, retail, and direct sales are examples of distribution strategies. An international firm's distribution strategy is limited by the nature of the distribution systems that are available in its host countries. The main differences among countries' distribution systems are threefold: retail concentration, channel length, and channel exclusivity. Retail concentration refers to the number of retailers that supply a particular market. In some countries the retail system is very concentrated, and in other countries it is very fragmented. In a concentrated system, a few retailers supply most of the market. In a fragmented system, no one retailer has a major market share. In Germany, for example, four retail chains control 65 percent of the market for food products. This is an example of a very concentrated system. Channel length refers to the number of intermediaries between the producer and the consumer. If the producer sells directly to

the consumer, the channel is very short. If the producer sells through several agents and wholesalers, the channel is very long. The most important determinant of channel length is the degree to which the retail system is fragmented. Fragmented retail systems tend to promote the growth of wholesales to serve retailers, which lengthens channels. Finally, channel exclusivity refers to how difficult the channel is to penetrate. For example, it is often difficult for a new firm to get access to shelf space in U.S. grocery stores because retailers tend to prefer to carry the products of long-established manufacturers like Procter & Gamble and General Mills. Channel exclusivity is very high in Japan, which makes the Japanese market so difficult to penetrate effectively. In Japan, relationships between manufacturers, wholesalers, and retailers often go back decades. Many of these relationships are based on the understanding that distributors will not carry the products of competing firms. Ultimately, a firm's choice of distribution strategy in its international markets is influenced by which channels are available (i.e. channel exclusivity may eliminate some choices) and by the relative costs and benefits of each remaining alternative. The relative costs of each remaining alternative are affected by the three factors discussed above. For instance, if a food products company entered a foreign market that has very long, exclusive channels (which is often the case when the market if fragmented), selling to wholesalers might make the most economic sense. It would be difficult (if not impossible) for the importer to obtain shelf space in local supermarkets without the help of local wholesalers. Conversely, if the channels were short (which is often the case in highly concentrated markets), the importer may be able to sell directly to the retailer. Strategic pricing The concept of strategic pricing has three aspects, which we will refer to as predatory pricing, multi-point pricing, and experience curve pricing. Predatory Pricing Predatory pricing is the use of price as a competitive weapon to drive weaker competitors out of a national market. Once the competitors have left the market, the firm can raise prices and enjoy high profits. For such a pricing strategy to work, the firm must normally have a profitable position in another national market, which it can use to subsidize aggressive pricing in the market it is trying to monopolize. Many Japanese firms have been accused of pursuing this strategy, along with firms from other countries. Predatory pricing can run afoul of antidumping regulations. Technically, dumping occurs when a firm sells a product for a price that is less than the cost of producing it. Dumping can result in retaliatory tariffs. For instance, in 1988 the Bush administration placed a 25 percent duty on the imports of Japanese light trucks into the U.S. Should other measures be used to protect domestic industries from predatory pricing by foreign importers. multi-point pricing Multi-point pricing strategy becomes an issue in those situations where two or more international businesses compete against each in two or more distinct (national) markets.

The concept of multi-point pricing refers to the fact a firm’s pricing strategy in one market may have an impact on their rival’s pricing strategy in another market. In particular aggressive pricing in one market may elicit a competitive response form a rival in another market that is important to the firm. The managerial message in all of this is that pricing decisions around the world need to be centrally monitored. Experience Curve Pricing Many firms pursuing an experience curve pricing strategy on an international scale price low worldwide in attempting to build global sales volume as rapidly as possible, even if this means taking large losses initially. A firm using experience curve pricing believes that several years in the future, when it has moved down the experience curve, it will be making substantial profits and, moreover, have a cost advantage over its less aggressive competitors. Marketing Mix Marketing mix is a term that describes the set of choices that a firm offers to its customers. The four elements that constitute a firm's marketing mix are product attributes, distribution strategy, communication strategy, and pricing strategy. Many international businesses vary their marketing mix from country to country to take into account local differences. The potential differences between countries cover a wide range of factors, including culture, economic development, competitive conditions, product and technical standards, distribution systems, government regulations, and the like. According to the author of the textbook, as a result of the cumulative effects of these differences, it is rare to find a firm operating in an industry where it can adopt the same marketing mix worldwide. When markets are divided up by sex, age, income, race, or education, they are segmented by demography. Only marketing can tell R&D whether to produce globally standardized or locally customized products. Close integration by R&D and marketing is required to ensure that product development projects are driven by the needs of customers. Vertical Integration into Manufacturing Vertical integration into the manufacture of component parts increases an organization's scope, and the resulting increase in organizational complexity can raise a firm's cost structure. The following are the reason for this: Vertically integrated firms have to determine appropriate prices for goods transferred to subunits within the firm. The greater the number of subunits in an organization, the greater are the problems of coordinating and controlling those units. The firm that vertically integrates into component part manufacture may find that because its internal suppliers have a captive customer in the firm, they lack an incentive to reduce costs. Countries with new-product development Countries where new-product development is strong have all of the following characteristics: Vertically integrated firms have to determine appropriate prices for goods transferred to subunits within the firm. The greater the number of subunits in an organization, the greater are the problems of coordinating and controlling those units. The

firm that vertically integrates into component part manufacture may find that because its internal suppliers have a captive customer in the firm, they lack an incentive to reduce costs. location economies Economies that arise from performing a value creation activity in the optimal location for that activity are called location economies. Chapter 17 Human resource management Human resource management (HRM) refers to the activities an organization carries out to utilize its human resources effectively. These activities include determining the firm's human resource strategy, staffing, performance evaluation, management development, compensation, and labor relations. The role of HRM is complex enough in a purely domestic firm, but it is more complex in an international business, where staffing, management development, performance evaluation, and compensation activities are complicated by profound differences between countries in labor markets, culture, legal systems, economic systems, and the like. The HRM function must also deal with a host of issues related to expatriate managers (citizens of one country working abroad). Cultural Training Cultural training seeks to foster an appreciation for the host country's culture. The belief is that understanding a host country's culture will help the manager empathize with the culture, which will enhance his or her effectiveness in dealing with host-country nationals. It has been suggested that expatriates should receive training in the host country's culture, history, politics, economy, and so on. If possible, it is also advisable to arrange for a familiarization trip to the host country before the formal transfer, as this seems to ease culture shock. Given the problems related to spouse adaptation, it is important that the spouse, and perhaps the whole family, be included in cultural training programs. The type of training that seeks to foster an appreciation for the host country's culture is called cultural training. International Staffing Policy Ethnocentric Approach: An ethnocentric approach to staffing policy is one in which key management positions in an international business are filled by parent-country nationals. The policy makes most sense for firms pursuing an international strategy. Firms pursue an ethnocentric staffing policy for three reasons: First, the firm may believe there is a lack of qualified individuals in the host country to fill senior management positions. Second, the firm may see an ethnocentric staffing policy as the best way to maintain a unified corporate culture. Third, if the firm is trying to create value by transferring core competencies to a foreign operation, as firms pursuing an

international strategy are, it may believe that the best way to do this is to transfer parent country nationals who have knowledge of that competency to the foreign operation. Despite the rationale for pursing an ethnocentric staffing policy, the policy is now on the wane in most international businesses. There are two reasons for this. First, an ethnocentric staffing policy limits advancement opportunities for host country nationals. Second, an ethnocentric policy can lead to "cultural myopia." The Polycentric Approach A polycentric staffing policy is one in which host country nationals are recruited to manage subsidiaries in their own country, while parent country nationals occupy the key positions at corporate headquarters. While this approach may minimize the dangers of cultural myopia, it may also help create a gap between home and host country operations. The policy is best suited to firms pursuing a multidomestic strategy. Advantages of polycentric approach: First, the firm is less likely to suffer from cultural myopia, and second, this staffing approach may be less expensive to implement than an ethnocentric policy. There are two important disadvantages to polycentric staffing approach however. First, host country nationals have limited opportunities to gain experience outside their own country and thus cannot progress beyond senior positions in their own subsidiaries. Second, a gap can form between host country managers and parent country managers. The Geocentric Approach A geocentric staffing policy is one in which the best people are sought for key jobs throughout the organization, regardless of nationality. This approach is consistent with building a strong unifying culture and informal management network. It is well suited to firms pursuing either a global or transnational strategy. The immigration policies of national governments may limit the ability of a firm to pursue this policy. The advantages of a geocentric approach to staffing include enabling the firm to make the best use of its human resources and build a cadre of international executives who feel at home working in a number of different cultures. The disadvantages of geocentric approach include difficulties with immigration laws and costs associated with implementing the strategy. International businesses are faced with a number of extra challenges in this area. These extra challenge result primarily from the fact that countries differ in terms of their cultures, customs, philosophies of management, compensation systems, etc. As a result, a firm must adjust its HRM program (to varying degrees) to be compatible with each country that it does business in. In addition, selecting expatriate managers it is a challenge. An expatriate manager must have the technical skills necessary to do the job, along with a personal disposition and a family situation that is conductive to living in a foreign country for an extended period of time. The relatively high expatriate failure rate experience by U.S. multinationals attests to the difficulty of this challenge. Finally, international businesses must decide how to structure their overseas operations, which involves determining the appropriate roles of parent country and host country management personnel.

Expatriate Failure Rates A prominent issue in the international staffing literature is expatriate failure - the premature return of an expatriate manager to his or her home country. The costs of expatriate failure can be substantial. The main reasons for expatriate failure among Western firms seems to be 1) an inability of an expatriate's spouse to adapt to a foreign culture, 2) inability of the employee to adjust, 3) other family-related reasons, 4) manager’s personal or emotional maturity, and 5) inability to cope with larger overseas responsibilities. Selection is just the first step in matching a manager with a job. The next step involves training the manager to do the job. Training begins where selection ends and it focuses upon preparing the manager for a specific job. Management development is a rather broader concept. Management development is concerned with developing the skills of the manager over his or her career with the firm. Training for Expatriate Managers Cultural training, language training, and practical training all seem to reduce expatriate failure. However, according to one study only about 30 percent of managers sent on one- to five-year expatriate assignments received training before their departure.