INTERNATIONAL FINANCIAL MANAGEMENT
ARIZONA STATE UNIVERSITY
OMT 440 - INTERNATIONAL BUSINESS
SPRING 2024 - WEEK 4
LEARNING OBJECTIVES:
1.
Identify the main challenges faced in international accounting
2.
Explain convergence and the importance of international accounting standards
3.
Explain the choice of capital structure and its significance
4.
Describe the cash flow management process in IC
5.
Categorize foreign exchange risk into transaction, translation, and economic exposures.
6.
Explain the idea of a swap transaction and its basic application
7.
Recognize the uses and dangers of derivatives
8.
Describe a sale without money and its advantages
9.
Discuss tax as a financial management concern.
INTRODUCTION:
International financial management is concerned with how a company doing
international business manages funds across national borders. The process of international
transfer of value is complex because it involves many variables, including exchange rates
between currencies, various restrictions on the movement of money, different taxation
systems between countries, and different economic environments. International financial
management is a challenge that includes managing risks, opportunities and complexities.
The discussion of international financial management focuses on the company's
financial structure, followed by management cross-border cash flows, taking into account the
financial flows and techniques used to move the funds. Taxation issues will also be discussed.
The ultimate goal of this chapter is to introduce the challenges facing international finance
managers and how to overcome them.
CAPITAL STRUCTURE:
Many companies have engaged in international business, not only in selling their
products in international markets, but also in finance in order to explore the opportunities
available. Such opportunities are also available for problems in the capital structure of the
company, so that many companies try to take advantage of the international financial market,
both public markets that are open to the whole society, as well as between companies or
groups of companies.
Unlike markets for products, international financial markets are still not globally
integrated, although they are becoming increasingly interconnected. Under such conditions,
there are opportunities in various markets, but at different costs.
In order to increase shareholder welfare, the value of the company must be increased.
Financial management is based on the concept that firm value can be increased internally
through retained earnings and externally either through equity (selling shares to the capital
market) or debt (leveraging). Financial managers can scrutinize various markets to raise
capital in international financial markets which provide a cost-effective way to raise capital
lower than in one's own country to increase firm value.
Many companies choose the equity approach by offering shares in international
markets. The advantage of this approach is that it can attract more potential investors, which
can increase its share price and at the same time lower its cost of capital. Selling shares in
international markets also provides marketing benefits, as the company becomes
internationally recognized.
Debt is also a source of capital for companies, and more and more companies go into
debt by issuing debt securities both domestically and directly abroad, both in the financial
markets and privately. Debt is often cheaper than selling shares, because the interest to repay
the debt is tax deductible, while dividends to shareholders are not tax deductible.
If the company wants to increase capital, the decisions that need to be taken include:
a.
What currency is needed, taking into account the estimated future strength or weakness
of that currency.
b.
How much is in equity capital and how much is in debt.
c.
Where the capital was obtained from:
i.
commercial bank as a business loan
ii.
bank as part of the swap
iii.
other companies as part of a swap
iv.
selling debt securities in international financial markets
v.
selling shares on international capital markets
d.
How much money is needed and how long the loan will take
e.
Are there other sources of funds available, e.g. joint venture partners, government, and
others.
EXCHANGE RATE RISK MANAGEMENT:
International business would be much less complex if all countries used the same
currency. For various reasons, this is not possible, even though most European Union
countries have been able to agree to use the same currency, the Euro (€). Each country's
currency will always change in value from one another. These changes in value present a risk
to international business, as the fluctuations cause unanticipated changes in the value of
assets and liabilities. These risks are generally quite significant, and can usually be
categorized as: transaction exposure, translation exposure, and economic exposure.
TRANSACTION EXPOSURE:
Transaction exposure occurs when a company conducts transactions in foreign
currencies. Exposure occurs due to fluctuations in currency exchange rates between the time
of commitment in the transaction and the time of payment. For example, a company in
Indonesia purchases agricultural machinery worth US1,000,000 from a company in America,
for payment in 6 months from the time the goods arrive at the port of Jakarta. The exchange
rate at the time of this transaction is 1 USD = 14,500. The agreed payment within 6 months of
the transaction was creates transaction exposure for the buyer. If the USD strengthens against
the rupiah at the time of payment, for example to 1 USD = Rp15,000, then the buyer will
have to pay Rp15.0 billion. If the exchange rate remains 1 USD = Rp14,500 at the time of
payment, then the buyer will pay Rp14.5 billion. However, if the USD weakens at the time of
payment, for example to 1 USD = Rp14,000, then the buyer will only pay Rp14.0 billion.
Thus, there is an impact on the buyer's cash flow in Indonesia, but no impact on the seller's
cash flow in America.
Transaction exposure can occur not only in trade transactions, but also in foreign
borrowing transactions. In 1998, almost all rich Indonesian businessmen went bankrupt
because they could not pay their debts. Before 1998 the exchange rate was 1USD = Rp2000.
When Indonesia's New Order government collapsed in 1998, the Rupiah exchange rate
immediately went into freefall, with 1USD = Rp16,000. Before 1998, Indonesian
entrepreneurs had been busy raising capital by borrowing funds from abroad in USD. Some
borrowed USD3 billion, some USD5 billion, some even totaled USD10 billion. In 1997, the
USD2 billion debt would be worth Rp2 trillion, the USD10 billion debt would be worth Rp20
trillion. All of them will be able to pay. The problem is that after the exchange rate of 1USD
= IDR16,000, the USD2 billion debt will become IDR32 trillion, and the USD10 billion debt
will become IDR320 trillion. None of the Indonesian entrepreneurs had that much assets, so
they all defaulted. In an instant most of Indonesia's giant entrepreneurs fell into poverty,
because the assets are all minus. That's an example that transaction exposure
in international business cannot be underestimated.
There are many ways to reduce the risk of transaction exposure. These techniques
include: a. leading and lagging, b. exposure netting, c. forward market hedge,
d. currency option hedge, e. money market hedge, and f. swap contract. Leading and lagging
are paying or receiving payments in advance and paying or receiving payments behind at the
time of payment. Exposure netting is where a company seeks to eliminate risk by offsetting
exchange rate fluctuations with transactions in different currencies that mutually eliminate
their impact. Forward market hedge is a foreign currency contract sold or bought forward to
protect against foreign currency movements. Currency option hedge is an option to buy or
sell a certain amount of foreign currency at a specific time to protect against the risk of
fluctuations in the value of the foreign currency. Money market hedge is a method of
protecting foreign currency exposure by borrowing and lending in domestic and foreign
money markets. Swap contract is a current sale/purchase (spot) of an asset against a future
purchase/sale of the same value in order to hedge a financial position.
To illustrate the application of each of these techniques, consider the example of Trum
Co (USA) exporting to France stainless steel products worth €20 million, payment in €, and
payable at sight. Exchange rate and interest rate data are as follows: EU interest rate = 4, US
interest rate = 5, spot rate = $1.534, forward rate = $1.527 (one year forward).
Trum Co as the exporter is the one taking the transaction risk due to the payment of the
product in €. The leading technique in this case is to receive payment of receivables at some
point before maturity, while the lagging technique is to receive payment of receivables at
some point after maturity. Since the spot rate = $1.534, while the forward rate = $1.527, this
means that in one year it is expected that the USD will strengthen against the €, so Trum Co
is better off leading in receiving payment, if it can be approved by its importers.
The forward market hedge technique in this example is a company selling forward
foreign currency receivables to receive in its own currency. The purpose of the forward
market hedge technique is to eliminate or reduce the risk due to exchange rate fluctuations,
not to seek profit with financial contracts. So Trum Co should not do a forward market
hedge.
The currency option hedge technique in this case is that Trum Co will buy an option to
sell (put) a receivables worth €20 million, and this option can be used or not. Since it is an
option, it depends on whether it is profitable or not to exercise the option when the payment
is received.
If using the money market hedge technique, Trum Co will borrow Euros in the
European money market in the amount of €20 million. It will buy US$ and invest it all. When
it receives payment from the French importer, Trum Co will use the payment to repay its €20
million debt, and then withdraw the investment plus the interest it earned in US$.
A swap contract technique is an agreement to exchange currencies at an exchange rate
and at a time. Swaps are very flexible and can be in the very long term and for multiple
transactions. The use of swaps for Trum Co is appropriate when Trum Co conducts routine
transactions over a very long period (e.g. 10 years). Swaps are often better known as
derivative products to gain profit by speculation rather than to minimize or eliminate
transaction risk.
For companies that regularly conduct large amounts of international business,
especially when it involves various foreign currencies, it is necessary to monitor the
transaction exposure of their business. Such monitoring will include the steps of: 1.
determining the projected net inflow or outflow of each foreign currency, and 2. determining
the overall risk of the net inflow or outflow exposure of each foreign currency. Analysis of
the results of the monitor will assist in deciding on the use of techniques to address the
transaction exposure for the company's international business.
TRANSLATION EXPOSURE:
Translation exposure occurs when the financial statements of subsidiaries are
consolidated at the head office for the financial statements of the company as a whole. Since
the subsidiaries operate in local currencies, it is necessary to translate the financial statements
of each subsidiary into the currency of the parent company in the process of consolidating the
corporate statements. Fluctuations in exchange rates can have a considerable impact on the
value of the statements. These financials can affect the earnings per share and the share price.
For example, an American company has subsidiaries in the UK, Japan, Brazil and Spain. The
financial statements of each subsidiary will be submitted in four different currencies, and all
four currencies must be translated into USD. Any change in the exchange rates of the four
currencies against the USD will affect their value in USD. The change is not real, it is just an
unrealized change, only on paper. The degree of translation exposure depends on the degree
of overseas business involvement by the subsidiary, the location of the subsidiary, and the
accounting method used.
In translating each currency, the translation exposure issue depends on the method used
for translation, current rate method and temporal method. Under the current rate method,
current assets and liabilities are valued at the spot rate at the time the balance sheet is
prepared while non-current assets and liabilities are translated at the previous exchange rate
at the time of occurrence. With the temporal method, monetary accounts such as cash,
receivables, and payables are translated at the spot rate, while fixed assets and long-term
liabilities are translated at the exchange rate when they are acquired or when they are formed.
The approach used depends on the provisions in each country where the head office is
located.
There are several ways to minimize the risks arising from translation exposure,
including balance sheet neutralization efforts, which seek to make monetary assets almost
equal to monetary liabilities. Swaps, which is the exchange of assets and liabilities in
different currencies or interest rate structures that reduce risk or lower costs are also often
used for this purpose. However, many argue that such efforts to reduce translation risk are
not worth the benefits. Greater results can often be obtained by simply providing explanations
in the consolidated financial statements.
ECONOMIC EXPOSURE:
Economic exposure is the potential value of future cash flows affected by unpredictable
exchange rate fluctuations. Unlike transaction exposure which is about a single transaction,
economic exposure is about the whole company and has a long-term impact. For example, if
the renminbi (Chinese currency) strengthens, the export price of Chinese products will
increase against other currencies, resulting in total export sales decreasing. decreases.
Products China become uncompetitive in price in the international market. Conversely, if the
renminbi (Yuan) weakens, the export price of Chinese products will fall, making them more
price-competitive in the international market. The exchange rate change in this example
shows the positive impact of economic exposure. Economic exposure can impact both a
company's foreign assets and liabilities, as well as its cash flow, due to its impact on foreign
sales. Asset exposure includes both fixed assets and financial assets. Exposure of cash flow to
currency fluctuations is called operating exposure. Operating exposure is difficult to
measure, because includes cash flows and the broad commercial context, the competitive
conditions surrounding obtaining input supplies and sales. For example, if foreign supplies
become more expensive in the country where the company operates, due to the weakening of
the local currency, this creates additional costs. The company may address this through
pricing policies or finding other sources of supply. The company may also be able to pass on
the cost to buyers or move to lower quality or cost supplies. Such options will contribute to
the reduction of exposure and involve the company's competitive position and market
structure. In managing economic exposure, management may also use hedging and swap
contracts on flexibility in sourcing, and on a portfolio approach in engaging in overseas
markets.
Many companies from Japan have long invested in Indonesia to serve the Indonesian
market, such as Sanyo, Panasonic, Sharp and so on that produce air conditioning, air coolers,
refrigerators, and others. Now these products are no longer produced in Indonesia, but in
Thailand, or Malaysia or Vietnam. The reason for all these companies is that the economic
exposure in Indonesia is too large and the production cost in Indonesia is also higher than in
Thailand, Malaysia, especially when compared to Vietnam. These products import almost all
components from Japan and other countries. In Indonesia, although the market for finished
products is the largest, there are no component factories in Indonesia. As the Rupiah
continues to weaken against the USD and Yen, the price of these components becomes more
expensive, while the selling price cannot be increased. Marketing costs increase, especially
when marketed outside Java, requiring high transportation costs. In this case, economic
exposure has a detrimental impact on Sanyo, Panasonic, Sharp and others.
SALES WITHOUT MONEY
INTRODUCTION.
Sales without money is a concept of international trade without involving currency.
Although profitable, the complexity of conducting trade without currency means that this
concept is not widely publicized, so it is not known exactly how large transactions in the
form of without currency are, and how they are developing. The use of currency in trade
facilitates transactions, because each product has a price, so that the seller can give a price per
unit for his product as well as the buyer can consider whether to buy the product at that price.
This is especially helpful in international trade, being one of the factors driving the growth of
international trade.
The use of currency in international trade is actually not that long ago, because until the
end of the 19th century, much international trade took place through sales without money.
British imports of tea from China in the 19th century still used the exchange of goods. China
would only exchange tea for gold or silver, not British currency or other goods. Over time,
the British ran out of gold and silver, forcing the Chinese to accept the British currency
exchange of tea for opium, a plentiful product for Britain through its colonies in Asia. China's
refusal to accept the exchange for opium led the British in alliance with other Western
countries, such as the Netherlands, Germany, Russia, Portugal and others to invade China and
occupy the Chinese capital, Beijing. Finally, the Chinese emperor was forced to accept opium
as a medium of exchange for tea along with other conditions, namely giving tea tree seedlings
to all the war-winning countries, leasing Hong Kong to Britain for 100 years, starting in
1897. This example shows the difficulty of making sales without money in terms of agreeing
on the goods to be exchanged.
Despite its many weaknesses, sales without money may be very beneficial for
international trade between developing and least-developed countries, many of which are in
Asia, Africa and South America. Many developing countries, let alone least-developed
countries, have many natural resource products and industrial products of a quality that meets
the needs of consumers in developing and least-developed countries.
For example, Indonesia has many shoe factories, garment factories. Many of these
companies are contractors to multinational shoe companies, such as Nike, Adidas and
garment companies, Many of these multinational companies move their supplies to other
Southeast Asian countries, as it is more efficient and timely to deliver. As such, Indonesia has
many factories whose capacity is not fully utilized. For companies that want to produce own
brand, then market acceptance is difficult. Markets in developed countries do not want to buy
products with unknown brands. On the other hand, Angola is an oil-rich country in Africa,
but it does not have shoe factories, garment factories, and so on. The foreign exchange it
earns from crude oil exports is already used for the country's basic needs. So why doesn't
Indonesia do sales without money with Angola? Indonesia exchanges crude oil from Angola
for garments and shoes. The conversion of the exchange shows that Indonesia can obtain
crude oil at a much cheaper price than buying from Middle Eastern countries whose
industries are controlled by American, British, Dutch and French oil companies. Similarly,
Angola can obtain Indonesian garments and shoes with international quality and at a lower
price than if imported from other countries.
SALES WITHOUT MONEY:
Sales without money can take the form of countertrade or industrial cooperation.
Countertrade is international trade in which part or all of the payment is in a form that is not
a hard currency or convertible currency. While industrial cooperation is a long-term
relationship between one company in a developed country and another company in a
developing or less developed country in which part of the product or all of it is made in a
factory in a developing or less developed country.
TYPES OF COUNTERTRADE:
Counterpurchase transactions. Products supplied by one country are independent of
the type of products imported by another country. An example of a form of counterpurchase
is a counterpurchase agreement between Indonesia and Japan for trade of a certain value, e.g.
for US$1 billion. A counterpurchase may be agreed with each country sending US$ 500
million worth of products. Each transaction is done without any payment in currency. For
example, in one transaction Japan wants to acquire fertilizer worth $100 million, so
Indonesia, if it has that much fertilizer, will agree to send fertilizer to Japan worth $100
million. In another transaction, Indonesia wants agricultural machinery products worth $150
million. And so on until Indonesia and Japan buy each other without currency worth US$ 500
million each at the end of the agreement. The agreement can continue until either party feels
uncomfortable continuing the sales without money.
Compensation transactions, a country buys a heavy equipment factory from another
country without payment in foreign currency, but is paid with heavy equipment produced by
the heavy equipment factory.
Barter Transactions. A country makes an agreement with another country to buy from
each other by agreeing in advance what products will be bought from each other, and how
much each transaction is worth. An example of Indonesia buying crude oil from Angola,
while Angola buys shoes and garments from Indonesia is an example of a barter transaction.
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Switch trading. A transaction where one country does not need the products of another,
or even where no products are needed by either country, and this is accomplished by
involving another party, such as an international trading company that can market all
products from each country to the other. For example, China wants to enter into a
countertrade agreement with Myanmar. China wants to supply equipment and know-how for
cattle farming, while Myanmar wants to supply garlic. Myanmar does not need equipment
and know-how for cattle farming, while China does not need garlic. How did the
countertrade work? They made a switch trading agreement involving a Japanese trading
company. All the cattle farming equipment and know-how from China was bought by Japan,
which then sold it to the Philippines, which was looking to build up its cattle farming
industry. Then, all the garlic from Myanmar was also bought by Japan, which sold it to
Indonesia, which always wanted to import garlic.
Offset Transactions. A transaction in which the country purchasing a product, usually
a high-tech product, pays for some of the components or materials required by the other
country to produce the product. An example of an offset is Indonesia buying Boeing airplanes
for airline companies in Indonesia. Most of the payment is in the form of products produced
by PT DI, which makes tails, wings and other components for Boeing. Industrial
Cooperation. A country enters into a long-term agreement with another country in the event
that the other country manufacturing or business in another country, and is paid with all or
most of its products. There are several forms of industrial cooperation, namely: joint
ventures, coproduction and specialization, subcontracting, licensing, turnkey plants.
Joint venture. Two or more companies from two countries agree to form one company
that will share capital, management, and profits.
Coproduction and specialization. The factory of one company in one country will
produce a component of a product, while a company in another country produces another
component of that product. Each company will obtain components from the other, and each
will use them to produce the final product that each company will sell to their own market.
Subcontracting. A company in one country manufactures products according to the
design and specifications of another company in another country who will receive all the
products and market their products.
Licensing. A company in one country grants another company in another country the
right to use its technology to manufacture a product. The company will be paid a royalty fee
in the form of the finished product.
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Turnkey plants. A company in one country will build a plant for another company in
another country, train their employees and help them start production. All or part of the
plant's products are paid for by the turnkey plant.
PRACTICE QUESTIONS.
1.
Why many companies choose the equity approach
by offering shares on international markets?
2.
In terms of capital structure, explain the comparison of advantages and disadvantages
between internally increasing and externally increasing firm value!
3.
Why are exchange rates a risk of international business? Explain your answer.
4.
How much risk is there in exchange rate exposure, and how can it be mitigated?
5.
What is sales without money? Explain with an example!
6.
What are the advantages of switch trading compared to barter transactions?
7.
Under what conditions would a company choose licensing over turkey palnts?
INTERNATIONAL OPERATIONS MANAGEMENT
LEARNING OBJECTIVES:
1.
Understand synchronous manufacturing and mass customization
2.
Understand the Six Sigma system
3.
Describe the potential for, and barriers to, global standardization of production
processes and procedures.
4.
Know the two common classes of activities in productive and supportive
manufacturing systems
INTRODUCTION:
A company that starts to enter the international market will face competition that will
increase exponentially. This makes it necessary for the company's management to look for
ways to reduce costs and at the same time improve the quality of its products in order to
remain competitive. Such conditions can be obtained by improving its current operations. It
can also be achieved by expanding its operations overseas, or moving its operations overseas
(offshoring), or by changing the source of procurement of labor, raw materials, auxiliary
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materials, and so on. The third way is by outsourcing, which means paying other companies
to perform activities or decision-making that are not core activities or decisions for the
company, rather than doing these activities themselves.
Outsourcing can be done in all activities of a company's value chain model, although in
general it is the most common. Outsourcing is now limited to supporting activities, such as
human resources management, accounting, information systems, administration, management
of business premises, e.g. cleaning, security, and so on. Outsourcing in value activities has
also begun, especially in operations and distribution activities. This chapter will discuss
global sourcing, as well as operations management issues, especially the issue of
standardization of international operating systems.
DOMESTIC RESOURCES
In general, outsourcing is defined as hiring another party to perform an activity that is
seen as not core to the business rather than doing it yourself. Outsourcing is commonly
practiced for domestic business activities, but it is now also widely practiced for international
business. In the beginning, outsourcing was applied to non-permanent activities, such as
building houses, factories, and so on. The workers were mostly not permanent employees of
the contracting company, because they would only be used during the building work. As long
as the company has not obtained a new project, they are unemployed. For the company,
besides the fact that they do not always get work, the size of the project is also uncertain.
Therefore, no contracting company can afford to make all its workers permanent employees.
In addition, every company will also need workers who are not core to their business
activities, such as security guards, cleaners, gardeners, and so on. If they are all made
permanent employees, then every company will need The company will have a large number
of employees and probably more than the employees working on their core business. The
company will be uncompetitive, making it easy to go bankrupt. Thus, outsourcing is widely
practiced for such jobs. Related to that, there are many service companies that are ready to
provide outsourced employees. At first, outsourcing was accepted by various parties,
including workers.
Tensions began to arise as the labor force increased due to the rising population, while
the need for workers fell further behind, resulting in rising unemployment. In addition, in
pursuit of efficiency, companies also began to outsource their core activities, such as for
factory employees, administrative staff, and so on that did not require specialized skills and
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expertise. Workers began to feel uncomfortable with outsourced status, because there was no
guarantee of continuity as employees, making them ready to become unemployed at any
time.
In developed countries, there is practically no tension over outsourcing. Likewise, in
developing countries that are able to develop competitive businesses, there is also no tension
over the practice of outsourcing. The same is true in developing countries where political
factors are not a dominant factor in the business environment, and in countries where the
education system is able to produce the skills and work ethic for job seekers that companies
need to be competitive.
SOURCING GLOBALLY
GLOBAL SOURCING:
Global sourcing to achieve competitive advantage is becoming increasingly popular for
companies doing business internationally. Although the main reason for global outsourcing is
to obtain lower prices, there are many other reasons. Companies may find it necessary to
focus their scarce resources on using them to develop their core competencies and use other
companies to lower costs and capital investment, improve flexibility and speed of response to
market opportunities and threats, improve quality, and other strategic benefits. All of these
can be obtained by outsourcing within or outside the country (offshore outsourcing) or
moving part or all of an activity or process overseas (offshoring).
Access to suppliers, falling interaction costs, and information and communication
technologies give companies doing international business many options for structuring their
business. Any activity in their business model can be outsourced, including product design,
raw material or component supply, production processes, inbound logistics, distribution,
marketing, sales, after-sales service, human resources, or other activities. When done right
and aligned with its business strategy, outsourcing can deliver dramatic value gains for the
company and its customers.
Outsourcing decisions including offshore outsourcing are make or buy decisions. The
pros and cons of this decision involve a comparison of costs, control managerial
confidentiality of product design specifications, quality, quantities that can be supplied,
timing and method of delivery, Other considerations concern the specialized skills required to
make or obtain raw materials, components and the costs incurred by not being able to take
advantage of economies of scale now possessed by the supplier. In the case of offshore
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outsourcing, the decision is further complicated by distance, different languages, different
laws and regulations.
Offshore outsourcing by multinational companies can be viewed as one stage in the
international product life cycle theory that explains international trade and investment. In this
theory, developed countries use absolute or comparative advantages possessed by developing
countries, such as raw materials or cheap labor wages, to carry out offshore outsourcing by
obtaining supplies of raw materials or products or product components from factories
established in developing countries. At this stage, there are no protests from workers in
developed countries because the raw materials do not exist in developed countries, or the
work done by unskilled labor is not the work that workers in developed countries want.
Problems begin to arise once the multinational company offshores its factories from
developed countries to developing countries, and imports finished products back to developed
countries as in the next stage of the international product life cycle theory. Tensions occur
because workers in developed countries will lose their jobs, and developed countries also face
pressure on their trade balance. Tensions will increase if developing countries are able to
develop the skills, technology and capital to produce their own products at a higher quality
than those produced in developed countries. In this case not just one or a few factories in the
developed country are threatened, but possibly entire industries, as well as enormous pressure
on their balance of trade.
GLOBAL SOURCING ARRANGEMENTS:
There are several types of sourcing structures that international business enterprises can
choose to procure raw materials, auxiliary materials, components, end products that are
deemed more profitable than being produced in-house,
1. Wholly owned subsidiary. A factory established in a foreign country that is one hundred
percent owned by the company, a subsidiary to supply the home country. The company
is established in a foreign country because of its natural resources to supply raw
materials, or a country with low wages to supply final products or components, or in a
country capable of producing products not produced in the home country or with higher
quality.
2.
Overseas joint venture. Similar to a wholly owned subsidiary, except that it is jointly
owned by the company with another local or foreign company.
3.
In-bond plant contractor. The originating factory sends components to be further
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machined or assembled by an independent contractor at an in-bond plant, which are
then supplied to the originating factory. An in-bond plant is a specialized industrial
park that processes components from the international company and which will be
exported back to the international company. The components from the international
company are not subject to import duty, as they will not enter the country that processes
them, but only process and then re-export them to their country of origin.
4.
Overseas independent contractor. An international company that does not have a
factory in its own country, enters into an agreement with an independent factory in a
developing country to use its entire capacity to manufacture and supply to the
international company products according to specified specifications and under the
brand name of the international company in agreed quantities. The contractor sets up
the factory according to the specifications of the international company, and is set up
exclusively for the international company.
5.
Independent overseas manufacturer. Just like an overseas independent contractor, the
contracted company usually already has its own factory that produces products, and has
excess capacity that can be utilized to produce the international company's products.
ELECTRONIC PURCHASING FOR GLOBAL SOURCING:
In the last decade, many international companies have implemented the use of
electronic procurement systems, with the aim of identifying potential suppliers or customers
and facilitating flexible and dynamic interaction with prospective buyers and suppliers. This
phenomenon is not only for final products, but also for components and even spare parts.
The most common electronic transactions are catalog purchases. The supplier will
prepare a catalog of available products, and the buyer can access, study and order the desired
product at the listed price. The supplier will usually update the catalog immediately,
including available inventory data for each product. Similarly, the supplier can promote
products that it wants to sell cheaply from its inventory.
E-commerce is also used by buyers or sellers to make purchases or sales through
tenders. Buyers/sellers can list online their desired products and quantities and qualities for
scrutiny by sellers/buyers who can enter their bids online as well, on a closed or open basis
according to the desired tender terms'.
The use of electronic purchasing systems can be very beneficial for companies,
allowing companies to streamline operations, reduce costs, increase productivity in the
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procurement system and consumer response. Evidence of the great benefits of the electronic
procurement system can be seen from the increasing popularity of the use of the system, even
government institutions have also widely used it.
PROBLEMS IN GLOBAL SOURCING:
Although global sourcing has become an everyday activity in international companies
with the main benefit being lower costs, in reality this is not necessarily the case. All the
costs attached to global sourcing must be calculated appropriately, such as transportation
costs, insurance, increased inventory levels to reserve for delivery delays) before a
purchasing decision is made. It is required that global sourcing decisions should be aligned
with the company's strategy, and that the expected objectives of global sourcing are explicitly
stated (e.g. cost, delivery time, etc.).
The use of electronic purchasing in global sourcing also brings potential problems. It is
important to realize that electronic purchasing cannot be separated from the company's
business systems. A successful electronic purchasing system must include connections with
the current traditional system and considerations for transitioning to a new system. What
cannot be left out is the security of the electronic purchasing system itself.
MANUFACTURING SYSTEMS:
The production system includes the design of the location, process, layout, material
handling and workers. It also needs activities that support the production system, including
purchasing, maintenance, technical functions, quality control and assurance, inventory
control.
Operating in the international market allows a company to access technological
developments as well as global operating system developments that are developed and
practiced in many countries. Unlike technology, brands, operating systems are usually called
scientific products, so they are open and can be learned and practiced by any person or
company without monetary obligations.
Various concepts that have been developed aimed at increasing the productivity of
operating systems and are worth recognizing for possible implementation include:
1.
Just-in-time: a system that balances activities so that there is no waiting time and
inventory in in-process and finished products.
2.
Total Quality Management: management of the entire organization so that it exceeds the
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quality of all dimensions of products and services that are important to consumers.
3.
Synchronous manufacturing: a scheduling and controlling system that finds and then
removes or minimizes bottlenecks to achieve higher production output.
4.
Mass customization: the use of flexible, computer-added production systems to produce
customized products for different customers around the world.
STANDARDIZATION AND STANDARDIZED INTERNATIONAL OPERATIONS
MANAGEMENT
A written agreement containing technical specifications or other criteria to be used
consistently as guidelines, rules, or definitions of the characteristics of a product, process or
service. Standards developed by the International Organization for Standarization (ISO)
have been adopted by almost all countries in the world.
- ISO 9000: standard for quality assurance systems.
- ISO 9001: a comprehensive quality standard used by companies engaged in business
design, development, manufacturing, installation, and servicing of products and
services.
BENEFITS OF GLOBAL OPERATIONS STANDARDIZATION:
The benefits of standardization of global operations are:
- The standards assure that raw materials, products, processes and services will be
received with appropriate quality and that suppliers and buyers will conduct
transactions in accordance with the standards for conducting transactions.
- Standardization of production and processes will simplify the production organization
at the headquarters as replication of activities will reduce the number of staff required.
- Standardization across subsidiaries will also increase effectiveness in keeping all
production specifications met.
- Standardization of processes and machines allows all machine parts to be easily used
by all locations. This also enables economies of scale to be achieved.
- The division of production among global production units allows each unit to produce
each specialized unit in a limited type of components or products, thereby achieving
the benefits of economies of scale.
- Standardization also makes purchasing more efficient, as the same type is used by all
production units.
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- Makes control of quality, production, maintenance easier.
- Makes the planning process simpler and faster, as each unit does not need to start
from scratch.
BARRIERS TO GLOBAL OPERATIONS STANDARDIZATION
Standardizing the concept of total quality system or synchronous manufacturing in a
subsidiary is easier than standardizing the actual production facility. Units of a production
facility differ in capacity, in technology used, in machinery and processes due to the
influence of various external environmental factors, especially economic factors, cultural
factors, and political factors.
The economic factor that plays the biggest role in hindering standardization of
operations is market size. To handle different production requirements, there is a choice of a
capital-intensive process that uses automated, semi-manual-output machines or a labor-
intensive process that requires many workers and general-purpose equipment with lower
production capacity. Automated machines will be limited in production flexibility of product
type and size, but once operational, the entire market may be satisfied in just a few days of
operation. Another alternative is CIM (computer-integrated manufacturing). However, the
investment cost and high technology to operate it generally limits its use to developed
countries only.
Another economic factor that influences process choice decisions is the cost of
production. Automation tends to increase employee productivity as it requires fewer workers
and produces more output per machine. However, if the need for output means that the
machine will only operate for a short time, then this will make production costs high, even if
labor costs are low.
Cultural factors often play a role in efforts to standardize operations. Use of capital-
intensive processes Typically used in developed countries, capital-intensive processes can
also be used in developing countries. It may require modification of the machinery used such
as using specialized machines instead of general-purpose machines. Low-skilled workers can
be hired to run specialized machines after special training. It is necessary for them to have a
technical college education, and have sufficient intelligence. However, in developing
countries, technical colleges are generally considered less prestigious, and everyone with
intelligence wants to become a university graduate. This makes it difficult to find workers
who have sufficient intelligence and have studied at a technical academy, which means they
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are ready to be trained to operate these specialized machines. Aside from the issue of cultural
prestige, another problem in the use of specialized machines is the lack of work ethic and
responsibility of workers in developing countries.
Political factors are often the most inhibiting factor in standardizing operations. The
desire to create as many jobs as possible leads to demands that companies investing in
developing countries must use labor-intensive processes, which means they will not be
standardized to what is typically used in developed countries. Even political decisions often
force companies to limit the number of experts to install machinery and build factories,
instead using local people who are believed to have the skills. If they are deemed not to have
the skills, they are asked to provide training. As if expertise can be acquired through training
in such a short period of time. Not to mention the political decision to force companies to
locate in certain regions, with the aim of reducing economic disparities between regions in
the developing country. This is usually followed by the stipulation that the majority of
employees must be sons of the region where the factory is located. Regions with economic
disparities usually also have disparities in the skills and work ethic of the workers, so
standardizing operations is often a very difficult thing to do.
FACTORY DESIGN TO SOLVE OPERATING SYSTEM STANDARDIZATION
BOTTLENECKS:
Plant design can attempt to accommodate the problem that inhibits standardization of
operating systems, namely the choice between :
- Hybrid design: a hybrid of capital-intensive processes and labor-intensive processes
can be used to simultaneously ensure product quality and the availability of semiskilled
labor. For example, using machine welding and then using semimanual equipment for
painting, packaging and materials handling.
- Intermediate technology. Technologies that are in between capital-intensive and labor-
intensive processes, which are expected to still produce quality products that meet
standards, but use more labor and less capital to build. Almost all designs developing
this technology are still in pilot plants, as machinery and equipment manufacturers
argue that the demand for plants with this technology is not yet feasible for production.
This is mainly because the machine and the equipment required is specialized and
limited to specific product processes only.
- Appropriate technology. Technology that is specifically designed to suit the cultural,
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political and economic conditions of a country. This type of operating system has been
tried but is costly to produce, as the machinery and equipment required will only be
suitable for one country.
LOCAL OPERATING SYSTEM
In addition to factory design, most initiatives from developing countries are scaled-
down versions, the same operating systems as in developed countries, but with smaller
capacities. The organization of the operating system is similar to that in developed countries,
except that practically everything is produced in-house on a smaller scale. For example, a
dairy factory will also have a department for making cans, a department for printing and
sticking labels, and so on. Components that are not available locally with quality that meets
specifications will be produced in-house.
The output of the local operating system is generally low output, lower quality than in
the home country, and higher production costs as well. This can be overcome by training and
developing a positive culture in the local company organization.
PRACTICE QUESTIONS:
1.
What are the advantages of global sourcing over domestic sourcing?
2.
Of the 5 sourcing arrangements, which one do you think is more suitable for a food
company when opening a business in another country? explain
3.
Explain the role of electronic purchasing in the scheme of international business
development.
4.
What are the benefits of ISO standardization for a company? Are all companies
required to ISO standardization?
5.
What is just-in-time manufacturing and why does Toyota have this manufacturing idea?
Give us your analysis
6.
What factors cause barriers to global standardization of operations?
7.
What are the advantages of appropriate technology plant design
compared to hybrid design?
