Global Strategy: Pursuing Low-Cost and Standardization for Maximum Profitability

Companies that follow a global strategy focus on increasing profitability by reaping the benefits of cost reductions that come from experience-curve effects and location economies. That is, they are pursuing a low-cost strategy. The various activities such as production, marketing, and R&D of XYZ pursuing a global strategy are concentrated in a few favorable locations. Global companies do not tend to customize their product offering and marketing strategy to local conditions.

This is because customization raises costs because it involves shorter production runs and the duplication of functions. Instead, global companies prefer to market a standardized product worldwide so that they can reap the maximum benefits from the economies of scale that lie behind the experience curve. This strategy makes sense in XYZ case in which there are strong pressures for cost reductions and where demands for local responsiveness are minimal. These conditions exist in many industries manufacturing industrial goods.

(http://www/loc. gov/index. html) Transnational Strategy XYZ Corporation whose operations are spread across several locations worldwide and are not confined to any country or a region and which pursue low cost and product differentiation at the same time is referred to as transnational companies. Transnational companies operate on a global level while maintaining a high level of local responsiveness. A transnational strategy makes sense when XYZ faces high pressures for cost reductions and high pressures for local responsiveness.

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Companies that pursue a transnational strategy basically try to achieve low-cost and differentiation advantages simultaneously. Although this strategy looks attractive, in practice it is a difficult strategy to pursue. Pressures for local responsiveness and cost reductions place conflicting demands on the company. Local responsiveness raises costs, which clearly makes cost reductions difficult to achieve. Although a transnational strategy apparently offers the most advantages, implementing it raises difficult organizational issues.

The appropriateness of each strategy depends on the relative strength of pressures for cost reductions and for local responsiveness. APPROACHES TO GLOBAL ENTRY There are five main modes of entering a foreign market: exporting, licensing, franchising, entering into a joint venture with a host country company, and setting up a wholly owned subsidiary in the host country. Each entry mode has its advantages and disadvantages, and XYZ must weigh these carefully when deciding which mode to use. Exporting

Manufacturing companies begin their quest for global expansion as exporters and then switch to other modes. Exporting has two distinct advantages. First, it avoids the costs of establishing manufacturing facilities in the host country, which are often quite substantial. Second, by manufacturing the product in a centralized location and then exporting it to foreign market, the company may be able to realize substantial economies of scale from its worldwide sales. On the contrary, there are a number of negative aspects to exporting.

First, exporting from the company’s home base may not be appropriate if there are low-cost manufacturing locations abroad. A second drawback is that high transport costs can make exporting uneconomical, particularly for bulk products. One way of overcoming this problem is to manufacture bulk products locally. This strategy allows the company to realize economies from large-scale production and at the same time minimize transport costs. Thus, many multinational companies manufacture their products from a base in a region and serve several countries in that regional base.

Third, tariff barriers can make exporting uneconomical. In fact the threat of tariff barriers by Japan may sometimes force the company to set up manufacturing facilities in that country. Finally, the practice of delegating marketing activities to a local agent among companies that are just beginning to export also poses risks since there is no guarantee that the agent will act in the company’s best interest. Many foreign agents also deal with the products of competitors leading to divided loyalties. Therefore, XYZ would perform better if it manages marketing on its own.

One way to do it is to set up a wholly owned subsidiary in the host country to handle marketing locally. This can lead to huge cost advantages arising from manufacturing the product in a single location and controlling the marketing activities in the host country. (http://www/imf. org/) Licensing Licensing is an arrangement by which a foreign licensee buys the rights to produce a company’s product in the licensee’s country for a negotiated fee. The licensee then invests major share of the capital required to commence the operations.

The advantage of this arrangement is that the company need not bear the development costs and risks associated with launching foreign operations. Hence, licensing is a very attractive choice for XYZ Corporation that can not invest capital to develop overseas operations or for the company unwilling to take the risk of committing substantial financial resources in unfamiliar or politically volatile foreign environment. In high technology areas it is quite common for companies to provide know-how through licensing arrangements.

Licensing as a mode of entry into global arena has three serious drawbacks. First, companies do not reap the benefits of cost economies and location economies since licensees typically set up their own manufacturing facilities. And in cases where these economies are important, licensing method is not the best mode to go overseas. Second, in a global marketplace it is necessary to coordinate all the operations across all the countries in order to use the profits earned in one country to support competitive attack in another. Licensing severely restricts a company’s ability to do this.

A licensee will not let a multinational company to take its profits to support competitive moves of the company in other countries. A third and a very major problem with licensing is the risk associated with licensing and sharing technological know-how with foreign companies. Technological know- how provides a formidable competitive advantage for many technology based companies and licensing its technology can quickly erode its competitive advantage. Franchising Franchising is a strategy employed by many companies. The advantages of franchising are similar to those of licensing.

The franchiser does not bear the development costs and risks of commencing the operations in a foreign market on its own since the franchisee typically assumes those costs and risks. Thus, a company can build up a global presence quickly and at a low cost, using a franchising strategy. The disadvantages, however, are less prominent than in the case of licensing. Since franchising is a strategy used by smaller companies, a franchiser need not coordinate manufacturing activities in order to realize experience- curve effects and location advantages A major disadvantage of franchising is the lack of quality control.

A basic notion of franchising arrangements is that the company’s brand name conveys a message of quality to the consumers. The geographic distance from the franchisees and the large number of franchisees make it difficult for the franchiser to maintain quality and hence quality problems generally persevere. To overcome this handicap, companies set up a subsidiary, which is wholly owned or a joint venture with a foreign partner in each country and region in which they plan to operate. Closeness and the limited number of independent franchisees to be monitored reduce the problem of quality control.

This type of arrangement is well accepted in franchising. (http://www. worldbank. org/) Joint Ventures Joint venture with a foreign partner, like Japan, to enter foreign markets has been the vogue in recent times. A 50:50 venture is quite common, in which each party takes a 50 percent ownership stake and operating control is shared by a team consisting of managers from both parent companies. Some companies, however, prefer joint ventures in which they have a majority shareholding since this allows tighter control by the principal partner.

Joint venture is a very mode of entry into foreign markets. Joint ventures have a number of advantages, the first one being the benefit a company can derive from a local partner’s knowledge of a host country’s business ecosystem. Second, a company might gain by sharing high costs and risks associated with opening of a new market with a local partner. Finally, political considerations in the host country make joint ventures the only practical way of entering those markets. Despite these advantages, joint ventures are difficult to establish and run because of two reasons.

First, as in the case of licensing, a company risks losing control over its technology to its venture partner. To minimize this risk, the dominant company can seek a majority ownership stake in the joint venture to exercise greater control over its technology provided the foreign partner is willing to accept a minority ownership. The second disadvantage is that a joint venture does not give a company the tight control over its subsidiaries needed to realize experience curve effects or location advantages or to engage in coordinated global attacks against its rivals. (http://www. un. org/issues/m-intprp. html)

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