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Introduction Changing Profile of Global Business Environment Imperatives of Globalization of Business Reasons That Businesses Expand ‘Their Operations Abroad Theories of International Trade and Foreign Direct Investment International Product Life Cyele ‘Types of International Business Operations Export and Import Countertrade ‘Turnkey Projects ONE iP ao a8 wu THE MANAGEME OF INTERNATIONAL BUSINESS International Joint Ventures Direct Investment International Business and International Management Major Elements of Managing International Business Operations Management View of International Business MNCS and Host Government Relationships Host Country Business Environment Conclusion Discussion Questions Case Studies 4 THE MANAGEMENT OF INTERNATIONAL BUSINESS ‘This chapter suggests that we are in the midst of 4 transition period in which economic competi tion is becoming the new battleground for inter- national rivalry. International business isthe in strument with which nations attempt 10 gain a superior position. To gain competitive advan- ‘we need to learn how to manage interna: tional business operations. To study interna- tional management, we need to know what international business is. Therefore. 1 initially introduce various forms of international busi- ‘The first step in learning how to manage in- ternational business is to understand why firms internationalize, This chapter discusses theories of international expansion to illuminate this is- sue and argues that international management is similar and, atthe same time, different from the fhuanagement of domestic operation. The simi- laity is due to the fact that both are concerned with achieving organizational objectives through the proper utilization of organizational re- sources. The dissimilarities are due to variations in__managerial mentality, the complexity of business-host government relationship, and cul- tural and environmental differences. A discus sion of these issues concludes the chapter Caterpillar, Inc. is an American ‘multinational company (MNC) headquartered in Peoria, Mlinois. designs, manufactures, and sells earth moving, construction, and materials handling equipment and engines as well as electric power generation systems. With global operation and annual sales of more than $10 billion, the company earns 59 percent of its revenues from {foreign markets. Caterpillar employs approximately 39.000 people in North America, 8.700 in Europe, 4.800 in Latin ‘America, and 2,000 in the Asian/Pacific Caterpillar machines, engines, parts, and components are manufactured in HT large plants (with more than S00 employees teach) and in I2 smaller plants inthe United States, Ouside the United States, there are 8 large plants and 7 smatler plants. The non-US. facilities are ‘operated by wholly owned subsidiaries in Australia, Belgium, Brazil, France, Mexico, and the United Kingdom, and 80 percent-owned subsidiaries in India and Japan. Turbines are manufactured in the United States by Solar Turbines Ine. wholly owned subsidiary Caterpillar products are produced under contract for Caterpillar by independent manufacturers in the United States, Finland, Germany, Norway, South Korea, cand the United Kingdom, In addition, products are sold under names other than Caterpillar, produced under license by independent manufacturers in India, ‘Malaysia, New Zealand, People's Republic of China, South Africa, South Korea, and Turkey: Caterpillar remanufactures diesel engines and related components at to facilities in the United States. Solar Turbines Inc. also operates five turbine overhaul centers, four of which are located outside the United States. Caterpillar replacement paris are distributed through a network of 22 distribution centers in 10 countries. Caterpillar products are sold anil a a ee eS STRATEGIC ASPECTS OF INTERNATIONAL MANAGEMENT 5 serviced through a worldwide network of 215 independent dealers and one company-owned dealership. Turbines are sold around the world through a sales ‘organization employed by Solar Turbines Inc, Solar replacement parts are distributed through a neework of 6 distriburion centers in 4 coumries.! 4s global firm, Caterpillar operates ‘across national borders and has to abide by the laws of the nations in which it does husiness. In the early 1980s, Caterpillar was caught between conflicting policies of the US. and French government. The Soviet Union was building a gas pipeline from Siberia ‘0 Western Europe. The pipeline was to deliver natural gas from Siberia to Wesiern Europe. which, in exchange, would provide the Soviet Union with badly neédded hard currencies. Caterpillar earth-moving machinery was used in the construction of the pipeline To punish the Soviets for their expansionist poticies in Poland and Afghanistan, the United States decided to hhalt or defay the construction of the Pipeline. President Reagan issued an executive order prohibiting the sale of cartl-moving equipment to the Soviets. To the chagrin of the United States, the ‘construction of the pipeline continued ‘widisturbed. Although the shipment of equipment from Peoria, Minois, had Stopped, the French subsidiary. following the French goveraments strict order Kept shipping the Soviets the same equipment, Caterpillar executives and the US. government coud do nothing ‘but watch a multimillion dotlar business 80 10 Grenoble (near Lyon), France. Father than Peoria, Minis. Introduction From the end of World War II until the {990s, ‘many countries, panicularly the United States, Were preoccupied withthe threat of communism and the danger of another world war. The United States served as a great security force against communism and provided much needed stability for world trade to flourish. From 1950 (0 1972, world wade increased at an average of 5.9 percent per year after adjusting for inflation, Between 1972 and 1990, world trade grew 4.7 Percent per year. Of course, new technologies, falling transportation costs, improvements. in education, and inereased opportunities for inter. national business contributed to economic growth. Without political stability, however, ‘world trade could not have flourished ata steady and healthy rate. During this period the United States acted as the police of the world and was Preoecupied with the task of containing commu nism. To maintain a credible commitment to sta. bility, the United States allocated a relatively large amount of expenditure to defense. The provision of political stability by the United States enabled the world to enjoy economic de- velopment at rates that were higher and per. sisted longer than in any previous period in his. ‘While the attention of the United States was Focused on fighting communism, other nations were able to devote comparatively more time and capital to developing their economies, Under the security umbrella. provided by the United States and the concomitant stability, na. tions began to engage in international trade and export. Ata time when other countries, such as Japan, were expanding their markets globally, the United States was busy fighting commu, nism. The commitment of the United States 10 heavy military expenditure was freeing re- Sources and providing opportunities to other nas tions, particulaely Western Europe and Japan, to challenge directly the U.S, share of the world market, 6 THE MANAGEMENT OF INTERNATIONAL BUSINESS In military and polities, other countries, eX cept for the Soviet Union, acquiesced to the USS. leadership. Economically, however, the Found much more room and opportunity to con- test the U.S. leadership, and they often assumed ‘4 prominent position. Inthe past. military might {would ofien secure economic domination and ‘wealth for the superior nation. In this period, the fruits of U.S. military power, however, accrued to other nations, The relatively safe and secure environment following World War IL allowed ‘world trade to expand, Increased world trade produced a higher degree of interdependence famong nations. Economic interdependencies and the unacceptable consequences of a nuclear ‘war produced a new mentality. For the fist ime, rations began rejecting brute force as an accept fable means of conflict resolution. The buildup fof the most powerful military force in human history was making military domination less relevant, Economic competition and interna tional business became the arenas for future Fi- valeies, “The world is still going through some funda- rental changes, The threat of a major military Confrontation among the world superpowers is ‘iminishing. The conditions that forced the United States t0 seek military supremacy are gradually disappearing. Our former adversaries fare secking our help, and old friends are now posing a serious competitive challenge, In short, political and military rivalries ae losing ground to economic competition. Global markets and intemational business. are becoming the new battlegrounds. Some governments, for example, spend heavily to support their industries and to help them achieve global competi For example, to promote exports, Japan and France expend $5 and $4 per capita, respec tively, compared with $0.50 per capita. for the United States. According to the U.S. Govemment Office of Technology Assessment, ‘pan spends $500 million per year backing 185, technology extension centers." positions Faced with the reality of losing markets to these countries, some people are debating the need for a US. industrial policy 10 help secure current market shares and to regain lost market Shares, They point out the close relationships petween government and industry in Japan that have promoted the expansion of Japanese indus tries globally. Whatever its relevance or validity this debate brings the importance of interna- tional business into. sharp focus. We may not need the type of industrial policy deployed by the Japanese, but we certainly do need to under Stand the complexity and intricacy of interna tional business and how to manage it, The complexity of international business and the difficult Caterpllar’s predicament presented in the vi= anette at the beginning of this chapter. The Caterpillar situation highlights the demanding nature of international management and the ‘conflicting pressures that MNCs encounter. Gaining a competitive advantage in the global market is possible only if we understand the underlying forces and concepts of interna- tional management. The application of these concepts in managing the cultural and opera tional diversity of international business is a challenging task fof managing it was reffected in Changing Profile of Global Business Environment [As we approach the twenty-first century, there are many factors that increase the impact of in- temational business and, consequently, the role fof MNCs in our lives. A corollary factor is that the increase in the volume of international busi- ness heightens the importance of international management. Major factors that underline the Significance of international business are as fol- lows: 1. I is the tendency of most countries t© sitive for free world trade and the removal of trade barriers. A good indication of this ten- dency is the expansion of world trade. As Table STRATEGIC ASPECTS OF INTERNATIONAL MANAGEMENT 7 ‘Twhte Lt Work Tae Tends: 1910-1992 Exports (0.82, Milos of US, Dall 19st tos 90 World M3792 065 1PRGHS | AOS.AML | «SANLIS ARI. Developed sountris 28.46 1Dss58%—L2st2n— Dans.oss 282276 Developing counties $7,177 1462 382.985 is AAS OTOH omer ig UGS «67.582 2s. $9,859 Unite States 72 sI7 asm TIRES W352 HB Io Imports (C.LE), Millions of U.S, Daas 70 ns 1980 toss. 190 19982 Works 32R303 «902.375 RNHT.6SS— «2008692 3S@TIT ABN Developed countries 238319 GATS EAMES 1.3872 91406 271257 roping countries «GLAM 200-41 82.081 153101 "rsaas 043.197 omer 374 934 LOG m9 vwss02 O35 YT a Uni States Priore Janary 1992, nls Easiem Europe and the former USSR; bepining Jawary 192, inches Eastern Bape and the European cours the former USSR Source: 1992 fternational Trae Sais Year, Volume 1 {New York; Unite Nations, 195), p. 8 LLL indicates. from 1970 t0 1990, world trade expanded more than 10 times. The supporters of fee trace believe that free world trade is vital © their economic prosperity. Some, however, ‘would like to take advantage of the open mar kets of other countries without reciprocating ‘and allowing others free access to thei domes tic markets. A few countries have been fairly successful in such practices. The imposition of trade and nontrade restrictions has ereated fric- tion among the European countries, Japan, and the United States, The handling of such friction suggests the willingness of all to solve these problems in a mutually acceptable and amicable ‘manner, Of course, totally free world trade will ‘ot arrive overnight, but there is an inexorable movement toward the removal of most trade re- strictions and barriers. It may, however, take longer than most people anticipate. Meanwhile, certain transitory arrangements are already de- veloping. For example, Europe is preparing for ble, Full economic integration that would produce a market larger than the United States, The United States, Canada, and Mexico entered into the North American Free Trade Agreement (NAFTA), which eemoves most of the trade re- strictions among these countries and creates large free trade bloc. Similar events may occur inthe Australasian region. 2, The attitudes of many developing coun- tries toward MNCs and foreign direct invest: ment (FDI) have changed. Before the mid- 1970s, most developing countries took a dim view of FDI, Expropriation, the forced divest- ‘ment of foreign assets, was frequently used as a policy choice by many developing countries in their disputes with MNCs. After the mid-1970s, however the umber of expropriations declined dramatically, The large number of pre-1970s ex propriations has been attributed to certain prob- Jems that developing countries were experienc- ing. Among these problems were the lack of THE MANAGEMENT OF INTERNATIONAL BUSINESS administrative capability, the low level of eco- nomic development, and an inability 1 service Foreign debis.” As developing countries improved their eco nomic and political capabilities, the need for ‘ownership control through expropriation dimin- ished. Now they can achieve their objectives through taxation and performance requirement rather than by direct control. The changing att tudes of developing countries toward FDI have Ted some to argue that the attractiveness of for- eign investment is growing and its supply is de- creasing. Consequently. competition 10 attract FDI should escalate, and governments may out- bid each other with packages of investment in- ccentives and inducements.° This may result in increased international trade and may open pre viously inaccessible markets, 3. Hoping to duplicate the success achieved by Japan, Korea, and other Asian nations, many developing countries are adopting an export- oriented strategy of economic growth. The cir- ‘cumstances, however, under which Japan and, to some extent, Korea employed their export- oriented strategies have changed. During the pe- riod in which these countries engaged in an export-oriented strategy, the U.S. market ab- sorbed the bulk of their exports, As a result of a substantial trade deficit, the United States, once the largest creditor nation, was transformed into the largest debtor nation, Since this trend cannot continue unabated and the United States is de- termined to reverse it, other nations may not fully succeed in emulating Japan. Nonetheless, as more nations engage in export, international business and, along with it, international man- agement will gain prominence. Exportoriented. strategy, in part, involves MNCS’ participation. As Lecraw and Morrison have noted, in the mid-1980s, 30 percent of British, 30.3 percent of Japanese, and 40 percent of the US. imports were through intrafirm trade by MNCS.” As more countries view MNCS as an instrument for achieving this goal, we must un- derstand how these firms operate and how they ‘are managed, 4, Regional trade agreements and pacts are reducing trade restrictions among the members and increasing intraregion trade, Membership in regional trade agreements is on the rise. The ‘most notable trade agreements are the European Community (EC), the Association of South East Asian Nations (ASEAN), and the Andean Pact. ‘The EC members are the 12 Western European countries of Belgium, Denmark, France, Ger many, Greece, Luxembourg, Ireland, Italy Netherlands, Portugal, Spain, and the United Kingdom. The ASEAN countries are Brunei Indonesia, Malaysia, the Philippines, Singapore, and Thailand. Bolivia, Colombia, Ecuador, Peru, and Venezuela are members of the Andean Pact. NAFTA, when fully implemented, will create another bloc rivaling the EC and ASEAN, Some speculate that in the future three trad- ing blocks will dominate world trade, The first bloc is EC, with its present 12 members, which may expand (o include a few more nations. The second bloc is ASEAN with the expanded mem bership that could include Australia, India, and Japan, The third bloc is America, with the mem- bership of Argentina, Brazil, Canada, Chile Mexico, the United States, and Venezuela. ‘There could be relatively free or open trade Within these blocs as well as trade restrictions among them." A strategic response to such a scenario would be for the firms to have a foothold within each bloc or to form strategic al- liances with those that already operate within the blocs, Either case results in the expansion of the roles and scope of international manage- ment. 55, Recent technological developments, par- ticularly in manufacturing, have altered the nature of international business. Robotics, ‘computer-aided design (CAD), computer-aided manufacturing (CAM), and flexible manufac- turing have reduced production costs for most products. These technologies have also reduced the labor component of some products. AS a re- sult, the traditionally low labor cost countries heir competitive position, Therefore, STRATEGIC ASPECTS OF INTERNATIONAL MANAGEMENT — 9 wwe expect that these countries will ty 10 tap MNCS for technofogy transfer. 6. Competition for capital will inerease as demand rises. Demand for capital from Eastern European countries, along with those of the Commonwealth of Independent States (CIS) (various republics of the former Soviet Union), will likely intensify competition in capital mar ket, Another factor that has resulted in a rising ‘dermand for capital is the sovereign debt crisis of the 1980s, In the 1980s, heavily indlebled devel- oping countries experienced great difficulty in paying their debts. This resulted in a serious fi- rnancial strain on the American and European banks and financial institutions that had lent the ‘money. Ever since, these institutions have be- come more cautious, and private sources of eap- ital have become scarce and costly. Con- sequently, more countries are viewing the equity capital from MNCs as a viable alternative. This is another reason for the changing attitudes of developing counties toward MNCs. 7 Slowly but steadily. national borders are _Josing their effectiveness in dealing with MNCs, Although we are witnessing a rising national fervor among the subjugated people ofthe for mer Soviet bloc, simultaneously there is evi- dence that certain new developments are evolv- ing that dely traditional description. For example, in June 1992. a U.S. citizen, Ratti Ovanesian, became foreign minister of Armenia, One month later, another US. Milan Panic, was elected by the Yugoslavin's parliament as their premier. Furthermore, the top executives of some well-known American firms are foreign citizens. The ranks of reeen foreign executives in American corporations in cluded the vice chairman of Plizer from France, the president and chief executive officer of Esprit de Comp and the president and chief oper- ating officer of Unisys, both trom Switzerland, the vice president of worldwide purchasing. at feneral Motors from Spain, the executive vice President of Xerox from Italy.” and the head of McKinsey and Company, the prestigious con: sulting firm, from India For many years, Europeans firms have been preparing for a borderless market in which the nationalities of managers have no bearing on their selection and in which cross-national ca- reer advancement is a norm, Many well-known European firms regularly promote foreigners to their top executive ranks. Recently. for example, the head of Michelin-Okmoto, a Japanese sub- sidiary of Michelin of France, was a German, and Electrolux, a Swedish firm, had a French di- 8, The enormous investment required 10 support new technologies and research and de- velopment, and the increasing scale economies needed for an optimum operation, are com- pelling fiems to consider the whole world as a market, In many industries, even the largest and most resourceful firms cannot afford the enor- mous investments required. For example, the estimated 1 billion needed to develop a new aeneration of dynamig, random-aceess memory (DRAM) chips has forced International Business Machines to Form a joint venture with ‘Toshiba Corporation of Japan and Siemens AG of Germany.!" The immense operations and rmarketi technology prod- ‘sts of new ucts, along with other requirements, have been Forces behind the recent trend in in- creased internationalization, 9, International linkages among countries er degree of interdependency, characterized by an increasing volume of FDL Tables 1.2 and 1.3 illustrate the rising FDI dur- ing the 1965 to 1990 period. While the U.S. FDI hhas been increasing, other countries” invest- ‘ments in the United States have been on the rise as well, From 1965 (© 1990, the U.S. FDI in- creased nearly 10 times. In contrast, FDI in the United States expanded more than 40 times. By 1990, FDI in the United States. was almost equal (0 U.S. investments abroad. International linkages have been growing since World War I. It began with successive re- duction of international trade restrictions, which increased the world trade, The interdependency 10 THE MANAGEMENT OF INTERNATIONAL BUSINESS Table L2 US. Direct nvestnent Position Abron, 196 1963 1970 Toul a7 7878 Developed counties 29055 S385 Developing counties reise at International an vallested 2017 3586 eo en “Because of rounding of, gure may not ad up Million of US, Dollars 1715 1980 198s 1990) ra 38% 24.086 0323158, 172750 3IBS6 2 SRT SATA 77067 3951 sats "Foe 1965 data, Japan was inehuded nth developing cours cate. Source: US, Deparment of Commerce, Bureau of Esonomic Analysis. Survey of Curent Business (1966-1992) Wash ington, DC through trade was followed by financial integra- tion, which was aided by the recycling of the Organization of Petroleum Exporting Countries (OPEC) surplus during the 1970s. Now we are ‘experiencing the third phase of international linkage that often is referred to as globalization, Characteristics of this phase include FDIs made ‘by MNCs and the technological alliances among them. A large and growing portion of World trade involves intrafirm trade. For exam- ple, in the ease of the United States and Japan, ‘more than one-half of the total trade flow is re- lated to intrafim transactions." ‘Table 13 ‘These are signs of changing times and a lobalization of business. It is becoming very difficult, if not impossible, to identify the na- tional origin of many products. Today, products fare assembled from parts produced around the ‘world. When the U.S. government was ques tioning whether Honda automobiles had more than 50 percent of U.S. content, it became clear that General Motors, Ford, andl Chrysler were rot in a much better position, The issue of na- tional origin is becoming an intemational trade problem, Consider the following dilemma: Japan insists that products made by American Foreign Diretlavestment Postion inthe United States, 1965-1990 1965 All countries 8797 Canad 2388 Europe 6076 Sepan 8 Atstali, New Zealand and South Afren Latin Ameren Mid East Otes aa ecause of rounding ff, Figures may nota up. Mins of US. Dollars wom ums 1980198 1990 es 2762 6RISL—«URABIS 396-702 sasz 17330087 Wwsesa5q3 2113250973 Sas 933 LTS 36 3a 6677 2774 6950168916 2s) 4a 310106 35 3201 Source: US. Deparment of Commerce, Bureau of Economic Analysis. Suvey of Curent Business (1966-192) Wash ington, DC, STRATEGIC ASPECT corporations that are located in Japan should be counted yet Honda of America is claimed to be American. A similar problem arises when cars made in the United States by Japanese companies are exported 10 Europe, Should these cars be considered Japanese or American? ay. American-made. Imperatives of Globalization of Business In the Following section, I discuss the impera tives of globalization of business. Fist, I elabo- rate the need for going international. Then, 1 present theories of international trade and FDI Finally, within the framework of product life cy- cle, L explain the firm’s expansion into interna tional markets. Reasons That Businesses Expand Their Operations Abroad Intemational competition affects most busi- nesses and results in the globalization of many industries. The unprecedented information ex- aginable only a couple of decades eatly contributed to internation: competition. Technological developments have also reduced transportation costs. Consequently, physical distance between producers and con- sumers is no longer much of a competitive hin- Grance. Domestic firms with unique products or services, or with a competitive advantage, can ‘expand beyond their home market easily In today’s environment, going international is either an inherent extension of successful do- rmestic business operations or a requitement if the company isto remain competitive, Increased worldwide interdependencies, if continued at the present pace, will make intemationalization a requisite for survival. Until such atime, many ‘organizations will operate at national and inter- national levels as if they were totally indepen- dent. Given this crude assumption, scholars ar- ule about the motives and reasons for the intemnationalization of firms. Theories of inter national trade, FDI, and produtt life eycle have «attempted to explain reasons and motives for in S OF INTERNATIONAL MANAGEMENT 11 ternational expansion, ‘These theories provide the following explanations Theories of International Trade and Foreign Direct Investment International rade theorists propose that nations in from international trade (exports and im- ports). The gains are the consequences of ex- ploiting relative comparative advantages, which are derived from exporting those goods that a nation holds superior in production cost. This superiority could stem from natural resource en- dowments such as climate, quality of land, or differences in cost of labor, capital technology. tnd entrepreneurship. The opportunity cost plays an important role in comparative advan- lage, To produce one product a country has 10 sive up production of another product, and this entails an opportunity cost. Nations benefit from Intemational trade when they export produets that they specialize in, because they have the greatest comparative advantage, and then port those products in which they have the greatest comparative disadvantage. Theories of FDI suggest that four factors in- fluence the expansion of MNCs albroad: 1. Change in geographic horizon 2. Possession of an ownership-speeitic aa 3, Exploitation of the firm's internal market'* 4, Eifect of locational advantages on host coun- tries idvan- Change in geographic horizons As lirms grow and expan! abroad, under the influence of external and internal forces, their geographic horizons widen. The changes in their horizons tenable them 10 perceive the existence of inter- ‘national opportunities and stimulate them to ex- pand internationally Possession of an ownership-specific advan- tage Compared with local firms, MNCs face certain disadvantages, such as the lack of knowledge about the economic, political, legal, and social situations of foreign countries 12 THE MANAG! Geographic distance, currency exchange risks. and language barriers create further dificulties. ‘The established relationships among, domestic firms and their suppliers, customers, and the regulatory agencies put MNCs at an additional disadvantage, When a firm acquires @ global horizon and goes intemational, it ean benefit from investments in foreign countries if ithas an ownership-specific advantage, to offset the dis advantage of its foreignness. The ownership: specific advantage, which is also called strategic advantage, could be a patented technology. product differentiation, economies of scale, brand names, managerial skills, or possession of knowledge, Exploitation of the firm's internal market A firm's strategic advantage could be licensed, franchised, or traded to local firms. Therefore, ownership-specific advantage alone is not suffi- cient for a firm to go intemational, Internal or- ganizations) capabilities should allow for a more effective use of strategic advantages rather ‘han contractual agreements with other firms. Seattered throughout the firm, organizational ceapabilities that could employ the fim’s strate~ gic advantages better than outside customers are called the internal market. Specifically, the firm’s internal market can best exploit the strate gic advantages that are embodied in intermedi fate products. Some of these strategic advan- tages, such as knowledge and expertise, which ‘may ultimately result in a patent, could be best alized using the fim’s internal market. Unless such knowledge and expertise culminate jn produets, there is no ready market for them in their intermediate states. The creation of an in- temal market through international expansion ensures full exploitation of these strategic ad- vantages. Effect of locational advantages on host countries Building organizational capabilities and the use of strategic advantages through in- ternational expansion do not determine the loca- tion of foreign investment. MNCs must justify the choice of investment location. In which for- MENT OF INTERNATIONAL BUSINESS cign countries should MNCs expand? The an- swer is very simple, MNCs should locate their ‘operations in countries that offer certain loca- tional advantages, such as sources of raw mate- rials. large markets, or low-cost labor. Other factors Once a firm, for whatever reason, expands abroad there is the likelihood that it will develop scanning and learning capa- bility, Its presence in many markets enables the firm to locate alternative low-cost production soutees and new technologies, orto learn about market needs that could trigger new product de- velopment." In effect, scanning and learning capability enhances the firm's competitive ad- vantage. The worldwide presence could also be used as a competitive weapon and for cross- subsidization of markets. Taking the competi- tion head on by penetrating into their home turt forces foreign competition to allocate resources for defensive purposes. Subsidizing losses in fone market with funds from another profitable market could hamper the competitive position of rivals,” The penetration of rivals” home mar- kets and eross-subsidization could adversely af= feet the competition, Competition may suffer from vital cash drain, reduced income, and lost opportunities, This could impair the competi- tors’ abilities to expand into new markets. International Product Life Cycle ‘The international product life eyele, first pro- posed by Raymond Vernon'® and expanded upon by Adler and Ghadar"” suggests « se- {quential progress for the firm's expansion into an international market that follows the life ey- cle of products, Vernon proposed a three-stage model of product life cycle that was useful in explaining the expansion of post-World War IL manufacturing investment abroad. ‘The three stages proposed by Vernon are as follows: new product stage, mature product stage, and stan- dardized product stage. The model suggests that high-income, economically developed countries are the home for most new products and inno- STRATEGIC ASPECTS OF INTERNATIONAL MANAGEMENT 13 In the first stage, innovative firms in devel- ‘oped countries produce new proxlucts for the home market. Foreign markets, which are other high-income countries. are served through ex- Ports. At this stage, since produets are new, the Firms do not face serious competition. The maturity phase is the second stage. at which products have been perfected and suf ciently standardized. As more firms enter the ‘market, price competition forces firms to estab- lish- manufacturing facilities in other high- income countries 10 serve Foreign markets with local production, Heavy price competition characterizes the standardized product stage. The emphasis on price compels firms to move production to low= cost countries. The home market and other high- income countries are served by exports from these locations, The three-stage international produet life cy- cle is a useful model that explains internationa ization of firms for the 20-year period following World War Il. Technological developments, however, have accelerated the life cycle of prox ucts, whereby most produets become obsolete few years after introduction. Furthermore, the world has become an integrated market that re- Quires mass customization of products 10 meet Individual needs, According to Adler and Ghadar, we are now in the fourth stage of the international product life eycle. This stage is characterized by techno logical diffusion, the high cost of research and evelopment, a global market. mass customiza: tion of products, and intense compet firms from developed and newly devetopin; countries. In the first three stages, internationalization ‘vas in response to specific needs, such as mar- ket extension or low-cost production, Adler and Ghadar’s argument implies that in the fourth tage, firms internationalize because the demar- ccaton Fine between domestic and foreign mar- kets, for many manufactured products, is blu Ying. By the fourth stage, global market is the source oF new technology, capital, and other factors of production at low costs. Inte nationalization is not an extension of the previ- ges, but a stage onto itself. The diversity and resources of the global market, the immense consumer base, and the necessity of tapping them instigate FDI and international trade. Due To the unigue characteristics ofthis stage, global ‘operation is the only answer to the pressure of intense competition. As Adler and Ghadar as- sen. in the fourth stage top-quality, least-possile-cost products and services become the minimally acceptable standard. Competitive advantage comes from sophisticated global strategies ased on mass customization, Firms draw product ideas, as ‘vel as the actors and locations of production, from worldwide sources, Finns tailor final Products and their relationship ta clients to very discrete market niches ... the product. market, and price orientations of prior phases almost completely disappear, having been re: placed by a strategie orientation combining re sponsive design and delivery with quick, leas Possible-eost production. .. [AC this stage] Srtegic orientation requires firms to develop slobal R&D, production, and marketing net works ‘The preceding discussion highlights various reasons and motivations forthe internationaliaa- tion of the firm. I should add, however, that ‘ately is the decision to expand abroad based on a solitary reason or motive. The search for en- hhancing firms” competitive positions entices them to explore global opportunities. The more adaptable and successful firms usually venture into the uncharted waters of the global market ‘Once there, through first-hand experience, they learn about the expanse of the market and the variety of choices, The vista of the global mar- ket thus envisioned creates man to expand even further. ‘more reasons ‘Types of International Business Operations ‘The intemationalization pro ety of transactions and activ 14 THE MANAGEMENT OF INTERNATIONAL BUSINESS exports are two of the simplest forms of interna- tional business. The most complex form is man- ‘aging FDI abroad. These activities can be dit ferentiated based on the perspective of the activities oF the types of investment commit- ments." “There are two perspectives 0 intemational Dbusiness—inward-looking and outward-look- ing. These two perspectives are mirror images ff each other. The outward-looking activities have their beginning at home and their ending at 1 foreign market. Export is the least demanding of the outward-looking transactions, while es- tablishing operational facilities in a foreign country is the most difficult one. The inward- looking perspective covers a range of transac~ tions that start in a foreign location and end at home. It consists of imports at one end and the management of a wholly owned foreign sub- sidiary atthe other end, ‘As mentioned previously, the firm's interna- tionalization process begins when it starts to buy from, or sell to, foreigners. The most seri- fous aspect of the process, however, does not start until the firm commits resources to interna- tional activities. The type of foreign investment ‘commitment that a firm makes to intermational bbusiness could be analyzed across three dimen- sions, These three dimensions are scale of in- vvestment, type of partners, and ownership arrangement, The investment scale could be small or large. An example of small-scale in- vestment is opening a sales office abroad for exporting, while establishing a full-scale pro- duction facility abroad is an example of a large- scale investment. The ownership level could vary from minority ownership to wholly owned ‘operations. Partners in an international business could be from the local public, local govern- iment, private entities, or other foreign firms. Figure 1.1 illustrates that this typology creates 80 different potential forms. of international bbusiness.2? MNCs may choose a combination of these alternatives in their quest to capitalize on global opportunities available to them. In the following chapter, major international business ‘operations are described. The order of presenta tion follows an evolutionary view of interna tional business that begins with export and ends with FDL Export and Import When a firm explores whether to expand sibroad, the fist choice is export. Export and its tniteor image. import, require careful evaluation of the market and the establishment of cross- cultural relationships. The firm has to decide if it should directly export, use a local importer. or hire an export agent, The decision, of course. re ficcts the strategic capabilities of the firm. For firms without intemational experience, direct exporting may not be the best choice. Local middlepersons could be a better option for a first-time exporter. As the firm builds experience nd learns about the market, culture, and partic= lars of the environment, direct exporting be~ comes a feasible alternative. Exported products should offer local eus- tomer values above competing local products and those sold by other MNCs. An exporter in- ‘curs transportation costs and other costs associ- ated with operating in @ foreign country. Tarts, fexchange rates, and government supports that prolong the existence of inefficient local firms fre among the factors that may increase the inal price to customers. Exporters with a competitive ‘advantage that offset these costs could succeed in exporting. Falling transportation costs and new telecommunication technologies that re- duce the cost of information acquisition have re- duced the costs of exporting. However, costs re Jated to the differences in language, culture, and legal systems are major impediments to export- ing. Countertrade Countertrade is the exchange of goods for goods. In a countertrade, the exporting firm is required 10 purchase, from a country, all oF @ portion of the value of goods sold to it STRATEGIC ASPECTS OF INTERNATIONAL MANAGEME goverment parmer | | | | Seal ot Nc pore Map oanarnp Equa ‘nership ‘Maorty omerip Onnersrip Panmersnip| t Figure 1 Types of intratonal Business Operations Adepred wich permission ram PW, Beamish 1 P. Klin, Ridge, IL: B.D. tin tne 1990), 0 Countertrade is used to conserve hard curren: cies, help local businesses, and promote tech- nology transfer, [tis estimated that between 25 and 40 percent of the world’s exports are ‘through countertrade,”* Major types of counter- ‘rade are batter, counterpurchase, buyback, and switeh trading. Barter Barter is the oldest method of trade, | barter, countries exchange goods without the 'wse of money. The difficulty involved in a barter Lecren ane H. Cyvokll.atrnational Management (Burr is to agree on the rate of exchange For the prox= lets that are the subject of bartering. Counterpurchase The obligation by the exporter to purchase a certain amount of goods from the country when exporting to it is called counterpurchase. This obligation could be for all of the export value or a portion of it. Some important conditions to a counterpurchase that are negotiated are the timing, the duration, and the percent of countertrade, 2 RET ET EE 16 THE MANAGEMENT OF INTERNATIONAL BUSINESS Buyback ‘The exchange of output of plants ‘or equipment as the payment for goods or ser- vices rendered by an exporter is called a buy- back, Buyback could be for building a plant, lic ccensing of a trademark or patent, transter of ‘managerial know-how, of lending of capital, For example, Fiat of Italy built an automobile plant in Russia. The cost of constructing the plant was Partially paid with Fiat automobiles manufac- tured atthe plant Switehtrading The barter between three or ‘more countries in a circular fashion is switch- trading. An importer in country X, for example, Wants to import machinery from country Y in exchange for grains. Country Y does not need ‘arains and, at the same time, has a trade deficit (debt) with country Z as a result of a pervious import of oil from that country. If country Z ac- cepts grains from country Y to setle the oil ac- count with country X, in part ot totally, the switchtrading is complete. A switch specialist usually assists consummation of these transac furnkey Projects he design and construction of an operation and the training of personnel to run it could be con= tracted to an MNC. In return for setting up such 4 tumkey project, the MNC receives a. fee. ‘Tumkey projects usually involve large contracts such as the construction of chemical plants Pipelines, refineries, steel mills, dams, and elec. wie power plants Licensing Licensing is a contract between an MNC and a foreign firm. Under the terms of the licensing ‘agreement, the foreign company is allowed to produce products using the technology, patents, trademarks, manufacturing technologies, trade secrets, and other proprietary advantages of the MNC for a fee. The licensing agreement could be between an MNC and its foreign subsidiary Quite often, however, the licensing contract is between an MNC and a domestic firm, Licensing could be an attractive option because ‘of several reasons. It does not require much eap- ital, managerial resources. sand understanding of foreign market. Licensing permits the test mar- keting of products before direct investment, A small market could be exploited that otherwise Would have not been economical to enter. In licensing is the only option because ‘of the government restriction on imports and/or FDI International Joint Ventures A corporate alliance between an MNC and a lo- cal company or a foreign government, oF be- ‘tween two MNCS, in the ownership of a firm is called an international joint venture, It is beneti- to both partners. The local company bene fits from the technology transfer. and the MNC learns about the market through the partnership with a focal firm. It has the benefit of dampen ing nationalistic Fervor and antioreigner sent ‘ment in developing countries. The drawback is the difficulty of blending two different cultures in managing the venture. Cultural misunder- standings and differences in managerial styles sometimes lead to the breakup of the venture Otten, the consequence of such a breakup is the likelihood that the old pariner becomes 1 new ‘competitor. Direct Investment ‘The most demanding and! complex form of in- fernational business operation is direct invest. ment. It involves the ownership snd manage- ‘ment of physical facilities for producing goods in foreign countries, FDI could be a part of the firm's overall strategy or may be due to trade re- strictions imposed by foreign governments. To ‘overcome these restrictions. MNCs find it ad- vantageous 10 invest directly in a country and establish a subsidiary. When a firm establishes Produetion operation abroad, it creates a long- ferm commitment and obligation and assumes the associated risks and rewards. Having physi- cal facilites, such as the operation of s mine, STRATEGIC ASPECTS OF INTERNATIONAL MANAGEMENT 17 ‘manufacturing plants and equipment, and real estate, requires a higher level of financial and ‘human resources commitment. It constrains the firm to the vagaries of sovereign forcian gov emment and local market Forces. while also of. fering many opportunities. The size and scope of FDI and the choice of sirategies for expan sion abroad create diferent types of interna, ‘ional firms, Intemational management lexicon refers (0 these firms as international, multide, ‘mest, multinational, transnational, and global Different scholars have used each term to refer {0 a specitic type of international firm, In this book. we generally use the term international for all firms that expand abroad and cross the boundaries of their domestic market. For industry" idemtification, however, we distin. ish between multidomestic, international, and sslobal industries. We discuss the differences among them in Chapter 2. At this point, it suf, fices to know that global firms are those enter Prises that operate atthe global level and treat ‘the whole world as one market. International Business and International Management {ternational business deals with business activ ities and transactions that are earried out across ‘S80 oF more national borders. The management Of organizations that are involved in intema. tional business is called international manage- ‘ment. A couple of decades ago, only large and very resourceful firms could operate success- fully atthe international fevel. Although many international businesses still involve large-scale operations, recent improvements in technolon transportation, and communications have made the size less relevant ‘Small companies are using new technologies fo penetrate markets that previously were the domain of big business. The success of small firms is not limited to any particular industry or market. Semiconductors, medical equipment, laundry equipment, and wastewater treatment many industries that have al ‘owed small businesses to join their larger coun terparts in the global market. For example Sharper Finish, Inc., of Chicago, a maker of commercial laundry equipment, deals with 300 distributors in 30 countries, using madem com- ‘munication technologies. In 1991, 60 percent of ‘Sharper Finish’s $3 million sales were to over- Seas markets. Another example is Midwest Tropical. Inc. of Chicago, with annual sales of $8555 million. Tropical is earning half of its reve ‘enues from export.** Yet a third example is DSP Group. Ine., of San Jose, California, a producer of specialty semiconductors, with annual sales of $8 million, Nearly half of DSP's sales are to Japan. Albeit from diverse industries, what these firms had in common was an understand. ing that managing an international business op eration is different from managing a domestic firm. They were all effective in adapting to the ‘requirements of their foreign customers and the imperatives of the host country?” Most of U.S. management know-how, as Richman and Copen observed in the carly 1970s, if modified properly. is transferable to other environments." The assumption of uni versality of management concepts and practices, however, could result in utter failure in interna. tional business. In other words, there ane as many differences as there are similarities be ‘oveen the management ofan international enter. prise and a domestic business, The differences have less to do with the size ofthe assets, earn. ings. the complexity of technology employed oF number of employees, and more to do with environmental factors and cultural variations, International management involves greater en vironmental diversity, complexity, and uncer. tainty “than managing domestic’ operations Social, politica, legal, economic, and cultural Variations of multiple environments necessitate ‘more careful planning and preparation, as sell As greater diligence in implementation and con- ol. ‘When a firm ventures into international busi- ness, it leaves behind the familiar and tested business practices. Everything about forces that 18 THE MANAGEMENT OF INTERNATIONAL BUSINESS govern the market‘has to be learned anes, The ‘consumers, competition, suppliers, g labor market, capital market, and above all, cul- ture are all unfamiliar. While a domestic tim has to deal with only one set of rules regard market forces, an international operation re- {quires understanding of the interaction between all these forces in multiple markers, Although it may appear that going interna- tional is fraught with many problems and diff culties, atthe same time it offers many opportu: nities “not available in a purely domestic ‘operation. For example, one of the complexities of international business is doing business in multiple currencies. Exchange rates for foreign currencies fluctuate due to local and global eco- nomic forces. Two major forces affect the ex- change rate—supply and demand for foreign currency and clomestic conditions, such as the inflation rate, balance of payments, economic growth, and political factors. Exchange rate ‘Muctuation can ereate additional risk, while also opportunities, MNCs could use their iinique position of operating across national borders to benefit from favorable exchange rates, They could augment the benefits of Favor- able exchange rates with intrafirm business transactions to boost their profits. We now examine outstanding features of ‘managing intemational business operations that distinguish them from domestic businesses. Major Elements of Managing International Business Operations, ‘The management of intermational business and domestic operations is similar in that both re: quire the attainment oF organizational objec: tives through coordination of activities and the utilization of resources. They are different because of the differences in their respective environment and cultural settings. The diffe ence is also due to managerial attitudes and ‘mentality. International business has multi environmental, multicultural framework. The environmental and cultural diversity add more and uncertainty complexity to international business, which make managing such an opera- tion even more difficult. The difficulty of man- aging an international business operation is also ddue toa mismatch between the managerial men- tality and the progression of business from a do- ‘mestic 10 an international posture. When opera- tional and systemic transition from a domestic position to an international status is not aecom- panied by a commensurate change in manager- tal mentality, the fitm may not succeed in inter- rational competition, For example, a firm that has expanded to many markets and is dealing with people from many cultures can no longer operate with the mentality of a domestic com- pany. Ignoring the expanded role of the firm as ‘corporate citizen of multiple countries results in 9 tarnished image and operational restrie- tions. The consequence may ultimately be failure, Management View of International Business In the 1960s, some scholars suggested that the truly international firms could offer the best hope for creating world peace and improving economic conditions of the people, They were asserting that such firms, with supranational frameworks, could conceivably make wars less likely on the assumption that bombing cus- tomers, suppliers, and employees is in nobody's interest.” We are now witnessing the emer- nce of such supranational firms that could Fighily be called global. The executives of these firms have a global view and mentality. They fo- cus on worldwide and local objectives. They are slobally integrated and locally responsive. The relationship between headquarters and. sub- Sidiaries is based on mutual understanding and Support. Subsidiaries are neither satellites nor are they (otally independent. They always ask the question: “Where in the world shall we raise ‘money, build our plant, conduct R&D, and ere- ate and launch new ideas to serve our present and future customers?” OF course, not all firms that are engaged in international business have developed suprana: STRATEGIC ASPECTS OF INTERNATIONAL MANAGEMENT 19 tional frameworks and mentalities. There ap- Pears to be an eyolutionary pattern of intern tionalization that determines. the executives: state of mind. This state of mind pertains to the orientation of the executives toward foreign people, ideas, and resources, both at home and abroad. This attitude not only differentiates be- tween the executives of intemational and do- mestic firms. but also differentiates among ex- ecutives of MNCs. Perlmutter proposed that the degree of internationalization of a firm could be estimated by the mentality and orientation ofits executives." He identified three states of mind or attitudes toward key decisions on products, funetions, and geography. By supplementing the three-stage framework identified by Perl- mutter" with ideas presented by others.” the evolutionary process of multinational firms can be categorized in four stages, The four stages are ethnocentric (or home country mentality) polycentric (or host country mentality), eento. centric (or classical global mentality), and geo- supranational mentality). These stages represent managerial mentality and atti- ‘tudes ‘of MNCs, Ethnocentric mentality ‘The ethnocentric firm views foreign markets as an extension of the domestic market. t ascribes superiority t0 everything from the home country and inferior- ity to everything foreign. Products are produced for the home market and are exported abroad as an additional source of revenue. The firm heacl- quarters and affiliates are identified by the na- tionality of the home country. Key managerial Positions, both at the headquarters and at sub- sidiaries, are reserved for home country execu tives. A foreign assignment is not considered a very desirable appointment and does not ad- vvance the professional career of a manager. In short, an ethnocentric firm views itself as a do- mesic firm with foreign extensions, Polycentric mentality In a polycentric firm, the prevailing attitude is that foreigners are different and difficult to understand. ‘The as- Sumption, therefore, is that the management of foreign affiliates should be left to local people centric (or Products are produced for local consumption in facilites that are operated by host country per- sonnel, Headquarter’s control is exercised through financial reports, The firm could best be ‘characterized as a confederation of loosely con- nected, semi-autonomous affiliates. Although fon the surface it may appear that a polycentric firm, operating in multiple markets and acting as a Jocal company in every market. is highly in- ‘emationalized enterprise. That is far from the truth. In a polycentric firm, local managers are Not treated as equals to home country managers and are considered somewhat less trustworthy ‘and competent, They cannot aspire 10 a high-level executive position at the headquar- ters office. Consequently, local managers who detect the ignorance of the headquarter in man- ‘aging subsidiaries and resent the treatment they are receiving are pulled into a virulent ethno- centric mentality. Centocentric mentality The local respon. siveness of polycentric firms results in inefti cient operations. Attention to local markets and to the demands of local governments creates an infrastructure within each subsidiary that ignores internal market opportunities. Manu- facturing facilities are often underutilized and the full benefits of economies of scale are not realized Decreasing trade barriers and improvements, in telecommunication technologies and. trans- portation allow the use of classical global trate- sles, viewing the world as one market, We label such an attitude centocentric, Treating the world ‘as one market enables the firm to take advantage of economies of scale in design, manufacturing, ‘and marketing of produéts, and research and de- velopment. Products are designed and manutac- ‘ured, quite often, at home for the world market Centocentricfiems assume that nations are more similar in tastes and preferences than they are different. The assumption is that the differences could be made inconsequential by provid better quality products at lower prices compared with domestic products, Therefore, uniform Products could be produced at centers for distri 20. THE MANAGEMENT OF INTERNATIONAL BUSINESS bution to all, Centocentric firms require more central control than others. The headquarters office maintains control by assigning products or business managers with global responsibili- ties. The firm is still identified with the home country, and business managers ate nationals from the home country, as are other key execu tives. The home country culture and the culture of headquarters permeate the firm and all the subsidiaries. Only local managers who identify with the dominant culture of the headquarters are promoted to key positions. Important strate decisions are made at the headquarters, and subsidiaries are expected to implement them. Geocentric mentality The success of cen- tocentric MNCs and the power they exert on the Jocal market cause resentment and apprehen- sion, Central control over subsidiaries that dic tate major decisions from the home olfice and identification with the home country produce additional concems. To offset perceived power and:eontrol of global firms on the local market, host governments are restricting. their opera: tions, They also pressure MNCs for more local investment and technology transfer by enacting local content laws. Some governments demand changes in MNCS" personne! policies to allow for local representation on managerial ranks. Moreover, the global market is proving to be more heterogeneous than centocentric MNCs had assumed. The volatility of the global eco- nomic and political environment isan extra im- petus for global firms to become locally respon- sive, Add to all of this the improvements in manufacturing technologies that have enabled more efficient flexible manufacturing and smaller batch production, and the stage is set for Tocalized strategies, There are two simultaneous demands on lobal firms. On the one hand, they are expected to be locally responsive; on the other band, maintaining worldwide competitiveness re- quires a higher degree of efficiency, which is possible only with a globally integrated opera- tion. This gives rise to emerging geocentric firms. Geocentrie firms view themselves. as global companies with no geographic center, in Which no nationalities dominate the firm, Viewing the world as their home. geocentric firms strive for flexibility and efficiency glob- ally, Successful geocentric firms think globally ‘and act locally. ‘They integrate an interdepei dent network of decentralized and specialized ‘companies worldwide. Perhaps the best way to describe a geocentric firm is to look at the oper- ation of one, An example of a geocentric firm is ‘Asea Brown Boveri (ABB), global electrical systems equipment company, ABB started as a Swedish firm that later menged with a Swiss company and made Zurich its headquarters. ABB's annual revenues exceed $25 billion, and it employs 240,000 people around the world. It generates $7 billion in annual revenues from North America with 40,000 employees. It has 10,000 employees in India and 10,000 in South America, Percy Bamevik, president and chief executive officer of ABB, describes his com- pany as follows: ‘ABB is a company with no geographie center, ro national ax to grind, We are a federation of rational companies with a global eonrdination conte, Are we a Swiss company? Our head- ‘quarters isin Zurich, bat only 100 profession als work at headquarters and we Will notin umber. Are we a Swedish crease tha ‘company? I'm the CEO, and 1 was bora ia ‘Sweden, and onl to ofthe eight members of ‘our board of directors are Swedes, Perhaps we fre an American company. We report our racial results in U.S. dollars, and English is ABB's offical language. We conduct all high: level meetings in English My point is that ABB is none of those igs—and all of those things. We are not thi homeless, We are a company with many homes." MNCs and Host Government Relationships ‘The relationship between business and govern- ment has always been an area of considerable ‘concer, Governments, in their quest for eco: nomic development and social prog regulations that may restrict business activit STRATEGIC ASPECTS OF INTERNATIONAL MANAGEMENT 21 or affect earnings. Often. government economic Policies and social agendas do not coincide with the goals and objectives of business. In particu- Jar. governments are skeptical of the foreign subsidiaries that are controlled by headquarters outside the country. Influencing the strategies of such foreign affiliates is not as easy as influ cencing those of the domestic firms. They can, nonetheless, affect the local subsidiaries of MNCS througit their publie policy decisions. In Uealing with MNCs, the sovereign power of fovernment renders. objections from MNCs. ‘mute. This is not 10 say that governments al- ways have an upper hand in their dealing with MNCS. Usually, the ability of integrated MNCs to acquire capital, material, technology. and la- bor globally reduces the effectiveness of most ‘government policies Host governments would like foreign tims {o invest in the country, create jobs, facilitate technology transfer. and help with balance of payment through exports, Foreign firms with limited operations abroad are foreed to comply with government policies more readily. Their sibsidiaries are also ina better position for com pliance because they do not Face conflicting de. ‘mands of multiple governments, But integrated MNCS, due to the nature of their operations, ‘may not be able to respond favorably to host xgovemment demands. Demands of one govern. ment may differ trom the requirements of the other: For example, 10 eam hard currencies, ‘many developing countries are emphasizing ex. Ports. To give in to the pressure by one govern- ment to increase exports is 1 jeopardize the re- lationship with others. Morcover, the flexibility of globally integrated operation enables these MNCS to withstand the demands of local ermments by capitalizing on theie internal mar ket. Globally integrated MNCs could supple: Tent operational restrictions imposed on them in one country with inereased business in the ther countries, The preceding argument may give an exa, erated impression of the power and flexibility Of globally integrated firms. Host government relationships with MNCs are very complex and do not lend themselves (0 a simple generaliza- tion. For instance. itis true that reallocation of resources among subsidiaries, shifting produc tion between various locations, and the use of the firm's internal market are effective tools for foiling the unfavorable policies of a host gov= emment. If a host government applies serious pressure on the MNC with the implication of se- verely hampering its business. the MNC’s choices are few. The size of investment and the ‘commitment of MNC to a host country reduces its flexibility. FDL in plants, production equip- Tent. and physical laciltes that are not readily mobile reduces the flexibility of integrated strategies. at least in the short run, Accom- ‘modating the host government may be the Wisest choice in this ease Host government subsidies to domestic firms oor the use of the government's. purchasing Power to give preference 10 domestic firms could! create unfavorable business conditions for MNCs. Changes in tax laws, labor laws, repatri- ation of profits. and a host of other regulations and restrictions are sources of additional risk. Political risk inereases the cost of doing busi- ness abroad and makes FDI a challenging and demanding. proposition. Foreign. governments have had a history of such practices. The politi- cal risk of operating in a forcign country isa re= ality with which MNCs have 0 deal, Sudden and dramatic change in government policy t0- ‘ward FDI, though less frequent in recent years, isa distinet possibility that MNCs have to con: sider when going abroad. ‘The most troublesome feature of managing ‘across national borders is to deal with the public Policies of a home government that are in con. Hiet with host government policies. Complyin With the policies of either government could create legal problems for the executives. Consider the quandary of Caterpillar executives luring the construction of the Soviet pipeline to ‘Western Europe in the eaely 1980s. You may re- call that the U.S. government, to punish the Soviet Union for its expansionist policies, oF. 22. THE MANAGEMENT OF INTERNATIONAL BUSINESS dered Caterpillar 0 stop selling earth-moving equipment to the Soviet Union, Caterpillar ex- ecutives complied and stopped shipping equip- ment from its Peoria, Mlinois, plant. However, the French subsidiary of Caterpillat, under the conder of the French government, continued to deliver equipment tothe Soviets. Caterpillar ex- ecutives, although following the U.S. policies, ‘were not able to satisfy the mandate of the U.S. government. Host Country Business Environment Besides the complexity of relationships with hhost governments, MNCs have to deal with the local work force, domestic and international ‘competition, local suppliers, and customers that are different from those of the home country. The cultural difference is a major source of di ficulty for managing a global firm. Faced with multiple cultures, MNCs have to adjust and adapt their managerial practices to accommo- date, the idiosyncrasies of various cultures. Fluctuations inthe exchange rate ereate an addli- ‘ional burden for the MNCs. ‘These issues are discussed in Tater chapters, In short, managing an MNC is not managing a larger domestic firm. It involves a change in ‘management mentality and a greater attention to the requirements of doing business. The re- 4quitements of managing global firms stem from the variations of multiple environments of for- cign countries and the additional complexity of ‘operating across national borders Conelusion ‘This chapter explains why intemational busi ness and international management are impor- tant to us and why we should learn about them, It is suggested that the prolonged peace after World War II has changed the nature of interna: tional rivalry. The diminishing threat of large- scale military conflict among the superpowers has shifted the emphasis from military sa- premacy to economic competition. The chang- attitudes of nations toward global relation- ships facilitate increased international business. ‘Therefore, an understanding of the concepts and theories of international business and manage ‘ment has gained added importance ‘To learn about international management, we ‘examine the question of why businesses intema- tionalize, Included in our examination are theo- ries of imtemational trade, theories of FDI, and international product life cycle. International business operations cover a specirum of activities, from exporting to direct investment. Various types of these operations are explained. It is proposed that the manage- ‘ment of these varied business operations is not the same as those of domestic business. The dif- ferences between international management and management of domestic business are due to the complexity of the international environment Intemationalization of the firm not only is ex- pansion of the operations abroad but also a change in management mentality. The manage- ‘ment view of international business is catego- rized into four stages: ethnocentric, polycentric, centocentric, and geocentric ‘The business-host government relationship is ‘a major source of difficulty for MNCs. The flex- ibility and resourcefulness of integrated global firms, when paired with the sovereign power of «host government create a challenging and de- manding proposition for management. Other factors that make international management dif ferent from that of managing domestic opera tions are cultural differences and currency ex- change fluctuations, These issues are covered in other chapters. Discussion Questions ‘Why is it important to learn about interna tional management? 2. What factors contribute to the increased role of international business in our lives? 3. Explain the reasons for fiems” international expansions 4. Raymond Vernon proposed a three-stage in- ternational product life eycle. Deseribe

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