978-0134200057 Chapter 13 Lecture Notes

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CHAPTER THIRTEEN

COUNTRY EVALUATION AND SELECTION

OBJECTIVES

13-1 Elaborate on the significance of location in IB operations

13-2 Illustrate why comparing countries through scanning is important and how it

connects to final location choices

13-3 Discern major opportunity and risk variables and how to prioritize and relate them

when deciding whether and where to expand abroad

13-4 Summarize the sources and shortcomings of comparative country information

13-5 Explain alternative considerations and means for companies to allocate resources

among countries

13-6 Recognize why companies make noncomparative decisions when choosing where to

operate abroad

CHAPTER OVERVIEW

The country evaluation and selection process determines the geographical opportunities

firms choose to pursue. Chapter Thirteen first discusses the challenges of marketing and

production site location. It goes on to carefully examine the process by describing the

choice and weighting of variables used for opportunity and risk analysis as well as the

inherent problems associated with data collection and analysis. The chapter then

introduces the use of grids and matrices for country comparison purposes, discusses

resource allocation possibilities, and concludes by noting the different factors considered

as part of start-up, acquisition, and expansion decisions.

CHAPTER OUTLINE

OPENING CASE: Burger King

[see Fig 13.1]

In 2016 Burger King Worldwide (referred to hereafter as Burger King) was the world’s

largest flame-broiled fast-food hamburger chain. Beginning in the early 1960s the

company expanded internationally to the Bahamas and Puerto Rico. Then it entered

Europe, Asia, and Latin America in the 1970s. Some of its international moves turned out

to be highly successful, and a few did not. In seeking new places to enter, Burger King

looks most favorably at countries with large populations (especially young people), high

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consumption of beef, availability of capital to franchisees for growth, a safe pro-business

environment, growth in shopping centers, and availability of a potential franchisee with

experience and resources. Recently its model has been to grant franchise rights by pairing

a private equity firm with an experienced restaurant operator in a joint venture (JV). In

some cases, Burger King has become the third party in the JV without committing capital

to it. The possibilities in the BRIC countries are too great to ignore. Burger King opened

its first Brazilian and Chinese restaurants in 2004. While Burger King has had success in

both these countries, it has been able to expand much faster in the former due largely to

its recognition advantage in Brazil. Burger King’s recent growth in its U.S. and Canada

region has lagged its growth elsewhere. Burger King is planning unprecedented

expansion. The fact that some of its competitors have expanded abroad much more than

Burger King may indicate that it has untapped international potential.

I. THE IMPORTANCE OF LOCATION

The adage that “location, location, and location” are the three most important factors

for business success rings true for IB. The world has a bit more than 200 countries,

each offering distinct opportunities and risks. Because companies have limited

resources, they must be careful in choosing among countries when making the

following decisions: (1) the location of sales, production, and administrative and

auxiliary services, such as R&D, (2) the sequence for entering different countries and

(3) the portion of resources and efforts to allocate to each country where they

operate.

II. COMPARING COUNTRIES THROUGH SCANNING

Managers use scanning techniques to examine and compare countries on broad

indicators of opportunities and risks.

A. Why Is Scanning Important?

Scanning is like seeding widely and then weeding out; it is useful insofar as a

company might otherwise consider too few or too many possibilities. However,

comparison among countries is not always practical.

B. Scanning Versus Detailed Analysis

1. Step 1: Scanning. Through the use of scanning, decision makers can

perform a detailed analysis of a manageable number of geographic

locations. Managers can usually complete the scanning process without

having to incur the expense of visiting foreign countries. Instead, they rely

on analyzing information found on the Internet and other publicly available

sources, as well as communicating with people familiar with the foreign

countries they are interested in.

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2. Step 2: Detailed Analysis. Once managers narrow their consideration to the

most promising countries, they need to compare the feasibility and

desirability of each. The more time and money companies invest in

examining an alternative, the more likely they are to accept it regardless of

its merits—a phenomenon known as escalation of commitment. Companies

should be careful about taking forced actions based on peer and/or media

pressure and should instead carefully weigh important variables when

comparing countries of interest.

III. OPPORTUNITY AND RISK VARIABLES

Managers should consider country conditions that could significantly affect success

or failure. These conditions should reveal both opportunities and risks.

1. Opportunities: Sales Expansion

Sales expansion is probably the single most important motive for international

business. It is often difficult to estimate sales potential in a new market, and

managers may have to rely on sales of similar or complementary goods, or use

economic or demographic data to estimate market potential.

1. Examining Economic and Demographic Variables. Some primary

considerations when examining economic and demographic variables

include:

Obsolescence and leapfrogging of products

Demand for necessities versus discretionary products

Substitution

Income inequality

Cultural factors and taste

Existence of trading blocs

2. Opportunities: Resource Acquisition

When undertaking IB to secure resources (e.g., labor, raw materials,

knowledge), companies are limited to those locales that likely have what they

want, such as securing petroleum only where there are prospective reserves.

1. Cost Considerations. Total cost is made up of numerous sub-costs

that need to be considered. Many of these are industry or company specific,

which must be examined in the detailed onsite visitations. Several costs that

apply to a large cross section of companies are outlined below.

a. Labor. Labor compensation remains an important cost for most

organizations. In the scanning process, factors such as labor market size,

labor compensation, minimum wages, customary and required fringe

benefits, and unemployment rates can be used for comparison. When

companies move into emerging economies because of labor cost

differences alone, their advantages may be short-lived. Competitors

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often follow leaders into low-wage areas, there is little first-mover

advantage for low-labor-cost production migration, and the costs can rise

quickly because of pressure on wage or exchange rates.

b. Infrastructure. Poor internal infrastructure and social services may

easily negate cost differences in labor rates. In many developing

countries, infrastructure is both poor and unreliable, which adds to

companies’ cost of operating.

c. External Connections. The need to integrate operations among

countries influences location decisions

d. Governmental Incentives and Disincentives. Countries often compete

to attract investors, offering incentives such as lower taxes, training of

employees, loan guarantees, low-interest loans, exemptions on import

duties, and subsidized energy and transportation costs. There may also be

disincentives such as taxes, labor conditions, and environmental

compliance. Government corruption may also be present and represent a

disincentive.

C. Risks

Is it ever rational for a firm to invest in a country with high economic and

political risk ratings? Such questions must be carefully weighed when making

international capital-investment decisions.

1. Factors to Consider in Analyzing Risk. There are a number of factors to

consider when analyzing risk:

Companies and their managers differ in their perceptions of what is risky

One company’s risk may be another’s opportunity

Companies may reduce their risks by means other than avoiding

locations

There are trade-offs among risks

Risks may occur for suppliers and within suppliers’ supply chains

2. Political Risk. Political risk reflects the expectation the political climate in

a given country will change in such a way that a firm’s operating position

will deteriorate. It relates to changes in political leaders’ opinions and

policies, civil disorder, and animosity between a home and host country.

When evaluating political risk, decision makers refer to past patterns in a

given country, expert opinions, and country analysts. They also look for

economic and social conditions that could lead to political instability, but

there is no consensus as to what constitutes dangerous instability or how it

can be predicted.

a. Analyzing Past Patterns. Predicting risk based on past patterns can

be problematic in that situations change. Also, the overall situation in a

country may mask political risks with the country.

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b. Evaluating Opinions. Managers should study the statements made by

political leaders and access political polls to attempt to determine the

likelihood of a candidate gaining political office. Managers should visit

short-listed countries for a cross-section of opinions. Analysts and

commercial political risk assessment services can also be used.

c. Examining Social and Economic Conditions. Countries’ social and

economic conditions may lead to unrest if large sectors of the population

have unmet needs. Frustrated groups may disrupt business and destroy

property. Foreign leaders may place blame on foreign companies.

3. Foreign Exchange Risk. Companies may be affected by either changes in

exchange rates or ability to move funds out of a country.

a. Exchange Rate Changes. Changing exchange rates may be a benefit

or a disadvantage, depending upon the direction of the change and if the

firm is seeking to sell or acquire resources. If the U.S. dollar depreciates it

makes American products abroad; however, it will cost firms more to

acquire foreign resources.

b. Immobility of Funds. When a company exports to or invests in a

foreign country, it prefers international mobility of its sales receipts,

earnings, and capital there. Without the mobility, many firms either forgo

operations or expect a higher rate of return there than elsewhere.

4. Natural Disaster Risk. Natural disasters and debilitating diseases upset

operations and are spread unevenly around the world.

5. Competitive Risk. The comparison of likely success among countries is

largely contingent on competitors’ actions. Four competitive factors that

should be considered when comparing countries are discussed below.

a. Compatibility for Companies’ Operations. Companies are highly

attracted to countries that are located nearby, share the same language, and

have market conditions similar to those in their home countries.

a. Diversification of Locations. Operating in economically diverse

countries whose business cycles are not highly interrelated may enable

companies to smooth their sales and profits, which, in turn, is an advantage

in raising funds.

c. Following Competitors or Customers. Companies may also

reduce risk by avoiding overcrowded markets, or conversely, they may

purposely crowd a market to prevent competitors from gaining advantages

therein that they can use to improve their competitive positions elsewhere, a

situation known as oligopolistic reaction. Firms may also seek “clusters”

of competitors (also known as agglomeration) that attract multiple

suppliers, customers, and highly trained personnel in order to gain access to

new products, technologies, and markets. One example of this would be the

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computer firms clustered in California’s Silicon Valley.

d. Heading Off or Avoiding Competition. A company may try to reduce

competitive risk by either getting a strong foothold in markets before

competitors do or by avoiding strong competitors altogether. A company’s

innovative advantage may be short lived. When pursuing a strategy known

as imitation lag, a firm moves first to those countries most likely to adapt

and catch up to the advantage. In some instances firms may seek those

countries where they are least likely to confront significant competition; in

others, they may gain advantages by moving into countries where

competitors are already present. By being the first major competitor in a

market, companies can more easily gain the best partners, best locations,

and best suppliers—a strategy to gain first-mover advantage.

D. Analyzing and Relating the Opportunity and Risk Variables

Two common tools for analyzing information collected via scanning are grids and

matrices.

1. Grids [see Table 13.1]

A grid can be used to make country comparisons according to a wide variety of

relevant factors, such as ownership rules, potential returns, and perceived risk.

Variables can be ranked and weighted according to specific criteria that reflect a

firm’s situation and objectives. Although useful for establishing minimum scores

and for ranking countries, grids often obscure interrelationships among

countries.

2. Matrices [see Fig 13.3]

One matrix frequently used when doing country comparisons is the

opportunity-risk matrix. When using this matrix, the manager plots a country

according to the perceived value of the opportunity the country offers, on the

one hand, and the expected level of risk associated with operating in that country

on the other. Factors that are good indicators of risk and opportunity and the

weight assigned to each must be identified and assigned by the firm. Once

scores are determined for each country being considered, they can be plotted and

reviewed from a comparative perspective. A useful application of this technique

is to develop both present and future scores for countries (e.g., five years hence)

because a significant shift in a score in the future could have serious

implications with respect to the country selection process.

IV. SOURCES AND SHORTCOMINGS OF COMPARATIVE COUNTRY

INFORMATION

Firms perform research to reduce uncertainties in their decision processes and to

assess their operating performance. The costs of data collection should always be

weighed against the probable payoffs in terms of revenue gains or cost savings.

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A. Some Problems with Research Results and Data

Numerous countries have agreed to standards for collecting and publishing

various categories of national data. However, the lack, obsolescence, and

inaccuracy of data on other countries can make research difficult and expensive

to undertake.

1. Inaccurate Information. We list six basic reasons why reported

information may be inaccurate:

a. Governmental resources may limit accurate data collection

b. Governments must depend on estimates and revisions

c. Governments may omit or purposely publish misleading information

d. Respondents may give false information to data collectors

e. Official data may include only legal and reported market activities

f. Questionable methodology may be used

2. Noncomparable Information. Comparability problems result from

definitional differences across countries (e.g., family categories, literacy

levels, accounting rules), differences in base years, distortions in foreign

currency conversions, the measurement of investment flows, the presence of

black market activities, etc.

B. External Sources of Information

Apart from the Internet, the most costly sources are marketing research and

consulting companies, but the advantage is that they can target more closely

what companies want. Some of the major Internet sources are prepared by

service companies, government agencies, international organizations, and trade

associations. In any case, it is wise to know how sources generate their

information and, in the case of those offering advice (e.g., a risk-assessment

company), what their past success rates have been.

C. Internally Generated Data

When firms have to conduct studies in foreign countries, they may find

traditional data gathering and analytical methods do not reveal critical insights.

In that case, a researcher must be extremely imaginative and observant. In some

instances, useful information may be found by analyzing indirect or

complementary indicators.

POINT—COUNTERPOINT:

Should Companies Operate in and Send Employees to Violent Areas?

POINT: Where there’s risk, there are usually rewards. Companies need to take risks, as

they have in the past, to develop markets. Violence is only one of many risks and should

not be looked at in isolation. Risks from activities such as terrorism are the same whether

you are in London, Madrid, Caracas, or New York. All areas have their risks, and many

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countries traditionally viewed as risky may actually be less risky than the United States or

England. Some industries, such as petroleum, have to operate in violent areas because

that is where the resources are. MNEs should operate anywhere there are opportunities,

and develop plans to manage and react to risks as effectively as possible.

COUNTERPOINT: MNEs should not make investments in violent areas because it puts

MNE personnel at risk. MNEs are visible and therefore vulnerable to attack by

anti-globalization groups, kidnappers, and groups opposed to foreigners, as well as

others. It is unethical to put employees in excessively dangerous situations. Employees

who will take dangerous assignments are usually either difficult to control, excessively

naïve, or addicted to the thrill of danger. Any country subject to extreme violence is not

the kind of country to do business in.

V. ALTERNATIVES FOR ALLOCATING RESOURCES AMONG LOCATIONS

We now examine three complementary strategies for international expansion:

alternative gradual commitments, geographic diversification versus concentration,

and reinvestment

A. Alternative Gradual Commitments

Companies favor operations in countries similar to their home country.

Nevertheless, there are alternative means of risk-minimization expansion patterns

that can be undertaken as seen in Fig 13.7. A company does not necessarily move

at the same speed along each axis. A slow movement along one axis may free up

resources that allow faster expansion along another.

B. Geographic Diversification versus Concentration

A firm may take different paths en route to gaining a sizable presence in most

countries. At one end of the spectrum is a diversification strategy, whereby a

firm moves rapidly into many foreign countries and then gradually builds its

presence in each. At the other end of the spectrum is a concentration strategy,

whereby a firm moves into a limited number of countries and develops a strong

competitive position there before moving into others. There are, of course,

hybrids of the two strategies—for example, moving rapidly to most markets but

increasing commitment in only a few. The following are the reasons for using one

strategy versus the other.

Need for Rapid Growth in Country

Competitive Lead Time

Need for Product, Communication, and Distribution Adaptation

Program Control Requirements

C. Reinvestment and Harvesting

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Once a firm makes an initial investment, it will then need to decide whether to

continue investing in that operation or to harvest the earnings (and possibly

divest the assets) and use them elsewhere.

1. Reinvestment Decisions. Reinvestment refers to the use of retained

earnings to replace depreciated assets or to add to a firm’s existing stock of

capital. Aside from competitive factors, a company may need several years

of almost total reinvestment (and often allocation of additional funds) in

order to realize its objectives at a given location.

2. Harvesting. Harvesting or divesting refers to the reduction in the amount

of an investment; a firm may choose to simply harvest the earnings of an

operation or divest the assets there as well. If an operation no longer fits a

company’s overall strategy, or if better opportunities exist elsewhere, it must

determine how to exit that operation. When selling or closing facilities,

firms must consider possible government performance contracts as well as

potential adverse publicity, plus the possible difficulty in re-establishing

operations in that country in the future.

VI. NONCOMPARATIVE DECISION-MAKING

One might expect companies to maintain a storehouse of ranked foreign operating

proposals, undertaking the best, second best, etc. until they could make no further

commitments, but this is usually not the case. They make go-no-go decisions by

examining one opportunity at a time and pursuing it if it meets some threshold

criteria.

LOOKING TO THE FUTURE:

Conditions That May Cause Prime Locations to Change

Demographers expect a slowing in the growth of global population through 2050, with

some countries experiencing declining populations, particularly in developed, and the

most robust growth in developing economies, particularly those in sub-Saharan Africa.

Given the importance of population size for sales potential, these changes, if they

materialize, will be profound. Further, because the world’s population will continue

to age and people will pursue education for more years, the share of what we now

consider the working-age population should fall for developed countries and increase in

many developing ones. As a result, the growth in per capita GDP should be higher in

today’s developing economies than in today’s developed countries unless we redefine

working age. If these demographic changes occur, they will affect the location of both

markets and labor forces. An intriguing possibility is the near-officeless headquarters for

international companies as technology allow people to communicate without traveling as

much.

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