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PART 4
ENTERING AND WORKING IN INTERNATIONAL MARKETS
CHAPTER 15
LICENSING, FRANCHISING, AND OTHER CONTRACTUAL STRATEGIES
Instructor’s Manual by Marta Szabo White, Ph.D.
I. LECTURE STARTER/LAUNCHER
■ This chapter discusses types of contractual relationships and their role in international
business. Coverage is given to licensing and franchising, and other arrangements as well.
Much of the focus is on intellectual property, and what managers should do to protect it.
Students learn that licensing, franchising, and other types of contracts are common in
international business.
■ Ask students to name companies that franchise or license their services abroad. Students in
the United States may be surprised to learn that one in every 12 retail establishments is a
franchise business. Students will probably name McDonald's, Subway, KFC, and Starbucks as
examples of franchise store organizations. You can ask students to quickly research those
companies to verify that they have used franchising arrangements as part of their international
expansion. For example, McDonald’s has far more restaurants abroad than they do in their
home market, the United States. This can be verified at the McDonald’s website,
www.mcdonalds.com. KFC is one of the leading franchisors in China.
■The national origin of some popular brands might surprise students. Indeed, a review of annual
reports from 120 of the largest multinational food companies revealed that at least half engage
in some form of international product licensing. Source: Dennis Henderson, Ian Sheldon, and
Kathleen Thomas, “International Licensing of Foods and Beverages Makes Markets Truly
Global,” FoodReview (September, 1994): 7–12. Ask students to compare this 1994 data with
current statistics.
■ Here are some examples of licensing agreements:
■ Planters and Sunkist are brands owned by U.S. companies and sold in Singapore and the
United Kingdom through licensing agreements with local companies.
■ Kit Kat chocolate bars are owned by Switzerland’s Nestlé and distributed in the U.S. through
a licensing agreement with Nestlé’s competitor, Hershey.
■ Game shows such as Price Is Right and Family Feud are owned by FremantleMedia, a
United Kingdom company that licenses these programs for broadcast around the world.
■ Evian bottled water is owned by the French company Danone, but it is licensed to the
Coca-Cola Company in the United States.
■ Caterpillar, the earth-moving equipment company, and Harley Davidson, the motorcycle
company, license their trademark names to a Michigan footwear company called Wolverine
World Wide, which produces boots and fashion footwear using the Cat and Harley brands,
under strict specifications from those two companies.
■ You can explain to students that the overall category of entry strategy addressed in this
chapter is contracts relationships, with licensing and franchising agreements as two of the most
common types. A franchise agreement allows a franchisee, or in this case, the host country firm,
the right to use an entire business system provided by the franchisor.
■ Franchisors include many types of service firms, such as rental car companies, document
delivery companies, muffler shops, retail clothing stores, and cosmetics stores. Franchising
allows such businesses to internationalize rapidly and efficiently.
■ Contractual agreements involve a moderate level of risk and return, compared to exporting,
which has relatively lower risk and lower returns, while foreign direct investment may involve
higher risk and higher returns.
■ The instructor may draw on the board a graph, with the horizontal axis representing risk or
cost, and the vertical axis representing potential return, and a diagonal, gradually rising line
showing a positive direct relationship. "Exporting" would appear on the far left of the line,
"foreign direct investment" on the far right side of the line (in the upper right corner), "joint
venture” just a bit to the left of foreign direct investment, and "contractual arrangements"
somewhere between exporting and joint ventures. This will show the generally linear
relationship between risk and return of these four types of entry strategies.
II. LEARNING OBJECTIVES AND THE OPENING VIGNETTE
LEARNING OBJECTIVES
After studying this chapter, students should be able to:
15.1 Explain contractual entry strategies
15.2 Understand licensing as an entry strategy
15.3 Describe the advantages and disadvantages of licensing
15.4 Understand franchising as an entry strategy
15.5 Explain the advantages and disadvantages of franchising
15.6 Understand other contractual entry strategies
15.7 Understand infringement of intellectual property, a global problem
Key Themes
■ In this chapter, there are seven themes:
[1] Contractual entry strategies
[2] Licensing as an entry strategy
[3] Advantages and disadvantages of licensing
[4] Franchising as an entry strategy
[5] Advantages and disadvantages of franchising
[6] Other contractual entry strategies
[7] Infringement of intellectual property: A global problem
■ The key themes in Chapter 15 are the nature of contractual relationships, the various types,
advantages and disadvantages, and what managers might do to mitigate the risks of these
contractual arrangements. While most of the discussion is about licensing and franchising, other
contractual strategies are also discussed, such as turnkey contracts, build-operate-transfer
arrangements, management contracts, and leasing. Finally, there is a discussion about
managing these arrangements, with an emphasis on intellectual property protection.
Major Topics include:
1. Contractual entry strategies in international business grant foreign partners permission to
use the focal firm’s intellectual property in exchange for a continuous stream of payments.
Licensing grants a firm the right to use another firm’s intellectual property for a specified period
of time in exchange for royalties or other compensation. Franchising allows one firm the right to
use another’s entire business system in exchange for fees, royalties, or other forms of
compensation. A royalty is a fee paid to the licensor at regular intervals to compensate for the
temporary use of intellectual property.
2. Advantages and disadvantages of licensing
Licensing’s main advantage to the licensor is it does not require substantial capital investment
or physical presence in the foreign market.
3. Advantages and disadvantages of franchising
Franchising allows franchisees to gain access to well-known, well-established brand names and
business systems, allowing them to launch successful businesses with minimal risk. The
franchisor can rapidly internationalize by leveraging the drive and knowledge of local
franchisees but risks disseminating its intellectual property to unauthorized parties.
4. Other contractual entry strategies
Under build–operate–transfer (BOT) arrangements, the firm contracts to build a major facility,
such as a power plant, which it operates for a period of years and then transfers to the
host-country government or other public entity. In turnkey contracting one or several firms
plan, finance, organize, and manage all phases of a project which, once completed, they hand
over to a host-country customer. Management contracts occur when a company contracts with
another to supply management know-how in the operation of a factory or service facility, such
as a hotel. With leasing, the firm rents machinery or equipment, usually for a long period, to
clients located abroad.
5. Infringement of Intellectual Property: A Global Problem
Infringement of intellectual property rights takes place through counterfeiting and piracy,
which cost companies billions of dollars per year. Several hundred billion dollars worth of
counterfeit and pirated goods cross-national borders every year. The Internet facilitates much
piracy worldwide. Counterfeiting affects many of the most well known MNEs, hurting company
performance by eroding competitive advantage and brand equity.
6. Guidelines for protecting intellectual property
Managers must proactively safeguard their proprietary assets by registering patents,
trademarks, and other assets in each country and minimize operations in major counterfeiting
countries and countries with weak intellectual property laws. Managers must also train
employees and licensees in the proper legal use of intellectual property and vigilantly track
down and prosecute violators.
Teaching Tips
■ The chapter includes many excellent examples of contractual arrangements, and the
instructor can take advantage of them by asking students to research them further. Students
learn that, in certain industries, licensing, franchising and other contractual arrangements are
popular internationalization strategies.
■ For example, ask students to research how McDonald’s Corporation has expanded
internationally. In some cases, McDonald's has developed company-owned stores. In other
countries it has used the franchising model. Ask students to think about why McDonald's chose
these different formats in different countries. They might mention that in Russia in 1990,
McDonald's wanted significant control of its first restaurant in that country, and agreed to form a
joint venture with Russian partners. Ask students to update McDonald’s story in Russia.
■ Ask students to research companies in their city, metropolitan area, or region that have
expanded internationally using a contractual agreement. For example, many manufacturing
companies have entered into manufacturing contracts with contractors in China, Eastern Europe
and Mexico. These latter firms manufacture products to the specifications of the focal firm,
either for export back to the focal firm’s country, for export to third countries, or for sale in local
markets. Students can research companies using www.Hoovers.com, Standard & Poor’s,
Merchant Online, and company websites to learn about their experience using contracts for
internationalization. They can also find articles in the business press, including the Financial
Times, Wall Street Journal, and Business Week that discuss the ventures.
Commentary on the Opening Vignette:
HARRY POTTER AND THE MAGIC OF LICENSING
Key message
■ This vignette highlights the pros and cons of contractual agreements using the Harry Potter
(www.harrypotter.warnerbros.com) merchandising licensing example. Media giant Warner
Brothers purchased exclusive licensing rights to the series, produced and released 8 Harry
Potter movies, all of which rank among the 30 top-grossing films of all time. Potter books have
sold more than 400 million copies in 68 languages in more than 200 countries. The final film,
Harry Potter and the Deathly Hallows—Part 2, was the highest grossing movie of 2011.
■ Warner licenses with many types of companies worldwide to use Potter-related images on
manufactured products like game software, children’s furniture, school supplies, toys, and
clothing in exchange for a royalty, a percentage of the sale generated by the licensed product
that the manufacturer pays to the licensor. The ability to associate these images with
manufactured products greatly increases the products’ sales potential and allows them to
command high prices.
■ Licensing deals (and book sales) have made author J.K. Rowling one of the wealthiest
women in the United Kingdom.
Examples of Harry Potter product and service licenses:
●Artifacts - products seen in the films that do not have Harry’s name on them. ●California’s
Jelly Belly Candy Company created Harry’s favorite candy, Bertie Bott’s Every Flavour Beans,
in flavors such as earwax and sardine.
●LEGO makes construction kits for kids to build their own Hogwarts castle
●Mattel makes Harry Potter toys, including card games; play sets, chess sets, and action
figures.
●Electronic Arts (EA), the popular software game producer, paid Warner for a license to
develop and market video games played on the Internet, video game consoles such as Sony’s
PlayStation, and cell phones.
● Quidditch is like aerial polo with contestants flying on broomsticks
● EA (2009) released the video game version of Harry Potter and the Half-Blood Prince,
selling millions of copies worldwide.
●Goodwin Weavers, a home furnishings company, produces Potter tapestry throws, wall
hangings, decorative pillows, “pillow buddies,” and fleece.
●P.J. Kids made a line of Potter beds that sold extremely well despite a price tag of nearly
$2,000, demonstrating the magic of licensing a popular brand.
●Universal Orlando Resort in Florida- the theme park attraction, The Wizarding World of Harry
Potter.
Uniqueness of the situation described
■ The licensing process has been self-generating—each new Harry Potter book yielded a
movie, which boosted book sales, which promoted sales of Potter-licensed products and
services. Warner reports the top markets for Potter-licensed products are the United States,
United Kingdom, Germany, Japan, France, South Korea, Russia, and China.
■ Warner's licensing of Harry Potter has advantages and disadvantages. Warner uses restraint
by not licensing to just any firm to protect the Harry Potter brand and minimize overexposure.
They have generated 300 product licenses in the United States alone.
■ Nevertheless, there are dangers of piracy, if firms in other countries use the licensed item to
generate sales without permission of the owner of the intellectual property, i.e. intellectual
property violations.
■ Some 80% of recorded music and business software sold in China is counterfeit. Pirated DVD
versions of Potter movies are sold on the streets of Chinese cities for as little as $1, often before
the films have their official premieres there. Unauthorized foreign translations of the books
posted on the Internet diminish legitimate book sales.
■ This is not a danger unique to licensing. In countries such as China, where intellectual
property rights have been slow to develop, piracy is a risk for any company doing business
there. To combat book counterfeiting, the official Chinese publisher printed the Potter books on
green paper and advised the local media—newspapers, magazines, television—how to
recognize the real version.
Classroom discussion
■ Ask students what they think about intellectual property protection. Should Warner work hard
to protect their rights to the Harry Potter brand? How should they do it? Should they obtain
patent or copyright protection in every country where Harry Potter products are licensed?
■ Ask students if they've ever purchased a pirated copy of a DVD, computer software, or CD.
Ask if they've ever downloaded music from the Internet. Do they think this is a violation of
intellectual property rights? Do they think it is ethical?
■ Emphasize that these are two separate issues: the legality versus the ethicality of the action.
