Foreign market entry (FME) and Diversification: Reasons why Business Organizations seek to Expand into Foreign Markets

Modern business organizations operate in extremely competitive environments marked by frequent changes in technologies, markets, customers’ needs and demands, and government regulations. As such, since business organizations continuously seeks to make profits by satisfying customers’ needs and demands, focused organizations constantly crafts ways of improving their competitiveness and overall financial performance. Consequently, virtually all well-established modern organizations are increasingly seeking to expand their business operations beyond local and domestic markets. Foreign market entry (FME) and diversification are two major ways through which business organization pursue high profile presence in new and global markets in order to improve their profitability and competitiveness in this era of accelerated globalization.

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Generally, modern business organizations seek to expand into foreign markets in order to broaden use of their existing resources and access new resources, develop or expand new markets, learn and control their central competences. Modern business organizations pursue international expansion in order to get the advantage of economies of scale using their present resources to establish themselves in new international markets. Business organizations also enter foreign markets in order to gain access to particular valuable resources such as cheap labor, specialized knowledge or raw materials (Ireland, Hoskisson & Hitt, 2008). For example, liberalization of the Chinese economy since 1970s has led to an upsurge of foreign direct investors who seek to take advantage of the readily available skilled and cheap labor. In addition, as pointed out earlier, modern business organizations seek expansion into foreign markets in order to improve their revenue base and make more profits and enhance their competitiveness.

Foreign Market Entry (FME) and Diversification Decisions

FME particularly through foreign direct investment is considered a fundamental source of future profit growth and sales. Diversification is regarded as a facilitator of economies of scale, stabilized returns, as well as, scope and experience. However, FME involves complex decision-making processes for all organizations operating in different business sectors (Tielmann, 2010). The first and the most pertinent issue entail deciding whether to enter into foreign markets. If an organization decides to expand into international markets, it faces the question of identifying which country to enter and the sequence it will follow. This then raises the issues of diversification and concentration.

For every market identified, an organization also encounters the question of deciding which mode it will use in entering the selected markets. An organization must decide whether it will enter the selected foreign market via development of its production in that market or acquiring an organization that is already operating there (Luo, 2001). The issue of an organization’s FME option is an important aspect of success international marketing and business expansion. Imprudent selection of foreign market entry mode may lead to opportunity costs or thwart efforts in international markets. Furthermore, entry mode option has repercussions on the level of resources to commit to foreign ventures. The level of resources committed and the performance and survival chances of a foreign venture are closely related.

Beyond the important question of choosing which international market(s) to enter, an organization faces the concern of output, in terms of what needs to be produced within the foreign market. This is a critically important strategic decision for all firms seeking to position themselves as a multinational enterprise (MNE). An organization must consider whether it will expand its existing major line of business into the selected foreign market, or carry out a product diversification plan.

Even though, diversification produces economies of scale and stabilized returns, it does not obviously enhance organizational performance. For instance, adopting an expansion strategy into many markets or wrong markets hastily can have overwhelming financial repercussions. Even though, product diversification is a popular strategy, impacts of product diversification on organizational performance are mixed and unclear. Organizational performance is usually measured directly through rates of return or indirectly via measures of survival (Couturier & Sola, 2010). These two dynamics are extremely complex. Some research studies have found product diversification as playing a moderating function between foreign diversification and overall organizational performance. For this reason, some international business experts have suggested that organizations should endeavor to integrate their product diversification and international diversification approaches in order to realize optimal performance and synergies (Couturier & Sola, 2010).

Organizations that consider FME and diversification must make tough choices and do so in environments marked by unpredictability. Irrespective of an organization’s scope and level of experience, firms never possess adequate information concerning their own capabilities, capabilities of their rivals, needs, preferences and demands of their target customers and potential effects of different factors within the business environment. The general proportion from literature on FME and development is that organizations must possess a particular competitive advantage for them to succeed in new foreign markets against domestic players who have local knowledge and benefit of local nationality (Tielmann, 2010). However, in modern business world, regular technological advancement plays a significant role on a firm’s FME mode choice.

Generally, FME entry modes are categorized into investment entry modes, contractual entry modes and export entry modes (Tielmann, 2010). In other words, FME modes range from licensing, franchising, and exporting to different forms of FDIs like acquisitions, mergers and joint ventures, as well as, wholly owned foreign ventures also known as greenfield investments. It is important to note that, whichever entry mode an organization selects, various factors including firm-specific, industry-specific and location factors affects its entry mode decision.

An organization may enter a foreign market either by starting business operations from scratch (greenfield investment) or acquiring a local company (acquisition). In sole ventures, the parent company reserve full ownership and has absolute control over the foreign subsidiaries (Tielmann, 2010). The investments FME modes are commonly considered as alternative entry modes (acquisition and greenfield) while joint ventures are thought of as giving the parent firm a level of ownership.

As mentioned out earlier, the level of resource commitment and control are critically important variables in the FME mode decision. Different FME modes determines an organization’s level of control over expected risks, and invested resources, as well as, the transaction costs attributed to particular degree of resource commitment (Domke-Damonte, 2000). For instance, in high control entry modes like sole ventures, a firm has higher resource commitments and thus higher risks. However, in such modes if a foreign venture performance peaks up fairly well a firm has higher potential returns.

Conclusion

Business organizations interested in entering new and foreign markets must consider many factors before making the actual move in order to ascertain performance potential of their moves. They must decide whether they will branch into other related or new lines of business or they will focus on their major line of business as they enter new markets. They must also carefully decide which foreign market entry modes they will use in the context of firm-specific, industry-specific and local factors.


References

Couturier, J. & Sola, D. (2010). International market entry decisions: the role of local market factors. Journal of General Management, 35(4), 45-63.

Domke-Damonte, D. (2000). Interactive effects of international strategy and throughput technology on entry mode for service firms. Management International Review, 40(1), 41–59.

Ireland, R. D., Hoskisson, R.E. & Hitt, M. A. (2008). Understanding Business Strategy: Concepts and Cases. New York: Cengage Learning.

Luo, Y. (2001). Determinants of entry in an emerging economy: a multilevel approach. Journal of Management Studies, 38(3), 443-472.

Tielmann, V. (2010). Market entry strategies. Santa Cruz, CA: GRIN Verlag.

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