Part 3 Managerial Implications - Pragmatic guidance to executives Toolbox and Analytical processes Level of Analysis: Individual decision Chs. 7-10: Independent of previous chapters - overlap Four questions: One chapter for each question Ch 7: What product? Ch 8: Which country? Ch 9: Where to locate? Ch 10: How to organize? Product Market Tradeoff [Exh 4.2] Increase WTP Local responsiveness Many products Reducing cost One product Global efficiency Who Has the Competitive Advantage? Global or Local? Exhibit 7.3 WTP 2 WTP Penalty Wedge 2 WTP 1 SOC 2 Cost Savings SOC 1 Widest Wedge between WTP and SOC Joint Profit Maximization [Exh 7.4] Profit Combined Profit Function for a European Product Profit A+B A - UK B - Germany 0% 40% Fat Content 60% 100% NOT TO SCALE Product Selection Process 1) Characterize market differences: How does demand for the underlying customer need vary among countries? 2a) Can we identify and serve a global segment? 2b) Can we transform consumer tastes to a new global standard product? 3a) What is the economic significance of country differences? 3b) Can we accommodate the differences without compromising the global standard? 1) Cultural Mistakes and Remedies Detailed market research to understand how the product is bought, used, interpreted and shared in different countries Naming and translational errors Cultural insensitivity errors Your favorite examples? Formal cultural education Participation in cross-border teams and projects Immersion experiences and expatriate assignments Samsung case: Regional Specialist Program (page 10) Cultivating geographic and cultural diversity at the top Dispersion of business unit headquarters 2a) Identifying and serving a global segment Narrow set with similar needs around the world or a broad set whose needs might differ across countries From aggregate demand to individual market segments w/in countries Global Segment: Uniform purchase behavior and customer value preferences across countries Unlikely to be the largest segment in any country Segment may have differing position (high-versus low-end) and market share in different countries Segmentation along any dimension: income, ethnicity, political preferences, age, etc. 2b) Transforming Consumer Tastes Ted Levitt argument: Globalization of markets Identifying common characteristics across markets Highest common denominator among customer needs and preferences 1) Lowest common denominator 2) Highest common multiple 3) Stuck in the middle 4) No commonalities 3a) Determining Economic Significance Minimum requirement Minimal cost adaptation Minimal willingness to pay variation 3b) Accommodating differences without compromising global standard Common modules 80/20 rule (product-level) 90/10 rule (country-level) Platform solution: Core product The Platform Solution CORE PRODUCT (Back) LOCALLY VARIABLE (Front) Insulated box and compressor Layout of shelves and doors Engine, powertrain, chassis Car models, accessories Global back office and IT Credit or loan terms Phone: Hardware SIM card with software Core ingredients Additives (salt, sugar) Kitchen processes and layout Menu items (80/20 rule) Accommodating local tastes while still capturing global efficiencies Platform: Any combination of product, positioning and processes Platform becomes the brand positioning: Applies to the entire business system not just the physical product High-level brand positioning: Identifies universal purchase criteria Core and Variable Characteristics CORE VARIABLE Scale economies Can be manufactured in small lots Invisible to consumers Feature in purchase criteria Early in the production process End of the production process Do not differ Vary across countries Support sufficient variability Potential incompatibility Product Development Process [Exh. 7.6] Divide features that are globally standardized (BRAND POSITIONING) from those that are locally executed (PROMOTION, PRICING) Involve senior managers in every country + no single-country dominating Resources and support from top management SHARP: Gold Badge (Company president authority) + Veto power for countries Local Implementatio n Global MULTI DOMESTIC PLATFORM SOLUTION FREE MARKET CHAMPION Local GLOBAL Global Design Effect of Platform Specificity [Exh. 7.8] High Transferability of advantage within the company Low High Low Imitability by Specificity Adaptability competitors (Detailed rules) Low Experimentation Product Fit with International Strategy [Exh. 7.11] [OVERLAP: Exh. 5.1 and 6.1] LOCAL idiosyncratic Low Business System Similarity High MULTIDOMESTIC TRANSNATIONAL platform waterfall EXPORT commodity GLOBAL standard Low High Integration Economies Ch 8: Which County? Decision Process for Global Market Selection [Exh. 8.3] Which? [X] - choice of individual countries [slides 17-28] - resource allocation across the portfolio [slides 29-36] How [Y] [slides 37-38] - mode of entry When [Z] [slide 39] - timing of entry - phasing of investment Geographic Scope Tradeoff [Exh 4.7] Increased heterogeneity Coordination difficulties Scale Many countries Repeated standardized tasks One country Simplicity Market Attractiveness Matrix [Exh. 8.4] [X] [Useful for any diversification decision] High Country Attractiveness Low [A, B, C,D] High Risky? Inadequate returns? Low Competitive Advantage [E, F] How country differences impact the two dimensions? Quick screening [Exact - Not possible/required] of a large no. of countries on a limited number of key Factors Determining Country Attractiveness (A) Future Economic Performance and Country Risk [Table 8.1] Factor Typical metrics Risk and volatility metrics Economic GDP growth, GDP per capita, % middle class Standard deviation of growth rate Institutional Political system, minority representation, legal system Likelihood of coup, likelihood of expropriation, intellectual property protection Cultural Religion, language, colonial heritage Immigration rate Technology Broadband infrastructure, miles of road and rail network China Has the More Impressive Economic Numbers ... China India GDP growth rate (5 yr) 9.5% 6.5% Capital formation % GDP 42% 28% Short-term interest rates 3.4% 6.4% FDI incoming $60.4B $4.6B Mfg. exports % GDP 33% 7% Current account $178B Erratic But China is very different (for a British company)! (B) The Cage Framework [Exh 8.5] Cultural Administrative Geographic Economic Country-level Bilateral Different languages, ethnicities, religions, values, norms Lack of colonial ties, lack of shared regional trading bloc, lack of common currency, political hostility Rich/poor differences, Other differences in factor endowments Country-level Unilateral Insularity Traditionalism Closed economy (home bias vs foreign bias), lack of membership in intl. organizations, weak institutions, corruption Physical distance, lack of land border, differences in climates, disease environment Land lockedness, lack of internal navigability, geographic size, geographic remoteness Economic size, low per capita income, low level of monetization Bilateral Fit: Attractiveness of a particular country for any given firm [\"distance\" between the two along four dimensions] Geographic distance/language/ colonial ties/ common land border/common currency Performance Implications of Geographic Distance from Walmart Headquarters [Exh. 8.1] Industry Attractiveness [Long-run profitability] (C) Size and Future Growth As accurate as possible Specific segment you will serve versus overall market Size may not correlate with profitability (D) Structural Attractiveness Porter's Five Forces 8.6] Industry Analysis - The Five Forces Threat of New Entry Economies of scale Capital requirements Bargaining Power of Suppliers Differentiation of inputs Switching costs Presence of substitute inputs Supplier concentration Importance of volume to supplier Cost relative to total purchases Impact of inputs on cost or differentiation Threat of forward integration Proprietary product Access to distribution differences Absolute cost advantages Brand identity Government policy Switching costs Expected retaliation Rivalry Among Existing Competitors Industry growth Switching costs Fixed costs/valueConcentration and added balance Overcapacity Informational Product complexity Diversity of differences Brand identity competitors Corporate stakes Exit barriers Threat of Substitutes Relative price performance of substitutes Switching costs Buyer propensity to substitute Bargaining Power of Customers Buyer concentration Buyer volume Buyer switching costs Buyer information Ability to integrate backward Substitute products Price/total purchases Product differences Brand identity Impact of quality/performance Buyer profits Source: Porter, 1985 Warren Buffet \"When an industry with a reputation for difficult economics meets a manager with a reputation for excellence, it is usually the industry that keeps its reputation intact.\" Cross-Country Correlations in Industry Profitability [Exh 8.8] 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 Argentina Austria Belgium Brazil Canada Chile China Colombia Denmark Finland France Germany Greece Hong Kong Hungary India Indonesia Ireland Israel Italy Japan Malaysia Mexico Netherlands New Zealand Norway Pakistan Peru Philippines Poland Portugal S. Korea Singapore South Africa Spain Sweden Switzerland Taiwan Thailand Turkey U. Kingdom United States Venezuela + + + -- + + -- + + + + + + + + + + + + + + -- + + + + + + + + + + + + + -- -- + -- -- + -- + + + -- + + -2 3 4 + + 5 6 -+ -- + + + + + + 7 8 + + -- + -- 1 + + + -- + + + -+ + + + -- + -+ + + + + -- -+ + + + + Positive correlation, significant at 10% level + + + + + + + + -- + -- -- -- + + + --- + + + -+ Insignificant correlation --- + + + + + + + + + + + + + + + + 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 + + + + + -- Negative correlation, significant at 10% level Source: Khanna and Rivkin, \"The Structure of Profitability Around the World\" Competitive Advantage - Company Factors [2nd dimension of the original 2x2] (E) Competitive position - Relative strength in that country Willingness to pay, relative cost position - Competitors' strategies Resources, likely response to entry, incumbent commitment ... (F) Ability to execute - Country fit and cultural compatibility CAGE factors - Managerial and resource bandwidth Required to succeed in the country Weighting Alternatives Long list of possible criteria and alternatives to consider Softer, qualitative factors can be important determinants Weighting is an issue - Binary yes/no decision - Lexicographic ordering - High/medium/low ranking End result can appear arbitrary - Personal preference of senior executives - Weighted to arrive at predetermined answer - How to remain objective Value of detailed analysis is to confront facts, stimulate conversation, and validate (or rebut) initial beliefs Resource Allocation and Portfolio Balance Cannot only consider each country on a stand-alone basis, must also consider overall portfolio - Diversify portfolio Risk reduction Balance current profitability and future growth - Some countries have value beyond their stand-alone attractiveness Strategic importance - Scale [absolute size of the market] - Most demanding customers - Leading edge of innovation Portfolio Assessment [Exh. 8.10] > 15% ROE Manage for Cash Flow/ Cost Management Investment Focus/ Double Down 10-15% ROE < 10% ROE NEP & fee: $392M NOI: $44M ROE: 12% GAAP Equity: $353M NEP & fee: $3,810M NOI: $454M ROE: 27% GAAP Equity: $1,677M NEP & fee: $1,245M NOI: $18M ROE: 3% GAAP Equity: $599M NEP & fee: $2,144M NOI: $109M ROE: 16% GAAP Equity: $688M Minimize Investment / Exit 37 Game Changing Event or Sale as Worth More to Others Portfolio Assessment - Exh. 8.11 Portfolio Balance: Growth and Return [Exh 8.12] Marke t Growt h Rate CAGR Expecte d Return ROI Portfolio Balance: Risk and Return Exh 8.13 Auto Manufacturers' Portfolio Diversification [Exh. 8.14] Exhibit 8.9 Competitive Interaction Have a small presence in the rival's home/major market as a potential deterrent threat Signaling to establish competitive equilibrium Net performance (self - competitors) Mode of Entry [Exh. 8.15] [Y] Time Risk Cost Greenfield Operation Acquisition Joint Venture License Distributor Export Learning, Control, Country Factors Management Involvement Company Position Nature of Entry Choice Determinants - Country Factors Laws, regulation, cultural fit - Company Position Size and competitive advantage Incumbents' capacity Managerial resources - Product or service Tacit knowledge versus clear interfaces Need for control and coordination Timing of Entry [Z] Tradeoff between moving early and late - Before/after demand is established - Before/after competitors enter - Before/after uncertainties are resolved EARLY LATE FAVORED WHEN: First mover advantage Flexible adaptation Certainty Rapid/easy imitation Rigidity/inertia Ambiguity Can also vary size of commitment (Option value) - Break down any project into incremental phases - Delay every commitment as long as possible - Only invest to reserve the right to play at the next stage Which Country? Strategic Fit WHICH? [Exh. 8.18] HOW? WHEN? Local/Export Opportunistic Multidomesti c Stand-alone on profitability adv. Whatever fits Global Everywhere a demand High control Transnationa l Critical countries Agent country High control Late Depends first mover Early Early Chapter 9: Where to Locate? Chapter 10: How to Organize? Factor Market Tradeoff [Exh 4.6] Dynamic efciency Many locations Shifting factor costs Volatility Learning and knowledge transfer One location Static efciency Where to Locate Process [Exh. 9.6] 1) Disaggregate value chain 2) Locate 2a) Static optimization: Current 2b) Dynamic optimization: Future 3) Configuration: No. of locations for each activity 4) Degree of local adaptation ) Quickly iterate through the entire process with whatever information is at hand to narrow the options ) Focus detailed analysis on prime targets Outsource/In-house Location Activity In-house Outsource Domestic Domestic Outsource Offshore Foreign Offshore to third party Commodity process with liquid and competitive markets/Distinctive resource or core competency Contracts can be written with low transaction costs/Substantial transaction costs involved in market contracting What does this remind you of? 1) Disaggregate value chain a) From firm to aggregate level to 15 discrete steps within each category Identify which steps have to be co-located and which can be separated b) Take into account activity mobility + transportation costs Downstream: Localized for end customer (marketing/sales/service - haircut) Upstream: R &D, component manufacturing/ scale sensitive/ footloose 2) Location a) Shortlist b) Current cost c) Future competitiveness 2a) Shortlist Quickly narrow down by eliminating countries: Broad brush approach: How? Fit with international strategy or readily available rankings Potential criteria: 1) Feasibility of actually performing the activity in the country (infrastructure, manpower availability, government regulation) 2) Willingness of the firm to relocate (safety, lifestyle, culture, weather, language, ethics, geographic distance, personal preference) 3) Political and economic risks (expropriation, political coup or stability, volatility in exchange rates, growth, etc.) Customized list of about 40 items in a few broad categories/score countries/weight each category Identify 4-6 countries for further detailed analysis Be aware of the limitations (personal bias and agendas) Example of Shortlist Criteria [Exh. 9.9] Driver Weights Factor Weights of importance (4=critical, 3=high, 2=meduim, 1=low) 3 Not used for direct comparison of lactions, therefore, no weights 1 2 2b) Current Cost Compare cost of production among shortlisted candidates [Exh. 9.10 is an example] Identify and quantify all cost elements using individual factor costs (e.g., electricity, wages, tax rates, etc.) for an appropriate unit of analysis Large cost elements with substantial differences across countries (e.g., tax rates) Account for productivity differences Difcult, hard-to-measure costs Adjust demand-side consequences [increased customer responsiveness, faster product introduction, willingness to pay impact] Where will your data come from? Garbage-in garbage out/finger-in-theair assumptions! How reliable are your numbers? Sensitivity analysis for items that vary with location Recall the Scotts case How Much Can You Save By Moving Your Factory To China? [Exh 9.2] Experienced, Localized (~ 5 yrs) MNC Operation vs. Legacy Factory For Wide Range of Industrial Equipment Factory Savings Additional costs 120 100 80 100 25-30 Savings as % of total cost 5-10 5-10 0-5 60 10 0-5 5 5 75 Duties Landed cost from China 55 40 20 0 Payroll Construct US ion & Western Depreciation European manufacturing cost Materials/ Other local compocosts nents/ tooling (net) Source: BCG case experience; Capturing Global Advantage, BCG Report, 2004 Special incentives China Logistics Other managemanucost ment facturing (transcosts cost portation, additional inventory, expediting) Made in China: Leather Boots US Retail Price $49.99 [Exh. 9.11] US Retailer Chinese factory Store labor ------------------ $3.50 Store rent ------------------ $4.50 Advertising, marketing and promotion, storage, transportation --------------- $5.25 Selling, general and administrative costs merchant fees -------------- $5.75 Mark-downs, close-outs, theft, inventory errors ---- $10.75 Store profit before interest and taxes ------------------ $3.46 TOTAL $33.21 TOTAL Materials (includes imported US leather) ------------- $10.96 Factory overhead, miscellaneous ------------- $1.88 Factory labor ------------- $1.30 Boxes and labels --------- $0.52 Factory profit before interest and taxes ------$0.65 Cross-Pacific shipping and duty ------------- $1.48 $16.79 Retail costs based on industry averages for US retail stores Sources: Forsan (factory and shipping costs), Kurt Salmon Associates (U.S. retailer costs) 2c) Future Competitiveness Forecast costs over the lifetime of the investment Account for inflation, currency exchange Skewed by the assumptions made - watch out for inconsistencies Porter: Location choice should not be simply driven by factor costs. Long-term productivity growth within countries Porter Diamond: Most innovative geographical areas over the long-term for a particular industry South East Asian Wage Rates 2000-2011 [Exh. 9.4] Porter Diamond: Long-Term Country Advantages Demand conditions Related and supporting industries Industry structure and incumbent strategies Factor conditions Government Large, growing, leading edge, and demanding Labor, land, capital, and advanced factors of production Intense competition drives efciency and innovation Cluster of industries related along the value chain Promoter of cluster and catalyst for synergistic interactions New Zealand Diamond: Sailing Demand TV Coverage Respect for Career High Standards Self-Esteem Factor Conditions Geography Climate Sailors Ownership Professionals National Character Related and Supporting Industries Designers and Builders Marine Supplies Research Institute Magazines Rivalry/Industry Structure Hundreds of Professionals Competitors Since Childhood Two Teams Beat Dennis Conner Implications of Porter Diamond Locate CRITICAL activities in the country(ies) with the most favorable \"diamond\" Ultimately advantage from a country's diamond can only be exploited by being an \"insider\" in that country: locals with domestic social networks Local activity tied to global enterprise Resolving conflict between static and dynamic analyses: Length of commitment and international strategy Limitations of Porter Diamond: Predictive Power? Less useful for minor activities or generic functions 3) Configuration Strategies Concentration - bet on single location Lowest current factor costs Risky when long-lived asset commitments are involved Hedge - financial hedge Lock current factor costs by selling forward for life of asset Limited by availability of long term futures markets or debt/equity ratio - physical hedge Disperse locations and match capacity to local demand and/or competitors Triad configuration Flexibility - disperse locations to exploit option value over-capacity in each location coordination is the challenge - outsource to minimize commitment and risk short term contracts infeasible if activity is source of competitive advantage Concentrate versus Disperse [Exh. 9.2] Pro/Concentrate Pro/Disperse Scale economies Limits to trade (high transport cost, tariffs, etc.) Big share of location-independent value added Site-specific learning that cannot be transferred across locations Large difference in factors costs Unpredictable exogenous shocks Market Share vs. Exchange Rate [Exh. 9.4] 280 50 260 240 40 220 30 200 Caterpillar Komatsu 180 20 160 10 140 0 1976 1978 1980 1982 1984 1986 120 1988 /$ Configuration and International Strategy LOCAL - all domestic activities - hedged since only sell domestically EXPORT - all domestic, except limited foreign sales activities - concentrated leaves vulnerable - financial hedge to offset risk MULTIDOMESTIC - activities dispersed to match local country requirements - physically hedged GLOBAL - international activities located in \"best\" most efcient country - concentrated TRANSNATIONAL - dispersed but coordinated network for overall \"effectiveness\" - exploiting option value of shifting between countries Porter Configuration and Coordination Matrix [Page 295 figure has a typo. The matrix below is correct and is in agreement with exhibit 4.5.] Configuration Coordination Low High Dispersed Multi-domestic Transnational Concentrated Export/import Global Local 4) Degree of Adaptation How much local adaptation in activities Related to product variation/adaptation (chapter 7) Must meet local legal (labor, environment, etc.) requirements If local choices simply drive local operational efciency w/o impacting strategic tradeoffs Trial-and-error approach? Tradeoff between global standardization and local responsiveness: Toughest task Exhibit 9.16 Provide excellent customer service Summary: Strategic Fit [Exhibit on page 301] Local Export Multidomestic Global Transnational What activity Which country? How many? What process variation? All All (except some selling) Most Domestic Domestic Concentrated Concentrated None None Everywhere Dispersed, physically hedged Each separate Current low Concentrated, cost bet Each separate Long-term Dispersed, innovation option value Adaptable, as required Limited Careful discrimination