Export, license or invest: choosing a foreign market entry mode

Suppose you own a workshop in Nghe An making chopping boards and food containers from pressed bamboo, with 80 workers. An importer in Hamburg messages to say they would like to try one container. The questions arrive at once. Do you simply sell through them, hand your pressing process to a German factory, form a joint venture with the importer, or build a plant in Germany? This post sets those options side by side and then uses the OLI paradigm to rule some out.

What ways are there into a foreign market, and what does each cost?

There are five main ways, six if you separate building from buying. The table ranks them on four criteria taken from the summary of the foreign market entry modes framework in this site's library.

The table shows one pattern: control, resource commitment and capital risk rise together as you move right. The exception is acquisition, which is as fast as licensing but as capital-hungry as building.

Johanson and Vahlne (1977) describe Swedish firms that typically began by exporting through an agent, then set up a sales subsidiary, and sometimes ended up producing in the country (Johanson and Vahlne, 1977, p. 24). Among the four engineering firms they studied, none began production in a country without first selling there through an agent or a sales subsidiary (Johanson and Vahlne, 1977, p. 25).

Licensing and franchising sound cheap but carry their own price. Oviatt and McDougall (1994), citing Williamson, note that hybrid structures like these suit moderate asset specificity, yet a new venture risks having the very assets it owns taken by its partner (Oviatt and McDougall, 1994, pp. 54-55). For the workshop, licensing the crack-resistant pressing process to a German factory would mean handing over the only thing that sets you apart from rivals.

Should you produce abroad at all? The three OLI gates

Produce abroad only if you pass all three gates: you have an ownership advantage, doing it yourself beats selling the right to use it, and the location is worth producing in. Dunning (1988) wrote that the extent, form and pattern of international production are determined by the configuration of these three sets of advantages (Dunning, 1988, p. 2).

Gate O asks whether you own an advantage foreign rivals lack. Dunning argues the advantage must be enough to cover the cost of setting up and running a foreign operation, on top of the costs that local producers do not face (Dunning, 1988, p. 2). Gate I asks whether it is cheaper to do the work yourself than to sell the right to use it to a local firm. The greater the perceived cost of market failure, the more a firm leans towards producing itself rather than contracting with foreign firms (Dunning, 1988, p. 3). Gate L asks whether something in that country, an immobile factor endowment for instance, is worth combining with the intermediate products you make at home (Dunning, 1988, p. 4).

Dunning (1980) used ownership- and location-specific variables to explain the sales of US affiliates in fourteen manufacturing industries in seven countries in 1970 (Dunning, 1980). The paradigm has limits its author admits: being general, it has only limited power to explain or predict particular kinds of production, and even less the behaviour of individual firms (Dunning, 1988, p. 1). The site's library notes that the standard statement requires all three advantages, not "one or more" Dunning's eclectic (OLI) paradigm.

Which market first?

Start with a market close in information terms, then screen with six groups of conditions. Johanson and Vahlne (1977) define psychic distance as the sum of factors preventing the flow of information from and to the market, such as differences in language, education, business practices, culture and industrial development. In their Swedish firms, the order in which countries were entered seemed to be related to that distance (Johanson and Vahlne, 1977, p. 24).

For the screen, the selecting a market with PESTEL framework asks about six groups: political, economic (interest, exchange rates, inflation), social, technological, environmental and legal.

PESTEL tells you whether the market looks sound and OLI tells you what to do there, so work through them in that order. The framework is used here only to list questions.

What should the Nghe An bamboo workshop choose?

Export through the importer, and write down in advance what would make you reconsider. The example below is entirely invented: the workshop, the importer and the process details are made up.

The workshop has a crack-resistant bamboo pressing process that is not yet registered for protection in the EU. The Hamburg importer already sells to housewares shops. Walk through the gates:

The result is to export through the importer and keep the process in Nghe An. Two things could change it. One is customers demanding delivery within days; then gate L may open and you must answer gate I. The other is the importer asking for exclusivity over several years; then a joint venture or a distribution contract with clauses protecting the process deserves discussion, given Oviatt and McDougall's warning about partners taking assets (Oviatt and McDougall, 1994, p. 55).

This suits you if your value lies in production at home and the target market is far away. It does not suit you if your edge is a brand or a shop format: then franchising or a joint venture is the real question. That is my own inference from the OLI framework and has not been checked against data on Vietnamese firms.

What does a wrong choice look like? A documented example

Walmart entered Germany in 1998 by acquisition and withdrew more than eight years later. According to the New York Times, Walmart bought Wertkauf and Interspar, two second-tier chains, and so acquired a network of stores that analysts described as geographically scattered and often badly sited. On 28 July 2006 the company announced the sale of 85 stores to Metro and a pretax charge of about USD 1bn to write off its German investment. The Times also quotes analysts on price competition from discounters such as Aldi and Lidl and on German shoppers' resistance to hypermarkets, so the entry mode was one factor among several (The New York Times, 2006).

Yoder, Visich and Rustambekov (2016) examine the failures of five service companies that opened physical sites abroad, Walmart among them. The abstract names four common causes: misunderstanding what drives consumers' purchases, underestimating local competition, supply chain problems, and poor decisions on location and speed of expansion (Yoder et al., 2016). As I read it, the last one echoes the poorly sited stores the Times reports. A fuller account is in the Walmart in Germany case.

Going deeper: where does the table come from, and what could I not check?

The six-column table rests on the framework summary in the library, not on the underlying textbooks that summary refers to; I cannot verify the low, medium and high ratings. The summary itself says they are tendencies, to be adjusted by industry and country. Splitting greenfield from acquisition is my own step; the summary separates the two only in the speed row.

On OLI, I read the opening pages of Dunning (1988), where the author restates the three advantages, and only the abstract of Dunning (1980). On Uppsala, I read Johanson and Vahlne (1977) in full. Their data are Swedish firms of the 1970s, and they themselves say the model has limited predictive value (Johanson and Vahlne, 1977, p. 23). Oviatt and McDougall (1994) write about new ventures, not SMEs in general.

For Yoder and colleagues (2016) I have only the abstract, so I do not know how they analyse Walmart in detail. I read the New York Times story through an archived copy of its 29 July 2006 print version, because the 28 July web page cited in the library blocks automated access. None of these sources measures which mode performs better for Vietnamese SMEs.