CH-7-9 Merger and Acquisition Strategies – Strategic Management: Concepts and Cases: Competitiveness and Globalization : Book Guide

This Document Contains Chapters 7 to 9 Chapter 7 Merger and Acquisition Strategies ANSWERS TO REVIEW QUESTIONS 1. Why are merger and acquisition strategies popular in many firms competing in the global economy? Acquisition strategies are increasingly popular around the world. Because of globalization, deregulation of multiple industries in many different economies, favorable legislation, etc., the number of domestic and cross-border acquisitions is high (though the frequency has slowed recently). As is the case for all strategies, acquisitions indicate a choice a firm has made regarding how it intends to compete. Because each strategic choice affects a firm’s performance, the possibility of diversification merits careful analysis. A firm may make an acquisition to increase its market power because of a competitive threat, to enter a new market because of the opportunity available in that market, or to spread the risk due to the uncertain environment. In addition, a firm may acquire other companies as options that allow the firm to shift its core business into different markets as volatility brings undesirable changes to its primary markets. 2. What reasons account for firms’ decisions to use acquisition strategies as a means to achieving strategic competitiveness? Firms often choose to follow acquisition strategies (1) to increase market power (by becoming larger); (2) to overcome entry barriers (by acquiring a firm with a position in the target industry); (3) to reduce cost of new-product development and increase the speed to market entry; (4) to reduce the risk associated with developing new products internally; (5) to diversify both firm and managerial risk by increasing the level of diversification; (6) to reshape the firm’s competitive scope; and (7) to boost learning and the development of new capabilities. 3. What are the seven primary problems that affect a firm’s efforts to successfully use an acquisition strategy? Firms following acquisition strategies face seven major problems. (1) They may face difficulty in successfully integrating the two firms. This is especially true when integration involves melding disparate corporate cultures, linking disparate financial and control systems, building effective working relationships when management styles differ, and when the status of acquired firm executives is uncertain. (2) Owing to inadequate evaluation of the target firm (a process known as due diligence), acquirers may pay more for the target firm than it is worth. (3) If the acquisition is financed with debt, as many were in the 1980s, the costs related to a significant increase in debt—interest payments and debt repayment—may squeeze the firm’s cash flow and limit managerial flexibility resulting in the firm passing up attractive long-term investment opportunities. It is also important to note that debt also has positive effects since leverage can assist a firm in its development, allowing it to take advantage of attractive expansion opportunities. (4) Acquiring firms also may overestimate the existence and value of synergies from combining the two firms. In many cases, the value to be gained from synergy is overestimated due to a failure to consider the integration and coordination costs that may be incurred. (5) Too much diversification may mean that the portfolio of businesses that the firm owns is beyond the expertise of managers, that management depends too much on financial controls (rather than more effective strategic controls), and that acquisitions may become a substitute for innovation. (6) Managers may be overly focused on acquisitions and neglect the firm’s core businesses. (7) The combined firm may become too large to manage efficiently and effectively, as the firm experiences diseconomies of scale or bureaucratic controls stifle decision making. 4. What are the attributes associated with a successful acquisition strategy? As identified in Table 7.1, the following attributes tend to lead to successful acquisitions: • Acquired firm has assets or resources that are complementary to the acquiring firm’s core business • Acquisition is friendly • Acquiring firm selects target firms and conducts negotiations carefully and deliberately • Acquiring firm has financial slack (cash or a favorable debt position) • Merged firm maintains low to moderate debt position • Has experience with change and is flexible and adaptable • Sustained and consistent emphasis on R&D and innovation 5. What is the restructuring strategy, and what are its common forms? Defined formally, restructuring is a strategy through which a firm changes its set of businesses and/or financial structure. There are three common forms of restructuring strategies. Downsizing is a reduction in the number of a firm’s employees, and sometimes in the number of its operating units, but it may or may not change the composition of businesses in the company’s portfolio. Thus, downsizing is an intentional proactive management strategy, whereas decline is an environmental or organizational phenomenon that the firm cannot avoid and that leads to erosion of the organization’s resource base. As compared to downsizing, the downscoping restructuring strategy has a more positive effect on firm performance. Downscoping refers to divestiture, spin-offs, or some other means of eliminating businesses that are unrelated to a firm’s core businesses. Commonly, downscoping is referred to as a set of actions that results in a firm strategically refocusing on its core businesses. A firm that down scopes often also downsizes simultaneously. However, it does not eliminate key employees from its primary businesses while doing so because such action could lead to the loss of one or more core competencies. Instead, a firm simultaneously downscoping and downsizing becomes smaller by reducing the diversity of businesses in its portfolio. A leveraged buyout (LBO) is a restructuring strategy whereby a party buys all of a firm’s assets in order to take it private. Once the transaction is complete, the company’s stock is no longer traded publicly. It is common for the firm to incur significant amounts of debt to finance a leveraged buyout. The three types of leveraged buyouts include management buyouts (MBO), employee buyouts (EBO), and a whole firm buyout (the last occurring when another company or partnership purchases an entire company instead of a part of it). 6. What are the short- and long-term outcomes associated with the different restructuring strategies? As identified in Figure 7.3, the short-term outcome from downsizing is a reduction in labor costs, but this yields two negative long-term outcomes—loss of human capital and lower performance. Downscoping leads to reduced debt costs and an emphasis on strategic controls, which in turn produce higher firm performance as a long-term outcome. Finally, leveraged buyouts can lead to higher performance (long-term) through an emphasis on strategic controls, but it also yields high debt costs (short-term) that produce higher risk for the firm (long-term). INSTRUCTOR'S NOTES FOR EXPERIENTIAL EXERCISES EXERCISE 1: HOW DID THE DEAL WORK OUT? To prepare for this exercise the instructor should prepare an example as a go by for students. Included below is one they are likely to have heard about, if not they are likely to find interesting. The key take away from this exercise is to provide them a real life event to research and apply the concepts from the text. By analyzing press reports, market data, and viewing the deal pre and post event, a picture of why deals emerge and their impact can be viewed. Below is an example and a way to organize this assignment from the viewpoint of Whole Foods Acquisition of Wild Oats. Executed August 31, 2007 Whole Foods (WFMI) acquiring company with Wild Oats (OATS) the target. This example originated from Yahoo Finance US Mergers and Acquisitions Monthyl Calendar for August 2007. February 22, 2007 Wall Street Journal’s Smart Money comments. • On the unexpected announcement both firms’ shares closed up higher, 14% and 17% respectively. Cash deal is valued at $565m, Management at Whole Foods has already approved the deal. • This allows Whole Foods to take out its biggest rival: You can categorize this acquisition in multiple ways; horizontal acquisition; market power; related acquisition (therefore subject to regulatory review). • Both firms’ shares are in turmoil for the preceding 12 months. Poor performance as an antecedent for acquisition. • Organic market is getting new competitors as other stores add organic offerings such as Wal Mart and Safeway. http://www.smartmoney.com/investing/stocks/market-applauds-whole-foods-wild-oatsmerger-20829/ June 5, 2007 Fortune magazine online reports that the FTC will be suing to stop the acquisition claiming that the organice market will be substantially reduced in competition if this acquisition is allowed to proceed. Shares of WFMI drop, OATS increase. http://www.forbes.com/2007/06/05/wholefoods-wildoats-organics-markets-equitiescx_ra_0605markets24.html July 12, 2007 Reuters reports that Whole Foods CEO John Mackey for years has been commenting under an alias “rahodeb” at a Yahoo finance chat forum on the success of Whole Foods and predicting a bleak future for Wild Oats. This was cited by the FTC as part of the antitrust suit. http://www.reuters.com/article/internetNews/idUSN1133440820070712 August 29, 2007 Huliq News Deal closes http://www.huliq.com/32218/whole-foods-market-closes-acquisition-of-wild-oatsmarkets November 6, 2008 Motley Fool online- Thanks for nothing Rash of unexpected costs slashes earnings – 4th quarter income drops 96%. FTC still pursuing litigation costing $15-20m in legal fees for firm. http://www.fool.com/investing/general/2008/11/06/thanks-for-nothing-wild-oats.aspx Sept 28, 2008 Whole Foods 10K filing- annual report for fiscal year Wild Oats had 109 operating under four brands Wild Oats Marketplace (nationwide), Henry’s Farmers Market (in Southern California), Sun Harvest (in Texas), and Capers Community Market (in British Columbia). On September 30, 2007, WFMI sold all 27 Henry’s Farmers Market and eight Sun Harvest store locations and a related Riverside, CA distribution center, for approximately $165 million. In fiscal year 2008, it closed 13 Wild Oats stores and relocated six stores in connection with the opening of new Whole Foods Market stores in those areas. In 2008, the Company completed the conversion of all Wild Oats stores to the Company’s purchasing and information systems, transitioned all Wild Oats employees to its payroll, benefits and incentive compensation plans, eliminated all corporate positions at the Wild Oats home office in Boulder, CO, and rebranded 45 Wild Oat stores with Whole Foods Market store fronts and signage. Quarterly high and low stock price for 2007 and 2008 (in US $) High Low 2008 October 1, 2007 to January 20, 2008 53.65 34.37 January 21, 2008 to April 13, 2008 42.48 29.99 April 14, 2008 to July 6, 2008 36.03 22.63 July 7, 2008 to September 28, 2008 24.22 17.37 2007 September 25, 2006 to January 14, 2007 66.25 45.27 January 15, 2007 to April 8, 2007 52.43 42.13 April 9, 2007 to July 1, 2007 48.06 37.96 July 2, 2007 to September 30, 2007 49.49 36.00 When the acquisition was announced the high stock price was 52.43 and in the latest quarter reported the price is $24.22, more than a 50% drop in value. This would also be a good time to have students discuss the “management discussion and analysis of financial condition and results of operation:, which will be found in terms similar for each public firm in their 10k filing. Firms 2008 annual report 10K http://www.sec.gov/Archives/edgar/data/865436/000110465908073613/a08- 29339_110k.htm#Item1_Business__114322 EXERCISE 2: WHAT REALLY GOES INTO A DUE DILIGENCE CHECKLIST? The purpose of this exercise is to build upon the students’ knowledge of acquisitions through the creation of a due diligence checklist. Students were tasked with researching and referencing existing lists when building their comprehensive checklist; some sample checklists can be found below: • http://www.grantthornton.com/staticfiles/GTCom/Advisory/Comprehensive%20 M&A%20due%20diligence%20checklist%20for%20buyers.pdf • http://www.pioneerbusinessventures.com/downloads/MASTER%20ACQUISITI ON%20DUE%20DILIGENCE%20CHECKLIST.pdf • http://www.abmi.net/pages/abmi_due_diligence_checklist You’ll find that while there is a wide span of due diligence checklists available to buyers, there are a few necessary points that exist across all checklists: • Financial Results • Tax Information • Intellectual Property • Assets • Indebtedness • Contracts & Commitments • Personnel & Labor Relations • Insurance • Litigation & Regulatory Lead a discussion in class on the teams’ findings: Which areas are the most difficult to quantify? What is the time commitment and cost of going through such a due diligence process? How might the due diligence process be improved to prevent inadequate evaluations? INSTRUCTOR'S NOTES FOR VIDEO EXERCISES Title: THE POWER OF A MERGER: SOUTHWEST RT: 2:01 Topic Key: Mergers, Acquisitions, Restructuring The video opens with a typical price conscious consumer who is the target of the merger between Southwest and AirTran. AirTran executives assert that with the merger, the potential exists to spread discount airfares farther is even greater. Discount carriers are known for stimulating competition and helping to lower airfares. Consolidation of major carriers such as United and Continental airlines brings the number of major carriers in the US to only four. In general the average consumer is finding fewer seats and higher prices and feels the airlines have worked hard to make flying not fun. Despite not pleasing the customer, the industry is making money again with critical profit centers known as add-on fees. With $25 for a checked bag, $35 for phone reservations, and up to $300 to change a reservation, major airlines have made $2.4 billion in profits with $1.3 billion coming from add-on fees with $745 million from checked bags alone. Southwest charges no fees for changing flights or for the first two checked bags and the merger with AirTran may help lower ticket prices in the industry. Individuals say that wherever Southwest goes, they will pressure their competitors to refrain from excessive fees in the long haul. Also check out http://www.southwest.com Suggested Discussion Questions and Answers 1. What would make the arrangement between Southwest and AirTran a merger and not an acquisition? o Text: A merger is a strategy through which two firms agree to integrate their operations on a relatively co-equal basis. An acquisition is a strategy though which one firm buys a controlling, or 100 percent, interest in another firm with the intent of making the acquired firm a subsidiary business within its portfolio. o Merger: Southwest and AirTran are integrating operations to spread low cost air fare around but each business operates independently. 2. What reasons do you think Southwest and AirTran had for merging? What approach(es) did they use? o Reasons: Increased low cost air fare market power and overcoming entry by other low cost carriers o Approaches: Keeping value chain activities cost below the competition, maintain economies of scale in low cost air fare, increased speed to the market, and broadened the cost of acquisition by other firms 3. Why would the Southwest/AirTran merger not be successful? o Whereas integration difficulties, inadequate evaluation of target, inability to achieve synergy, too much diversification, overfocus on acquisitions, being too large, and large debt may be reasons that all mergers and acquisitions may not be successful, the only reason that Southwest and AirTran may not be successful is that they may not achieve synergy. The other reasons don’t apply to this merger. 4. What strategies would you recommend to Southwest should they need to restructure? o Text: Restructuring is a strategy through which a firm changes its set of businesses or its financial structure. o Strategies for Restructuring: Downsize, Downscope, a Leverage Buyout, or simple focus on the core business are all options — ADDITIONAL QUESTIONS AND EXERCISES The following questions and exercises can be presented for in-class discussion or assigned as homework. Application Discussion Questions 1. Evidence indicates that the shareholders of many acquiring firms gain little or nothing in value from the acquisitions. Why, then, do so many firms continue to use an acquisition strategy? Why Firms Use Acquisition Strategies: Many firms pursue acquisitions despite mixed shareholder outcomes due to motivations like gaining market share, accessing new technologies, or eliminating competition. Acquisitions can also offer rapid growth opportunities that internal development cannot match. Additionally, managerial motivations, such as personal prestige or bonuses tied to growth metrics, can drive firms to favor acquisitions. 2. Of the problems that affect the success of an acquisition, ask students which one they believe is the most critical in the global economy. Why? What should firms do to make certain that they do not experience such a problem when they use an acquisition strategy? Critical Problems in Acquisitions: Students may identify cultural integration as the most critical issue affecting acquisition success globally. Misalignment in corporate cultures can lead to employee dissatisfaction and turnover, undermining the expected benefits of the acquisition. To mitigate this, firms should conduct thorough cultural assessments and prioritize communication and integration strategies during the merger process. 3. Have students use the Internet to read about acquisitions that are currently underway and to choose one of these acquisitions. Based on the firms’ characteristics and experiences and the reasons cited to support the acquisition, do they feel it will result in increased strategic competitiveness for the acquiring firm? Why or why not? Evaluation of a Current Acquisition: After researching a current acquisition, students might analyze the characteristics of both firms involved and assess the strategic fit. They may conclude whether the acquisition will enhance strategic competitiveness based on factors like market synergy, operational efficiencies, and alignment of goals. Their opinions could vary depending on the specifics of the deal and perceived strategic rationale. 4. Have students research recent merger and acquisition activity that is taking place throughout the global economy. Are most of the transactions they found between domestic companies or are they cross-border acquisitions? What accounts for the nature of what they found? Merger and Acquisition Trends: Students may find that a significant portion of recent M&A activity involves cross-border transactions, driven by globalization and the pursuit of new markets. They could attribute this trend to factors such as diversification, access to new customer bases, and the search for competitive advantages in emerging economies. Domestic mergers might also be common but may focus on consolidation within saturated markets. 5. What is synergy, and how do firms create it through mergers and acquisitions? In the students’ opinion, how often do acquisitions create private synergy? What evidence can they cite to support their position? Understanding Synergy: Synergy refers to the added value achieved when two firms merge, resulting in greater efficiency or market power than the sum of their parts. Firms create synergy through cost savings, enhanced revenues, and shared resources. Students may argue that true private synergy is rare, citing examples of unsuccessful acquisitions that failed to deliver the anticipated benefits, suggesting that achieving synergy is more challenging than often expected. 6. What can a top management team do to ensure that its firm does not become diversified to the point of earning negative returns from its diversification strategy? Preventing Negative Returns from Diversification: To avoid negative returns from excessive diversification, top management should establish clear strategic objectives and regularly evaluate performance across diverse units. They should also focus on maintaining a manageable portfolio of businesses that align with core competencies and facilitate resource sharing. Continuous monitoring and adaptability are essential to ensure that diversification remains beneficial. 7. Some companies enter new markets through internally developed products, whereas others do so by acquiring other firms. What are the advantages and disadvantages of each approach? Advantages and Disadvantages of Entry Approaches: Internally developed products allow firms to maintain control over innovation and align with corporate culture, but this process can be slow and resource-intensive. Acquiring firms can provide instant market access and capabilities but may lead to integration challenges and higher costs. Each approach has its merits and risks, and the choice depends on strategic goals and market conditions. 8. How do the Internet’s capabilities influence a firm’s ability to study acquisition candidates? Internet's Influence on Acquisition Studies: The Internet enhances a firm's ability to study acquisition candidates by providing vast amounts of data on market trends, financial performance, and competitor analysis. Online platforms facilitate due diligence by allowing firms to access reports, news articles, and industry analyses quickly. Social media and professional networks can also offer insights into corporate culture and employee sentiment, aiding informed decision-making. Ethics Questions 1. Some evidence suggests that there is a direct and positive relationship between a firm’s size and its top-level managers’ compensation. If this is so, what inducement does that relationship provide to upper-level executives? What can be done to influence the relationship so that it serves shareholders’ interests? Inducements for Executives: The positive relationship between a firm's size and toplevel compensation can incentivize executives to pursue growth strategies, even if they do not align with shareholder interests. To influence this relationship, firms could implement performance-based compensation tied to shareholder value metrics, such as stock performance or return on investment, ensuring that executives are motivated to prioritize long-term success. 2. When a firm is in the process of restructuring itself by divesting some assets and acquiring others, managers may have incentives to restructure in ways that increase their power base and compensation package. Does this possibility explain at least part of the reason for the less-than-encouraging outcomes of acquisitions for shareholders of the acquiring firm? Incentives in Restructuring: Yes, the potential for increased power and compensation can explain why some acquisitions yield disappointing results for shareholders. Managers might prioritize personal gains over shareholder interests, leading to decisions that do not necessarily enhance company value. This misalignment can result in poorly executed acquisitions that fail to deliver expected benefits. 3. When shareholders increase their wealth through downsizing, does this come, to some degree, at the expense of loyal employees—those who have worked diligently to serve the firm in terms of accomplishing its vision and mission? If so, what actions would students take to be fair to both shareholders and employees if they were charged with downsizing or “smartsizing” a firm’s employment ranks? What ethical base would they employ to make decisions regarding downsizing? Impact of Downsizing on Employees: Downsizing can indeed harm loyal employees who have contributed to the firm’s success. If tasked with downsizing, students might advocate for transparent communication and support services, like retraining or severance packages, to balance shareholder wealth with employee welfare. Ethical decision-making would involve principles of fairness, respect, and consideration of long-term impacts on company culture. 4. Are takeovers ethical? If not, why not? Ethics of Takeovers: Takeovers can be seen as unethical if they involve deception, exploitation, or disregard for employee welfare and community impact. If they prioritize short-term gains over long-term sustainability, they may harm stakeholders. Ethical considerations should include the motives behind the takeover and the treatment of affected employees and communities. 5. Is it ethical for managers to acquire other companies just because industry competitors are doing so? Ethics of Following Competitors: It is generally not ethical for managers to pursue acquisitions solely because competitors are doing so. Such decisions should be based on a thorough evaluation of strategic fit, potential value creation, and alignment with the firm's goals. Acting merely in response to competitor behavior can lead to misguided strategies and ultimately harm shareholder interests. Internet Exercise Many Internet sites, including the US Federal Trade Commission’s official site at http://www.ftc.gov., offer information on mergers and acquisitions. With the increasing number of cross-border mergers and acquisitions, the FTC has been required to work closely with other foreign antitrust enforcers to regulate the new era of the global transaction. For example, the United States and the European Union have a bilateral agreement on antitrust enforcement. *e-project: Trace the history of some relatively recent large mergers and acquisitions—e.g., Daimler and Chrysler, BP Amoco and Arco, and Vodafone and Mannesmann. Use their websites and any other sources you find to obtain information on the official regulatory agencies that were involved in granting or denying permission for these mergers. Chapter 8 International Strategy ANSWERS TO REVIEW QUESTIONS 1. What incentives influence firms to use international strategies? Traditional incentives that are causing firms to expand internationally are to gain access to larger markets, to extend the product life cycle, to secure key resources, and to access lowcost factors of production (e.g., cheap labor or raw materials). Emerging motives include the increase in pressure for global integration (driven by global communications, which lead to a global convergence of lifestyles and, in turn, universal product demand), rising obligations for cost cutting (e.g., seeking the lowest cost provider of resources or low-cost global suppliers), the realization that R&D expertise for the next new product extension may not come from the domestic market, and the emergence of large scale markets. 2. What are the three basic benefits firms can achieve by successfully using an international strategy? Firms can derive four basic benefits from international strategies. These benefits are: Increased market size – firms can expand the size of their market, sometimes dramatically, by entering foreign markets. Economies of scale and learning – through international expansion firms may be able to realize economies of scale, especially in manufacturing operations. This is even more important to the extent that firms can standardize their products across country borders. In addition, operating across borders creates new opportunities for learning and this can lead to process improvements. Location advantages – firms can realize significant cost savings by locating operations at the optimal place in the world. Location advantages include low labor, energy, and natural material costs. Other advantages include access to critical suppliers and to customers. 3. What four factors are determinants of national advantage and serve as a basis for international business-level strategies? According to Michael Porter, the resources and capabilities established in a firm’s home country often enable the firm to pursue its strategy beyond the domestic market. Porter specified a model that describes the factors contributing to the advantage of firms in a dominant global industry and associated with a specific country or regional environment. These four factors are as follows: • Factors of production, or the basic inputs necessary to compete in any industry, such as labor, land, capital, and infrastructure • Demand conditions, or the nature and size of the buyers’ needs in the home market for the industry’s products or services (reflected either by segment size, which enables a firm to achieve economies of scale, or specialized demand, which enables the firm to develop a higher level of competency in producing products/services) • Related and supporting industries, or the presence of other industries in the home market that either are related to or support the primary industry. For example, the shoe industry in Italy benefits from a well-established industry in leather processing, people traveling to Italy to purchase leather goods, and an industry presence in leather-working machinery and design services) • Firm strategy, structure, and rivalry are interrelated as patterns of strategy that impact (and are impacted by) industry structure, which in turn affect and are affected by competitive rivalry. 4. What are the three international corporate-level strategies? What are the advantages and disadvantages associated with these individual strategies? The three international corporate-level strategies are multidomestic, global, and transnational (see Figure 8.4). Firms following multidomestic strategies assume that markets are different and should be segmented by national boundary. They decentralize or delegate strategic and operating decisions to the strategic business unit in each country to enable the flexibility necessary to tailor products and services to local market preferences. The use of multidomestic strategies usually produces expansion of local market share because of the attention paid to local demands; however, it also leads to greater uncertainty for the corporation as a whole (due to market differences and the strategies designed to fit these). Multidomestic strategies do not allow for the achievement of economies of scale and thus can be more costly, leading firms following this strategy to decentralize strategic and operating decisions to the business units operating in each country. Firms that follow a global strategy assume significant standardization of products across markets. The primary focus is on efficiency through economies of scale and the leveraging of innovation across country markets. Business-level strategy is centralized and controlled by the home office. It requires resource sharing and coordination and cooperation between subsidiaries and across country boundaries. Thus, a global strategy produces lower risk but may forgo growth opportunities in local markets because they are less likely to identify opportunities or these require product adaptation for local market preferences. Therefore, this strategy lacks local market responsiveness and is difficult to manage because of the need to coordinate strategies and operating decisions across country borders. A transnational strategy seeks to achieve both global efficiency and local responsiveness. It is difficult to realize the diverse goals of the transnational strategy because one goal requires close global coordination, whereas the other requires local flexibility; thus, “flexible coordination” is required to implement the transnational strategy. Management must build a shared vision and individual commitment through an integrated network. Effective implementation of a transnational strategy often produces higher performance than either the global or multidomestic strategy alone. 5. What are some global environmental trends affecting the choice of international strategies, particularly international corporate-level strategies? Global strategies require integration and coordination across units (and across national boundaries) and enable the achievement of economies of scale and efficiency. On the other hand, multidomestic strategies emphasize responsiveness to local market needs and preferences, providing the opportunity to more effectively meet customer needs and preferences. Successfully balancing the need for local responsiveness and global efficiency implies that local responsiveness should facilitate competition based on an international differentiation strategy, whereas global efficiency should facilitate competition based on an international cost leadership strategy. The threat of wars and terrorist attacks increases the risks and costs of international strategies. Furthermore, research suggests that the liability of foreignness is more difficult to overcome than once thought. Competing in many markets may enable the firm to achieve economies of scale because of the size of the combined markets, but only if customer preferences in multiple markets do not differ significantly. If customer preferences vary significantly among national markets, a firm might be better served to narrow its focus to a specific region. A regional focus may enable the firm to better understand cultures, legal and social norms, and other factors that may be important to achieving strategic competitiveness. Regionalization is another trend that has become more common in global markets. Companies need to decide if they are going to compete in all markets or selectively choose specific regions within which to operate. Regional strategies also are being promoted by groups of countries that have developed trade agreements to enhance the economic power of a region. Examples include the European Union (EU) and the Organization of American States (OAS) in South America. Another example of a regional market is the North American Free Trade Agreement (NAFTA), which is designed to facilitate free trade among the US, Canada, and Mexico. NAFTA may be expanded to include some South American countries and the movement of investment funds has not been only from the US to Mexico as Mexican investors have made significant investments in the US and some European firms have invested in Canada to gain access to this unified market. 6. What five entry modes do firms consider as paths to use to enter international markets? What is the typical sequence in which firms use these entry modes? Choice of mode of entry is determined by a number of factors, and the following modes are listed in a sequence that is typical in practice. Initial market entry will often be through export because this requires no foreign manufacturing expertise and demands investment only in distribution. Licensing can also facilitate the product improvement necessary to enter foreign markets. Strategic alliances have been popular because they allow partnering with an experienced player already in the targeted market. Strategic alliances also reduce risk through the sharing of costs. These modes therefore are best for early market development. To secure a stronger presence, acquisitions or new wholly owned subsidiaries (greenfield venture) may be required. Both acquisitions and greenfield ventures are likely to come at later stages in the development of an international diversification strategy. Additionally, these strategies tend to be more successful when the firm making the investment has considerable resources, particularly in the form of valuable core competencies. Thus, there are multiple means of entering new global markets. Firms select the entry mode that is best suited to the situation at hand. In some instances, these options will be followed sequentially, beginning with exporting and ending with greenfield ventures. In other cases, the firm may use several (but perhaps not all) of the different entry modes. The decision regarding the entry mode to use is primarily a result of the industry’s competitive conditions, the country’s situation and government policies, and the firm’s unique set of resources, capabilities, and core competencies. 7. What are political risks and what are economic risks? How should firms approach dealing with these risks? Political risks are related to instability in national governments and to war, civil or international. Instability in a national government creates multiple problems. Among these are economic risks and the uncertainty created in terms of government regulation, the presence of many (possibly conflicting) legal authorities, and potential nationalization of private assets. For example, foreign firms that are investing in Russia may have concerns about the stability of the national government and what might happen to their investments/ assets in Russia should there be a major change in government. Different concerns exist for foreign firms investing in China where foreign investors are less worried about the potential for major changes in China’s national government than about the uncertainty of China’s regulation of foreign business investments. Economic risks are highly interdependent with political risks. The primary economic risk is differences and fluctuations in the value of different currencies that can affect the value of a firm’s assets, liabilities, and earnings, as well as its price competitiveness in international markets. Although firms can realize many benefits by implementing an international strategy, doing so is complex and can produce greater uncertainty. For example, multiple risks are involved when a firm operates in several different countries. Firms can grow only so large and diverse before becoming unmanageable, or before the costs of managing them exceed their benefits. Other complexities include the highly competitive nature of global markets, multiple cultural environments, the security risks posed by terrorists, potentially rapid shifts in the value of different currencies, and the possible instability of some national governments. 8. What are the strategic competitiveness outcomes firms can reach through international strategies, and particularly through an international diversification strategy? International diversification provides the potential for firms to achieve greater returns on their innovations (through larger and/or more numerous markets) and thus lowers the often substantial risks of R&D investments. Therefore, international diversification provides incentives for firms to innovate. In addition, international diversification may be necessary to generate the resources required to sustain a large-scale R&D operation. The accelerating trend toward rapid technological obsolescence makes it difficult to invest in new technology and the capital-intensive operations required to take advantage of it; therefore, firms operating solely in domestic markets may find it difficult to justify such investments due to the length of time required to recoup the original investment. Even if the time frame is extended, it may not be possible to recover the investment before the technology becomes obsolete. Thus international diversification improves the firm’s ability to appropriate additional and necessary returns from innovation before competitors can overcome the initial competitive advantage created by the innovation. Additionally, firms moving into international markets are exposed to new products and processes, so they can learn and integrate this knowledge in an effort enhance their innovation efforts. The relationship among international diversification, innovation, and returns is complex. Some level of performance is necessary to provide the resources to generate international diversification. International diversification provides incentives and resources to invest in research and development. Research and development, if done appropriately, should enhance the returns of the firm, thereby providing more resources for continued international diversification and investment in R&D. 9. What are two important issues that can potentially affect a firm’s ability to successfully use international strategies? Firms pursuing international strategies often find that success leads to growth in both firm size and complexity. These conditions make it more difficult to manage. At some point the degree of geographic and product diversification may cause returns to become flat or even negative. This occurs because geographic dispersion increases the costs of operational coordination and product distribution. In addition, trade barriers, logistical costs, cultural diversity, and other differences by country all serve to complicate the implementation of international strategy. Evidence suggests that international expansion is managed differently by different companies—some do it better than others. Managers’ abilities to deal with complexity and ambiguity are key determinants to the success of international strategies. INSTRUCTOR'S NOTES FOR EXPERIENTIAL EXERCISES EXERCISE 1: Expand Internationally? You should familiarize yourself with the Maquiladora Program. A quick guide overview of the program is available via Industry Week: http://www.industryweek.com/globaleconomy/maquila-handbook-quick-tips-understanding-mexicos-immex-program. Recommend that the class create a master pros and cons list that integrates the ideas identified by all students. It is important to guide the discussion to focus on themes presented throughout the chapter such as risks and advantages of international strategies; as well as business and corporate-level strategies that could exist. In particular, when discussing what other items should go into this decision besides labor cost savings, be sure that the class is addressing issues such as increased coordination and distribution costs, management problems that arise as a result of factors such as trade barriers, logistical costs and cultural diversity. EXERCISE 2: WHERE NEXT? In this exercise teams are asked to assume the role of consultant to a fast food restaurant that is seeking to expand its footprint internationally. You can find a listing of full service restaurants using the Datamonitor research database under the NAICS 722211. A fuller exercise might be gained by having students pick firms that have little to no international strategy in place like Jack in the Box or CKE Restaurants. This would provide a wider palate to develop strategy rather than following a tried and true strategy already in place like McDonalds. The teams have lots of options to choose but one important ingredient of this exercise is for each team to research their industry and their target location(s). There should be an alignment of entry mode. For example if choosing China there needs to be a review of political risks that match up with entre mode and so on for many developing and developed countries. Next there needs to be an alignment between the industry trends and the country trends. If a leading indicator for fast food restaurants is the prevalence of out of home eating then this trend needs to be assessed in the target country. You may want to utilize poster sessions or power point presentations for this exercise to get a broader ability to have the class participate in the discussion. INSTRUCTOR'S NOTES FOR VIDEO EXERCISES Title: THE LURE OF AN INTERNATIONAL STRATEGY: INDIA//INFOSYS RT: 3:19 Topic Key: International strategy, Business-level strategy, Corporate-level strategy, National advantage The country of India doesn’t look like the new frontier in the high tech revolution but in the ancient rural villages of southern India, amidst the chaos of crowded streets, is a bold new world. India has turned into a technology mecca by being able to draw big name international companies and by creating a few of their own. Mohandas Pai, CEO of InfoSys, provides a tour of its facilities and explains the company’s extraordinary growth by growing from 500 to 50,000 employees in 12 years. He says it’s time to go East young man. InfoSys believes the key to luring foreign investors and workers is to create companies on par with any in the West. Pai showcases the InfoSys conference room, which is noted as similar to the United Nations. With over 40 office buildings, 2 gyms, basketball courts, a supermarket, a golf course, and its own bank, InfoSys looks more like a resort spa than a company headquarters. Along with Indians who have traded jobs overseas to come home, increasing numbers of young Americans from elite US colleges are coming to work for companies like InfoSys in India, which has the second largest software industry. Many feel they can get more experience and opportunities they could not get in the US. Graduates of US colleges are interviewed for their perspectives on the opportunities to contribute to organizations and the lures that are available in India. Americans are working hard and living well with lower salaries and lower cost of living with minimum standards of three meals a day for a $1. Mohandas Pai says that young Americans should come to India for the future is here. Also check out http://www.indianeconomics.org/ Suggested Discussion Questions and Answers 1. What international strategy incentives does India offer to a foreign investor? What limitations exist in India for companies desiring international expansion? o Incentives: (1) opportunities to integrate operations on a global scale particularly with on par business facilities, Americans coming to India to work and the technology foundation already existing in India, (2) opportunities to better use rapidly developing technologies with existing companies such as Infosys, (3) gain access to consumers in emerging markets with low-cost standard of living and good jobs available in India o Limitations: crowded streets and rural villages that paint a less than positive picture of India’s infrastructure 2. What benefits does InfoSys receive from its international strategy? o Increased market size and economies of scale and learning 3. How does India’s national advantage(s) influence its business-level strategy? o India’s specialized and advances national advantage factors allow it to develop a business-level strategy that can build strong home competitors that can make strong and successful global competitors. 4. What corporate-level strategy is used by InfoSys and why? o Transnational Strategy: InfoSys is looking for global efficiency and local responsiveness. They attempt to maintain control in India but do so with local and international employees, which provide “flexible coordination.” ADDITIONAL QUESTIONS AND EXERCISES The following questions and exercises can be presented for in-class discussion or assigned as homework. Application Discussion Questions 1. Given the advantages of international diversification, why do some firms choose not to expand internationally? Reasons Against International Expansion: Some firms may choose not to expand internationally due to high costs, complexity in navigating foreign regulations, or the challenges of adapting products to diverse markets. They might also prioritize focusing on domestic operations or lack the necessary resources and expertise for successful international ventures. Risk aversion can further deter firms from pursuing global opportunities. 2. How can a small firm diversify globally using the Internet? Global Diversification via the Internet: Small firms can diversify globally using the Internet by leveraging e-commerce platforms, social media marketing, and digital advertising to reach international customers. They can utilize online marketplaces to sell products, engage in global collaborations, and access resources like market research and analytics tools. This digital approach allows them to enter new markets with lower initial investments. 3. How do firms choose among the alternative modes for expanding internationally and moving into new markets (e.g., forming a strategic alliance versus establishing a wholly owned subsidiary)? Choosing Modes of International Expansion: Firms evaluate factors such as risk tolerance, resource availability, and market conditions when deciding between strategic alliances and wholly owned subsidiaries. Strategic alliances may offer shared resources and reduced risk, while wholly owned subsidiaries provide greater control and potential for higher returns. Each mode is chosen based on the firm's strategic goals and the specific market environment. 4. Does international diversification affect innovation similarly in all industries? Why or why not? Impact of International Diversification on Innovation: International diversification does not affect innovation uniformly across all industries. High-tech industries may benefit from diverse global perspectives and access to varied resources, enhancing creativity and innovation. In contrast, industries with rigid regulatory environments or established practices may experience slower innovation rates, as firms focus more on compliance than on exploring new ideas. 5. What is an example of political risk in expanding operations into Latin America or China? Example of Political Risk: An example of political risk in expanding operations into Latin America or China could be sudden changes in government policies, such as nationalization of industries or shifts in trade regulations. For instance, a foreign firm may face expropriation risks in Venezuela, where the government has previously seized private assets. Such uncertainties can significantly impact operational stability and profitability. 6. Why do some firms gain competitive advantages in international markets? Have students explain their answers. Competitive Advantages in International Markets: Firms that gain competitive advantages in international markets often leverage unique resources, such as advanced technologies, strong brand recognition, or efficient supply chains. They may also benefit from economies of scale, access to new customer bases, and the ability to innovate by integrating diverse market insights. Successful firms strategically position themselves to exploit these advantages. 7. Why is it important to understand the strategic intent of strategic alliance partners and competitors in international markets? Importance of Understanding Strategic Intent: Understanding the strategic intent of alliance partners and competitors is crucial in international markets, as it helps firms anticipate actions and align strategies effectively. Misaligned objectives can lead to conflicts or failed collaborations, while a clear understanding facilitates better negotiation, resource sharing, and mutual benefit. This awareness is essential for building strong, lasting partnerships. 8. What are the challenges associated with pursuing the transnational strategy? Have students explain their answers. Challenges of the Transnational Strategy: Pursuing a transnational strategy presents challenges such as balancing global efficiency with local responsiveness. Firms must navigate complexities in coordinating operations across diverse markets while addressing different consumer preferences and regulatory requirements. Additionally, managing communication and cultural differences can complicate decision-making and execution, requiring robust organizational structures and processes. Ethics Questions 1. As firms attempt to internationalize, they may be tempted to locate their facilities where product liability laws are lax in testing new products. What are some examples in which this motivation is the driving force behind international expansion? Motivation for Lax Product Liability Laws: Companies may expand to countries with lax product liability laws to reduce costs associated with testing and compliance. For example, some pharmaceutical firms have been known to conduct clinical trials in nations with less stringent regulations to expedite the approval process. This can lead to ethical concerns about the safety and efficacy of products being tested in vulnerable populations without adequate oversight. 2. Regulation and laws regarding the sale and distribution of tobacco products are stringent in the US market. Use the Internet to investigate selected US tobacco firms to identify if sales are increasing in foreign markets compared to domestic markets. In what countries are sales increasing and why? What is your assessment of this practice? Tobacco Sales in Foreign Markets: Many US tobacco firms have seen increasing sales in countries like China and India, where regulations are less stringent and tobacco consumption remains culturally embedded. The rise in disposable income and urbanization in these markets also contribute to increased demand. From an ethical perspective, this practice raises concerns about the exploitation of lax regulations and the health implications for consumers in these countries. 3. Some firms outsource production to foreign countries. Although the presumed rationale for such outsourcing is to reduce labor costs, examine the labor laws (for instance, the strictness of child labor laws) and laws on environmental protection in another country. What does your examination suggest from an ethical perspective? Outsourcing and Labor Laws: When firms outsource to countries with weak labor laws, such as those permitting child labor or inadequate environmental protections, they may prioritize cost savings over ethical considerations. For instance, a firm operating in a country with lax child labor laws might benefit financially while contributing to social injustices. Ethically, this highlights the responsibility of firms to uphold human rights and environmental standards regardless of the location of production. 4. Are there markets that the US government protects through subsidies and tariffs? If so, which ones and why? How will the continuing development of e-commerce potentially affect these efforts? US Government Protection through Subsidies and Tariffs: The US government provides subsidies and imposes tariffs in sectors like agriculture (e.g., corn and dairy) to protect domestic industries from foreign competition. These protections aim to stabilize local economies and preserve jobs. However, the rise of e-commerce could challenge these efforts by increasing global market access, potentially undermining the effectiveness of subsidies and tariffs. 5. Should the United States seek to impose trade sanctions on other countries, such as China, because of human rights violations? Imposing Trade Sanctions for Human Rights Violations: The US may consider imposing trade sanctions on countries like China for human rights violations, which could signal disapproval and pressure for reform. However, this approach must weigh the potential economic impact on both countries and the effectiveness of sanctions in prompting change. An ethical stance would prioritize human rights while considering the broader implications for international relations and global trade. 6. Latin America has been experiencing significant changes in both political orientation and economic development. Describe these changes. What strategies should foreign international businesses implement, if any, to influence government policy in these countries? Is there a chance that the political changes will reverse? Political and Economic Changes in Latin America: Latin America has seen shifts towards more progressive governments and increased economic reforms aimed at reducing inequality. Strategies for foreign businesses could include engaging in dialogue with policymakers, supporting sustainable development initiatives, and fostering local partnerships to influence government policies positively. However, the potential for political reversals remains, as public sentiment can shift based on economic performance and social issues. Internet Exercise Convenience stores in Japan, such as the corner Seven-Eleven, and supermarkets in Britain are capitalizing on Internet commerce by offering their customers easy access, e-service, and attractive prices and selections. Located at http://www.7dream.com, Seven-Eleven allows shoppers to surf, order, and pay for merchandise with cash, the most trusted method of payment in Japan, a country with a comparatively low crime rate. Locate the website of Britain’s large supermarket chain, Tesco, at http://www.tesco.com. What types of services offered would appeal to you? What do you see as a deterrent to introducing these and other ecommerce services into supermarkets, hypermarkets, and convenience stores in the United States? *e-project: This chapter explains the different methods of entering foreign markets. Using sources on the Internet provided by your government’s trade division, the US State Department (http://www.state.gov), the US Dept. of Commerce (http://www.commerce.gov), and private resources such as http://www.china-venture.com, plan the export of a new line of USA-brand baseball hats to Shanghai and Beijing, China. Assume that you plan to manufacture the hats inside China and distribute them through local stores within those two cities. Chapter 9 Cooperative Strategy ANSWERS TO REVIEW QUESTIONS 1. What is the definition of cooperative strategy, and why is this strategy important to firms competing in the twenty-first century competitive landscape? A cooperative strategy is a strategy in which firms work together to achieve a shared objective. Cooperative strategy is the third major alternative (internal growth and mergers and acquisitions are the other two) firms use to grow, develop value-creating competitive advantages, and create differences between them and competitors. Thus, cooperating with other firms is another strategy that is used to create value for a customer that exceeds the cost of creating that value and to create a favorable position in the marketplace. The increasing importance of cooperative strategies as a growth engine shouldn’t be underestimated. This means that effective competition in the 21st century landscape results when the firm learns how to cooperate with, as well as compete against, competitors. 2. What is a strategic alliance? What are the three major types of strategic alliances firms form for the purpose of developing a competitive advantage? A strategic alliance is a partnership between firms whereby each firm’s resources and capabilities are combined to create a competitive advantage. The three types of explicit cooperative strategies mentioned are (1) joint ventures, (2) equity strategic alliances, and (3) nonequity strategic alliances. However, tacit collusion and mutual forbearance (the latter being a form of tacit collusion) are also included as implicit cooperative arrangements. A joint venture is an alliance where a new, independent firm is formed by two or more partners who share some of their resources and capabilities to develop a competitive advantage. An equity strategic alliance is an alliance where partner firms share resources and capabilities, but own unequal shares of equity in a new venture. Many foreign direct investments are completed through equity strategic alliances, such as those involving Japanese or US companies operating in China. A nonequity strategic alliance is an alliance where a contract is granted to a company to supply, produce, or distribute a firm’s products or services. No equity sharing is involved. Other types of cooperative contractual arrangements concern marketing and information sharing. Because they do not involve the forming of separate ventures or equity investments, nonequity strategic alliances are less formal and demand fewer commitments from partners as compared to both joint ventures and equity strategic alliances. However, the attributes of nonequity alliances make them unsuitable for complex projects where success is influenced by effective transfer of tacit knowledge between partners. 3. What are the four business-level cooperative strategies? What are the key differences among them? Complementary strategic alliances are partnerships that are designed to take advantage of market opportunities by combining partner firms’ assets in complementary ways so that new value is created. These are classified as either vertical or horizontal complementary strategic alliances. Vertical complementary strategic alliances are formed between firms that agree to use their skills and capabilities in different stages of the value chain to create value. Horizontal complementary strategic alliances represent partnerships that link similar activities of rival firms. Horizontal complementary alliances often are used to increase each firm’s strategic competitiveness, focusing on the long-term development of product and service technology and distribution opportunities. Competition response strategies are cooperative strategic alliances that are established to enable partner firms to respond to major strategic actions (but typically not tactical actions) initiated by competitors or to enable firms to more effectively compete in emerging markets. Uncertainty-reducing strategies represent cooperative alliances used as strategic options to hedge against risk and uncertainty. Thus, the rapidly changing 21st century competitive landscape may create uncertain outcomes for firms as their rivals form and use cooperative strategies to reduce their own risks. For example, firms form alliances to reduce the uncertainty associated with developing new product or technology standards. However, in terms of competitive dynamics, one firm’s alliances can create risks and uncertainty for its competitors. Competition-reducing strategies are cooperative strategies adopted by some firms to reduce competition that they perceive as potentially destructive or excessive. Examples of competition-reducing strategies include explicit collusion and tacit collusion (or mutual forbearance). Alliances formed to reduce competition are likely to result in inefficiencies in both manufacturing and service industries and these often lead to below-average firm performance in international markets. Tacit collusion exists when several firms in an industry cooperate tacitly to reduce industry output below the potential competitive level, thereby increasing prices above the competitive level. Most strategic alliances, however, exist not to reduce industry output but to increase learning, facilitate growth, or increase returns and strategic competitiveness. Cooperative agreements may also be explicitly collusive, but this is illegal in the United States unless regulated by the government (for example, the telecommunications industries prior to deregulation). Mutual forbearance is tacit recognition of interdependence, but it has the same effect as explicit collusion in that it reduces output and increases prices. 4. What are the three corporate-level cooperative strategies? How do firms use each of these strategies for the purpose of creating a competitive advantage? Strategic alliances used to facilitate product or market diversification are called corporatelevel cooperative strategies. Three types of strategic alliances are used at the corporate level to facilitate cooperation among diversified companies. As shown in Figure 9.3, the corporate-level strategic alliances are called diversifying alliances, synergistic alliances, and franchising. However, it is instructive to note that managing a large number of strategic alliances is difficult. Therefore, if relatively few firms are able to do it well, alliance management in itself may represent a source of competitive advantage. Nonetheless, though alliance networks may enable firms to achieve industry leadership, they also involve risks and their management is a complex and potentially costly challenge. Diversifying strategic alliances allow a company to expand into new product or market areas without completing a merger or an acquisition. A corporate-level strategic alliance is a viable strategic option for a firm that wants to grow but chooses not to merge with or acquire another company to do so. Such corporate-level alliances provide some of the potential synergistic benefits of a merger or acquisition, but with less risk and greater levels of flexibility. These benefits accrue to a firm because exiting a strategic alliance is less difficult and costly as compared to divesting an acquisition that did not contribute as expected to strategic success. Synergistic strategic alliances allow firms to share resources and capabilities to create joint economies of scope. Similar to the horizontal complementary strategic alliance that is used at the business level, synergistic strategic alliances create synergy across multiple functions or multiple businesses controlled by partner firms. Two firms might, for example, create joint research and manufacturing facilities that they both use to their advantage and thus attain economies of scope without a merger. Franchising is a cooperative strategy a firm uses to spread risk and to use resources and capabilities productively, but without merging with or acquiring another company. As a cooperative strategy, franchising is based on a contractual relationship concerning a franchise that is developed between two parties—the franchisee and the franchisor. Thus, franchising is an alternative to diversification. Defined formally, a franchise is a contractual arrangement between two independent companies whereby the franchisor grants the right to the franchisee to sell the franchisor’s product or do business under its trademarks over a given territory and time period. The foundation for this cooperative strategy’s success is the ability to gain economies of scale by forming multiple units while deriving operational efficiencies from the work of individual units competing in specific local markets. Franchising permits relatively strong centralized control and facilitates knowledge transfer without significant capital investment. Brand name is thought to be the most effective competitive advantage for a franchise since this can signal both tangible and intangible consumer benefits. Franchising reduces financial risk because franchisors often invest some of their own capital in the local venture, and this capital investment motivates franchisors to perform well by emphasizing quality, standards, and a brand name that are associated with the franchisee’s original business. Because of these potential benefits, franchising may provide growth with less risk than diversification. 5. Why do firms use cross-border strategic alliances? The first reason firms decide to use cross-border strategic alliances is that multinational corporations usually outperform firms operating in domestic-only markets. In the context of cooperative strategies, this general evidence suggests that a firm can form cross-border strategic alliances to leverage core competencies that are the foundation of its domestic success to expand into international markets. Second, cross-border alliances can be used when opportunities to grow through either acquisitions or alliances are limited within a firm’s home nation. The third reason firms choose to form cross-border alliances revolves around government policies. Some countries regard local ownership as an important national policy objective, so investment by foreign firms may be allowed only through cooperative agreements such as cross-border alliances. This is often true in newly industrialized and developing countries with emerging markets. Cooperative arrangements can be helpful to foreign partners because the local partner can provide information about local markets, capital sources, and management skills. The fourth primary reason cross-border alliances are used is to help a firm transform itself in light of rapidly changing environmental conditions. In general, cross-border alliances are complex and more risky than domestic strategic alliances. However, the fact that firms competing internationally tend to outperform domestic-only competitors suggests the importance of learning how to diversify into international markets. Compared to mergers and acquisitions, cross-border alliances may be a better way to learn this process, especially in the early stages of the firms’ geographic diversification efforts. 6. What risks are firms likely to experience as they use cooperative strategies? Because firms that are cooperating may also be competing with each other, four significant risks accompany cooperative strategies. As summarized in Figure 9.4, the primary competitive risks associated with cooperative strategies are: (1) poor contract development that may result in one (or more) of the partners acting opportunistically and taking advantage of other venture partners; (2) misrepresentation of a partner firm’s competencies by misstating or exaggerating an intangible resource such as knowledge of local market conditions; (3) failure of partner firm(s) to make complementary resources available to the venture; and (4) being held hostage through specific investments (whose value is associated only with the venture or the local partner), especially if laws in a country do not protect investments in the case of nationalization. 7. What are the differences between the cost-minimization approach and the opportunity-maximization approach to managing cooperative strategies? Two primary approaches are used to manage cooperative strategies. In one instance, the firm develops formal contracts with its partners. These contracts specify how the cooperative strategy is to be monitored and partner behavior controlled. The goal is to minimize the cost of an alliance and to prevent opportunistic behavior by a partner, thus the use of the term cost-minimization. The focus of the second managerial approach is on maximizing value-creation opportunities as the partners participate in the alliance. In this case, partners are prepared to take advantage of unexpected opportunities to learn from each other and to explore additional marketplace possibilities. Trust-based relationships and complementary assets must exist between partners for this approach to be used successfully. When trust exists, there is less need to write detailed formal contracts to specify each firm’s alliance behaviors, and the cooperative relationship tends to be more stable. Research showing that trust between partners increases the likelihood of alliance success seems to highlight the benefits of the opportunity maximization approach to managing cooperative strategies. INSTRUCTOR'S NOTES FOR EXPERIENTIAL EXERCISES EXERCISE 1: ALLIANCE MANAGEMENT AS A PROFESSION In this exercise, students are tasked with researching and understanding strategic alliances as a career as a mechanism for understanding the mechanics upon which firms rely to achieve a successful strategic alliance. An excellent resource for understanding more on careers in alliance management is the Association of Strategic Alliance Professionals (http://www.strategic-alliances.org/) The students were tasked with addressing a few questions; resources for understanding careers in alliance management are identified below: Find any trade associations of organizations or professionals that are aligned with the field. See: http://www.strategic-alliances.org/ Does the work get done mainly through in company personnel or consulting firms? Work is primarily done through experienced consultants, some examples to reference for an understanding of services offered: http://www.alliancestrategy.com/Consulting.html http://www.gsacf.com/ Lead a discussion around what benefits and downsides exist to a career in strategic alliance management. EXERCISE 2: AIRLINES AND ALLIANCES There is likely no better example of alliances globally than the ones undertaken by the airlines. For an excellent article on the hows and whys of this ,and potentially another exercise, utilize the case Airline Industry Alliances in 2004: Improving Performance in the Beleaguered Airline Industry: a case written by Frank Riehl and Professor Africa Ariño, accessible through the HBS case archives. In this case, the authors provide the history of the Chicago Convention and the European Open Skies Agreements which prohibit international airlines from acquiring one another except within narrowly defined limits. Therefore regulation is very important in the ability of airlines to compete on a global scale. They have no recourse but to align with one another if global access is in their business model. Another interesting component of this is to have the students understand the structure of the agreements. You might want to ask them why they just don’t acquire one another and we have just a few airlines similar to the way in which the global automobile market has shaken out (naturally local governments prohibit this). So these alliances on the whole are most likely categorized as: *non equity alliances *operating in slow cycle markets (need the economies of scale) *Business level- complimentary strategic alliance *Corporate Level- Synergistic strategic alliances *Cross-border strategic alliance What are some of the other benefits? *Fuel pricing agreements- hedging *Joint aircraft purchases *Frequent flyer programs *Terminal sharing- DeGaulle- consolidation for transferring *IT sharing Another twist to this might be to add in the newest airline alliance which has formed in the Middle East: Arabesk Network Cooperation and there are also some air freight alliances such as the WOW Alliance, SkyTeam Cargo and ANA/UPS Alliance.. You may wish to add this variety to the assignment so that each team has a different focus INSTRUCTOR'S NOTES FOR VIDEO EXERCISES Title: A PARTNERSHIP WITH A COOPERATIVE TWIST: MICROSOFT AND YAHOO! RT: 1:57 Topic Key: Cooperative strategy, Strategic alliance, Business-level cooperative strategies, Corporate-level cooperative strategies The Yahoo/Microsoft partnership, while the Silicon Valley talk, has employees concerned at Yahoo about more layoffs in the Yahoo search department. The deal teams two of the biggest technology companies against Google for the lucrative control of the Internet search market. Analysts believe that, in the short term, Google has little to worry about but in the long term they may depending on how advertisers respond to the idea of a larger #2 in the search advertising market. Google currently has 65% of the market whereas Yahoo has almost 20% and Microsoft at a distant third has less than 10%. The managing editor for CRN Magazine considers this an absolute steal for Microsoft in that Yahoo wins the ability to stay an independent company with a huge new friend. Reporters say consumers won’t notice changes right away but the partnership will benefit consumers over the long run because it doesn’t hurt to have a very strong #2 in search. With consumers receptive to the move, analysts believe that it will boost Bing’s exposure to Yahoo’s audience giving Microsoft its desire for a greater share of Internet advertising. Yahoo is reserving the right to retain control of the user interface that will control the look and feel of how the search results will be presented but the technology is all done by Microsoft. Analysts predict a tie-in to remind people that Bing is what’s providing the results, which is key to branding for Microsoft. Also check out http://www.microsoft.com/en-us/default.aspx and http://www.yahoo.com/ Suggested Discussion Questions and Answers 1. What kind of competitive advantage is created through the Microsoft/Yahoo cooperative strategy? Explain. o Microsoft and Yahoo have created a collaborative or relational advantage. Through the partnership, each company is able to take their areas of expertise to help each other build a greater place in the market. 2. What kind of strategic alliance has occurred with Microsoft and Yahoo? Explain your answer. For what reasons do you think they developed such an alliance? o Based on video information, discussion and cases can be made for various types of strategic alliances. However, because Microsoft and Yahoo did not establish a separate independent company, it appears they have taken the Yahoo look and the Microsoft technology and created a nonequity strategic alliance for the purpose of becoming #2 in the search market. Text: A nonequity strategic alliance is an alliance in which two or more firms develop a contractual relationship to share some of their resources and capabilities for the purpose of creating a competitive advantage. Reasons: Innovation, Growth, Increased Revenue, Increased advertising exposure for Microsoft, Expanded resources and capabilities needed to reach objectives for both Microsoft and Yahoo 3. Now that Microsoft and Yahoo have partnered, what business-level cooperative strategies do you think we can expect from them? Why? o Text: A business-level cooperative strategy is a strategy through which firms combine their resources and capabilities for the purpose of creating a competitive advantage by competing in one or more product markets. o We should be able to expect complementary strategic alliances from Microsoft and Yahoo because of a continued need to utilize one another’s resources and capabilities to bid for the search market. They will need to have a competitive response strategy because the partnership will initiate concerns from Google to fight back. Also, Microsoft and Yahoo will need competition-reducing strategies to continue to make gains in the search market. Even after the partnership, they still remain significantly behind in the search market share. Although neither may want to enter into illegal collusion efforts, they may need to resort to further partnerships to make an impact on competition. 4. What corporate-level cooperative strategies do you think we can expect? Why? o Text: A corporate-level cooperative strategy is a strategy through which a firm collaborates with one or more companies for the purpose of expanding its operations. o We can expect diversifying alliances and synergistic alliance strategies from Microsoft and Yahoo. Diversifying alliances will be used to continue to share resources and capabilities for product expansion and geographic diversification. With more strategic alliances possible, both companies will entertain synergistic alliances to create economies of scope so that synergy can be created across multiple functions and partner alliances. As this partnership and others result in testing of relationships, both companies may consider a united independent company in the long run in order to better compete. ADDITIONAL QUESTIONS AND EXERCISES The following questions and exercises can be presented for in-class discussion or assigned as homework. Application Discussion Questions 1. Ask students to visit the website for Financial Times (http://www.ft.com). Find three or four articles that discuss different firms’ uses of cooperative strategies. What types of cooperative strategies are revealed in each article? What objective is each firm pursuing as it uses a particular cooperative strategy? Cooperative Strategies from Financial Times Articles: Students can find articles discussing various firms’ cooperative strategies, such as joint ventures, strategic alliances, and partnerships. For example, one article might describe a tech company forming a joint venture to enhance innovation, while another discusses a retail firm partnering for supply chain efficiency. The objectives could range from market expansion and cost-sharing to enhancing product offerings and increasing competitive advantage. 2. Ask students to use the Internet to find two articles describing firms’ use of a cooperative strategy: one where trust is being used as a strategic asset and another where contracts and monitoring are being emphasized. What are the differences between the managerial approaches being used in the two companies? Which of the cooperative strategies has the highest probability of being successful? Why? Trust vs. Contracts in Cooperative Strategies: In one article, a company might emphasize trust and long-term relationships in its cooperative strategy, fostering collaboration and shared goals. In contrast, another article may highlight a firm relying on contracts and strict monitoring to manage its partners, focusing on risk mitigation and accountability. The strategy based on trust generally has a higher probability of success, as it encourages open communication and flexibility, fostering stronger, more resilient partnerships. 3. Each student should choose a Fortune 500 firm that has a significant need to outsource a primary or support activity (such as information technology). Given the activity the firm can outsource, should the firm form a nonequity strategic alliance to outsource the focal activity? Outsourcing and Strategic Alliances: For a Fortune 500 firm like IBM, outsourcing information technology support could be beneficial. Forming a nonequity strategic alliance for this activity would allow the firm to leverage specialized skills without the commitment of equity investment. This approach can enhance flexibility and access to innovations while reducing operational costs, making it a suitable choice for effective outsourcing. 4. Ask students to use the Internet to determine whether DaimlerChrysler has formed strategic alliances to build its small cars. If these alliances have been formed, what factors caused this decision to be made? If alliances have not been formed for this purpose, why not? DaimlerChrysler's Strategic Alliances for Small Cars: Students can research whether DaimlerChrysler has engaged in strategic alliances for building small cars. If alliances exist, factors such as shared development costs, access to new technologies, or market penetration strategies likely influenced the decision. If no alliances were formed, it may be due to the firm’s preference for maintaining control over production processes or a strategic decision to focus on in-house capabilities. 5. Ask students to use the Internet to visit the websites of Deutsche Telekom AG, Sprint, and France Telecom SA. What is the role each firm has in the Global One Alliance they have all joined? Roles in the Global One Alliance: In the Global One Alliance, Deutsche Telekom AG, Sprint, and France Telecom SA collaborate to enhance telecommunications services globally. Each firm plays a role in integrating their networks and resources to offer seamless international services. They share expertise, expand market reach, and enhance competitive positioning in the global telecommunications market, benefiting from combined strengths and capabilities. Ethics Questions 1. From an ethical perspective, how much information is a firm obliged to tell a potential strategic alliance partner about what it expects to learn from the cooperative arrangement? Obligation to Disclose Information: Ethically, a firm should provide its potential strategic alliance partner with sufficient information about its objectives, capabilities, and expectations to ensure informed decision-making. Transparency is essential for building trust and fostering a collaborative environment. However, the level of detail should balance between necessary disclosure and protection of proprietary information, maintaining a fair negotiation process. 2. “A contract is necessary because most firms cannot be trusted to act ethically in a cooperative venture such as a strategic alliance.” Is this statement true or false? Why? Does the answer vary by country? Why? Necessity of Contracts: The statement is partly true; while contracts are essential for clarifying expectations and obligations, they may not guarantee ethical behavior. Trust varies by country, influenced by cultural norms and legal frameworks. In some regions, strong ethical standards may reduce reliance on contracts, while in others, particularly where legal enforcement is weak, firms may rely more heavily on detailed agreements to protect their interests. 3. Ventures in foreign countries without strong contract law are more risky, because managers may be subjected to bribery attempts once their firms’ assets have been invested in the country. How can managers deal with these problems? Dealing with Bribery Risks: Managers can mitigate bribery risks by conducting thorough due diligence before entering foreign markets, understanding local laws, and establishing clear ethical guidelines for conduct. Implementing robust compliance programs, training employees on anti-bribery practices, and fostering a culture of integrity can help deter unethical behavior. Engaging with local stakeholders and fostering transparent relationships can also reduce the likelihood of corruption. 4. Many international strategic alliances are being formed by the world’s airline companies. Do these companies face any ethical issues as they participate in multiple alliances? If so, what are the issues? Are the issues different for airline companies headquartered in the United States than for those with European home bases? If so, what are the differences, and what accounts for them? Ethical Issues in Airline Alliances: Airline companies participating in multiple alliances face ethical issues like potential anti-competitive behavior and conflicts of interest, particularly in route sharing and pricing strategies. U.S. airlines may be subject to stricter regulatory scrutiny than their European counterparts, affecting how they manage alliances. Differences in regulatory environments and cultural attitudes towards competition contribute to varying ethical challenges faced by these companies. 5. Firms with a reputation for ethical behavior in strategic alliances are likely to have more opportunities to form cooperative strategies than will companies that have not earned this reputation. What actions can firms take to earn a reputation for behaving ethically as a strategic alliance partner? Building a Reputation for Ethical Behavior: Firms can earn a reputation for ethical behavior in strategic alliances by consistently demonstrating transparency, accountability, and fair dealing in their partnerships. Establishing clear ethical guidelines, providing ethics training, and engaging in open communication with partners can enhance trust. Actively addressing ethical dilemmas and publicly sharing their commitment to ethical practices can also reinforce their reputation in the market. Internet Exercise Many airlines have global cooperative alliances. Explore two of these major alliances on the Internet, the OneWorld Alliance, which includes American Airlines, British Airways, and a handful of other, less influential airlines (http://www.oneworldalliance.com), and the Star Alliance, which includes Lufthansa and United-Continental Airlines, among others (http://www.star-alliance.com). How do these alliances share competitive resources? Review the four competitive risks associated with using cooperative strategies. How does each alliance avoid these risks? *e-project: Delta Airlines and its alliance partners commissioned an elite advertising firm to create an image for their airlines’ network. As part of the team, you are hired to create the web-based portion of the new advertising campaign. How would you design this new site? What features would you include to better define the alliance’s strategic intent? Solution Manual for Strategic Management: Concepts and Cases: Competitiveness and Globalization Michael A. Hitt, R. Duane Ireland, Robert E. Hoskisson 9781285425184, 9781285425177, 9780538753098, 9781133495239, 9780357033838, 9781305502208, 9781305502147