Multinational Enterprises and Global Trade

A multinational enterprise (or “MNE”) is a company with operations (producing goods or delivering services) or assets in more than one country. Sometimes, these entities are referred to as International Corporations, or Multinational Corporations (“MNC”). Essentially, these are a collection of separately formed but interrelated organizations that draw on a common pool of resources, including assets, patents, trademarks, information, and human resources. Through this process, multinational enterprises link together their affiliates and business partners with a common strategic vision. Although many MNEs can be quite large, there are many small multinationals as well.

MNEs are powerful economic institutions. In 2020, the world’s 500 largest companies generated over $33.3 trillion in revenues and $2.1 trillion in profits in 2019. Together, these 500 companies employ nearly 70 million people extending through 32 countries. Nations with well-established infrastructures and financial markets are generally more conducive to the operations and success of MNEs. Therefore, nations with such stable and strong institutions are where many of the world’s MNEs are headquartered. For the last century, the majority of the world’s largest multinational companies have been American (Ford, Coca-Cola), Western European (Volkswagen, Nestle), or Japanese (Sony, Mitsubishi). Since the turn of the century, however, there has been an emergence of new multinationals in other regions such as China (Huawei, Lenovo), South Korea (Samsung and Hyundai), and Mexico (Cemex, Bimbo). While other countries might be hosts to fewer MNE headquarters, they do often host the operations of MNEs, which are headquartered elsewhere.

Hard and Soft Infrastructure

Multinational enterprises require both hard and soft infrastructure to grow and maintain their global businesses. A hard infrastructure is the actual physical elements of society, such as railways, ports, airports, roads, and bridges infrastructure that enable corporate entities to move goods from one place to another. Soft infrastructure refers to everything else that impacts the stability of the business enterprise, such as a stable government/economy, a resilient labor force, culture, social patterns, up-to-date technology, and so on. The two types of infrastructure are, of course, interrelated.

Major Types of Foreign Entry

There are numerous ways corporations can enter global markets, the most common of which are exporting, licensing/franchising, strategic alliances, acquisitions of other entities, and greenfield ventures. So what is the best way to enter a new international market? Most corporations start with exporting, then move on to licensing or some sort of higher investment strategy.

Below is a summary of the various methods of entry and the advantages and disadvantages of each.

Exporting

Exporting is generally the fastest and easiest method to enter a foreign market, with lower risks. Exporting can be done through unrelated distribution entities or arrangements with fully or semi-controlled subsidiaries. On the other hand, the entity has a low level of control and low levels of local knowledge.

Each year, US companies export over $2.5 Trillion in goods and services. As a general matter, exporting can increase a corporation’s revenues and profitability, allow it to better defend its domestic market, increase its overall competitive efficiency in all markets, and expand the recognition and value of its intellectual property. Exporting is also a relatively easy means of diversifying its consumer base and regulating its business cycles by reducing seasonal differences. Most obviously, exporting massively increases its potential client market. For example, 95% of the world’s consumers live outside the United States, so a United States-based entity would gain access to a significantly higher customer base by expanding beyond the United States borders.

While there are many advantages to exporting, understanding the best way to expand to new markets can be difficult. It requires an understanding of foreign demand, how to find foreign consumers, and how to facilitate financial transactions and ship goods.

Companies considering expanding into exporting should first build a comprehensive export plan that evaluates their resources and capacity for expansion in new markets and integration of exporting into their overall business plan. The plan should include research of the new entry market, evaluating how to create a global marketplace for the product, considering the financial tools necessary to implement global financial transactions and determining shipping/distributing methodology and required tools.

Market research is always essential for operating a business. It is the same when the corporate entity is considering foreign expansion. Companies interested should be sure to engage in a sufficient amount of foreign market research before entering that particular market. In addition, companies may wish to evaluate various foreign markets before determining which one to enter. There are many resources for this type of research, including country-specific commercial guides produced by embassies and associations that govern the specific industry of the company in question. There is also free and fee-based trade data online.

Creating a marketplace for foreign buyers is an essential component of beginning an exporting business. Creating this marketplace includes everything from developing a global online presence accessible from all countries to which the entity exporting, including a global social media plan, as well as attending industry trade shows that often include foreign buyers and distributors. Companies may also consult US Embassies and Consulates in and related to the geographic region where the entity will operate to discuss its plans, ask for matchmaking, distribution, and promotional services with the country to which it is interested in exporting. In addition, corporations can continue to create and expand their marketplaces based on the date their foreign market research reveals. Through easily applied analytics software, for example, it can learn where its customers are and their buying habits.

Global financial transactions can be complicated, and when launching an exporting line, the company should consult with its financial institutions and banks. Note that banks are also a potential resource for loans to expand the corporate business internationally, and even insurance to guarantee payments from foreign buyers and distributors. There are a variety of export financing options through US banks, and also private lenders.

Finally, companies interested in exporting should determine the actual practical needs for shipping goods across borders. For example, does the business or product require an exporting license before it is shipped? Entities should familiarize themselves not only with the standards of the country in which they are currently operating, but also the standards, certifications, and regulations of the country they have chosen to enter that may apply to their product. This analysis should factor in all costs of exporting, including potential taxes.

When determining which country to export to, consider starting with those with whom the United States has a free trade agreement. These agreements make exporting less expensive and remove many of the barriers to market entry. Companies should further consider whether the market they are evaluating is growing, review barriers that might exist, and understand climate, political, and social issues related to the country.

Note that exporting is not an option that is limited to only the world’s largest MNEs. In fact, 98% of the nearly 280,000 exporting businesses in the United States are small-mid-sized companies, that is, companies with fewer than 500 employees. In today’s world of global online connectivity, efficient logistics options, as well as a large amount of local, state and federal assistance offered to exporters, even the smallest of businesses can successfully launch an exporting arm. Smaller entities, however, should be especially careful to consider their ability to increase production to match the demands they are expecting.

Entities considering expanding into an exporting business should consider all of this information to develop a well-thought-out export plan. This plan, including marketing and distribution plans, could differ for each new region a company enters.

Licensing and Franchising

Licensing and franchising are other ways to enter a foreign market. Again, this is a fast entry and low-risk method of market entry, with less control. There is also a chance the licensee will become a competitor.

International licensing and franchising is a particularly great option for entities with a strong intellectual property and brand identity. It allows those corporations to leverage that asset and all of the goodwill associated with it. It is also a clever method of expanding globally because investment requirements can be greatly reduced by instead engaging licensee and franchisee partners who provide the capital necessary to establish their local operations of the corporate brand. Each such partner is incentivized to succeed by maintaining and promoting the global brand. In addition, since they are all local to the expansion areas, they have important knowledge of their local markets in ways that mere research cannot provide the company.

As these partners receive royalties, sales, and profits in return for the use of the brand, they are incentivized to succeed in a way that does not harm the brand long term. Nevertheless, a licensor or franchisor necessarily gives some freedom to external parties to operate under the global brand, and with that, comes risks that the brand will be damaged or its value diminished. Therefore, expansion into foreign markets through this mechanism must be coupled with strict brand protection protocols that ensure the global brand vision is consistent and its value is maintained or expanded. This is why all McDonald’s arches look the same.

The process of brand protection and consistency also requires significant quality control. For example, Levi’s might license its name to a jeans manufacturing entity in a foreign nation, but to make sure the name Levi’s remains valuable, it should ensure the jeans are of the quality, and maybe even style, its brand is associated with. This involves oversight, such as quality control measures and inspections. It may also involve rules and guidelines related to the working conditions of laborers involved in making and selling the globally branded product and numerous other operational, labor and employment, and marketing concerns.

Strategic Alliances

A third form of market entry is partnering and strategic alliances with corporations existing within other countries. This method of cross-market expansion allows the company to share costs, reduce the level of investment needed, reduce risk, and still be perceived in many relevant ways as a local entity. On the minus side, however, the costs for these joint ventures tend to be higher than exporting, licensing, or franchising. In addition, sometimes there are problems with the two corporate cultures integrating into one.

These strategic alliances are essentially contracts between two entities in two different geographic regions stating that the two entities will cooperate in some defined manner and for some defined period of time to achieve a common purpose. Such alliances present great opportunities because partners are familiar with their own national and regional markets, consumers, business methodologies, and industries. Potential strategic partners should be evaluated through their tangible and intangible contributions to the joint purpose, including the value and image of their brand, their existing customer relationships, their access to capital and other financial resources, their awareness of and control over political and legal dynamics within their region, and many other legal, financial, and political considerations.

Strategic partnerships and alliances are particularly valuable to smaller and mid-sized companies, because the foreign investment required to engage in them is minimal. Furthermore, some countries require or greatly encourage through their employment, labor, and tax laws to build alliances between MNEs and local entities to operate in said country. For example, any company looking to do business in Saudi Arabia must have a Saudi partner. Many other countries require foreign entities doing business there to employ a certain percentage of locals, which is far more easily accomplished through an alliance.

Corporations considering strategic partnerships and alliances should carefully research their potential partner to ensure their business operations, ethics, and other operations are consistent with those the corporation finds appropriate, legal, and consistent with their values. This alignment is important because the two brands are associated with one another, and therefore not only benefit but also suffer the mistakes of the other. Even the world’s largest organizations can fall pray to this. For example, Walmart failed over nearly a decade to meaningfully expand its business in Mexico. It only succeeded when it finally found a compatible and strong domestic partner that shared its corporate values. After all, one big risk of partnering with entities abroad is that the two entities’ goals might differ, as might their tolerance for unethical practices.

Significantly, alliances in emerging markets are also a means of accomplishing social good and have increasingly become a strategy for non-profits. Approximately 10 years ago, Michael Porter and Mark Kramer introduced the term “Strategic Social Partnerships” or SSP to describe profit-driven entities who strive not only to increase their value to shareholders but to do so while simultaneously creating positive social or environmental impact.

Mergers and Acquisitions

A fourth method is to enter other markets through complete or partial acquisition and/or control of entities existing in other markets. Mergers and acquisitions are oft-used mechanisms for the international expansion of multinational enterprises. They provide for fast entry into known and established operations. But, of course, there is a high cost involved in acquisitions, and integration issues can exist just as they do with partnerships and strategic alliances.

Cross-border acquisitions are extremely common and makeup nearly 60% of all acquisitions completed worldwide. While they are more costly than exporting, licensing, franchising, alliances, and partnerships, they are not necessarily entirely out of reach for smaller and mid-sized businesses. The right acquisition at the right time can be accomplished through debt or equity financing, and the strength of the US dollar has also increased access to cross-border acquisitions. As Wharton professor Lawrence G. Hrebiniak explains, “Mergers fail because people pay too much of a premium. If your currency is strong, you can get a bargain” (Knowledge@Wharton 2010).

Determining the propriety of a cross-border acquisition is a complex process involving a significant number of evaluations, including due diligence of the to-be-acquired entity, the laws of the country in which it operates, various political and legal risks to the entity, and a variety of labor and employment considerations. Indeed, between 40-60% of acquisitions fail to increase the market value of the acquired entity (Knowledge@Wharton 2010).

Greenfield Ventures

Last but not least are Greenfield ventures. In a Greenfield investment, the parent company has opened up a new subsidiary in another country without the assistance of another existing business there, thus greenfield ventures are entities launched in another market from the ground up. The entity a company launches is a wholly new and wholly-owned subsidiary. An example of such a venture is the BMW US Manufacturing Company. BMW, a German automobile manufacturer, determined that importing vehicles into the United States presented too many barriers, and therefore built its first vehicle assembly facility in Greer, South Carolina. This was a direct investment inside the United States by BMW, and it is one of the most successful Greenfield ventures in the U.S.

This method of market entry allows multinational corporations to gain local market knowledge while achieving economies of scale and scope in production, marketing, finance, research and development, transportation and purchasing. It also permits the corporation to be seen as an insider who employs local employees. At the same time, this type of international market entry allows the controlling entity maximum control over the operations of the subsidiary entity and the global brand. This in turn allows the entity to implement the best long-term strategy and make a solid commitment to the market.

There are, however, downsides to Greenfield ventures as well, which involve costs and time. First, these corporate arrangements will be more expensive than many other forms of market entry, such as exporting, licensing, franchising, or partnerships and alliances. Second, this type of entry is time-consuming and could take many years.

Summary of Points of Entry

Each entry method has its own disadvantages and advantages. Exporting avoids the costs of establishing operations in a foreign country but creates barriers to marketing and distributing products in that country. Licensing or franchising lower financial risks but give up some control over product development and quality control. Strategic partnerships and alliances share costs with their partners, thus reducing the investment needed. Still, overall, their costs are higher than exporting, licensing, or franchising, and there is a risk that the two ventures will clash in terms of culture and values. Acquisitions can be fast entries into a previously untapped market, but they are expensive and could lead to post-acquisition integration issues. Greenfield ventures give maximum opportunity for control, but they are slow because the new arm needs to set up operations from the ground up.

Corporations must decide which method of market entry works for their particular entity, depending on the size, needs, financial strength, and risk tolerances of the entity and its operators and the economic, political, and regulatory conditions of the target country.

Advantages of Multinational Enterprises

Now that we have explored the different types of market entities, let’s discuss some of the advantages of multinational enterprises. Working together as a multinational enterprise gives corporations the ability to protect themselves from the risks and uncertainties of domestic business cycles. That is if one entity is struggling but the others within the multinational enterprise are thriving, the overall strategic vision of the multinational enterprise can still move forward. Additionally, entities can lend support to one another, including human and lending-related resources.

Another advantage of multinational enterprises is that they respond to increased foreign competition. In other words, if the corporation in question is a shoe manufacturing, designing, and distributing entity in the US and is facing an increased amount of foreign competition from entities in Southeast Asia, the solution might be that the corporation forms some affiliates in the Southeast Asia region. That way, it is operating among the foreign competitors themselves. This strategy might increase access to less expensive labor, assist the entity in the manufacturing and distribution chain, or provide more insight into how companies in those other economic systems function. Regardless, the corporation has managed to infiltrate the very regions where its competitors are located.

A third advantage of multinational enterprises is the ability to internalize and reduce costs, primarily through scalability, leading to economies of scale. A good example of this is television advertisement purchases. Television advertisement dollars are expensive. However, television advertisement time can be purchased in bulk from various networks similar to other consumer goods. As a result, corporations can receive millions of dollars in discounts by buying up advertising time in chunks. And suppose the entity is a multinational enterprise. In that case, it can purchase the advertising dollars for all of its affiliate entities, receive the discount, then sell the advertising time back to the affiliate entities at the discounted price.

There is a whole host of other advantages to functioning as a multinational enterprise. Such as:

Taking advantage of the technological expertise of various other countries by manufacturing goods directly rather than sourcing manufacturing to others through a license agreement; exposing themselves to new customers and customer segments in geographic areas where their affiliates are formed; and using their foreign operations to absorb excess capacity, reduce unit costs, and spread economic risks over a wider number of markets.

By expanding their operations abroad, multinational enterprises can establish low-cost production facilities in locations close to raw materials and/or cheap labor. The foreign operations may result in reduced tariffs, lower taxes, and favorable political treatment. Joint ventures between various multinational enterprise entities can enable those entities to learn the business practices, technology, and culture of other people and make contacts with potential customers, vendors, suppliers, distributors, and creditors in foreign countries.

In short, a company’s power and prestige in domestic markets may be significantly enhanced if the firm competes globally.

Disadvantages of Multinational Enterprises

What are some of the disadvantages of operating as a multinational enterprise?

One major risk is simply the fact of operating in a foreign space and the various unknowns that come with that. For example, the foreign operations of the corporation could be seized by nationalistic factions in other countries. Such seizure is far less likely to happen if the foreign operations are in Western Europe, but what if they are in China, Venezuela, or Russia?

There are other potential pitfalls too. When doing business internationally, the multinational enterprise must confront different social, cultural, demographic, environmental, political, governmental, legal, technological, economic, and competitive forces. In addition, the weaknesses of competitors in foreign lands are often overestimated, and strengths are often underestimated. As a general matter, we tend to think we are superior to others and often find ourselves lacking. Finally, language, culture, and value systems differ among countries, creating barriers to communication and problems managing people.

Furthermore, while there are some tactics to reduce currency liability, dealing with two or more monetary systems can significantly complicate international business operations. There are possible currency losses through exchange rate fluctuations, and corporations and their management teams need to constantly stay apprised of all social and political issues and disturbances in every jurisdiction where they operate. Currency fluctuations are always possible and difficult to predict since there are a lot of factors influencing them, such as the economic conditions of a country, the outlook for that particular economy’s inflation, interest rate differentials, GDP cashflows, and other matters.

The multinational enterprise structure can reduce the risks associated with foreign currency liabilities, however. For example, companies can reduce foreign currency liabilities by borrowing in foreign currencies, then using those funds to finance the affiliate, thus reducing the risk in unexpected changes in exchange rates that could alter the value of direct investments. Another example of a method to reduce currency-related risks is matching the value of their physical assets in a host country with borrowings in that country, forcing host-country lenders to collect from their own (expropriating) government, in the case of political nationalizing.

While the multinational enterprise structure can reduce some trade barriers, having operations abroad can add a lot of complexity. As discussed above and further explored throughout this book, international operations require in-depth understanding of geographically foreign markets and customers, local languages and value systems, different political and legal paradigms, currency differences, complexities of managing distant operations in different times zones, and many other issues that would not exist without the international expansion.

Strategy Development

In designing a multinational enterprise, what are some things to keep in mind?

First, multinational enterprises should keep in mind that the company is not an extension of the domestic root, but rather a global enterprise. In determining their expansion options, they should ensure their strategic plan keeps account of that.

In addition, corporations should consider designing, producing, and marketing products with global needs in mind, instead of considering individual countries alone. Any actions or plans an entity might have in place vis-à-vis its competitors need to integrate actions into a worldwide plan. These entities need to ensure they are hiring, firing, and transferring personnel between various corporate entities to meet global needs – some of which might be retaining talent within the multinational enterprise by, for example, transferring a high-level executive from a failing enterprise within the multinational enterprise to a more financially stable entity within that same enterprise. Entities should work to determine their production and product design goals to meet global needs – and again, to coordinate these goals across the global enterprise.

Overall, there can be a lot of advantages to operating a multinational enterprise. Of course, the complexities add up, but if the corporation has a well-designed plan of action in place on how to deal with them, the multinational enterprise model can serve you very well.

Multinational Enterprises as Hero and Villain

Multinational enterprises can maximize production value by utilizing manufacturing, production, and other resource facilities that offer the highest profit margins (therefore, the cheapest labor, transportation, etc.). The reality is, however, that they are also a symbol of exploitation, domination, and imperialism.

Efforts to constrain the behavior of multinational enterprises are diverse and wide-ranging.

For instance, the Organization for Economic Co-operation and Development (otherwise known as the OECD), an organization with 36 member states including the UK and the United States, has issued Guidelines for Multinational Enterprises consisting of recommendations from the governments of the OECD members and a dozen other states including Argentina, Brazil, Colombia, Costa Rica, Egypt, Jordan, Kazakhstan, Morocco, Peru, Romania, Tunisia, and Ukraine) to companies operating from their sovereign territory (OECD 2011).

This is, in fact, the oldest comprehensive code of conduct that provides businesses with a framework for corporate social responsibility. Moreover, these Guidelines are a package of measures designed to promote direct investments between OECD states. Significantly, these guidelines were heavily negotiated multilaterally and adopted in 1976, and more recently updated in 2010/2011. Importantly, however, the guidelines put in place an investment committee that oversees and monitors the guidelines on behalf of the OECD and organizes a regular exchange of views on the success of the guidelines.

The goal of the guidelines is to harmonize the activities of multinationals with public policies, improve the basis of trust between companies and their host country, strengthen and optimize the climate for foreign investments, and encourage multinational enterprise to commit to sustainable development. Note though that the principles are voluntary and not of a binding nature. Nevertheless, member states have created National Contact Points to report any non-compliance with the Guidelines.

Below is a summary of the OECD guidelines.

Organization for Economic Co-operation and Development Guidelines for Multinational Enterprises – Basic Elements

The OECD’s basic guidelines include advice on legal and ethical labor practices, human rights concerns including duties put in place to protect and monitor human rights, a variety of environmental protections, requirements for information disclosure to increase transparency and ensure governance of the corporation’s activities, provisions intended to combat direct and indirect bribery, as well as a variety of guidelines relating to consumer interests, such as fair business, marketing, and advertising practices.

The guidelines also offer procedures and guidance on the transfer and diffusion of science and technology, set limits on monopolistic behavior, establish activities to ensure fair competition, and set tax rules and laws.

Additional Accountability Mechanisms

Almost simultaneous to the development of the OECD guidelines, the Tripartite Declaration of Principles concerning Multinational Enterprises and Social Policy was adopted by the Governing Body of the International Labour Organisation at its 204th Session (later revised in November 2000), implementing procedural policies and guidelines similar to the OECD. Once again, however, these policies are not mandatory and the instrument is non-binding just like the OECD guidelines. Besides the OECD and Tripartite principles, there are other tools in place internationally and domestically to hold corporations accountable for violations of non-mandatory guidelines, namely, the Spotlight Phenomenon and the Alien Torts Statute.

The Spotlight Phenomenon is essentially the use of media and the press to hold corporations accountable not only for their own direct actions but also for the acts of their suppliers and licensees. Illuminating these actions and the potential for public condemnation, particularly given the rise of social media, can be an extremely effective weapon in the fight against exploitation.

The Alien Tort Statute or Alien Tort Claims Act is also an interesting potential tool of accountability for multinational enterprises. The United States Congress has also engaged in some efforts to hold multinational enterprise enterprises accountable. For example, through the Alien Tort Claims Act, although it has recently been gutted by the Supreme Court of the United States.

In short, the Alien Tort Claims Act was a section of the United States Code that read: “The district courts shall have original jurisdiction of any civil action by an alien for a tort only, committed in violation of the law of nations or a treaty of the United States.” It was hoped that this would be used to hold corporations liable for the acts of their affiliates abroad. Indeed, in the 1980s, courts interpreted this statute to allow foreign citizens to seek remedies in United States courts for human rights violations for conduct committed outside the United States. Unfortunately, however, in the last several years, various Supreme Court decisions have held the Alien Tort Statute does not allow lawsuits against corporations, and put a halt to efforts, often controversial, by foreign plaintiffs to hold foreign corporations responsible in United States courts for human rights violations abroad.

Bibliography

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Knowledge@Wharton 2010
Knowledge@Wharton. 2010. “Playing on a Global Stage: Asian Firms See a New Strategy in Acquisitions Abroad and at Home,” http://knowledge.wharton.upenn.edu/article.cfm?articleid=2473

OECD 2011
OECD. 2011. OECD Guidelines for Multinational Enterprises, OECD Publishing. http://dx.doi.org/10.1787/9789264115415-en