Preface

Thank you for using Carpenter and Dunungs International Business! If you are an instructor or a student, by
using this book, you are part of an exciting revolution in the college textbook industry spurred by Flat World
no!ledge" Why is that# Well, international business is concerned !ith business transactions and
relationships that cross borders" $nd due to the fact that technology and institutions %ake it easier to %ake
business happen across borders %ore &uickly and effectively than ever before, your Flat World textbook is
published by a co%pany leading the !ave of ne! global business start'ups in the publishing industry" (ur
book leverages the novel Flat World no!ledge publishing platfor%, !here students can access the %aterial
for free online or at a price they choose in other for%ats" Instructors !ho adopt Flat World no!ledge books
also can custo%i)e the% extensively and choose !hen and if they !ant to adopt later editions of the book"
*ut is the !orld really flat# Well, no, not in a geographic sense" We learned that %any years ago +right#,"
$nd despite so%e business prognostications about the business !orld being flat, it still takes &uite a bit of
planning and care to conduct international business as opti%ally as possible, !hich is !hy you have this
book and !hy you are in an international business course"
Traditionally, international business textbooks have relied on acade%ic theory to educate students" Were
offering a ne! novel approach-a blend of the acade%ic and the practitioner"
.ost international business books are like global %aps in a book, coupled !ith encyclopedias of international
business ter%s and concepts" That is to say, they provide infor%ation but dont help you understand !hat is
really relevant in todays constantly changing global business arena or ho! to apply concepts to real'life
business scenarios and decisions" .oreover, %any aspects of doing business globally are evolving and dont
re%ain static" *y tea%ing Carpenter, the acade%ic, and Dunung, the practitioner, our international business
textbook is different" We not only provide access to %aps and essential concepts and infor%ation but also
focus on the tips and tools that allo! you to best exploit such infor%ation +and kno!ledge / infor%ation 0
po!er, in an ever'chpranging global business arena"
1trategy and entrepreneurship for% the cornerstones of our approach-offering students Tips in the
Walkabout Toolkit to enable tangible application of co%plex concepts" (ur orientation is both strategic and
entrepreneurial !here !e speak to technologically savvy students !ho see national borders as bridges and
not barriers" .oreover, !hile !e use the lexicon of international business, through our strategic and
entrepreneurial orientation, !e develop students kno!ledge of international contexts !ith the ai% that they
%ay launch, run, and !ork in any organi)ation that is global in scope +or is !restling !ith global co%petition
or other global threats,"
1trategy is concerned !ith co%petition and co%petitive advantage, !hile entrepreneurship is concerned !ith
creating ne! opportunities !here none previously existed" These areas are i%portant to you in an
international business course because %ore and %ore organi)ations conduct at least so%e of their business
across borders" If you are a budding entrepreneur then international business increases your entrepreneurial
playground"
$s revolutionary as the technology delivery behind this book and our uni&ue acade%ic'practitioner
authorship approach is-!eve %ade sure to cover all of the funda%ental basics re&uired in a high'&uality,
solid international business textbook"
Organization
The overarching logic of the book is intuitive-organi)ed around ans!ers to the !hat, !here, !hy, and ho!
of international business"
WHAT# 1ection one introduces !hat is international business and !ho has an interest in it" 1tudents !ill sift
through the globali)ation debate and understanding the i%pact of ethics on global businesses" $dditionally,
students !ill explore the evolution of international trade fro% past to present, !ith a focus on ho! fir%s and
professionals can better understand todays co%plex global business arena by understanding the i%pact of
political and legal factors" The section concludes !ith a chapter on understanding ho! cultures are defined
and the i%pact on business interactions and practices !ith tangible tips for negotiating across cultures"
WHERE# 1ection t!o develops student kno!ledge about key facets of the global business environ%ent and
the key ele%ents of trade and cooperation bet!een nations and global organi)ations" Today, !ith increasing
nu%bers of co%panies of all si)es operating internationally, no business or country can re%ain an island"
2ather, the interconnections bet!een countries, businesses, and institutions are inextricable" 3ven ho! !e
define the !orld is changing" 4o longer classified into si%ple and neat categories, the rapid changes !ithin
countries are redefining ho! global businesses think about developed, developing, and e%erging %arkets"
This section addresses the evolving nature of country classifications and helps develop a students ability to
co%prehend the rationale of ho! to analy)e a specific countrys stage of develop%ent-rather than 5ust
%e%ori)e !hich countries are e%erging" Further, this section provides a uni&ue approach and takes country'
related 6deep dives7 that give greater detail about specific key countries" This section ends !ith chapters
devoted to providing accessible discussions of co%plex financial concepts !ithin the global %onetary syste%
and the global capital %arkets, including currency and global venture capital"
WHY# 1ection three develops kno!ledge about ho! a student or organi)ation can exploit opportunities in
that global environ%ent" 1tudents !ill learn about the funda%ental choices they have in ter%s of
international expansion and !hy such choices %atter" 8sing different %odels of internationali)ation and
global %arket assess%ent, they !ill also learn !hy international business opportunities vary in their pro%ise
and co%plexity" In this section, students also do a deeper dive into the topics of exporting, i%porting, and
global sourcing since these are likely to be the first for%s of international business a student !ill encounter"
HOW# 1ection four is devoted to strategy and entrepreneurship in a flattening !orld and ho! key
organi)ational activities can be %anaged for global effectiveness" This part of the book shifts gears fro% the
perspective of existing businesses to that of ne! business possibilities" (ur ob5ective is to highlight strategy,
entrepreneurship, and strategic and entrepreneurial opportunities in a flat and flattening !orld" *eyond the
basics of international strategy and entrepreneurship, students !ill be exposed to international hu%an
resource %anage%ent so that they can better understand the global !ar for talent" They !ill also develop
good funda%ental kno!ledge of international research and develop%ent, %arketing, distribution, finance,
and accounting"
Features
3ach chapter contains several staple and innovative features as follo!s9
opening cases-cases that are relatively ti%eless fro% an international business perspective and current and
topical
sidebars titled 6Did :ou no!7-factoids about international business
sidebars titled 6$%using $necdote7-factoids about global %arketing snafus and other %istakes coupled !ith
related key international business facts
sidebars titled 6$n 3ye on 3thics,7 !hich provide exa%ples of the ethical issues that arise in international
business
chapter su%%aries
end of chapter exercises based on $$C1* learning standards-these exercises include revie! &uestions,
experiential exercises, ethical dile%%as, and exercises related to the opening chapter case
a closing section titled 6Tools in :our Walkabout it7 !ith specific and practical tools related to international
business
supple%ental support %aterials by chapter
$s youd expect, our textbook also provides a set of end'of'chprapter &uestions that are %apped to $$C1*
learning standards, such that the instructor !ill be able to %easure ho! !ell students are grasping course
content !hile ensuring align%ent !ith the $$C1* guidelines"
We recogni)e that you have choices on textbooks for your course, but hope that our innovative approach to
both essential global business content and technology delivery options !ill encourage you to 5oin our
revolution"
With thanks,
.ason and 1an5yot
Chapter 1
Introduction
WHATS IN IT FOR !"
;" What is international business#
<" Who has an interest in international business#
=" What for%s do international businesses take#
>" What is the globali)ation debate#
?" What is the relationship bet!een international business and ethics#
This chapter introduces you to the study of international business" $fter reading a short case study on
@oogle Inc", the Internet search'engine co%pany, youll begin to learn !hat %akes international business
such an essential sub5ect for students around the !orld" *ecause international business is a vital ingredient
in strategic %anage%ent and entrepreneurship, this book uses these co%ple%entary perspectives to help
you understand international business" .anagers, entrepreneurs, !orkers, for'profit and nonprofit
organi)ations, and govern%ents all have a vested interest in understanding and shaping global business
practices and trends" 1ection ;"; AWhat Is International *usiness#Agives you a !orking definition
of international businessB 1ection ;"< AWho Is Interested in International *usiness#A helps you see !hich
actors are likely to have a direct and indirect interest in it" :oull then learn about so%e of the different for%s
international businesses takeB youll also gain a general understanding of the globali)ation debate" This
debate centers on +;, !hether the !orld is flat, in the sense that all %arkets are interconnected and
co%peting unfettered !ith each other, or +<, !hether differences across countries and %arkets are %ore
significant than the co%%onalities" In fact, so%e critics negatively describe the 6!orld is flat7 perspective
as globaloney! What youll discover fro% the discussion of this debate is that the !orld %ay not be flat in the
purest sense, but there are po!erful forces, also called flatteners, at !ork in the !orlds econo%ies" 1ection
;"? A3thics and International *usinessAconcludes !ith an introductory discussion of the relationship bet!een
international business and ethics"
Opening Case# $oog%es Steep &earning Cur'e in China

Image courtesy of Kit Eaton.
(f all the changes going on in the !orld, the Internet is the one develop%ent that %any people believe
%akes our !orld a s%aller place-aflat or flattening world, according to Tho%as Fried%an, Culit)er Cri)eD
!inning author of Te World Is !lat" A Brief History of te Twenty#!irst $entury and Te %e&us and te Oli'e
Tree" (nderstanding )lobali*ation" *ecause of this flattening effect, Internet businesses should be able to
cross borders easily and profitably !ith little constraint" Eo!ever, !ith fe! exceptions, cross'border business
ventures al!ays see% to challenge even the %ost able of co%petitors, Internet'based or not" 1o%e ne!
international ventures succeed, !hile %any others fail" *ut in every venture the %anagers involved can and
do learn so%ething ne!" @oogle Inc"s learning curve in China is a case in point"
In <FFG, @oogle announced the opening of its Chinese'language !ebsite a%id great fanfare" While @oogle
had access to the Chinese %arket through @oogle"co% at the ti%e, the ne! site, @oogle"cn, gave the
co%pany a %ore po!erful, direct vehicle to further penetrate the approxi%ately H> %illion households !ith
Internet access in China" $s co%pany founders Iarry Cage and 1ergey *rin said at the ti%e, 68nfortunately,
access for Chinese users to the @oogle service outside of China !as slo! and unreliable, and so%e content
!as restricted by co%plex filtering !ithin each Chinese I1C" Ironically, !e !ere unable to get %uch public or
govern%ental attention paid to the issue" $lthough !e dislike altering our search results in any !ay, !e
ulti%ately decided that staying out of China si%ply %eant di%inishing service and influence there" *uilding a
real operation in China should increase our influence on %arket practices and certainly !ill enhance our
service to the Chinese people"7 J;K
$ *ig .arket, *igger Concerns

!ast#growing $ina re+resents a large mar,et.
- .//01./223 Atma )lobal Inc.
@oogles %ove into China gave it access to a very large %arket, but it also raised so%e ethical issues"
Chinese authorities are notorious for their hardline censorship rules regarding the Internet" They take a fir%
stance against ris&uL content and have ob5ected to The 1i%s co%puter ga%e, fearing it !ould corrupt their
nations youth" $ny content that !as 5udged as possibly threatening 6state security, da%aging the nations
glory, disturbing social order, and infringing on others legiti%ate rights7 !as also banned" J<K When asked
ho! !orking in this kind of environ%ent fit !ith @oogles infor%al %otto of 6Dont be evil7 and its code'of'
conduct aspiration of striving to!ard the 6highest possible standard of ethical business,7 @oogles executives
stressed that the license !as 5ust to set up a representative office in *ei5ing and no %ore than that-although
they did concede that @oogle !as keenly interested in the %arket" $s reported to the business press, 6For
the ti%e being, J!eK !ill be using the JChinaK office as a base fro% !hich to conduct %arket research and
learn %ore about the %arket"7 J=K @oogle like!ise sidestepped the ethical &uestions by stating it couldnt
address the issues until it !as fully operational in China and kne! exactly !hat the situation !as"
(ne :ear Iater

- )oogle3 Inc.
@oogle appointed Dr" ai'Fu Iee to lead the co%panys ne! China effort" Ee had gro!n up in Tai!an,
earned *1 and ChD degrees fro% Colu%bia and Carnegie .ellon, respectively, and !as fluent in both
3nglish and .andarin" *efore 5oining @oogle in <FF?, he !orked for $pple in California and then for
.icrosoft in ChinaB he set up .icrosoft 2esearch $sia, the co%panys research'and'develop%ent lab in
*ei5ing" When asked by a 4ew Yor, Timesreporter about the cultural challenges of doing business in China,
Iee responded, 6The ideals that !e uphold here are really 5ust so i%portant and noble" Eo! to build stuff that
users like, and figure out ho! to %ake %oney later" $nd MDont Do 3vil Jreferring to the %otto MDont be evilK"
$ll of those things" I think Ive al!ays been an idealist in %y heart"7 J>K
Despite Iees support of @oogles utopian %otto, the co%panys conduct in China during its first year
see%ed less than idealistic" In Nanuary, a fe! %onths after Iee opened the *ei5ing office, the co%pany
announced it !ould be introducing a ne! version of its search engine for the Chinese %arket" @oogles
representatives explained that in order to obey Chinas censorship la!s, the co%pany had agreed to re%ove
any !ebsites disapproved of by the Chinese govern%ent fro% the search results it !ould display" For
exa%ple, any site that pro%oted the Falun @ong, a govern%ent'banned spiritual %ove%ent, !ould not be
displayed" 1i%ilarly +and ironically, sites pro%oting free speech in China !ould not be displayed, and there
!ould be no %ention of the ;HOH Tianan%en 1&uare %assacre" $s one Western reporter noted, 6If you
search for MTibet or MFalun @ong %ost any!here in the !orld on google"co%, youll find thousands of blog
entries, ne!s ite%s, and chat roo%s on Chinese repression" Do the sa%e search inside China on google"cn,
and %ost, if not all, of these links !ill be gone" @oogle !ill have erased the% co%pletely"7 J?K
@oogles decision didnt go over !ell in the 8nited 1tates" In February <FFG, co%pany executives !ere
called into congressional hearings and co%pared to 4a)i collaborators" The co%panys stock fell, and
protesters !aved placards outside the co%panys head&uarters in .ountain Pie!, California" @oogle !asnt
the only $%erican technology co%pany to run aground in China during those %onths, nor !as it the !orst
offender" Eo!ever, @oogles executives !ere supposed to be differentB given their lofty %otto, they !ere
supposed to be a cut above the rest" When the co%pany !ent public in <FF>, its founders !rote in the
co%panys official filing for the 81 1ecurities and 3xchange Co%%ission that @oogle is 6a co%pany that is
trust!orthy and interested in the public good"7 4o!, politicians and the public !ere asking ho! @oogle could
balance that !ith %aking nice !ith a repressive Chinese regi%e and the Co%%unist Carty behind it" JGK (ne
exchange bet!een 2ep" To% Iantos +D'C$, and @oogle Pice Cresident 3lliot 1chrage !ent like this9
Ianto
s9
:ou have nothing to be asha%ed of#
1chra
ge9
I a% not asha%ed of it, and I a% not proud of itQWe have taken a path, !e have begun on a path, !e
have done a path thatQ!ill ulti%ately benefit all the users in China" If !e deter%ined, congress%an,
as a result of changing circu%stances or as a result of the i%ple%entation of the @oogle"cn progra%
that !e are not achieving those results then !e !ill assess our perfor%ance, our ability to achieve
those goals, and !hether to re%ain in the %arket" JRK
1ee the video 6@oogle on (perating inside China7 athttp9SSne!s"cnet"co%S;GFG'<'GF>F;;>"ht%l" In the video,
1chrage, the vice president for corporate co%%unications and public affairs, discusses @oogles co%petitive
situation in China" 2ep" Na%es Ieach +2'I$, subse&uently accuses @oogle of beco%ing a servant of the
Chinese govern%ent"

@oogle 3nds Censorship in China
In <F;F, @oogle announced that it !as no longer !illing to censor search results on its Chinese service" The
!orlds leading search engine said the decision follo!ed a cyberattack that it believes !as ai%ed at
gathering infor%ation on Chinese hu%an rights activists" JOK @oogle also cited the Chinese govern%ents
restrictions on the Internet in China during <FFH" JHK@oogles announce%ent led to speculation !hether
@oogle !ould close its offices in China or !ould close @oogle"cn" Eu%an rights activists cheered @oogles
%ove, !hile business pundits speculated on the possibly huge financial costs that !ould result fro% losing
access to one of the !orlds largest and fastest'gro!ing consu%er %arkets"
In an announce%ent provided to the 81 1ecurities and 3xchange Co%%ission, @oogles founders
su%%ari)ed their stance and the %otivation for it" *elo! are excerpts fro% @oogle Chief Iegal (fficer David
Dru%%onds announce%ent on Nanuary ;<, <F;F" J;FK
Iike %any other !ell'kno!n organi)ations, !e face cyberattacks of varying degrees on a regular basis" In
%id'Dece%ber, !e detected a highly sophisticated and targeted attack on our corporate infrastructure
originating fro% China, resulting in the theft of intellectual property fro% @oogle" Eo!ever, it soon beca%e
clear that !hat at first appeared to be solely a security incident-albeit a significant one-!as so%ething
&uite different"
First, this attack !as not 5ust on @oogle" $s part of our investigation, !e have discovered that at least t!enty
other large co%panies fro% a !ide range of businesses-including the Internet, finance, technology, %edia,
and che%ical sectors-have been si%ilarly targeted" We are currently in the process of notifying those
co%panies, and !e are also !orking !ith the relevant 81 authorities"
1econd, !e have evidence to suggest that a pri%ary goal of the attackers !as accessing the @%ail accounts
of Chinese hu%an rights activists" *ased on our investigation to date, !e believe their attack did not achieve
that ob5ective" (nly t!o @%ail accounts appear to have been accessed, and that activity !as li%ited to
account infor%ation +such as the date the account !as created, and sub5ect line, rather than the content of
e%ails the%selves"
Third, as part of this investigation but independent of the attack on @oogle, !e have discovered that the
accounts of do)ens of 81', China' and 3urope'based @%ail users !ho are advocates of hu%an rights in
China appear to have been routinely accessed by third parties" These accounts have not been accessed
through any security breach at @oogle, but %ost likely via phishing sca%s or %al!are placed on the users
co%puters"
We have taken the unusual step of sharing infor%ation about these attacks !ith a broad audience, not 5ust
because of the security and hu%an rights i%plications of !hat !e have unearthed, but also because this
infor%ation goes to the heart of a %uch bigger global debate about freedo% of speech" In the last t!o
decades, Chinas econo%ic refor% progra%s and its citi)ens entrepreneurial flair have lifted hundreds of
%illions of Chinese people out of poverty" Indeed, this great nation is at the heart of %uch econo%ic progress
and develop%ent in the !orld today"
The decision to revie! our business operations in China has been incredibly hard, and !e kno! that it !ill
have potentially far'reaching conse&uences" We !ant to %ake clear that this %ove !as driven by our
executives in the 8nited 1tates, !ithout the kno!ledge or involve%ent of our e%ployees in China !ho have
!orked incredibly hard to %ake @oogle"cn the success it is today" We are co%%itted to !orking responsibly
to resolve the very difficult issues raised"
The Chinese govern%ents first response to @oogles announce%ent !as si%ply that it !as 6seeking %ore
infor%ation"7 J;;K In the interi%, @oogle 6shut do!n its censored Chinese version and gave %ainlanders an
uncensored search engine in si%plified Chinese, delivered fro% its servers in Eong ong"7 J;<K Iike %ost
fir%s that venture out of their ho%e %arkets, @oogles experiences in China and other foreign %arkets have
driven the co%pany to reassess ho! it does business in countries !ith distinctly different la!s"
Opening Case !(ercises
+$$C1*9 3thical 2easoning, .ulticulturalis%, 2eflective Thinking, $nalytical 1kills,
;" Can @oogle afford not to do business in China#
<" Which stakeholders !ould be affected by @oogles %anagers possible decision to shut do!n its China
operations# Eo! !ould they be affected# What trade'offs !ould @oogle be %aking#
=" 1hould @oogles %anagers be surprised by the China predica%ent#
1)1 What Is Internationa% *usiness"
&!ARNIN$ O*+!CTI,!S
;" no! the definition of international business"
<" Co%prehend ho! strategic %anage%ent is related to international business"
=" 8nderstand ho! entrepreneurship is related to international business"
The Definition of International *usiness
$s the opening case study on @oogle suggests, international business relates to any situation !here the
production or distribution of goods or services crosses country borders" $%o-a%ization-the shift to!ard a
%ore interdependent and integrated global econo%y-creates greater opportunities for international
business" 1uch globali)ation can take place in ter%s of %arkets, !here trade barriers are falling and buyer
preferences are changing" It can also be seen in ter%s of production, !here a co%pany can source goods
and services easily fro% other countries" 1o%e %anagers consider the definition of international business to
relate purely to 6business,7 as suggested in the @oogle case" Eo!ever, a broader definition of international
business %ay serve you better both personally and professionally in a !orld that has %oved beyond si%ple
industrial production" Internationa% -usiness enco%passes a full range of cross'border exchanges of
goods, services, or resources bet!een t!o or %ore nationsW" These exchanges can go beyond the
exchange of %oney for physical goods to include international transfers of other resources, such as people,
intellectual property +e"g", patents, copyrights, brand trade%arks, and data,, and contractual assets or
liabilities +e"g", the right to use so%e foreign asset, provide so%e future service to foreign custo%ers, or
execute a co%plex financial instru%ent," The entities involved in international business range fro% large
%ultinational fir%s !ith thousands of e%ployees doing business in %any countries around the !orld to a
s%all one'person co%pany acting as an i%porter or exporter" This broader definition of international business
also enco%passes for'profit border'crossing transactions as !ell as transactions %otivated by nonfinancial
gains +e"g", triple botto% line, corporate social responsibility, and political favor, that affect a businesss
future"
1trategic .anage%ent and 3ntrepreneurship
$ kno!ledge of both strategic %anage%ent and entrepreneurship !ill enhance your understanding of
international business" Strategic .anage.ent is the body of kno!ledge that ans!ers &uestions about the
develop%ent and i%ple%entation of good strategies and is %ainly concerned !ith the deter%inants of fir%
perfor%ance" $ strateg/, in turn, is the central, integrated, and externally oriented concept of ho! an
organi)ation !ill achieve its perfor%ance ob5ectives" J;K (ne of the basic tools of strategy is
aSWOT 0strengths1 2ea3nesses1 opportunities1 threats4 assess%ent" The 1W(T tool helps you take
stock of an organi)ations internal characteristics-its strengths and !eaknesses-to for%ulate an action
plan that builds on !hat it does !ell !hile overco%ing or !orking around !eaknesses" 1i%ilarly, the external
part of 1W(T-the opportunities and threats-helps you assess those environ%ental conditions that favor or
threaten the organi)ations strategy" *ecause strategic %anage%ent is concerned !ith organi)ational
perfor%ance-be that social, environ%ental, or econo%ic-your understanding of a co%panys 1W(T !ill
help you better assess ho! international business factors should be accounted for in the fir%s strategy"
!ntrepreneurship, in contrast, is defined as the recognition of opportunities +i"e", needs, !ants, proble%s,
and challenges, and the use or creation of resources to i%ple%ent innovative ideas for ne!, thoughtfully
planned ventures" $n entrepreneur is a person !ho engages in entrepreneurship" 3ntrepreneurship, like
strategic %anage%ent, !ill help you to think about the opportunities available !hen you connect ne! ideas
!ith ne! %arkets" For instance, given @oogles current global presence, its difficult to i%agine that the
co%pany started out slightly %ore than a decade ago as the entrepreneurial venture of t!o college students"
@oogle !as founded by Iarry Cage and 1ergey *rin, students at 1tanford 8niversity" It !as first incorporated
as a privately held co%pany on 1epte%ber >, ;HHO" Increasingly, as the @oogle case study de%onstrates,
international businesses have an opportunity to create positive social, environ%ental, and econo%ic values
across borders" $n entrepreneurial perspective !ill serve you !ell in this regard"
Spot%ight on Internationa% Strateg/ and !ntrepreneurship
Ee%ali Thakkar and three of her fello! class%ates at Earvard found a !ay to %esh the po!er of play !ith
electrical po!er" The fourso%e invented 6a soccer ball !ith the ability to generate electricity,7 Thakkar
said" J<K 3very kick of the ball creates a current thats captured for future use" Fifteen %inutes of play lights a
la%p for three hours"
Called the s(ccket, the soccer ball can bring off'grid electricity to developing countries" 3ven better, the
soccer ball can replace kerosene la%ps" *urning kerosene is not only bad for the environ%ent because of
carbon dioxide e%issions but its also a health ha)ard9 according to the World *ank, breathing kerosene
fu%es indoors has the sa%e effects as s%oking t!o packs of cigarettes per day" J=K
Eo! did the idea of s(ccket e%erge# $ll four students +Nessica Iin, Nessica .atthe!s, Nulia 1ilver%an, and
Ee%ali Thakkar, had experience !ith developing countries, so they kne! that kids love playing soccer +its
the !orlds %ost popular sport," They also kne! that %ost of these kids lived in ho%es that had no reliable
energy" J>K
$s of 4ove%ber <F;F, the s(ccket prototype cost TRF to %anufacture, but the tea% hopes to bring the cost
do!n to T;F !hen production is scaled up"J?K (ne ingenious !ay to bring costs do!n is to set up facilities
!here developing'!orld entrepreneurs asse%ble and sell the balls the%selves"
$t this point its also i%portant to introduce you to the concepts of intrapreneurship and the intrapreneur"
Intrapreneurship is a for% of entrepreneurship that takes place inside a business that is already in existence"
$n intrapreneur, in turn, is a person !ithin the established business !ho takes direct responsibility for turning
an idea into a profitable finished product through assertive risk taking and innovation" $n entrepreneur is
starting a business, !hile an intrapreneur is developing a ne! product or service in an already existing
business" Thus, the ideas of entrepreneurship can be applied not only in ne! ventures but also in the context
of existing organi)ations-even govern%ent"
5!6 TA5!AWA6S
International business enco%passes a full range of cross'border exchanges of goods, services, or
resources bet!een t!o or %ore nations" These exchanges can go beyond the exchange of %oney for
physical goods to include international transfers of other resources, such as people, intellectual
property +e"g", patents, copyrights, brand trade%arks, and data,, and contractual assets or liabilities
+e"g", the right to use so%e foreign asset, provide so%e future service to foreign custo%ers, or execute
a co%plex financial instru%ent,"
1trategic %anage%ent is the body of kno!ledge that ans!ers &uestions about the develop%ent and
i%ple%entation of good strategies and is %ainly concerned !ith the deter%inants of fir% perfor%ance"
*ecause strategic %anage%ent is concerned !ith organi)ational perfor%ance, your understanding of
a co%panys 1W(T +strengths, !eaknesses, opportunities, threats, helps you better assess ho!
international business factors should be accounted for in the fir%s strategy"
3ntrepreneurship is the recognition of opportunities +i"e", needs, !ants, proble%s, and challenges, and
the use or creation of resources to i%ple%ent innovative ideas" 3ntrepreneurship helps you think about
the opportunities available !hen you connect ne! ideas !ith ne! %arkets"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is international business#
<" Why is an understanding of strategy %anage%ent i%portant in the context of international business#
=" Why is an understanding of entrepreneurship i%portant in the context of international business#
4ext
1)7 Who Is Interested in Internationa% *usiness"
&!ARNIN$ O*+!CTI,!S
;" no! !ho has an interest in international business"
<" 8nderstand !hat a stakeholder is and !hy stakeholder analysis %ight be i%portant in the study of
international business"
=" 2ecogni)e that an organi)ations stakeholders include %ore than its suppliers and custo%ers"
The Sta3eho%ders
$s you no! kno!, international business refers to a broad set of entities and activities" *ut !ho cares about
international business in the first place# To ans!er this &uestion, lets discuss stakeholders and stakeholder
analysis" $sta3eho%der is an individual or organi)ation !hose interests %ay be affected as the result of !hat
another individual or organi)ation does" J;KSta3eho%der ana%/sis is a techni&ue you use to identify and
assess the i%portance of key people, groups of people, or institutions that %ay significantly influence the
success of your activity, pro5ect, or business" In the context of !hat you are learning here, individuals or
organi)ations !ill have an interest in international business if it affects the% in so%e !ay-positively or
negatively" J<K That is, they have so%ething i%portant at stake as a result of so%e aspect of international
business"
(bviously, @oogle and its %anagers need to understand international business because they do business in
%any countries outside their ho%e country" $ little %ore than half the co%panys revenues co%e fro%
outside the 8nited 1tates" J=KDoes this %ean that international business !ouldnt be relevant to @oogle if it
only produced and sold its products in one country# $bsolutely not! Factors of international business !ould
still affect @oogle-through any supplies it buys fro% foreign suppliers, as !ell as the possible i%pact of
foreign co%petitors that threaten to take business fro% @oogle in its ho%e %arkets" 3ven if these factors
!ere not present, @oogle could still be affected by price s!ings-for instance, in the international prices of
co%puter parts, even if they bought those parts fro% 81 suppliers" $fter all, the prices of so%e of the
co%%odities used to %ake those parts are deter%ined globally, not locally" *eyond its involve%ent in !eb
advertising, !hich re&uires %assive invest%ents in co%puter'server far%s around the !orld, @oogle is
increasingly active in other products and services-for exa%ple, cell phones and the operating syste%s they
use"
1o far, this chapter has covered only ho! a business and its %anagers should understand international
business, regardless of !hether their organi)ation sells or produces products or services across borders"
Who else %ight be an international business stakeholder beyond @oogle and its %anage%ent# First, @oogle
is likely to have to pay taxes, right# It probably pays sales taxes in %arkets !here it sells its products, as !ell
as property and payroll taxes in countries !here it has production facilities" 3ach of these govern%ental
stakeholders has an i%portant econo%ic interest in @oogle" .oreover, in %any countries, the govern%ent is
responsible for protecting the environ%ent" @oogles large co%puter'server far%s consu%e energy and
generate !aste, and its products +e"g", cell phones, co%e in disposable packaging, thus i%pacting the
environ%ent in places !here they are %anufactured and sold"
*eyond the co%pany and govern%ents, other stakeholder groups %ight include industry associations, trade
groups, suppliers, and labor" For instance, youve already learned that @oogle is an Internet search'engine
co%pany, so it could be a %e%ber of various co%puter'related industry associations" Iabor is also a
stakeholder" This can include not only the people i%%ediately e%ployed by a business like @oogle but also
contract !orkers or !orkers !ho !ill lose or gain e%ploy%ent opportunities depending on !here @oogle
chooses to produce and sell its products and services"
8id 6ou 5no2"
Fro% our opening case, youve learned a little about ho! different countries deal !ith personal privacy" $t
about the sa%e ti%e @oogle !as experiencing difficulty protecting individuals privacy in China, its %anagers
in Italy !ere being convicted of violating consu%er'privacy la!s" @oogle executives had been accused of
breaking Italian la! by allo!ing a video clip of four boys bullying another child to be posted online" J>K The
video had originally been posted by the boys the%selves and @oogle re%oved the video !hen Italys Interior
.inistry re&uested its re%oval" J?K The three @oogle executives !ere absolved of the defa%ation charges
but convicted of privacy violations" JGK @oogle said that the conviction of its top Italian %anagers 6attacks the
Mprinciples of freedo% of the Internet and poses a serious threat to the !eb"7 JRK Follo!ing the conviction,
several privacy advocates stepped up to speak out in @oogles defense-a position &uite contrary to their
typical stances in @oogle privacy stories" JOK
3: T$3$W$:1
*eyond yourself, as an international business student and future international business person, you
can identify the people and organi)ations that %ight have an interest in international business if their
interests are affected no! or in the future by it" 1uch international business stakeholders include
e%ployees, %anagers, businesses, govern%ents, and nongovern%ental organi)ations"
1takeholder analysis is a techni&ue used to identify and assess the i%portance of key people, groups
of people, or institutions that %ay significantly influence the success of an activity, pro5ect, or business"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is a stakeholder#
<" Why is stakeholder analysis i%portant in international business#
1)9 What For.s 8o Internationa% *usinesses Ta3e"
&!ARNIN$ O*+!CTI,!S
;" no! the possible for%s that international businesses can take"
<" 8nderstand the differences bet!een exporting, i%porting, and foreign direct invest%ent"
=" 1ee ho! govern%ents and nongovern%ental organi)ations can be international businesses"
The For.s of Internationa% *usiness
It probably doesnt surprise you that international businesses can take on a variety of for%s" 2ecogni)ing
that international business, based on our broad definition, spans business, govern%ent, and
nongovern%ental organi)ations +4@(s,, lets start by looking at business"
$ -usiness can be a person or organi)ation engaged in co%%erce !ith the ai% of achieving a profit"
*usiness profit is typically gauged in financial and econo%ic ter%s" Eo!ever, so%e level of sustained
financial and econo%ic profits are needed for a business to achieve other sustainable outco%es %easured
as social or environ%ental perfor%ance" For exa%ple, %any co%panies that are for'profit businesses also
have a social and environ%ental %ission" Table ;"; A1a%ple Three'Cart .ission 1tate%entA provides an
exa%ple of a co%pany !ith this kind of %ission"
Table ;"; 1a%ple Three'Cart .ission 1tate%ent
Socia% and !n'iron.enta% ission Product ission !cono.ic ission
Cart of being a responsible co%pany
is !orking hard to help solve the
!orlds environ%ental proble%s and,
i%portantly, also helping those !ho
buy our products to %ake %ore
responsible choices" J;K
To %ake, distribute, and sell the
finest &uality products !ith a
continued co%%it%ent to
pro%oting business practices
that respect the 3arth and the
environ%ent" J<K
To create long'ter% value and capture
the greatest opportunity for our
stakeholders by delivering
sustainable, profitable gro!th in sales,
earnings, and cash flo! in a global
co%pany built on pride, integrity, and
respect" J=K
(n the one hand, !hile co%panies such as *en V Nerrys +part of 8nilever, and 1C Nohnson are very large,
its hard to i%agine any business-s%all or large-that doesnt have international operating concerns" (n the
other hand, theinternational part of a fir%s business can vary considerably, fro% i%porting to exporting to
having significant operations outside its ho%e country" $ni.porter sells products and services that are
sourced fro% other countriesB ane(porter, in contrast, sells products and services in foreign countries that
are sourced fro% its ho%e country" *eyond i%porting and exporting, so%e organi)ations %aintain offices in
other countriesB this for%s the basis for their level of foreign direct in'est.ent" Foreign direct invest%ent
%eans that a fir% is investing assets directly into a foreign countrys buildings, e&uip%ent, or organi)ations"
In so%e cases, these foreign offices are carbon copies of the parent fir%B that is, they have all the value
creation and support activities, 5ust in a different country" In other cases, the foreign operations are focused
on a s%all subset of activities tailored to the local %arket, or those that the entity supplies for operations
every place in !hich the fir% operates"
When a fir% %akes choices about foreign operations that increase national and local responsiveness, the
organi)ation is %ore able to adapt to national and local %arket conditions" In contrast, the greater the level of
standardi)ation-both !ithin and across %arkets-the greater the possible level of global efficiency" In %any
cases, the choice of foreign location generates uni&ue advantages, referred to as %ocation ad'antages"
Iocation advantages include better access to ra! %aterials, less costly labor, key suppliers, key custo%ers,
energy, and natural resources" For instance, @oogle locates its co%puter'server far%s-the technological
backbone of its %assive Internet services-close to da%s that produce hydroelectric po!er because its one
of the cheapest sources of electricity" J>K 8lti%ately, %anagerial choices regarding the trade'off
bet!een global efficiency and local res+onsi'eness are a function of the fir%s strategy and are likely to be a
significant deter%inant of fir% perfor%ance"
Internationa% For.s of $o'ern.ent
@overn%ental bodies also take on different international for%s" $%ong political scientists, go'ern.ent is
generally considered to be the body of people that sets and ad%inisters public policy and exercises
executive, political, and sovereign po!er through custo%s, institutions, and la!s !ithin a state, country, or
other political unit" (r %ore si%ply, govern%ent is the organi)ation, or agency, through !hich a political unit
exercises its authority, controls and ad%inisters public policy, and directs and controls the actions of its
%e%bers or sub5ects"
.ost national govern%ents, for instance, %aintain e%bassies and consulates in foreign countries" 4ational
govern%ents also participate in international treaties related to such issues as trade, the environ%ent, or
child labor" For exa%ple, the 4orth $%erican Free Trade $gree%ent +4$FT$, is an agree%ent signed by the
govern%ents of the 8nited 1tates, Canada, and .exico to create a trade bloc in 4orth $%erica to reduce or
eli%inate tariffs a%ong the %e%ber countries and thus facilitate trade" The yoto Crotocol is an agree%ent
ai%ed at co%bating global !ar%ing a%ong participating countries" In so%e cases, such as !ith the
3uropean Co%%unity +3C,, agree%ents span trade, the environ%ent, labor, and %any other sub5ects related
to business, social, and environ%ental issues" The $tlanta $gree%ent, in turn, is an agree%ent bet!een
participating govern%ents and co%panies to eli%inate child labor in the production of soccer balls in
Cakistan" J?K Finally, supraorgani)ations such as the 8nited 4ations +84, or the World Trade (rgani)ation
+WT(, are practically separate govern%ents the%selves, !ith certain po!ers over all %e%ber countries" JGK
Nongo'ern.enta% Organizations
4ational nongo'ern.enta% organizations 0N$Os4 include any nonprofit, voluntary citi)ens groups that are
organi)ed on a local, national, or international level" International 4@(s +4@(s !hose operations cross
borders, date back to at least ;O=H" JRK For exa%ple, 2otary International !as founded in ;HF?" It has been
esti%ated that, by ;H;>, there !ere ;,FO= 4@(s" JOKInternational 4@(s !ere i%portant in the antislavery
%ove%ent and the %ove%ent for !o%ens suffrage, but the phrase 6nongovern%ental organi)ation7 didnt
enter the co%%on lexicon until ;H>?, !hen the 84 !as established along !ith the provisions in $rticle R; of
Chapter ;F of the 84 charter, JHK, !hich granted a consultative role to organi)ations that are neither
govern%ents nor %e%ber states"
During the t!entieth century, globali)ation actually fostered the develop%ent of 4@(s because %any
proble%s couldnt be solved !ithin a single nation" In addition, international treaties and organi)ations, such
as the WT(, !ere perceived by hu%an rights activists as being too centered on the interests of business"
1o%e argued that in an atte%pt to counterbalance this trend, 4@(s !ere for%ed to e%phasi)e hu%anitarian
issues, develop%ental aid, and sustainable develop%ent" $ pro%inent exa%ple of this is the World 1ocial
Foru%-a rival convention to the World 3cono%ic Foru% held every Nanuary in Davos, 1!it)erland"
5!6 TA5!AWA6S
International businesses take on a variety of for%s" I%porters sell goods and services obtained fro%
other countries, !hile exporters sell goods and services fro% their ho%e country abroad"
Fir%s can also %ake choices about the extent and structure of their foreign direct invest%ents, fro%
si%ply an array of satellite sales offices to integrated production, sales, and distribution centers in
foreign countries"
@overn%ent and nongovern%ental organi)ations also co%prise international business"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is the difference bet!een an exporter and an i%porter#
<" What is a location advantage#
=" Eo! is govern%ent considered an international business#
1): The $%o-a%ization 8e-ate
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the flattening !orld perspective in the globali)ation debate"
<" 8nderstand the %ultido%estic perspective in the globali)ation debate"
=" no! the di%ensions of the C$@3 analytical fra%e!ork"
In todays global econo%y, everyone is accusto%ed to buying goods fro% other countries-electronics fro%
Tai!an, vegetables fro% .exico, clothing fro% China, cars fro% orea, and skirts fro% India" .ost %odern
shoppers take the 6.ade in Ja foreign countryK7 stickers on their products for granted" Iong'distance
co%%erce !asnt al!ays this co%%on, although foreign trade-the %ove%ent of goods fro% one
geographic region to another-has been a key factor in hu%an affairs since prehistoric ti%es" Thousands of
years ago, %erchants transported only the %ost precious ite%s-silk, gold and other precious %etals and
5e!els, spices, porcelains, and %edicines-via ancient, extended land and sea trade routes, including the
fa%ed 1ilk 2oad through central $sia" .oving goods great distances !as si%ply too hard and costly to !aste
the effort on ordinary products, although people often carted grain and other foods over shorter distances
fro% far%s to %arket to!ns" J;K
What is the globali)ation debate# Well, its not so %uch a debate as it is a stark difference of opinion on ho!
the internationali)ation of businesses is affecting countries cultural, consu%er, and national identities-and
!hether these changes are desirable" For instance, the ubi&uity of such food purveyors as Coca'Cola and
.cDonalds in practically every country reflects the fact that so%e consu%er tastes are converging, though
at the likely expense of local beverages and foods" 2e%e%ber, globali)ation refers to the shift to!ard a %ore
interdependent and integrated global econo%y" This shift is fueled largely by +;, declining trade and
invest%ent barriers and +<, ne! technologies, such as the Internet" The globali)ation debate surrounds
!hether and ho! fast %arkets are actually %erging together"
We &i'e in a F%at Wor%d
The f%at;2or%d 'ie2 is largely credited to Tho%as Fried%an and his <FF? best seller, Te World Is !lat"
$lthough the next section provides you !ith an alternative !ay of thinking about the !orld
+a .u%tido.estic 'ie2,, it is nonetheless i%portant to understand the flat'!orld perspective" Fried%an
covers the !orld for the 4ew Yor, Times, and his access to i%portant local authorities, corporate executives,
local Times bureaus and researchers, the Internet, and a voice recorder enabled hi% to co%pile a huge
a%ount of infor%ation" .any people consider globali)ation a %odern pheno%enon, but according to
Fried%an, this is its third stage" The first stage of global develop%ent, !hat Fried%an calls 6@lobali)ation
;"F,7 started !ith Colu%buss discovery of the 4e! World and ran fro% ;>H< to about ;OFF" Driven by
nationalis% and religion, this lengthy stage !as characteri)ed by ho! %uch industrial po!er countries could
produce and apply"
6@lobali)ation <"F,7 fro% about ;OFF to <FFF, !as disrupted by the @reat Depression and both World Wars
and !as largely shaped by the e%erging po!er of huge, %ultinational corporations" @lobali)ation <"F gre!
!ith the 3uropean %ercantile stock co%panies as they expanded in search of ne! %arkets, cheap labor, and
ra! %aterials" It continued !ith subse&uent advances in sea and rail transportation" This period sa! the
introduction of %odern co%%unications and cheaper shipping costs" 6@lobali)ation ="F7 began around <FFF,
!ith advances in global electronic interconnectivity that allo!ed individuals to co%%unicate as never before"
In @lobali)ation ;"F, nations do%inated global expansion" @lobali)ation <"F !as driven by the ascension of
%ultinational co%panies, !hich pushed global develop%ent" In @lobali)ation ="F, %a5or soft!are advances
have allo!ed an unprecedented nu%ber of people !orld!ide to !ork together !ith unli%ited potential"
The u.-ai Ta(.an
What shape !ill globali)ation take in the third phase# Fried%an asks us to consider the friendly local
accountants !ho do your taxes" They can easily outsource your !ork via a server to a tax tea% in .u%bai,
India" This increasingly popular outsourcing trend has its benefits" $s Fried%an notes, in <FF=, about <?,FFF
81 tax returns !ere done in India" J<K *y <FF>, it !as so%e ;FF,FFF returns, !ith >FF,FFF anticipated in
<FF?" $ soft!are progra% specifically designed to let %idsi)ed 81 tax fir%s outsource their files enabled this
develop%ent, giving better 5ob prospects to the RF,FFF accounting students !ho graduate annually in India"
$t a starting salary of T;FF per %onth, these accountants are co%pleting 81 returns and co%peting !ith 81
tax preparers"
Chris C) $ot It Wrong"
In ;>H<, Christopher Colu%bus set sail for India, going !est" Ee had the 4iWa, the Cinta, and the 1anta
.arXa" Ee never did find India, but he called the people he %et 6Indians7 and ca%e ho%e and reported to his
king and &ueen9 6The !orld is round"7 I set off for India ?;< years later" I kne! 5ust !hich direction I !as
going in-I !ent east" I !as in Iufthansa business class, and I ca%e ho%e and reported only to %y !ife and
only in a !hisper9 6The !orld is flat"7
$nd therein lies a tale of technology and geoecono%ics that is funda%entally reshaping our lives-%uch,
%uch %ore &uickly than %any people reali)e" It all happened !hile !e !ere sleeping, or rather !hile !e
!ere focused on HS;;, the dot'co% bust, and 3nron-!hich even pro%pted so%e to !onder !hether
globali)ation !as over" $ctually, 5ust the opposite !as true, !hich is !hy its ti%e to !ake up and prepare
ourselves for this flat !orld, because others already are, and there is no ti%e to !aste" J=K
This 5ob co%petition is not restricted to accountants" Co%panies can outsource any service or business that
can be broken do!n to its key co%ponents and converted to co%puteri)ed operations" This includes
everything fro% %aking restaurant reservations to reporting corporate earnings to reading x'rays" $nd it
doesnt stop at basic services" With the 6globali)ation of innovation,7 %ultinationals in India are filing
increasing nu%bers of 81 patent applications, ranging fro% aircraft'engine designs to transportation syste%s
and %icroprocessor chips" Napanese'speaking Chinese nationals in Dailian, China, no! ans!er call'center
&uestions fro% Napanese consu%ers" Due to Dailians location near Napan and orea, as !ell as its
nu%erous universities, hospitals, and golf courses, so%e <,OFF Napanese co%panies outsource operations
there" While %any co%panies are outsourcing to other countries, so%e are using 6ho%e sourcing7-allo!ing
people to !ork at ho%e" Net*lue uses ho%e sourcing for reservation clerks" Today, about ;G percent of the
81 !orkforce !orks fro% ho%e" In %any !ays, outsourcing and ho%e sourcing are relatedB both allo!
people to !ork fro% any!here"
Eo! the World @ot Flat
Fried%an identifies ten %a5or events that helped reshape the %odern !orld and %ake it flat9 J>K
!igure 2.2 Infosys Bangalore Hall

Infosys is a multibillion#dollar global IT and consulting firm ead5uartered in India.
- ./223 Infosys.
;" 11<=<>=# When the 2a%%s ca.e do2n and the 2indo2s 2ent up) The fall of the *erlin Wall ended old'style
co%%unis% and planned econo%ies" Capitalis% ascended"
<" ><=<=?# When Netscape 2ent pu-%ic) Internet bro!sing and e'%ail helped propel the Internet by %aking it
co%%ercially viable and user friendly"
=" Wor3;f%o2 soft2are# &ets do %unch) Ha'e /our app%ication ta%3 to ./ app%ication) With %ore po!erful,
easier'to'use soft!are and i%proved connectivity, %ore people can share !ork" Thus, co%plex pro5ects !ith
%ore interdependent parts can be !orked on collaboratively fro% any!here"
>" Open;sourcing# Se%f;organizing1 co%%a-orati'e co..unities)Croviding basic soft!are online for free
gives everyone source code, thus accelerating collaboration and soft!are develop%ent"
?" Outsourcing# 675) The Internet lets fir%s use e%ployees !orld!ide and send specific !ork to the %ost
&ualified, cheapest labor, !herever it is" 3nter India, !ith educated and talented people !ho !ork at a
fraction of 81 or 3uropean !ages" Indian technicians and soft!are experts built an international reputation
during the :< %illenniu% event" The feared co%puter'syste% breakdo!n never happened, but the Indian IT
industry began handling e'co%%erce and related businesses !orld!ide"
G" Offshoring# Running 2ith gaze%%es1 eating 2ith %ions) When it co%es to 5obs leaving and factories being
built in cheaper places, people think of China, .alaysia, Thailand, .exico, Ireland, *ra)il, and Pietna%" *ut
going offshore isnt 5ust %oving part of a %anufacturing or service process" It %eans creating a ne! business
%odel to %ake %ore goods for non'81 sale, thus increasing 81 exports"
R" Supp%/;chaining# !ating sushi in Ar3ansas) Wal%art de%onstrates that i%proved ac&uisition and
distribution can lo!er costs and %ake suppliers boost &uality"
O" Insourcing# What the gu/s in funn/ -ro2n shorts are rea%%/ doing) This kind of service collaboration
happens !hen fir%s devise ne! service co%binations to i%prove service" Take 8nited Carcel 1ervice +8C1,"
The 6bro!n7 co%pany delivers packages globally, but it also repairs Toshiba co%puters and organi)es
delivery routes for Capa Nohns pi))a" With insourcing, 8C1 uses its logistics expertise to help clients create
ne! businesses"
H" Infor.ing# $oog%e1 6ahoo@1 SN We- Search) @oogle revolutioni)ed infor%ation searching" Its users
conduct so%e one billion searches annually" This search %ethodology and the !ide access to kno!ledge on
the Internet transfor%s infor%ation into a co%%odity people can use to spa!n entirely ne! businesses"
;F"The steroids# 8igita%1 .o-i%e1 persona%1 and 'irtua%) Technological advances range fro% !ireless
co%%unication to processing, resulting in extre%ely po!erful co%puting capability and trans%ission" (ne
ne! Intel chip processes so%e ;; %illion instructions per second +.IC1,, co%pared to GF,FFF .IC1 in ;HR;"
These ten factors had po!erful roles in %aking the !orld s%aller, but each !orked in isolation until,
Freid%an !rites, the convergence of three %ore po!erful forces9 +;, ne! soft!are and increased public
fa%iliarity !ith the Internet, +<, the incorporation of that kno!ledge into business and personal
co%%unication, and +=, the %arket influx of billions of people fro% $sia and the for%er 1oviet 8nion !ho
!ant to beco%e %ore prosperous-fast" Converging, these factors generated their o!n critical %ass" The
benefits of each event beca%e greater as it %erged !ith another event" Increased global collaboration by
talented people !ithout regard to geographic boundaries, language, or ti%e )ones created opportunity for
billions of people"
Colitical allegiances are also shifting" While critics say outsourcing costs 81 5obs, it can also !ork the other
!ay" When the state of Indiana bid for a ne! contract to overhaul its e%ploy%ent clai%s processing syste%,
a co%puter fir% in India !on" The co%panys bid !ould have saved Indiana TO %illion, but local political
forces %ade the state cancel the contract" In such situations, the line bet!een the exploited and the exploiter
beco%es blurred"
Corporate nationality is also blurring" Ee!lett'Cackard +EC, is based in California, but it has e%ployees in
;RO countries" EC %anufactures parts !herever its cheapest to do so" .ultinationals like EC do !hats best
for the%, not !hats best for their ho%e countries" This leads to critical issues about 5ob loss versus the
benefits of globali)ation"
1ince the !orlds flattening cant be stopped, ne! !orkers and those facing dislocation should refine their
skills and capitali)e on ne! opportunities" (ne key is to beco%e an expert in a 5ob that cant be delegated
offshore" This ranges fro% local barbers and plu%bers to professionals such as surgeons and speciali)ed
la!yers"
We &i'e in a u%tido.estic Wor%d1 Not a F%at One@
International business professor Canka5 @he%a!at takes strong issue !ith the vie! that the !orld is flat and
instead espouses a !orld he characteri)es as 6se%iglobali)ed7 and 6%ultido%estic"7 If the !orld !ere flat,
international business and global strategy !ould be easy" $ccording to @he%a!at, it !ould be do%estic
strategy applied to a bigger %arket" In the se%iglobali)ed !orld, ho!ever, global strategy begins !ith
noticing national differences" J?K
@he%a!ats research suggests that to study 6barriers to cross'border econo%ic activity7 you !ill use a
6C$@37 analysis" The CA$! fra.e2or3 covers these four factors9 JGK
1) Cu%ture) @enerally, cultural differences bet!een t!o countries reduce their econo%ic exchange" Culture
refers to a peoples nor%s, co%%on beliefs, and practices" Cultural distance refers to differences based in
language, nor%s, national or ethnic identity, levels of trust, tolerance, respect for entrepreneurship and social
net!orks, or other country'specific &ualities" 1o%e products have a strong national identification, such as the
.olson beer co%pany in Canada +see .olsons 6I a% Canadian7 ad ca%paign," JRK Conversely, genetically
%odified foods +@.(s, are co%%only accepted in 4orth $%erica but highly disdained in Western 3urope"
1uch cultural distance for @.(s !ould %ake it easier to sell @.( corn in the 8nited 1tates but i%possible
to sell in @er%any" 1o%e differences are surprisingly specific +such as the Chinese dislike of dark
beverages, !hich Coca'Cola %arketers discovered too late,"
7) Ad.inistration) *ilateral trade flo!s sho! that ad%inistratively si%ilar countries trade %uch %ore !ith
each other" $d%inistrative distance refers to historical govern%ental ties, such as those bet!een India and
the 8nited ingdo%" This %akes senseB they have the sa%e sorts of la!s, regulations, institutions, and
policies" .e%bership in the sa%e trading block is also a key si%ilarity" Conversely, the greater the
ad%inistrative differences bet!een nations, the %ore difficult the trading relationship-!hether at the
national or corporate level" It can also refer si%ply to the level and nature of govern%ent involve%ent in one
industry versus another" Far%ing, for instance, is subsidi)ed in %any countries, and this creates si%ilar
conditions"
9) $eograph/) This is perhaps the %ost obvious difference bet!een countries" :ou can see that the %arket
for a product in Ios $ngeles is separated fro% the %arket for that sa%e product in 1ingapore by thousands
of %iles" @enerally, as distance goes up, trade goes do!n, since distance usually increases the cost of
transportation" @eographic differences also include ti%e )ones, access to ocean ports, shared borders,
topography, and cli%ate" :ou %ay recall fro% the opening case that even @oogle !as affected by geographic
distance !hen it felt the speed of the Internet connection to @oogle"co% !as slo!ed do!n because the
Chinese !ere accessing server far%s in other countries, as none !ere set up in China +prior to the setup of
@oogle"cn,"
:) !cono.ics) 3cono%ic distance refers to differences in de%ographic and socioecono%ic conditions" The
%ost obvious econo%ic difference bet!een countries is si)e +as co%pared by gross do%estic product, or
@DC," $nother is per capita inco%e" This distance is likely to have the greatest effect !hen +;, the nature of
de%and varies !ith inco%e level, +<, econo%ies of scale are li%ited, +=, cost differences are significant, +>,
the distribution or business syste%s are different, or +?, organi)ations have to be highly responsive to their
custo%ers concerns" Disasse%bling a co%panys econo%y reveals other differences, such as labor costs,
capital costs, hu%an capital +e"g", education or skills,, land value, cheap natural resources, transportation
net!orks, co%%unication infrastructure, and access to capital"
3ach of these C$@3 di%ensions shares the co%%on notion of distance" C$@3 differences are likely to
%atter %ost !hen the C$@3 distance is great" That is, !hen C$@3 differences are s%all, there !ill likely be
a greater opportunity to see business being conducted across borders" $ C$@3 analysis also re&uires
exa%ining an organi)ations particular industry and products in each of these areas" When looking at culture,
consider ho! culturally sensitive the products are" When looking at ad%inistration, consider !hether other
countries coddle certain industries or support 6national cha%pions"7 When looking at geography, consider
!hether products !ill survive in a different cli%ate" When looking at econo%ics, consider such issues as the
effect of per capita inco%e on de%and"
An A.using Anecdote
Canka5 @he%a!at provides this anecdote in partial support of his %ultido%estic +or anti'flat'!orld, vie!" 6It
takes an aroused %an to %ake a chicken affectionate7 is probably not the best %arketing slogan ever
devised" *ut thats the one Cerdue Chicken used to %arket its fryers in .exico" .exicans !ere nonplussed,
to say the least, and probably !ondered !hat !as going on in founder Frank Cerdues henhouse" Eo! did
the slogan get approved# 1i%ple9 its a literal translation of Cerdues %ore appeti)ing 4orth $%erican slogan
6It takes a tough %an to %ake a tender chicken"7 $s Cerdue discovered, at least through his experience !ith
the literal translation of his co%pany %otto into 1panish, cultural and econo%ic globali)ation have yet to
arrive" Consider the %arket for capital" 1o%e say capital 6kno!s no boundaries"7 2ecent data, ho!ever,
suggests capital kno!s its geography &uite !ell and is sticking close to ho%e" For every dollar of capital
invest%ent globally, only a di%e co%es fro% fir%s investing 6outside their ho%e countries"7 For every T;FF
81 investors put in the stock %arket, they spend T;? on international stocks" For every one hundred
students in (rganisation for 3cono%ic Co'operation +(3CD, universities, perhaps five are foreigners" These
and other key %easures of internationali)ation sho! that the !orld isnt flat" Its HF percent round, like a
rugby ball" JOK
While the !orld %ay not be flat, it is probably safe to say that it is flattening" We !ill use the C$@3
fra%e!ork throughout this book to better understand this evolving dyna%ic"
5!6 TA5!AWA6S
The globali)ation debate pits the opinions of Tho%as Fried%an against those of Canka5 @he%a!at"
Their differing vie!s help you better understand the context of international business" Through
exposure to Fried%ans ideas, you gain a better perspective on the forces, or 6flatteners,7 that are
%aking cross'border business %ore pro%inent"
@he%a!at portrays a !orld that is 6se%iglobali)ed7 and 6%ultido%estic,7 !here global strategy begins
!ith noticing national differences"
@he%a!ats C$@3 fra%e!ork covers four factors-culture, ad%inistration, geography, and
econo%ics"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What are the basic tenets of the flat'!orld perspective#
<" Why does @he%a!at disagree !ith the flat'!orld perspective#
=" What are the four co%ponents of the C$@3 analytical fra%e!ork#
1)? !thics and Internationa% *usiness
&!ARNIN$ O*+!CTI,!S
;" Iearn about the field of ethics"
<" @ain a general understanding of business ethics"
=" 1ee !hy business ethics %ight be %ore challenging in international settings"
A Fra.e2or3 for !thica% 8ecision a3ing
The relationship bet!een ethics and international business is a deep, natural one" Definitions of ethics and
ethical behavior see% to have strong historical and cultural roots that vary by country and region" The field
of ethics is a branch of philosophy that seeks virtue" 3thics deals !ith %orality about !hat is considered
6right7 and 6!rong7 behavior for people in various situations" While business ethics e%erged as a field in the
;HRFs, international business ethics didnt arise until the late ;HHFs" Initially, it looked back on the
international develop%ents of the late ;HRFs and ;HOFs, such as the *hopol disaster in India or the infant
%ilk'for%ula debate in $frica" J;K Today, those !ho are interested in international -usiness ethics and
ethical behavior exa%ine various kinds of business activities and ask, 6Is the business conduct ethically right
or !rong#7
While ethical decision %aking is tricky stuff, particularly regarding international business issues, it helps if
you start !ith a specific decision'%aking fra%e!ork, such as the one su%%ari)ed fro% the .arkkula Center
for $pplied 3thics at 1anta Clara 8niversity" J<K
;" Is it an ethica% issue" *eing ethical doesnt al!ays %ean follo!ing the la!" $nd 5ust because so%ething is
possible, doesnt %ean its ethical-hence the global debates about biotechnology advances, such as
cloning" $lso, ethics and religion dont al!ays concur" This is perhaps the trickiest stage in ethical decision
%akingB so%eti%es the subtleties of the issue are above and beyond our kno!ledge and experience" Iisten
to your instincts-if it feels unco%fortable %aking the decision on your o!n, get others involved and use their
collective kno!ledge and experience to %ake a %ore considered decision"
<" $et the facts) What do you kno! and, 5ust as i%portant, !hat dont you kno!# Who are the people affected
by your decision# Eave they been consulted# What are your options# Eave you revie!ed your options !ith
so%eone you respect#
=" !'a%uate a%ternati'e actions) There are different ethical approaches that %ay help you %ake the %ost
ethical decision" For exa%ple, here are five approaches you can consider9
;" Ati%itarian approach) Which action results in the %ost good and least har%#
<" Rights;-ased approach) Which action respects the rights of everyone involved#
=" Fairness or Bustice approach) Which action treats people fairly#
>" Co..on good approach) Which action contributes %ost to the &uality of life of the people affected#
?" ,irtue approach) Which action e%bodies the character strengths you value#
>" Test /our decision) Could you co%fortably explain your decision to your %other# To a %an on the street#
(n television# If not, you %ay have to rethink your decision before you take action"
?" +ust do itC-ut 2hat did /ou %earn" (nce youve %ade the decision, i%ple%ent it" Then set a date to
revie! your decision and %ake ad5ust%ents if necessary" (ften decisions are %ade !ith the best infor%ation
on hand at the ti%e, but things change and your decision %aking needs to be flexible enough to change too"
3ven a co%plete about'face %ay be the %ost appropriate action later on"
!thics in Action
:ou %ight kno! that al%ost GF percent of the soccer balls in the !orld are %ade in the city of 1ialkot,
Cakistan" Eistorically, these balls !ere hand'stitched in peoples ho%es, often using child labor" During the
;HHG 3uropean Cha%pionships, the %edia brought attention to the R,FFF seven' to fourteen'year'old
children !orking full ti%e stitching balls" 4@(s +nongovern%ental organi)ations, and industry groups
stepped up to take action" J=K 84IC3F, the World Federation of the 1porting @oods Industry, the International
Iabour (rgani)ation +II(,, and the 1ialkot Cha%ber of Co%%erce signed the $tlanta $gree%ent to eli%inate
the use of child labor in Cakistans soccer ball industry" J>K The $tlanta $gree%ent got ball production out of
the ho%e and into stitching centers, !hich could be %onitored %ore easily" This also led to the centrali)ation
of production in approved 6stitching centers"7 (n the one hand, the centers %ade it easier for the
Independent .onitoring $ssociation for Child Iabor +I.$C,-an 4@( created to !atch over the $tlanta
$gree%ent-to %ake sure no child labor !as used" (n the other hand, the centrali)ation so%eti%es forced
!orkers to co%%ute farther to get to !ork" $s a result, child labor has to a large extent disappeared fro% this
sector" J?K .oreover, global fair'trade co%panies, such as @3C$, have set up village'based stitching centers
that solely e%ploy !o%en" JGK Custo% and religion prohibit !o%en fro% !orking !ith %en in Cakistan, and
the !o%en'only soccer ball stitching centers give the% an opportunity to have a 5ob and i%prove their
fa%ilies inco%es"
What !thics Is Not
T!o of the biggest challenges to identifying ethical standards relate to &uestions about !hat the standards
should be based on and ho! !e apply those standards in specific situations" 3xperts on ethics agree that
the identification of ethical standards can be very difficult, but they a'e reached so%e agree%ent on !hat
ethics is not" $t the sa%e ti%e, these areas of agree%ent suggest !hy it %ay be challenging to obtain
consensus across countries and regions as to 6!hat is ethical#7 Iets look at this five'point excerpt fro% the
.arkkula Center for $pplied 3thics at 1anta Clara 8niversity about !hat ethics is not9
3thics is not the sa%e as feelings" Feelings provide i%portant infor%ation for our ethical choices" 1o%e
people have highly developed habits that %ake the% feel bad !hen they do so%ething !rong, but %any
people feel good even though they are doing so%ething !rong" $nd often our feelings !ill tell us it is
unco%fortable to do the right thing if it is hard"
3thics is not religion" .any people are not religious, but ethics applies to everyone" .ost religions do
advocate high ethical standards but so%eti%es do not address all the types of proble%s !e face"
3thics is not follo!ing the la!" $ good syste% of la! does incorporate %any ethical standards, but la! can
deviate fro% !hat is ethical" Ia! can beco%e ethically corrupt, as so%e totalitarian regi%es have %ade it"
Ia! can be a function of po!er alone and designed to serve the interests of narro! groups" Ia! %ay have a
difficult ti%e designing or enforcing standards in so%e i%portant areas, and %ay be slo! to address ne!
proble%s"
3thics is not follo!ing culturally accepted nor%s" 1o%e cultures are &uite ethical, but others beco%e corrupt
-or blind to certain ethical concerns +as the 8nited 1tates !as to slavery before the Civil War," 6When in
2o%e, do as the 2o%ans do7 is not a satisfactory ethical standard"
3thics is not science" 1ocial and natural science can provide i%portant data to help us %ake better ethical
choices" *ut science alone does not tell us !hat !e ought to do" 1cience %ay provide an explanation for
!hat hu%ans are like" *ut ethics provides reasons for ho! hu%ans ought to act" $nd 5ust because
so%ething is scientifically or technologically possible, it %ay not be ethical to do it" JRK
5!6 TA5!AWA6S
The sub5ect of ethics is i%portant in al%ost any context-be it %edicine, science, la!, or business" :ou
learned a fra%e!ork for ethical decision %aking as !ell as so%e opinions on !hat ethics is not"
.any !ould argue that international business ethics can have a strong foundation in national culture"
1o%e argue that ethics shouldnt follo! culturally accepted nor%s" Eo!ever, business %anagers
should have a good understanding of !hich nor%s their ethical standards are based on and !hy and
ho! they believe they should apply in other national contexts"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" To !hat does the ter% business etics refer#
<" What are the five steps in the ethical decision'%aking fra%e!ork#
=" What five areas have experts agreed are not ethics#

Chapter 7
Internationa% Trade and Foreign 8irect In'est.ent

WHATS IN IT FOR !"
;" What is international trade theory#
<" What is foreign direct invest%ent#
Its easy to think that trade is 5ust about business interests in each country" *ut global trade is %uch %ore"
Theres a convergence and, at ti%es, a conflict of the interests of the different stakeholders-fro%
businesses to govern%ents to local citi)ens" In recent years, advance%ents in technology, a rene!ed
enthusias% for entrepreneurship, and a global senti%ent that favors free trade have further connected
people, businesses, and %arkets-all flatteners that are helping expand global trade and invest%ent" $n
essential part of international business is understanding the history of international trade and !hat %otivates
countries to encourage or discourage trade !ithin their borders" In this chapter !ell look at the evolution of
international trade theory to our %odern ti%e" Well explore the political and legal factors i%pacting
international trade" This chapter !ill provide an introduction to the concept and role of foreign direct
invest%ent, !hich can take %any for%s of incentives, regulations, and policies" Co%panies react to these
business incentives and regulations as they evaluate !ith !hich countries to do business and in !hich to
invest" @overn%ents often encourage foreign invest%ent in their o!n country or in another country by
providing loans and incentives to businesses in their ho%e country as !ell as businesses in the recipient
country in order to pave the !ay for invest%ent and trade in the country" The opening case study sho!s ho!
and !hy China is investing in the continent of $frica"
Opening Case# China in Africa
Foreign co%panies have been doing business in $frica for centuries" .uch of the trade history of past
centuries has been colored by 3uropean colonial po!ers pro%oting and preserving their econo%ic interests
throughout the $frican continent" J;K $fter World War II and since independence for %any $frican nations, the
continent has not fared as !ell as other for%er colonial countries in $sia" $frica re%ains a continent plagued
by a continued co%bination of factors, including co%peting colonial political and econo%ic interestsB poor
and corrupt local leadershipB !ar, fa%ine, and diseaseB and a chronic shortage of resources, infrastructure,
and political, econo%ic, and social !ill" J<K $nd yet, through the bleak assess%ents, progress is e%erging,
led in large part by the successful e%ergence of a free and locally po!erful 1outh $frica" The continent
generates a lot of interest on both the corporate and hu%anitarian levels, as !ell as fro% other countries" In
particular in the past decade, $frica has caught the interest of the !orlds second largest econo%y, China" J=K
$t ho%e, over the past fe! decades, China has undergone its o!n %iracle, %anaging to %ove hundreds of
%illions of its people out of poverty by co%bining state intervention !ith econo%ic incentives to attract private
invest%ent" Today, China is involved in econo%ic engage%ent, bringing its success story to the continent of
$frica" $s professor and author Deborah *rautiga% notes, Chinas 6current experi%ent in $frica %ixes a
hard'nosed but clear'eyed self'interest !ith the lessons of ChinaYs o!n successful develop%ent and of
decades of its failed aid pro5ects in $frica"7 J>K
$ccording to $44, 6China has increasingly turned to resource'rich $frica as ChinaYs boo%ing econo%y has
de%anded %ore and %ore oil and ra! %aterials"7 J?K Trade bet!een the $frican continent and China
reached T;FG"O billion in <FFO, and over the past decade, Chinese invest%ents and the countrys
develop%ent aid to $frica have been increasing steadily" JGK6Chinese activities in $frica are highly diverse,
ranging fro% govern%ent to govern%ent relations and large state o!ned co%panies +1(3, investing in
$frica financed by Chinas policy banks, to private entrepreneurs entering $frican countries at their o!n
initiative to pursue co%%ercial activities"7JRK
1ince <FF>, eager for access to resources, oil, dia%onds, %inerals, and co%%odities, China has entered
into arrange%ents !ith resource'rich countries in $frica for a total of nearly T;> billion in resource deals
alone" In one exa%ple !ith $ngola, China provided loans to the country secured by oil" With this invest%ent,
$ngola hired Chinese co%panies to build %uch'needed roads, rail!ays, hospitals, schools, and !ater
syste%s" 1i%ilarly, China provided nearby 4igeria !ith oil'backed loans to finance pro5ects that use gas to
generate electricity" In the 2epublic of the Congo, Chinese tea%s are building a hydropo!er pro5ect funded
by a Chinese govern%ent loan, !hich !ill be repaid in oil" In @hana, a Chinese govern%ent loan !ill be
repaid in cocoa beans" JOK
The 3xport'I%port *ank of China +3x'I% *ank of China, has funded and has provided these loans at %arket
rates, rather than as foreign aid" While these loans certainly pro%ote develop%ent, the risk for the local
countries is that the Chinese bids to provide the !ork arent co%petitive" Further%ore, the benefit to local
!orkers %ay be di%inished as Chinese co%panies bring in so%e of their o!n !orkers, keeping local !ages
and !orking standards lo!"
In <FFR, the 84CT$D +8nited 4ations Conference on Trade and Develop%ent, Cress (ffice noted the
follo!ing9
(ver the past fe! years, China has beco%e one of $fricaZs i%portant partners for trade and econo%ic
cooperation" Trade +exports and i%ports, bet!een $frica and China increased fro% 81T;; billion in <FFF to
81T?G billion in <FFGQ"!ith Chinese co%panies present in >O $frican countries, although $frica still
accounts for only = percent of ChinaZs out!ard FDI Jforeign direct invest%entK" $ fe! $frican countries have
attracted the bulk of ChinaZs FDI in $frica9 1udan is the largest recipient +and the Hth largest recipient of
Chinese FDI !orld!ide,, follo!ed by $lgeria +;Oth, and [a%bia +;Hth," JHK
(bservers note that $frican govern%ents can learn fro% the develop%ent history of China and %any $sian
countries, !hich no! en5oy high econo%ic gro!th and upgraded industrial activity" These $sian countries
%ade strategic invest%ents in education and infrastructure that !ere crucial not only for pro%oting econo%ic
develop%ent in general but also for attracting and benefiting fro% efficiency'seeking and export'oriented FDI"
J;FK

6ource" 7$ina in Africa" 8e'elo+ing Ties39 BB$ 4ews3 last u+dated 4o'ember .:3 .//;3 accessed <une 03
./223tt+"==news.bbc.co.u,=.=i=africa=;/>:;;;.stm.
Critici)ed by so%e and applauded by others, its clear that Chinas invest%ent is encouraging develop%ent in
$frica" China is accused by so%e of ignoring hu%an rights crises in the continent and doing business !ith
repressive regi%es" Chinas success in $frica is due in large part to the local political environ%ent in each
country, !here either one or a s%all handful of leaders often control the po!er and decision %aking" While
the countries often open bids to %any foreign investors, Chinese fir%s are able to provide lo!'cost options
thanks in large part to their govern%ents pro5ect support" The ability to forge a govern%ent'level partnership
has enabled Chinese businesses to have long'ter% invest%ent perspectives in the region" China even
hosted a su%%it in <FFG for $frican leaders, pledging to increase trade, invest%ent, and aid over the co%ing
decade" J;;K The <FFO global recession has led China to be %ore selective in its $frican invest%ents, looking
for good deals as !ell as political stability in target countries" 4evertheless, !hether to access the regions
rich resources or develop local %arkets for Chinese goods and services, China intends to be a key foreign
investor in $frica for the foreseeable future" J;<K
Opening Case !(ercises
+$$C1*9 3thical 2easoning, .ulticulturalis%, 2eflective Thinking, $nalytical 1kills,
;" Describe Chinas strategy in $frica"
<" If you !ere the head of a Chinese business that !as operating in 1udan, ho! !ould you address issues of
business ethics and doing business !ith a repressive regi%e# 1hould businesses care about local
govern%ent ethics and hu%an rights policies#
=" If you !ere a foreign businessperson !orking for a global oil co%pany that !as eager to get favorable
govern%ent approval to invest in a local oil refinery in an $frican country, ho! !ould you handle any
de%ands for paybacks +i"e", bribes,#
7)1 What Is Internationa% Trade Theor/"
&!ARNIN$ O*+!CTI,!S
;" 8nderstand international trade"
<" Co%pare and contrast different trade theories"
=" Deter%ine !hich international trade theory is %ost relevant today and ho! it continues to evolve"
What Is International Trade#
International trade theories are si%ply different theories to explain international trade" Trade is the concept of
exchanging goods and services bet!een t!o people or entities" International trade is then the concept of this
exchange bet!een people or entities in t!o different countries"
Ceople or entities trade because they believe that they benefit fro% the exchange" They %ay need or !ant
the goods or services" While at the surface, this %any sound very si%ple, there is a great deal of theory,
policy, and business strategy that constitutes international trade"
In this section, youll learn about the different trade theories that have evolved over the past century and
!hich are %ost relevant today" $dditionally, youll explore the factors that i%pact international trade and ho!
businesses and govern%ents use these factors to their respective benefits to pro%ote their interests"
What $re the Different International Trade Theories#

?eo+le a'e engaged in trade for tousands of years. Ancient istory +ro'ides us wit ric e&am+les suc
as te 6il, Road@te land and water trade routes tat co'ered more tan four tousand miles and
connected te Aediterranean wit Asia.
- Te 6tanford ?rogram on International and $ross#$ultural Education
6$round ?,<FF years ago, 8ruk, in southern .esopota%ia, !as probably the first city the !orld had ever
seen, housing %ore than ?F,FFF people !ithin its six %iles of !all" 8ruk, its agriculture %ade prosperous by
sophisticated irrigation canals, !as ho%e to the first class of %iddle%en, trade inter%ediariesQ$ cooperative
trade net!orkQset the pattern that !ould endure for the next G,FFF years"7 J;K
In %ore recent centuries, econo%ists have focused on trying to understand and explain these trade
patterns" Chapter ; AIntroductionA, 1ection ;"> AThe @lobali)ation DebateA discussed ho! Tho%as
Fried%ans flat'!orld approach seg%ents history into three stages9 @lobali)ation ;"F fro% ;>H< to ;OFF, <"F
fro% ;OFF to <FFF, and ="F fro% <FFF to the present" In @lobali)ation ;"F, nations do%inated global
expansion" In @lobali)ation <"F, %ultinational co%panies ascended and pushed global develop%ent" Today,
technology drives @lobali)ation ="F"
To better understand ho! %odern global trade has evolved, its i%portant to understand ho! countries
traded !ith one another historically" (ver ti%e, econo%ists have developed theories to explain the
%echanis%s of global trade" The %ain historical theories are called classical and are fro% the perspective of
a country, or country'based" *y the %id't!entieth century, the theories began to shift to explain trade fro% a
fir%, rather than a country, perspective" These theories are referred to as modern and are fir%'based or
co%pany'based" *oth of these categories, classical and %odern, consist of several international theories"
C%assica% or Countr/;*ased Trade Theories
ercanti%is.
Developed in the sixteenth century, .ercanti%is. !as one of the earliest efforts to develop an econo%ic
theory" This theory stated that a countrys !ealth !as deter%ined by the a%ount of its gold and silver
holdings" In its si%plest sense, %ercantilists believed that a country should increase its holdings of gold and
silver by pro%oting exports and discouraging i%ports" In other !ords, if people in other countries buy %ore
fro% you +exports, than they sell to you +i%ports,, then they have to pay you the difference in gold and silver"
The ob5ective of each country !as to have a trade surp%us, or a situation !here the value of exports are
greater than the value of i%ports, and to avoid a trade deficit, or a situation !here the value of i%ports is
greater than the value of exports"
$ closer look at !orld history fro% the ;?FFs to the late ;OFFs helps explain !hy %ercantilis% flourished"
The ;?FFs %arked the rise of ne! nation'states, !hose rulers !anted to strengthen their nations by building
larger ar%ies and national institutions" *y increasing exports and trade, these rulers !ere able to a%ass
%ore gold and !ealth for their countries" (ne !ay that %any of these ne! nations pro%oted exports !as to
i%pose restrictions on i%ports" This strategy is called protectionis. and is still used today"
4ations expanded their !ealth by using their colonies around the !orld in an effort to control %ore trade and
a%ass %ore riches" The *ritish colonial e%pire !as one of the %ore successful exa%plesB it sought to
increase its !ealth by using ra! %aterials fro% places ranging fro% !hat are no! the $%ericas and India"
France, the 4etherlands, Cortugal, and 1pain !ere also successful in building large colonial e%pires that
generated extensive !ealth for their governing nations"
$lthough %ercantilis% is one of the oldest trade theories, it re%ains part of %odern thinking" Countries such
as Napan, China, 1ingapore, Tai!an, and even @er%any still favor exports and discourage i%ports through a
for% of neo'%ercantilis% in !hich the countries pro%ote a co%bination of protectionist policies and
restrictions and do%estic'industry subsidies" 4early every country, at one point or another, has i%ple%ented
so%e for% of protectionist policy to guard key industries in its econo%y" While export'oriented co%panies
usually support protectionist policies that favor their industries or fir%s, other co%panies and consu%ers are
hurt by protectionis%" Taxpayers pay for govern%ent subsidies of select exports in the for% of higher taxes"
I%port restrictions lead to higher prices for consu%ers, !ho pay %ore for foreign'%ade goods or services"
Free'trade advocates highlight ho! free trade benefits all %e%bers of the global co%%unity, !hile
%ercantilis%s protectionist policies only benefit select industries, at the expense of both consu%ers and
other co%panies, !ithin and outside of the industry"
$bsolute $dvantage
In ;RRG, $da% 1%ith &uestioned the leading %ercantile theory of the ti%e inTe Wealt of 4ations" J<K 1%ith
offered a ne! trade theory calleda-so%ute ad'antage, !hich focused on the ability of a country to produce a
good %ore efficiently than another nation" 1%ith reasoned that trade bet!een countries shouldnt be
regulated or restricted by govern%ent policy or intervention" Ee stated that trade should flo! naturally
according to %arket forces" In a hypothetical t!o'country !orld, if Country $ could produce a good cheaper
or faster +or both, than Country *, then Country $ had the advantage and could focus on speciali)ing on
producing that good" 1i%ilarly, if Country * !as better at producing another good, it could focus on
speciali)ation as !ell" *y speciali)ation, countries !ould generate efficiencies, because their labor force
!ould beco%e %ore skilled by doing the sa%e tasks" Croduction !ould also beco%e %ore efficient, because
there !ould be an incentive to create faster and better production %ethods to increase the speciali)ation"
1%iths theory reasoned that !ith increased efficiencies, people in both countries !ould benefit and trade
should be encouraged" Eis theory stated that a nations !ealth shouldnt be 5udged by ho! %uch gold and
silver it had but rather by the living standards of its people"
Co%parative $dvantage
The challenge to the absolute advantage theory !as that so%e countries %ay be better at producing both
goods and, therefore, have an advantage in manyareas" In contrast, another country %ay not
have any useful absolute advantages" To ans!er this challenge, David 2icardo, an 3nglish econo%ist,
introduced the theory of co%parative advantage in ;O;R" 2icardo reasoned that even if Country $ had the
absolute advantage in the production of botproducts, speciali)ation and trade could still occur bet!een t!o
countries"
Co.parati'e ad'antage occurs !hen a country cannot produce a product %ore efficiently than the other
countryB ho!ever, it can produce that product better and %ore efficiently than it does other goods" The
difference bet!een these t!o theories is subtle" Co%parative advantage focuses on the relative productivity
differences, !hereas absolute advantage looks at the absolute productivity"
Iets look at a si%plified hypothetical exa%ple to illustrate the subtle difference bet!een these principles"
.iranda is a Wall 1treet la!yer !ho charges T?FF per hour for her legal services" It turns out that .iranda
can also type faster than the ad%inistrative assistants in her office, !ho are paid T>F per hour" 3ven though
.iranda clearly has the absolute advantage in both skill sets, should she do both 5obs# 4o" For every hour
.iranda decides to type instead of do legal !ork, she !ould be giving up T>GF in inco%e" Eer productivity
and inco%e !ill be highest if she speciali)es in the higher'paid legal services and hires the %ost &ualified
ad%inistrative assistant, !ho can type fast, although a little slo!er than .iranda" *y having both .iranda
and her assistant concentrate on their respective tasks, their overall productivity as a tea% is higher" This is
co%parative advantage" $ person or a country !ill speciali)e in doing !hat they do relati'ely better" In reality,
the !orld econo%y is %ore co%plex and consists of %ore than t!o countries and products" *arriers to trade
%ay exist, and goods %ust be transported, stored, and distributed" Eo!ever, this si%plistic exa%ple
de%onstrates the basis of the co%parative advantage theory"
Eeckscher'(hlin Theory +Factor Croportions Theory,
The theories of 1%ith and 2icardo didnt help countries deter%ine !hich products !ould give a country an
advantage" *oth theories assu%ed that free and open %arkets !ould lead countries and producers to
deter%ine !hich goods they could produce %ore efficiently" In the early ;HFFs, t!o 1!edish econo%ists, 3li
Eeckscher and *ertil (hlin, focused their attention on ho! a country could gain co%parative advantage by
producing products that utili)ed factors that !ere in abundance in the country" Their theory is based on a
countrys production factors-land, labor, and capital, !hich provide the funds for invest%ent in plants and
e&uip%ent" They deter%ined that the cost of any factor or resource !as a function of supply and de%and"
Factors that !ere in great supply relative to de%and !ould be cheaperB factors in great de%and relative to
supply !ould be %ore expensive" Their theory, also called thefactor proportions theor/, stated that
countries !ould produce and export goods that re&uired resources or factors that !ere in great supply and,
therefore, cheaper production factors" In contrast, countries !ould i%port goods that re&uired resources that
!ere in short supply, but higher de%and"
For exa%ple, China and India are ho%e to cheap, large pools of labor" Eence these countries have beco%e
the opti%al locations for labor'intensive industries like textiles and gar%ents"
Ieontief Caradox
In the early ;H?Fs, 2ussian'born $%erican econo%ist Wassily W" Ieontief studied the 81 econo%y closely
and noted that the 8nited 1tates !as abundant in capital and, therefore, should export %ore capital'intensive
goods" Eo!ever, his research using actual data sho!ed the opposite9 the 8nited 1tates !as i%porting %ore
capital'intensive goods" $ccording to the factor proportions theory, the 8nited 1tates should have been
i%porting labor'intensive goods, but instead it !as actually exporting the%" Eis analysis beca%e kno!n as
the&eontief Parado( because it !as the reverse of !hat !as expected by the factor proportions theory" In
subse&uent years, econo%ists have noted historically at that point in ti%e, labor in the 8nited 1tates !as
both available in steady supply and %ore productive than in %any other countriesB hence it %ade sense to
export labor'intensive goods" (ver the decades, %any econo%ists have used theories and data to explain
and %ini%i)e the i%pact of the paradox" Eo!ever, !hat re%ains clear is that international trade is co%plex
and is i%pacted by nu%erous and often'changing factors" Trade cannot be explained neatly by one single
theory, and %ore i%portantly, our understanding of international trade theories continues to evolve"
.odern or Fir%'*ased Trade Theories
In contrast to classical, country'based trade theories, the category of %odern, fir%'based theories e%erged
after World War II and !as developed in large part by business school professors, not econo%ists" The fir%'
based theories evolved !ith the gro!th of the %ultinational co%pany +.4C," The country'based theories
couldnt ade&uately address the expansion of either .4Cs orintraindustr/ trade, !hich refers to trade
bet!een t!o countries of goods produced in the sa%e industry" For exa%ple, Napan exports Toyota vehicles
to @er%any and i%ports .ercedes'*en) auto%obiles fro% @er%any"
8nlike the country'based theories, fir%'based theories incorporate other product and service factors,
including brand and custo%er loyalty, technology, and &uality, into the understanding of trade flo!s"
Countr/ Si.i%arit/ Theor/
1!edish econo%ist 1teffan Iinder developed the countr/ si.i%arit/ theor/in ;HG;, as he tried to explain
the concept of intraindustry trade" Iinders theory proposed that consu%ers in countries that are in the sa%e
or si%ilar stage of develop%ent !ould have si%ilar preferences" In this fir%'based theory, Iinder suggested
that co%panies first produce for do%estic consu%ption" When they explore exporting, the co%panies often
find that %arkets that look si%ilar to their do%estic one, in ter%s of custo%er preferences, offer the %ost
potential for success" Iinders country si%ilarity theory then states that %ost trade in %anufactured goods
!ill be bet!een countries !ith si%ilar per capita inco%es, and intraindustry trade !ill be co%%on" This
theory is often %ost useful in understanding trade in goods !here brand na%es and product reputations are
i%portant factors in the buyers decision'%aking and purchasing processes"
Croduct Iife Cycle Theory
2ay%ond Pernon, a Earvard *usiness 1chool professor, developed theproduct %ife c/c%e theor/ in the
;HGFs" The theory, originating in the field of %arketing, stated that a product life cycle has three distinct
stages9 +;, ne! product, +<, %aturing product, and +=, standardi)ed product" The theory assu%ed that
production of the ne! product !ill occur co%pletely in the ho%e country of its innovation" In the ;HGFs this
!as a useful theory to explain the %anufacturing success of the 8nited 1tates" 81 %anufacturing !as the
globally do%inant producer in %any industries after World War II"
It has also been used to describe ho! the personal co%puter +CC, !ent through its product cycle" The CC
!as a ne! product in the ;HRFs and developed into a %ature product during the ;HOFs and ;HHFs" Today,
the CC is in the standardi)ed product stage, and the %a5ority of %anufacturing and production process is
done in lo!'cost countries in $sia and .exico"
The product life cycle theory has been less able to explain current trade patterns !here innovation and
%anufacturing occur around the !orld" For exa%ple, global co%panies even conduct research and
develop%ent in developing %arkets !here highly skilled labor and facilities are usually cheaper" 3ven though
research and develop%ent is typically associated !ith the first or ne! product stage and therefore co%pleted
in the ho%e country, these developing or e%erging'%arket countries, such as India and China, offer both
highly skilled labor and ne! research facilities at a substantial cost advantage for global fir%s"
@lobal 1trategic 2ivalry Theory
@lobal strategic rivalry theory e%erged in the ;HOFs and !as based on the !ork of econo%ists Caul
rug%an and elvin Iancaster" Their theory focused on .4Cs and their efforts to gain a co%petitive
advantage against other global fir%s in their industry" Fir%s !ill encounter global co%petition in their
industries and in order to prosper, they %ust develop co%petitive advantages" The critical !ays that fir%s
can obtain a sustainable co%petitive advantage are called the barriers to entry for that industry"
The -arriers to entr/ refer to the obstacles a ne! fir% %ay face !hen trying to enter into an industry or ne!
%arket" The barriers to entry that corporations %ay seek to opti%i)e include9
research and develop%ent,
the o!nership of intellectual property rights,
econo%ies of scale,
uni&ue business processes or %ethods as !ell as extensive experience in the industry, and
the control of resources or favorable access to ra! %aterials"
Corters 4ational Co%petitive $dvantage Theory
In the continuing evolution of international trade theories, .ichael Corter of Earvard *usiness 1chool
developed a ne! %odel to explain national co%petitive advantage in ;HHF" Porters theor/ stated that a
nations co%petitiveness in an industry depends on the capacity of the industry to innovate and upgrade" Eis
theory focused on explaining !hy so%e nations are %ore co%petitive in certain industries" To explain his
theory, Corter identified four deter%inants that he linked together" The four deter%inants are +;, local %arket
resources and capabilities, +<, local %arket de%and conditions, +=, local suppliers and co%ple%entary
industries, and +>, local fir% characteristics"
;" &oca% .ar3et resources and capa-i%ities 0factor conditions4)Corter recogni)ed the value of the factor
proportions theory, !hich considers a nations resources +e"g", natural resources and available labor, as key
factors in deter%ining !hat products a country !ill i%port or export" Corter added to these basic factors a
ne! list of advanced factors, !hich he defined as skilled labor, invest%ents in education, technology, and
infrastructure" Ee perceived these advanced factors as providing a country !ith a sustainable co%petitive
advantage"
<" &oca% .ar3et de.and conditions) Corter believed that a sophisticated ho%e %arket is critical to ensuring
ongoing innovation, thereby creating a sustainable co%petitive advantage" Co%panies !hose do%estic
%arkets are sophisticated, trendsetting, and de%anding forces continuous innovation and the develop%ent
of ne! products and technologies" .any sources credit the de%anding 81 consu%er !ith forcing 81
soft!are co%panies to continuously innovate, thus creating a sustainable co%petitive advantage in soft!are
products and services"
=" &oca% supp%iers and co.p%e.entar/ industries) To re%ain co%petitive, large global fir%s benefit fro%
having strong, efficient supporting and related industries to provide the inputs re&uired by the industry"
Certain industries cluster geographically, !hich provides efficiencies and productivity"
>" &oca% fir. characteristics) Iocal fir% characteristics include fir% strategy, industry structure, and industry
rivalry" Iocal strategy affects a fir%s co%petitiveness" $ healthy level of rivalry bet!een local fir%s !ill spur
innovation and co%petitiveness"
In addition to the four deter%inants of the dia%ond, Corter also noted that govern%ent and chance play a
part in the national co%petitiveness of industries" @overn%ents can, by their actions and policies, increase
the co%petitiveness of fir%s and occasionally entire industries"
Corters theory, along !ith the other %odern, fir%'based theories, offers an interesting interpretation of
international trade trends" 4evertheless, they re%ain relatively ne! and %ini%ally tested theories"
Which Trade Theory Is Do%inant Today#
The theories covered in this chapter are si%ply that-theories" While they have helped econo%ists,
govern%ents, and businesses better understand international trade and ho! to pro%ote, regulate, and
%anage it, these theories are occasionally contradicted by real'!orld events" Countries dont have absolute
advantages in %any areas of production or services and, in fact, the factors of production arent neatly
distributed bet!een countries" 1o%e countries have a disproportionate benefit of so%e factors" The 8nited
1tates has a%ple arable land that can be used for a !ide range of agricultural products" It also has extensive
access to capital" While its labor pool %ay not be the cheapest, it is a%ong the best educated in the !orld"
These advantages in the factors of production have helped the 8nited 1tates beco%e the largest and richest
econo%y in the !orld" 4evertheless, the 8nited 1tates also i%ports a vast a%ount of goods and services, as
81 consu%ers use their !ealth to purchase !hat they need and !ant-%uch of !hich is no! %anufactured
in other countries that have sought to create their o!n co%parative advantages through cheap labor, land, or
production costs"
$s a result, its not clear that any one theory is do%inant around the !orld" This section has sought to
highlight the basics of international trade theory to enable you to understand the realities that face global
businesses" In practice, govern%ents and co%panies use a co%bination of these theories to both interpret
trends and develop strategy" Nust as these theories have evolved over the past five hundred years, they !ill
continue to change and adapt as ne! factors i%pact international trade"
5!6 TA5!AWA6S
Trade is the concept of exchanging goods and services bet!een t!o people or entities" International
trade is the concept of this exchange bet!een people or entities in t!o different countries" While a
si%plistic definition, the factors that i%pact trade are co%plex, and econo%ists throughout the
centuries have atte%pted to interpret trends and factors through the evolution of trade theories"
There are t!o %ain categories of international trade-classical, country'based and %odern, fir%'
based"
Corters theory states that a nations co%petitiveness in an industry depends on the capacity of the
industry to innovate and upgrade" Ee identified four key deter%inants9 +;, local %arket resources and
capabilities +factor conditions,, +<, local %arket de%and conditions, +=, local suppliers and
co%ple%entary industries, and +>, local fir% characteristics"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is international trade#
<" 1u%%ari)e the classical, country'based international trade theories" What are the differences bet!een
these theories, and ho! did the theories evolve#
=" What are the %odern, fir%'based international trade theories#
>" Describe ho! a business %ay use the trade theories to develop its business strategies" 8se Corters
four deter%inants in your explanation"
4ext
7)9 Foreign 8irect In'est.ent
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the types of international invest%ents"
<" Identify the factors that influence foreign direct invest%ent +FDI,"
=" 3xplain !hy and ho! govern%ents encourage FDI in their countries"
Anderstand the T/pes of Internationa% In'est.ents
There are t!o %ain categories of international invest%ent-portfolio invest%ent and foreign direct
invest%ent" Portfo%io in'est.ent refers to the invest%ent in a co%panys stocks, bonds, or assets, but not
for the purpose of controlling or directing the fir%s operations or %anage%ent" Typically, investors in this
category are looking for a financial rate of return as !ell as diversifying invest%ent risk through %ultiple
%arkets"
Foreign direct in'est.ent 0F8I4 refers to an invest%ent in or the ac&uisition of foreign assets !ith the intent
to control and %anage the%" Co%panies can %ake an FDI in several !ays, including purchasing the assets
of a foreign co%panyB investing in the co%pany or in ne! property, plants, or e&uip%entB or participating in a
5oint venture !ith a foreign co%pany, !hich typically involves an invest%ent of capital or kno!'ho!" FDI is
pri%arily a long'ter% strategy" Co%panies usually expect to benefit through access to local %arkets and
resources, often in exchange for expertise, technical kno!'ho!, and capital" $ countrys FDI can be both
in!ard and out!ard" $s the ter%s !ould suggest, in2ard F8I refers to invest%ents co%ing into the country
andout2ard F8I are invest%ents %ade by co%panies fro% that country into foreign co%panies in other
countries" The difference bet!een in!ard and out!ard is called the net FDI inflo!, !hich can be either
positive or negative"
@overn%ents !ant to be able to control and regulate the flo! of FDI so that local political and econo%ic
concerns are addressed" @lobal businesses are %ost interested in using FDI to benefit their co%panies" $s a
result, these t!o players-govern%ents and co%panies-can at ti%es be at odds" Its i%portant to
understand !hy co%panies use FDI as a business strategy and ho! govern%ents regulate and %anage FDI"
Factors That Inf%uence a Co.pan/s 8ecision to In'est
Iets look at !hy and ho! co%panies choose to invest in foreign %arkets" 1i%ply purchasing goods and
services or deciding to invest in a local %arket depends on a businesss needs and overall strategy" Direct
invest%ent in a country occurs !hen a co%pany chooses to set up facilities to produce or %arket their
productsB or seeks to partner !ith, invest in, or purchase a local co%pany for control and access to the local
%arket, production, or resources" .any considerations influence its decisions9
Cost) Is it cheaper to produce in the local %arket than else!here#
&ogistics) Is it cheaper to produce locally if the transportation costs are significant#
ar3et) Eas the co%pany identified a significant local %arket#
Natura% resources) Is the co%pany interested in obtaining access to local resources or co%%odities#
5no2;ho2) Does the co%pany !ant access to local technology or business process kno!ledge#
Custo.ers and co.petitors) Does the co%panys clients or co%petitors operate in the country#
Po%ic/) $re there local incentives +cash and noncash, for investing in one country versus another#
!ase) Is it relatively straightfor!ard to invest andSor set up operations in the country, or is there another
country in !hich setup %ight be easier#
Cu%ture) Is the !orkforce or labor pool already skilled for the co%panys needs or !ill extensive training be
re&uired#
I.pact) Eo! !ill this invest%ent i%pact the co%panys revenue and profitability#
!(patriation of funds) Can the co%pany easily take profits out of the country, or are there local restrictions#
!(it) Can the co%pany easily and orderly exit fro% a local invest%ent, or are local la!s and regulations
cu%berso%e and expensive#
These are 5ust a fe! of the %any factors that %ight influence a co%panys decision" eep in %ind that a
co%pany doesnt need to sell in the local %arket in order to dee% it a good option for direct invest%ent" For
exa%ple, co%panies set up %anufacturing facilities in lo!'cost countries but export the products to other
%arkets"
There are t!o for%s of FDI-hori)ontal and vertical" Horizonta% F8I occurs !hen a co%pany is trying to
open up a ne! %arket-a retailer, for exa%ple, that builds a store in a ne! country to sell to the local
%arket" ,ertica% F8I is !hen a co%pany invests internationally to provide input into its core operations-
usually in its ho%e country" $ fir% %ay invest in production facilities in another country" When a fir% brings
the goods or co%ponents back to its ho%e country +i"e", acting as a supplier,, this is referred to as back!ard
vertical FDI" When a fir% sells the goods into the local or regional %arket +i"e", acting as a distributor,, this is
ter%ed for!ard vertical FDI" The largest global co%panies often engage in both back!ard and for!ard
vertical FDI depending on their industry"
.any fir%s engage in back!ard vertical FDI" The auto, oil, and infrastructure +!hich includes industries
related to enhancing the infrastructure of a country-that is, energy, co%%unications, and transportation,
industries are good exa%ples of this" Fir%s fro% these industries invest in production or plant facilities in a
country in order to supply ra! %aterials, parts, or finished products to their ho%e country" In recent years,
these sa%e industries have also started to provide for!ard FDI by supplying ra! %aterials, parts, or finished
products to ne!ly e%erging local or regional %arkets"
There are different kinds of FDI, t!o of !hich-greenfield and bro!nfield-are increasingly applicable to
global fir%s" $reenfie%d F8Is occur !hen %ultinational corporations enter into developing countries to build
ne! factories or stores" These ne! facilities are built fro% scratch-usually in an area !here no previous
facilities existed" The na%e originates fro% the idea of building a facility on a green field, such as far%land or
a forested area" In addition to building ne! facilities that best %eet their needs, the fir%s also create ne!
long'ter% 5obs in the foreign country by hiring ne! e%ployees" Countries often offer prospective co%panies
tax breaks, subsidies, and other incentives to set up greenfield invest%ents"
$ -ro2nfie%d F8I is !hen a co%pany or govern%ent entity purchases or leases existing production facilities
to launch a ne! production activity" (ne application of this strategy is !here a co%%ercial site used for an
6unclean7 business purpose, such as a steel %ill or oil refinery, is cleaned up and used for a less polluting
purpose, such as co%%ercial office space or a residential area" *ro!nfield invest%ent is usually less
expensive and can be i%ple%ented fasterB ho!ever, a co%pany %ay have to deal !ith %any challenges,
including existing e%ployees, outdated e&uip%ent, entrenched processes, and cultural differences"
:ou should note that the ter%s greenfield and brownfield are not exclusive to FDIB you %ay hear the% in
various business contexts" In general, greenfield refers to starting fro% the beginning, and bro!nfield refers
to %odifying or upgrading existing plans or pro5ects"
Wh/ and Ho2 $o'ern.ents !ncourage F8I
.any govern%ents encourage FDI in their countries as a !ay to create 5obs, expand local technical
kno!ledge, and increase their overall econo%ic standards" J;K Countries like Eong ong and 1ingapore long
ago reali)ed that both global trade and FDI !ould help the% gro! exponentially and i%prove the standard of
living for their citi)ens" $s a result, Eong ong +before its return to China, !as one of the easiest places to
set up a ne! co%pany" @uidelines !ere clearly available, and businesses could set up a ne! office !ithin
days" 1i%ilarly, 1ingapore, !hile a bit %ore discri%inatory on the si)e and type of business, offered foreign
co%panies a clear, strea%lined process for setting up a ne! co%pany"
In contrast, for decades, %any other countries in $sia +e"g", India, China, Cakistan, the Chilippines, and
Indonesia, restricted or controlled FDI in their countries by re&uiring extensive paper!ork and bureaucratic
approvals as !ell as local partners for any ne! foreign business" These policies created disincentives for
%any global co%panies" *y the ;HHFs +and earlier for China,, %any of the countries in $sia had caught the
global trade bug and !ere actively trying to %odify their policies to encourage %ore FDI" 1o%e !ere %ore
successful than others, often as a result of internal political issues and pressures rather than fro% any
repercussions of global trade" J<K
Ho2 $o'ern.ents 8iscourage or Restrict F8I
In %ost instances, govern%ents seek to li%it or control foreign direct invest%ent to protect local industries
and key resources +oil, %inerals, etc",, preserve the national and local culture, protect seg%ents of their
do%estic population, %aintain political and econo%ic independence, and %anage or control econo%ic
gro!th" $ govern%ent use various policies and rules9
O2nership restrictions) Eost govern%ents can specify o!nership restrictions if they !ant to keep the
control of local %arkets or industries in their citi)ens hands" 1o%e countries, such as .alaysia, go even
further and encourage that o!nership be %aintained by a person of .alay origin, kno!n locally
as bumi+utra" $lthough the countrys Foreign Invest%ent Co%%ittee guidelines are being relaxed, %ost
foreign businesses understand that having a bumi+utra partner !ill i%prove their chances of obtaining
favorable contracts in .alaysia"
Ta( rates and sanctions) $ co%panys ho%e govern%ent usually i%poses these restrictions in an effort to
persuade co%panies to invest in the do%estic %arket rather than a foreign one"
Eo! @overn%ents 3ncourage FDI
@overn%ents seek to pro%ote FDI !hen they are eager to expand their do%estic econo%y and attract ne!
technologies, business kno!'ho!, and capital to their country" In these instances, %any govern%ents still try
to %anage and control the type, &uantity, and even the nationality of the FDI to achieve their do%estic,
econo%ic, political, and social goals"
Financia% incenti'es) Eost countries offer businesses a co%bination of tax incentives and loans to invest"
Eo%e'country govern%ents %ay also offer a co%bination of insurance, loans, and tax breaks in an effort to
pro%ote their co%panies overseas invest%ents" The opening case on China in $frica illustrated these types
of incentives"
Infrastructure) Eost govern%ents i%prove or enhance local infrastructure-in energy, transportation, and
co%%unications-to encourage specific industries to invest" This also serves to i%prove the local conditions
for do%estic fir%s"
Ad.inistrati'e processes and regu%ator/ en'iron.ent) Eost'country govern%ents strea%line the
process of establishing offices or production in their countries" *y reducing bureaucracy and regulatory
environ%ents, these countries appear %ore attractive to foreign fir%s"
In'est in education) Countries seek to i%prove their !orkforce through education and 5ob training" $n
educated and skilled !orkforce is an i%portant invest%ent criterion for %any global businesses"
Po%itica%1 econo.ic1 and %ega% sta-i%it/) Eost'country govern%ents seek to reassure businesses that the
local operating conditions are stable, transparent +i"e", policies are clearly stated and in the public do%ain,,
and unlikely to change"
!thics in Action
3ncouraging Foreign Invest%ent
@overn%ents seek to encourage FDI for a variety of reasons" (n occasion, though, the process can cross
the lines of ethics and legality" In 4ove%ber <F;F, seven global co%panies paid the 81 Nustice Depart%ent
6a co%bined T<=G %illion in fines to settle allegations that they or their contractors bribed foreign officials to
s%ooth the !ay for i%porting e&uip%ent and %aterials into several countries"7 J=K The co%panies included
1hell and contractors Transocean, 4oble, Cride International, @lobal 1anta Fe, Tide!ater, and Canalpina
World Transport" The bribes !ere paid to officials in oil'rich countries-4igeria, *ra)il, $)erbai5an, 2ussia,
Turk%enistan, a)akhstan, and $ngola" In the 8nited 1tates, global fir%s-including ones head&uartered
else!here, but trading on any of the 81 stock exchanges-are prohibited fro% paying or even offering to pay
bribes to foreign govern%ent officials or e%ployees of state'o!ned businesses !ith the intent of currying
business favors" While the la! and the business ethics are clear, in %any cases, the penalty fines re%ain
%uch less onerous than losing critical long'ter% business revenues" J>K
Did :ou no!#
Eong ong9 Fro% Nunks to Nets# The 2ise of a @lobal Co!erhouse
Colicies of openness to FDI and international trade have enabled countries around the !orld to leapfrog
econo%ically over their neighbors" The historical rise of Eong ong is one exa%ple" Eong ongs econo%ic
strengths can be traced to a co%bination of factors, including its business'friendly la!s and policies, a local
population that is culturally oriented to transacting trade and business, and Eong ongs geographic
proxi%ity to the %a5or econo%ies of China, Napan, and Tai!an"
Eong ong has al!ays been open to global trade" .any people, fro% the Chinese to the Napanese to the
*ritish, have occupied Eong ong over the centuries, and all of the% have contributed to its develop%ent as
one of the !orlds great ports and trading centers"
In ;HHR, Eong ong reverted back to Chinese controlB ho!ever, free enterprise !ill be governed under the
agree%ent of *asic Ia!, !hich established Eong ong as a separate 1pecial $d%inistrative 2egion +1$2,
of China" 8nder its *asic Ia!, in force until <F>R, Eong ong !ill retain its legal, social, econo%ic, and
political syste%s apart fro% Chinas" Thus, Eong ong is guaranteed the right to its o!n %onetary syste%
and financial autono%y" Eong ong is allo!ed to !ork independently !ith the international co%%unityB to
control trade in strategic co%%odities, drugs, and illegal transship%entsB and to protect intellectual property
rights" 8nder the *asic Ia!, the Eong ong 1$2 %aintains an independent tax syste% and the right to free
trade"
Eong ong has an open business structure, !hich freely encourages foreign direct invest%ent" $ny
co%pany that !ishes to do business here is free to do so as long as it co%plies !ith local la!s" Eong ongs
legal and institutional fra%e!ork co%bined !ith its good banking and financial facilities and business'friendly
tax syste%s have encouraged foreign direct invest%ent as %any %ultinationals located their regional
head&uarters in Eong ong"
$s a base for doing business !ith China, Eong ong no! accounts for half of all direct invest%ents in the
%ainland and is Chinas %ain conduit for invest%ent and trade" China has also beco%e a %a5or investor in
Eong ong"
Culturally, %any foreign fir%s are attracted to Eong ong by its skilled !orkforce and the fact that Eong ong
still conducts business in 3nglish, a re%nant of its *ritish colonial influence" The i%print of the early *ritish
trading fir%s, kno!n as ongs, is particularly strong today in the area of property develop%ent" Nardine
.atheson and Co%pany, for instance, founded by trader Willia% Nardine, re%ains one of Eong ongs
pree%inent fir%s" In %any of these co%panies, *ritish %anage%ent practices re%ain fir%ly in place" 3very
aspect of Eong ongs business la!s-!hether pertaining to contracts, taxes, or trusts-bears striking
si%ilarities to the la!s in *ritain" $ll these factors contribute to a business culture that is fa%iliar to people in
%any %ultinationals"
Chinese cultural influences have al!ays affected business and are increasingly so today" .any pundits clai%
that Eong ong already rese%bles Chinas free'trade )one" $nd, indeed, the t!o econo%ies are beco%ing
increasingly intert!ined" .uch of this econo%ic co%%ingling began in the ;HHFs, !hen Eong ong
co%panies began relocating production centers to the %ainland-especially to @uangdong province"
*ecause of the shift in production to %ainland China and other $sian countries, there is not %uch
%anufacturing left in Eong ong" What re%ains is light in nature and veers to!ard high'value'added
products" In fact, OF percent of Eong ongs gross do%estic product no! co%es fro% its high value'added
service sector9 finance, business and legal services, brokerage services, the shipping and cargo industries,
and the hotel, food, and beverage industry"
Iocal Eong ong co%panies, as !ell as foreign businesses based there, are uni&uely positioned to play
i%portant roles as brokers and inter%ediaries bet!een the %ainland and global corporations" Doing business
in China is not only co%plex and daunting but also re&uires connections, locally kno!n as guan&i, to
influential people and an understanding of local la!s and protocol" Developing these relationships and this
kno!ledge is al%ost i%possible !ithout the assistance of an insider" It is in this role that the Eong ong
business co%%unity stands to contribute enor%ously"
Eong ongs openness to foreign invest%ent coupled !ith its proxi%ity to China !ill ensure its global
econo%ic co%petitiveness for decades to co%e"
3: T$3$W$:1
There are t!o %ain categories of international invest%ent9 portfolio invest%ent and foreign direct
invest%ent +FDI," Cortfolio invest%ent refers to the invest%ent in a co%panys stocks, bonds, or
assets, but not for the purpose of controlling or directing the fir%s operations or %anage%ent" FDI
refers to an invest%ent in or the ac&uisition of foreign assets !ith the intent to control and %anage
the%"
Direct invest%ent in a country occurs !hen a co%pany chooses to set up facilities to produce or
%arket its products or seeks to partner !ith, invest in, or purchase a local co%pany for control and
access to the local %arket, production, or resources" .any considerations can influence the
co%panys decisions, including cost, logistics, %arket, natural resources, kno!'ho!, custo%ers and
co%petitors, policy, ease of entry and exit, culture, i%pact on revenue and profitability, and expatriation
of funds"
@overn%ents discourage or restrict FDI through o!nership restrictions, tax rates, and sanctions"
@overn%ents encourage FDI through financial incentivesB !ell'established infrastructureB desirable
ad%inistrative processes and regulatory environ%entB educational invest%entB and political, econo%ic,
and legal stability"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What are three factors that i%pact a co%panys decision to invest in a country#
<" What is the difference bet!een vertical and hori)ontal FDI# @ive one exa%ple of an industry for each
type"
=" Eo! can govern%ents encourage or discourage FDI#
Chapter 9
Internationa% onetar/ S/ste.
WHATS IN IT FOR !"
;" What is the international %onetary syste%#
<" What role do the International .onetary Fund +I.F, and the World *ank play#
@lobal trade depends on the s%ooth exchange of currencies bet!een countries" *usinesses rely on a
predictable and stable %echanis%" This chapter takes a look at the recent history of global %onetary
syste%s and ho! they have evolved over the past t!o centuries" While the current %onetary syste%
continues to evolve, lessons learned over the past fifty years help deter%ine the best future options" $s part
of the postDWorld War II %onetary environ%ent, t!o institutions !ere createdB these institutions have
expanded to play an increasingly larger role in !orld econo%y" 8nderstanding the role of the I.F and the
World *ank provides insight into ho! govern%ents in developing countries prioriti)e and fund pro5ects and
!ork !ith the private sector to i%ple%ent these initiatives"
Opening Case# c5inse/ D Co.pan/# &in3ing the *usiness Wor%d1 $o'ern.ents1 and $%o-a%
Institutions
Who Is .cinsey#

.cinsey V Co%pany is a privately held global %anage%ent'consulting fir% that serves as a trusted adviser
to the !orlds leading businesses, govern%ents, and institutions" 2ecogni)ed as a global leader, it has
ranked first as the %ost prestigious fir% in the %anage%ent consulting industry by Pault"co%" J;K
Na%es (" 6.ac7 .cinsey, an accounting professor at the 8niversity of Chicago, founded .cinsey V
Co%pany in Chicago in ;H<G" (ver the decades, .cinsey V Co%pany has gro!n to global pro%inence by
providing expert consulting services and garnering results for co%panies in a !ide range of industries and
govern%ents"
Today, .cinsey has a revenue of TG billion and e%ploys al%ost ;R,FFF people !orld!ide, !ith %ore than
H,FFF at the director level" 6The fir% is a%ong the largest irers of newly minted ABAs in the 8nited
1tates"7 J<K.cinseys e%ployees co%e fro% around the !orld, speaking over ;<F languages and
representing %ore than one hundred nationalities"
What Does the Fir% Do#
$s a %anage%ent consultant fir%, .cinsey is approached by its clients to analy)e and solve co%plex
proble%s" Its industry expertise ranges fro% %edia and entertain%ent to the auto%otive industry, che%icals,
and %anufacturing" Functional expertise includes all aspects of running a business, including, finance,
technology, sales, %arketing, risk, and operations" .cinsey has its o!n @lobal Institute !hose
6independent investigations co%bine .cinseys %icroecono%ic understanding of co%panies and industries
!ith the rigor of leading %acroecono%ic thinking to derive perspectives on the global forces shaping
business, govern%ent, and society"7 J=K
The @lobal Institute is one of .cinseys paths to assisting govern%ents and global institutions !ith co%plex
econo%ic and business issues" 6T!enty years of .cinsey @lobal Institute research sho!s that the %ix of
sectors !ithin an econo%y explains very little of the difference in a countrys @DC gro!th rate" In other
!ords, dyna%is% doesnt turn on !hether an econo%y has a large financial sector, or big %anufacturers, or
a se%iconductor industry, but instead on !hether the sectors are co%petitive or not" Instead of picking
!inners and funneling subsidies to the%, countries %ust get the basics right" These include a solid rule of
la!, !ith patents and protections for intellectual property, enforceable contracts, and courts to resolve
disputesB access to finance, particularly for startupsB and an efficient physical and co%%unications
infrastructure"7 J>K
Why Does the Fir% .atter to International *usiness#
This chapter discusses the international %onetary syste%, the I.F and the World *ank" In learning about
these critical parts of the global business environ%ent, you %ay find yourself !ondering ho! exactly these
institutions and govern%ent'led %onetary syste%s interact !ith the business !orld" Iearning about the
business of a %anage%ent consulting fir% like .cinsey helps to illustrate this link"
(ver the decades, .cinsey has helped global businesses understand ho! to enter ne! %arkets around
the !orld, ho! to co%pete %ore effectively against their global co%petitors, and ho! to harness efficiencies
and %ake i%prove%ents in all levels of business" 1i%ultaneously, .cinsey has discreetly been an advisor
to govern%ents around the !orld on diverse issues, including ho! to a%end policy and regulation to
encourage %ore trade and invest%ent in their countriesB developing and i%ple%enting processes for
privati)ing industriesB and creating %ore efficiencies in the public sector" $t the sa%e ti%e, .cinsey has
helped the I.F and the World *ank craft policy to %eet their evolving roles in the !orld econo%y" @iven the
often politically charged global environ%ent, its clear !hy a co%pany like .cinsey prefers to re%ain out of
the public eye" .uch of the !ork that the fir% is engaged in i%pacts the daily lives of people around the
!orld" *usinesses and govern%ents are attracted to .cinsey not only for its sound analysis and advice but
also for its discretion and long'ter% perspective"
.cinseys consultants for% an enviable global net!ork that extends even to for%er e%ployees" .cinsey
operates under a practice of 6up or out,7 %eaning that consultants %ust either advance in their consulting
careers !ithin a predefined ti%e fra%e or leave the fir%" Its not unco%%on to find that a consultant !ill leave
.cinsey to 5oin their clients in the private sector or !ork for a govern%ent or global institution" This net!ork
of 6.cinsey'ites,7 as they are so%eti%es called, is evident in their influence on policy that could i%pact their
business clients-either on a country basis or industry basis" This net!ork helps attract so%e of the best
business school graduates to the fir%"
$s noted on its !ebsite, people 6!ho 5oin .cinsey find the%selves part of a uni&ue culture, shaped by
shared values and a desire to help clients %ake substantial i%prove%ents in their perfor%ance" When
consultants leave, their connection to our fir% and their for%er colleagues re%ains strong" (ur alu%ni
nu%ber nearly <=,FFF and !ork in virtually every business sector in al%ost ;<F countries" Through for%al
events and infor%al net!orking, for%er .cinsey consultants %ake and sustain professional relationships"
This dyna%ic net!ork is a lasting benefit of a career !ith .cinsey" (ur fir% provides support to alu%ni !ho
!ant to stay in touch !ith us and !ith each other, sponsoring events !orld!ide"7 J?K
(ne of the %ore interesting aspects of .cinseys business approach is its nonexclusivity" Consultants
develop expertise and can !ork for direct co%petitors after short holding periods of one or t!o years" (ther
co%panies in the sa%e industry often see this as an opportunity to learn %ore about their co%petitors
strategies-kno!ing that a co%petitor has hired .cinsey provides a strong i%petus for co%panies to seek
.cinseys assistance the%selves" Eo!ever, .cinsey does keep its client list confidential, and consultants
the%selves are not allo!ed to discuss their !ork !ith other tea%s"
The .cinsey %ysti&ue is another interesting aspect of the fir% that adds to the secrecy that surrounds it"
Despite its si)e, the fir% does not discuss specific client situations and %aintains a carefully crafted and lo!'
profile external i%age, !hich also protects it fro% public scrutiny" The .cinsey co%%it%ent to discretion
has earned it global private and public'sector clients and respect"
2oundly considered to be the %ost prestigious co%pany of its kind, it has achieved a level of reno!n so
great as to be kno!n even to lay%en, despite shrouding details of its !ork-and its client list-in secrecy" In
its practice areas, it addresses strategic, organi)ational, operational and technological issues, al!ays !ith a
focus-according to the fir%-of doing !hat is right for the clients business, not !hat is best for .cinseys
botto% line" $s for the range of those specialties, the list of industrial sectors the fir% serves enco%passes
everything fro% co%%odities and natural resources to the !orlds of %edia, entertain%ent and high tech"
While it doesnt give up the na%es of its clients +even in case studies it refers to the% !ith pseudony%s such
as 6*ig*ank7, the fir% does clai% to serve %ore than RF percent of Fortunes .ost $d%ired Co%panies list,
roughly HF percent of the top';FF corporations !orld!ide and OF percent of the ;FF largest 8"1"'based
co%panies" JGK
While its hard to kno! exact details of its pricing, client base, success rate, and profitability, its clear that the
co%pany continues to earn the trust and loyalty of %any of the !orlds co%panies, govern%ents, and global
institutions"
Opening Case !(ercises
+$$C1*9 3thical 2easoning, .ulticulturalis%, 2eflective Thinking, $nalytical 1kills,
;" Eo! does the business of a %anage%ent consultant illustrate the link bet!een businesses, govern%ents,
and global institutions#
<" Discuss ho! a global consulting fir% %ight assist a govern%ent client"
=" Why !ould a global business in the private sector !ant to hire .cinsey if .cinsey had already done
consulting !ork for a co%petitor#
9)1 What Is the Internationa% onetar/ S/ste."
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the role and purpose of the international %onetary syste%"
<" Describe the purpose of the gold standard and !hy it collapsed"
=" Describe the *retton Woods $gree%ent and !hy it collapsed"
>" 8nderstand todays current %onetary syste%, !hich developed after the *retton Woods $gree%ent
collapse"
Why do econo%ies need %oney# This chapter defines money as a unit of account that is used as a %ediu%
of exchange in trasactions" Without %oney, individuals and businesses !ould have a harder ti%e obtaining
+purchasing, or exchanging +selling, !hat they need, !ant, or %ake" .oney provides us !ith a universally
accepted %ediu% of exchange"
*efore the current %onetary syste% can be fully appreciated, its helpful to look back at history and see ho!
%oney and syste%s governing the use of %oney have evolved" Thousands of years ago, people had to
barter if they !anted to get so%ething" That !orked !ell if the t!o people each !anted !hat the other had"
3ven today, bartering exists" +Chapter ? A3xporting, I%porting, and @lobal 1ourcingA discusses %odern
bartering and countertrade",
Eistory sho!s that ancient 3gypt and .esopota%ia-!hich enco%passes the land bet!een the 3uphrates
and Tigris 2ivers and is %odern'day Ira&, parts of eastern 1yria, south!est Iran, and southeast Turkey-
began to use a syste% based on the highly coveted coins of gold and silver, also kno!n as -u%%ion, !hich is
the purest for% of the precious %etal" Eo!ever, bartering re%ained the %ost co%%on for% of exchange and
trade"
@old and silver coins gradually e%erged in the use of trading, although the level of pure gold and silver
content i%pacted the coins value" (nly coins that consist of the pure precious %etal are bullionsB all other
coins are referred to si%ply ascoins" It is interesting to note that gold and silver lasted %any centuries as the
basis of econo%ic %easure and even into relatively recent history of the gold standard, !hich !ell cover in
the next section" Fast'for!ard t!o thousand years and bartering has long been replaced by a currency'
based syste%" 3ven so, there have been evolutions in the past century alone on ho!-globally-the
%onetary syste% has evolved fro% using gold and silver to represent national !ealth and econo%ic
exchange to the current syste%"
8id 6ou 5no2"
Throughout history, so%e types of %oney have gained !idespread circulation outside of the nations that
issued the%" Whenever a country or e%pire has regional or global control of trade, its currency beco%es the
do%inant currency for trade and governs the %onetary syste% of that ti%e" In the %iddle of a period that
relies on one %a5or currency, its easy to forget that, throughout history, there have been other pri%ary
currencies-a historical cycle" @enerally, the best currency to use is the %ost li&uid one, the one issued by
the nation !ith the biggest econo%y as !ell as usually the largest i%port'export %arkets" 2arely has a single
currency been the exclusive %ediu% of !orld trade, but a fe! have co%e close" Eeres a &uick look at so%e
of so%e of the %ost po!erful currencies in history9
Persian daric) The daric !as a gold coin used in Cersia bet!een ?<< *C and ==F *C"
Ro.an currenc/) Currencies such as the aureus +gold,, the denarius +silver,, the sestertius +bron)e,, the
dupondius +bron)e,, and the as +copper, !ere used during the 2o%an 3%pire fro% around <?F *C to $D
<?F"
Tha%er) Fro% about ;>OG to ;HFO, the thaler and its variations !ere used in 3urope as the standard against
!hich the various states currencies could be valued"
Spanish A.erican pesos) $round ;?FF to the early nineteenth century, this conte%porary of the thaler !as
!idely used in 3urope, the $%ericas, and the Far 3astB it beca%e the first !orld currency by the late
eighteenth century"
*ritish pound) The pounds origins date as early as around $D OFF, but its influence gre! in the ;GFFs as
the unofficial gold standardB fro% ;O;G to around ;H=H the pound !as the global reserve currency until the
collapse of the gold standard"
AS do%%ar) The Coinage $ct of ;RH< established the dollar as the basis for a %onetary account, and it !ent
into circulation t!o years later as a silver coin" Its strength as a global reserve currency expanded in the
;OFFs and continues today"
!uro) (fficially in circulation on Nanuary ;, ;HHH, the euro continues to serve as currency in %any 3uropean
countries today"
Iets take a look at the last century of the international %onetary syste%
evolution" Internationa% .onetar/ s/ste. refers to the syste% and rules that govern the use and exchange
of %oney around the !orld and bet!een countries" 3ach country has its o!n currency as %oney and the
international %onetary syste% governs the rules for valuing and exchanging these currencies"
8ntil the nineteenth century, the %a5or global econo%ies !ere regionally focused in 3urope, the $%ericas,
China, and India" These !ere loosely linked, and there !as no for%al %onetary syste% governing their
interactions" The rest of this section revie!s the distinct chronological periods over the past ;?F years
leading to the develop%ent of the %odern global financial syste%" eep in %ind that the syste% continues to
evolve and each crisis i%pacts it" There is not likely to be a final international %onetary syste%, si%ply one
that reflects the current econo%ic and political realities" This is one %ain reason !hy understanding the
historical context is so critical" $s the debate about the pros and cons of the current %onetary syste%
continues, so%e econo%ists are te%pted to advocate a return to syste%s fro% the past" *usinesses need to
be %indful of these argu%ents and the resulting changes, as they !ill be i%pacted by ne! rules, regulations,
and structures"
PreEWor%d War I
$s %entioned earlier in this section, ancient societies started using gold as a %eans of econo%ic exchange"
@radually %ore countries adopted gold, usually in the for% of coins or bullion, and this international %onetary
syste% beca%e kno!n as the go%d standard" This syste% e%erged gradually, !ithout the structural process
in %ore recent syste%s" The gold standard, in essence, created a fi(ed e(change rate s/ste."
$n e(change rate is the price of one currency in ter%s of a second currency" In the gold standard syste%,
each country sets the price of its currency to gold, specifically to one ounce of gold" $ fixed exchange rate
stabili)es the value of one currency vis'\'vis another and %akes trade and invest%ent easier"
(ur %odern %onetary syste% has its roots in the early ;OFFs" The defeat of 4apoleon in ;O;?, !hen France
!as beaten at the *attle of Waterloo, %ade *ritain the strongest nation in the !orld, a position it held for
about one hundred years" In $frica, *ritish rule extended at one ti%e fro% the Cape of @ood Eope to Cairo"
*ritish do%inance and influence also stretched to the Indian subcontinent, the .alaysian peninsula,
$ustralia, 4e! [ealand-!hich attracted *ritish settlers-and Canada" 8nder the banner of the *ritish
govern%ent, *ritish co%panies advanced globally and !ere the largest co%panies in %any of the colonies,
controlling trade and co%%erce" Throughout history, strong countries, as %easured %ainly in ter%s of
%ilitary %ight, !ere able to advance the interests of co%panies fro% their countries-a fact that has
continued to %odern ti%es, as seen in the global pro!ess of $%erican co%panies" @lobal fir%s in turn have
al!ays paid close attention to the political, %ilitary, and econo%ic policies of their and other govern%ents"
In ;O<;, the 8nited ingdo%, the predo%inant global econo%y through the reaches of its colonial e%pire,
adopted the gold standard and co%%itted to fixing the value of the *ritish pound" The %a5or trading
countries, including 2ussia, $ustria'Eungary, @er%any, France, and the 8nited 1tates, also follo!ed and
fixed the price of their currencies to an ounce of gold"
The 8nited ingdo% officially set the price of its currency by agreeing to buy or sell an ounce of gold for the
price of >"<>R pounds sterling" $t that ti%e, the 8nited 1tates agreed to buy or sell an ounce of gold for
T<F"GR" This enabled the t!o currencies to be freely exchanged in ter%s of an ounce of gold" In essence,
]>"<>R 0 ; ounce of gold 0 T<F"GR"
The exchange rate bet!een the 81 dollar and the *ritish pound !as then calculated by
T<F"GRS]>"<>R 0 T>"OGR to ];"
The Ad'antages of the $o%d Standard
The gold standard dra%atically reduced the risk in exchange rates because it established fixed exchange
rates bet!een currencies" $ny fluctuations !ere relatively s%all" This %ade it easier for global co%panies to
%anage costs and pricing" International trade gre! throughout the !orld, although econo%ists are not
al!ays in agree%ent as to !hether the gold standard !as an essential part of that trend"
The second advantage is that countries !ere forced to observe strict %onetary policies" They could not 5ust
print %oney to co%bat econo%ic do!nturns" (ne of the key features of the gold standard !as that a
currency had to actually have in reserve enough gold to convert all of its currency being held by anyone into
gold" Therefore, the volu%e of paper currency could not exceed the gold reserves"
The third %a5or advantage !as that gold standard !ould help a country correct its trade i%balance" For
exa%ple, if a country !as i%porting %ore than it is exporting, +called a trade deficit,, then under the gold
standard the country had to pay for the i%ports !ith gold" The govern%ent of the country !ould have to
reduce the a%ount of paper currency, because there could not be %ore currency in circulation than its gold
reserves" With less %oney floating around, people !ould have less %oney to spend +thus causing a
decrease in de%and, and prices !ould also eventually decrease" $s a result, !ith cheaper goods and
services to offer, co%panies fro% the country could export %ore, changing the international trade balance
gradually back to being in balance" For these three pri%ary reasons, and as a result of the <FFO global
financial crises, so%e %odern econo%ists are calling for the return of the gold standard or a si%ilar syste%"
Collapse of the @old 1tandard
If it was so good3 wat a++enedB The gold standard eventually collapsed fro% the i%pact of World War I"
During the !ar, nations on both sides had to finance their huge %ilitary expenses and did so by printing %ore
paper currency" $s the currency in circulation exceeded each countrys gold reserves, %any countries !ere
forced to abandon the gold standard" In the ;H<Fs, %ost countries, including the 8nited ingdo%, the 8nited
1tates, 2ussia, and France, returned to the gold standard at the sa%e price level, despite the political
instability, high une%ploy%ent, and inflation that !ere spread throughout 3urope"
Eo!ever, the revival of the gold standard !as short'lived due to the @reat Depression, !hich began in the
late ;H<Fs" The @reat Depression !as a !orld!ide pheno%enon" *y ;H<O, @er%any, *ra)il, and the
econo%ies of 1outheast $sia !ere depressed" *y early ;H<H, the econo%ies of Coland, $rgentina, and
Canada !ere contracting, and the 8nited 1tates econo%y follo!ed in the %iddle of ;H<H" 1o%e econo%ists
have suggested that the larger factor tying these countries together !as the international gold standard,
!hich they believe prolonged the @reat Depression" J;K The gold standard li%ited the flexibility of the
%onetary policy of each countrys central banks by li%iting their ability to expand the %oney supply" 8nder
the gold standard, countries could not expand their %oney supply beyond !hat !as allo!ed by the gold
reserves held in their vaults"
Too %uch %oney had been created during World War I to allo! a return to the gold standard !ithout either
large currency devaluations or price deflations" In addition, the 81 gold stock had doubled to about >F
percent of the !orlds %onetary gold" There si%ply !as not enough %onetary gold in the rest of the !orld to
support the countries currencies at the existing exchange rates"
*y ;H=;, the 8nited ingdo% had to officially abandon its co%%it%ent to %aintain the value of the *ritish
pound" The currency !as allo!ed to f%oat, !hich %eant that its value !ould increase or decrease based on
de%and and supply" The 81 dollar and the French franc !ere the next strongest currencies and nations
sought to peg the value of their currencies to either the dollar or franc" Eo!ever, in ;H=>, the 8nited 1tates
devalued its currency fro% T<F"GR per ounce of gold to T=? per ounce" With a cheaper 81 dollar, 81 fir%s
!ere able to export %ore as the price of their goods and services !ere cheaper vis'\'vis other nations" (ther
countries devalued their currencies in retaliation of the lo!er 81 dollar" .any of these countries used
arbitrary par values rather than a price relative to their gold reserves" 3ach country hoped to %ake its exports
cheaper to other countries and reduce expensive i%ports" Eo!ever, !ith so %any countries si%ultaneously
devaluing their currencies, the i%pact on prices !as canceled out" .any countries also i%posed tariffs and
other trade restrictions in an effort to protect do%estic industries and 5obs" *y ;H=H, the gold standard !as
deadB it !as no longer an accurate indicator of a currencys real value"
PostEWor%d War II
The de%ise of the gold standard and the rise of the *retton Woods syste% pegged to the 81 dollar !as also
a changing reflection of global history and politics" The *ritish 3%pires influence !as d!indling" In the early
;OFFs, !ith the strength of both their currency and trading %ight, the 8nited ingdo% had expanded its
e%pire" $t the end of World War I, the *ritish 3%pire spanned %ore than a &uarter of the !orldB the general
senti%ent !as that 6the sun !ould never set on the *ritish e%pire"7 *ritish %aps and globes of the ti%e
sho!ed the e%pires expanse proudly painted in red" Eo!ever, shortly after World War II, %any of the
colonies fought for and achieved independence" *y then, the 8nited 1tates had clearly replaced the 8nited
ingdo% as the do%inant global econo%ic center and as the political and %ilitary superpo!er as !ell"
8id 6ou 5no2"
Nust as the 8nited 1tates beca%e a global %ilitary and political superpo!er, 81 businesses !ere also taking
center stage" $%oco +today no! part of *C,, @eneral .otors +@.,, elloggs, and Ford .otor Co%pany
sought to capitali)e on 81 political and %ilitary strength to expand in ne! %arkets around the !orld" .any of
these co%panies follo!ed global political events and internally debated the strategic directions of their fir%s"
For exa%ple, @. had an internal post!ar planning policy group"
4ot!ithstanding the econo%ic uncertainties that !ere bound to acco%pany the !ars end, a fe! of the
largest 8"1" corporations, often !ith considerable assets sei)ed or destroyed during the !ar, began to plan
for the post!ar period" $%ong these !as @eneral .otors" $s early as ;H>< the co%pany had set up a
post!ar planning policy group to esti%ate the likely shape of the !orld after the !ar and to %ake
reco%%endations on @.s post!ar policies abroad"
In ;H>= the policy group reported the likelihood that relations bet!een the Western po!ers and the 1oviet
8nion !ould deteriorate after the !ar" It also concluded that, except for $ustralia, @eneral .otors should not
buy plants and factories to %ake cars in any country that had not had facilities before the conflict" $t the
sa%e ti%e, though, it stated that after the !ar the 8nited 1tates !ould be in a stronger state politically and
econo%ically than it had been after World War I and that overseas operations !ould flourish in %uch of the
!orld" The botto% line for @., therefore, !as to proceed !ith caution once the conflict ended but to stick to
the policy it had enunciated in the ;H<Fs-seeking out %arkets !herever they !ere available and building
!hatever facilities !ere needed to i%prove @.s %arket share" J<K
*retton Woods
In the early ;H>Fs, the 8nited 1tates and the 8nited ingdo% began discussions to for%ulate a ne!
international %onetary syste%" Nohn .aynard eynes, a highly influential *ritish econo%ic thinker, and Earry
Dexter White, a 81 Treasury official, paved the !ay to create a ne! %onetary syste%" In Nuly ;H>>,
representatives fro% forty'four countries %et in *retton Woods, 4e! Ea%pshire, to establish a ne!
international %onetary syste%"
6The challenge,7 !rote 4gaire Woods in his book Te )lobali*ers" Te IA!3 te World Ban,3 and Teir
Borrowers, 6!as to gain agree%ent a%ong states about ho! to finance post!ar reconstruction, stabili)e
exchange rates, foster trade, and prevent balance of pay%ents crises fro% unraveling the syste%"7 J=K
8id 6ou 5no2"
Throughout history, political, %ilitary, and econo%ic discussions bet!een nations have al!ays occurred
si%ultaneously in an effort to create synergies bet!een policies and efforts" $ key focus of the ;H>Fs efforts
for a ne! global %onetary syste% !as to stabili)e !ar'torn 3urope"
In the decade follo!ing the !ar the ad%inistrations of both Earry Tru%an and D!ight 3isenho!er looked to
the private sector to assist in the recovery of !estern 3urope, both through increased trade and direct foreign
invest%ents" In fact, the T;= billion .arshall Clan, !hich beca%e the engine of 3uropean recovery bet!een
;H>O and ;H?<, !as predicated on a close !orking relationship bet!een the public and private sectors"
1i%ilarly, 3isenho!er intended to bring about !orld econo%ic recovery through liberali)ed !orld co%%erce
and private invest%ent abroad rather than through foreign aid" (ver the course of his t!o ad%inistrations
+;H?=D;HG;,, the president %odified his policy of 6trade not aid7 to one of 6trade and aid7 and changed his
focus fro% !estern 3urope to the Third World, !hich he felt !as %ost threatened by co%%unist expansion"
In particular he !as concerned by !hat he ter%ed a 61oviet econo%ic offensive7 in the .iddle 3ast, that is,
1oviet loans and econo%ic assistance to such countries as 3gypt and 1yria" *ut even then he intended that
international co%%erce and direct foreign invest%ents !ould play a %a5or role in achieving global econo%ic
gro!th and prosperity" J>K
The resulting *retton Woods $gree%ent created a ne! dollar'based %onetary syste%, !hich incorporated
so%e of the disciplinary advantages of the gold syste% !hile giving countries the flexibility they needed to
%anage te%porary econo%ic setbacks, !hich had led to the fall of the gold standard" The *retton Woods
$gree%ent lasted until ;HR; and established several key features"
Fixed 3xchange 2ates
Fixed exchange rates are also so%eti%es called pegged rates" (ne of the critical factors that led to the fall of
the gold standard !as that after the 8nited ingdo% abandoned its co%%it%ent to %aintaining the value of
the *ritish pound, countries sought to peg their currencies to the 81 dollar" With the strength of the 81
econo%y, the gold supply in the 8nited 1tates increased, !hile %any countries had less gold in reserve than
they did currency in circulation" The *retton Woods syste% !orked to fix this by tying the value of the 81
dollar to gold but also by tying all of the other countries to the 81 dollar rather than directly to gold" The par
value of the 81 dollar !as fixed at T=? to one ounce of gold" $ll other countries then set the value of their
currencies to the 81 dollar" In reflection of the changing ti%es, the *ritish pound had undergone a substantial
loss in value and by that point, its value !as T<">F to ];" .e%ber countries had to %aintain the value of their
currencies !ithin ; percent of the fixed exchange rate" Iastly, the agree%ent established that only
govern%ents, rather than anyone !ho de%anded it, could convert their 81 dollar holdings into gold-a %a5or
i%prove%ent over the gold standard" In fact, %ost businesspeople eventually ignored the technicality of
pegging the 81 dollar to gold and si%ply utili)ed the actual exchange rates bet!een countries +e"g", the
pound to the dollar, as an econo%ic %easure for doing business"
4ational Flexibility
To enable countries to %anage te%porary but serious do!nturns, the *retton Woods $gree%ent provided for
a devaluation of a currency-%ore than ;F percent if needed" Countries could not use this tool to
co%petitively %anipulate i%ports and exports" 2ather, the tool !as intended to prevent the large'scale
econo%ic do!nturn that took place in the ;H=Fs"
Creation of the International .onetary Fund and the World *ank
1ection ="< AWhat Is the 2ole of the I.F and the World *ank#A looks at the International .onetary Fund and
the World *ank %ore closely, as they have survived the collapse of the *retton Woods $gree%ent" In
essence, the I.Fs initial pri%ary purpose !as to help %anage the fixed rate exchange syste%B it eventually
evolved to help govern%ents correct te%porary trade i%balances +typically deficits, !ith loans" The World
*anks purpose !as to help !ith postDWorld War II 3uropean reconstruction" *oth institutions continue to
serve these roles but have evolved into broader institutions that serve essential global purposes, even
though the syste% that created the% is long gone"1ection ="< AWhat Is the 2ole of the I.F and the World
*ank#A explores the% in greater detail and addresses the history, purpose, evolution, and current
opportunities and challenges of both institutions"
Collapse of *retton Woods
Despite a fixed exchange rate based on the 81 dollar and %ore national flexibility, the *retton Woods
$gree%ent ran into challenges in the early ;HRFs" The 81 trade balance had turned to a deficit as $%ericans
!ere i%porting %ore than they !ere exporting" Throughout the ;H?Fs and ;HGFs, countries had substantially
increased their holdings of 81 dollars, !hich !as the only currency pegged to gold" *y the late ;HGFs, %any
of these countries expressed concern that the 81 did not have enough gold reserves to exchange all of the
81 dollars in global circulation" This beca%e kno!n as the Triffin Parado(, na%ed after the econo%ist
2obert Triffin, !ho identified this proble%" Ee noted that the %ore dollars foreign countries held, the less faith
they had in the ability of the 81 govern%ent to convert those dollars" Iike banks, though, countries do not
keep enough gold or cash on hand to honor all of their liabilities" They %aintain a percentage, called
a reser'e" *ank reserve ratios are usually ;F percent or less" +The lo! reserve ratio has been bla%ed by
%any as a cause of the <FFO financial crisis", 1o%e countries state their reserve ratios openly, and %ost
seek to actively %anage their ratios daily !ith open'%arket %onetary policies-that is, buying and selling
govern%ent securities and other financial instru%ents, !hich indirectly controls the total %oney supply in
circulation, !hich in turn i%pacts supply and de%and for the currency"
The expense of the Pietna% War and an increase in do%estic spending !orsened the Triffin CaradoxB the
81 govern%ent began to run huge budget deficits, !hich further !eakened global confidence in the 81
dollar" When nations began de%anding gold in exchange for their dollars, there !as a huge global sell'off of
the 81 dollar, resulting in the 4ixon 1hock in ;HR;"
The 4ixon 1hock !as a series of econo%ic decisions %ade by the 81 Cresident 2ichard 4ixon in ;HR; that
led to the de%ise of the *retton Woods syste%" Without consulting the other %e%ber countries, on $ugust
;?, ;HR;, 4ixon ended the free convertibility of the 81 dollar into gold and instituted price and !age free)es
a%ong other econo%ic %easures"
Iater that sa%e year, the %e%ber countries reached the 1%ithsonian $gree%ent, !hich devalued the 81
dollar to T=O per ounce of gold, increased the value of other countries currencies to the dollar, and increased
the band !ithin !hich a currency !as allo!ed to float fro% ; percent to <"<? percent" This agree%ent still
relied on the 81 dollar to be the strong reserve currency and the persistent concerns over the high inflation
and trade deficits continued to !eaken confidence in the syste%" Countries gradually dropped out of syste%
-notably @er%any, the 8nited ingdo%, and 1!it)erland, all of !hich began to allo! their currencies to float
freely against the dollar" The 1%ithsonian $gree%ent !as an insufficient response to the econo%ic
challengesB by ;HR=, the idea of fixed exchange rates !as over"
*efore %oving on, recall that the %a5or significance of the *retton Woods $gree%ent !as that it !as the first
for%al institution that governed international %onetary syste%s" *y having a for%al set of rules, regulations,
and guidelines for decision %aking, the *retton Woods $gree%ent established a higher level of econo%ic
stability" International businesses benefited fro% the al%ost thirty years of stability in exchange rates" *retton
Woods established a standard for future %onetary syste%s to i%prove onB countries today continue to
explore ho! best to achieve this" 4othing has fully replaced *retton Woods to this day, despite extensive
efforts"
CostD*retton Woods 1yste%s and 1ubse&uent 3xchange 2ate 3fforts
When *retton Woods !as established, one of the original architects, eynes, initially proposed creating an
international currency called *ancor as the %ain currency for clearing" Eo!ever, the $%ericans had an
alternative proposal for the creation of a central currency called unitas" 4either gained %o%entu%B the 81
dollar !as the reserve currency" Reser'e currenc/ is a %ain currency that %any countries and institutions
hold as part of their foreign exchange reserves" 2eserve currencies are often international pricing currencies
for !orld products and services" 3xa%ples of current reserve currencies are the 81 dollar, the euro, the
*ritish pound, the 1!iss franc, and the Napanese yen"
.any feared that the collapse of the *retton Woods syste% !ould bring the period of rapid gro!th to an end"
In fact, the transition to floating exchange rates !as relatively s%ooth, and it !as certainly ti%ely9 flexible
exchange rates %ade it easier for econo%ies to ad5ust to %ore expensive oil, !hen the price suddenly
started going up in (ctober ;HR=" Floating rates have facilitated ad5ust%ents to external shocks ever since"
The I.F responded to the challenges created by the oil price shocks of the ;HRFs by adapting its lending
instru%ents" To help oil i%porters deal !ith anticipated current account deficits and inflation in the face of
higher oil prices, it set up the first of t!o oil facilities" J?K
$fter the collapse of *retton Woods and the 1%ithsonian $gree%ent, several ne! efforts tried to replace the
global syste%" The %ost note!orthy regional effort resulted in the 3uropean .onetary 1yste% +3.1, and
the creation of a single currency, the euro" While there have been no co%pletely effective efforts to replace
*retton Woods on a global level, there have been efforts that have provided ongoing exchange rate
%echanis%s"
Na%aica $gree%ent
In ;HRG, countries %et to for%ali)e a floating exchange rate syste% as the ne! international %onetary
syste%" The Na%aica $gree%ent established a.anaged f%oat s/ste. of e(change rates, in !hich
currencies float against one another !ith govern%ents intervening only to stabili)e their currencies at set
target exchange rates" This is in contrast to a co%pletelyfree f%oating e(change rate s/ste., !hich has no
govern%ent interventionB currencies float freely against one another" The Na%aica $gree%ent also re%oved
gold as the pri%ary reserve asset of the I.F" $dditionally, the purpose of the I.F !as expanded to include
lending %oney as a last resort to countries !ith balance'of'pay%ent challenges"
The @s *egin
In the early ;HOFs, the value of the 81 dollar increased, pushing up the prices of 81 exports and thereby
increasing the trade deficit" To address the i%balances, five of the !orlds largest econo%ies %et in
1epte%ber ;HO? to deter%ine a solution" The five countries !ere *ritain, France, @er%any, Napan, and the
8nited 1tatesB this group beca%e kno!n as the $roup of Fi'e, shortened to @?" The ;HO? agree%ent,
called the Cla)a $ccord because it !as held at the Cla)a Eotel in 4e! :ork City, focused on forcing do!n the
value of the 81 dollar through collective efforts"
*y February ;HOR, the %arkets had pushed the dollar value do!n, and so%e !orried it !as no! valued too
lo!" The @? %et again, but no! as the @roup of 1even, adding Italy and Canada-it beca%e kno!n as the
@R" The Iouvre $ccord, so na%ed for being agreed on in Caris, stabili)ed the dollar" The countries agreed to
support the dollar at the current valuation" The @R continued to %eet regularly to address ongoing econo%ic
issues"
The @R !as expanded in ;HHH to include t!enty countries as a response to the financial crises of the late
;HHFs and the gro!ing recognition that key e%erging'%arket countries !ere not ade&uately included in the
core of global econo%ic discussions and governance" It !as not until a decade later, though, that the @<F
effectively replaced the @O, !hich !as %ade up of the original @R and 2ussia" The 3uropean 8nion !as
represented in @<F but could not host or chair the group"
eeping all of these different groups straight can be very confusing" The ne!s %ay report on different
groupings as countries are added or re%oved fro% ti%e to ti%e" The key point to re%e%ber is that anything
related to a @ is likely to be a foru% consisting of finance %inisters and governors of central banks !ho are
%eeting to discuss %atters related to cooperating on an international %onetary syste% and key issues in the
global econo%y"
The @<F is likely to be the stronger foru% for the foreseeable future, given the nu%ber of countries it
includes and the a%ount of !orld trade it represents" 6Together, %e%ber countries represent around HF per
cent of global gross national product, OF per cent of !orld trade +including 38 intra'trade, as !ell as t!o'
thirds of the !orlds population"7 JGK
8id 6ou 5no2"
@'ology
6$t present, a nu%ber of groups are 5ostling to be the pre'e%inent foru% for discussions bet!een !orld
leaders" The @<F ended <FFH by in effect replacing the old @O" *ut that is not the end of the %atter" In <F;F
the @<F began to face a ne! challenger-@< Jthe 8nited 1tates and ChinaK" To confuse %atters further,
lobbies have e%erged advocating the for%ation of a @;= and a @="7 JRK The @<F is a po!erful, infor%al
group of nineteen countries and the 3uropean 8nion" It also includes a representative fro% the World *ank
and the International .onetary Fund" The list developed fro% an effort to include %a5or developing countries
!ith countries !ith developed econo%ies" Its purpose is to address issues of the international financial
syste%"
1o 5ust !hos in the current @<F#

Toda/s !(change Rate S/ste.
While there is not an official replace%ent to the *retton Woods syste%, there are provisions in place through
the ongoing foru% discussions of the @<F" Todays syste% re%ains-in large part-a %anaged float syste%,
!ith the 81 dollar and the euro 5ostling to be the pre%ier global currency" For businesses that once &uoted
pri%arily in 81 dollars, pricing is no! 5ust as often noted in the euro as !ell"
!thics in Action
The Wall 6treet <ournals Nuly =F, <F;F, edition noted ho! gangsters are helping provide stability in the euro
)one" The highest deno%ination of a euro is a ^?FF bill, in contrast to the 8nited 1tates, !here the largest
bill is a T;FF bill"
The high'value bills are increasingly 6%aking the euro the currency of choice for underground and black
econo%ies, and for all those !ho value anony%ity in their financial transactions and invest%ents,7 !rote
Wille% *uiter, the chief econo%ist at CitigroupQ"
When euro notes and coins !ent into circulation in Nanuary <FF<, the value of ^?FF notes outstanding !as
^=F"O billion +T>F billion,, according to the 3C* J3uropean Central *ankK"
Today so%e ^<O? billion !orth of such euro notes are in existence, an annual gro!th rate of =< percent" *y
value, =? percent of euro notes in circulation are in the highest deno%ination, the ^?FF bill that fe! people
ever see"
In ;HHO, then'8"1" Treasury official @ary @ensler !orried publicly about the co%petition to the T;FF bill, the
biggest 8"1" bank note, posed by the big euro notes and their likely use by cri%inals" Ee pointed out that T;
%illion in T;FF bills !eighs << poundsB in hypothetical T?FF bills, it !ould !eigh 5ust >"> pounds"
Colice forces have found the big euro notes in cereal boxes, tires and in hidden co%part%ents in trucks, says
1oren Cedersen, spokes%an for 3uropol, the 3uropean police agency based in The Eague" 64eedless to
say, this cash is often linked to the illegal drugs trade, !hich explains the si%ilarity in %ethods of
conceal%ent that are used"7 JOK
While you %ight think that the 3C* should 5ust stop issuing the larger deno%inations, it turns out that the
3C* and the %e%ber govern%ents of the euro )one actually benefit fro% this de%and"
The profit a central bank gains fro% issuing currency-as !ell as fro% other privileges of a central bank,
such as being able to de%and no'cost or lo!'cost deposits fro% banks-is kno!n as seigniorage" It nor%ally
accrues to national treasuries once the central banks account for their o!n costs"
The 3C*s gains fro% seigniorage are beco%ing increasingly i%portant this yearQ"
In recent years, the profits on its issue of ne! paper currency have been running at ^?F billion"7 JHK
1o%e s%aller nations have chosen to voluntarily set exchange rates against the dollar !hile other countries
have selected the euro" 8sually a country %akes the decision bet!een the dollar and the euro by revie!ing
their largest trading partners" *y choosing the euro or the dollar, countries seek currency stability and a
reduction in inflation, a%ong other various perceived benefits" .any countries in Iatin $%erica once
dollari)ed to provide currency stability for their econo%y" Today, this is changing, as individual econo%ies
have strengthened and countries are no! seeking to dedollari)e"
Spot%ight on 8o%%arizing and 8edo%%arizing in &atin A.erica
.any countries in Iatin $%erica have endured years of political and econo%ic instability, !hich has
exacerbated the %assive ine&uality that has characteri)ed the societies in %odern ti%es" .ost of the !ealth
is in the hands of the !hite elite, !ho live sophisticated lives in the large cities, eating in fancy restaurants
and flying off to .ia%i for shopping trips" Indeed, %a5or cities often look %uch like any other %odern,
industriali)ed cities, co%plete !ith cine%as, fast'food restaurants, Internet cafLs, and shopping %alls"
*ut !hile the rich en5oy an enviable lifestyle, the vast %a5ority of the continents large indigenous population
often lives in extre%e poverty" While international aid progra%s atte%pt to alleviate the poverty, a lot depends
on the countrys govern%ent" Corrupt govern%ents slo! do!n the pace of progress"
(ver the past t!o decades, govern%ents in 3cuador and Ceru-as !ell as others in Iatin $%erica including
*olivia, Caraguay, Cana%a, 3l 1alvador, and 8ruguay-have opted to dollari)e to stabili)e their countries
econo%ies" 3ach country replaced its national currency !ith the 81 dollar" 3ach country has struggled
econo%ically despite abundant natural resources" 3cono%ic cycles in key industries, such as oil and
co%%odities, contributed to high inflation" While the %ove to dollari)e !as not al!ays popular do%estically
initially, its success has been clearly evident" In both 3cuador and Ceru, dollari)ing has provided a %uch
needed benefit, although one country expects to continue aligning !ith the 81 dollar and the other hopes to
%ove a!ay fro% it"
In 3cuador, for exa%ple, a decade after dollari)ing, one cannot dis%iss the survival of dollari)ation as
coincidence" Dollari)ation has provided 3cuador !ith the longest period of a stable, fully convertible currency
in a century" Its fore%ost result has been that inflation has dropped to single digits and re%ained there for the
first ti%e since ;HR<" The stability that dollari)ation has provided has also helped the econo%y gro! an
average of >"= percent a year in real ter%s, fostering a drop in the poverty rate fro% ?G percent of the
population in ;HHH to =? percent in <FFO" $s a result, dollari)ation has been popular, !ith polls sho!ing that
%ore than three'&uarters of 3cuadorians approve of it" J;FK
Eo!ever, this success could not protect the country fro% the effects of the <FFO global financial crisis and
econo%ic do!nturn, !hich led to falling re%ittances and declining oil revenue for 3cuador" The country
6lacks a reliable political syste%, legal syste%, or invest%ent cli%ate" Dollari)ation is the only govern%ent
policy that provides 3cuadorians !ith a trust!orthy basis for earning, saving, investing, and paying"7 J;;K
Ceru first opted to dollari)e in the early ;HRFs as a result of the high inflation, !hich peaked during the
hyperinflation of ;HOO_HF" 6With high inflation, the 8"1" dollar started to be the preferred %eans of pay%ents
and store of value"7 J;<K Dollari)ation !as the only option to stabili)e prices" $ key cost of dollari)ing,
ho!ever, is losing %onetary independence" $nother cost is that the business cycle in the country is tied %ore
closely to fluctuations in the 81 econo%y and currency" *alancing the benefits and the costs is an ongoing
concern for govern%ents"
Despite atte%pts to dedollari)e in the ;HOFs, it !as not until the recent decade that Ceru has successfully
pursued a %arket'driven financial dedollari)ation" Dedollari)ation occurs !hen a country reduces its reliance
on dollari)ing credit and deposit of co%%ercial banks" In Ceru, as in so%e other Iatin $%erican countries-
such as *olivia, 8ruguay and Caraguay-dedollari)ation has been 6driven by %acroecono%ic stability,
introduction of prudential policies to better reflect currency risk +such as the %anage%ent of reserve
re&uire%ents,, and the develop%ent of the capital %arket in soles7 +the local Ceruvian currency," J;=K
Dedollari)ing is still a relatively recent pheno%enon, and econo%ists are still trying to understand the
i%plications and i%pact on businesses and the local econo%y in each country" What is clear is that
govern%ents vie! dedollari)ing as one %ore tool to!ard having greater control over their econo%ies"
3: T$3$W$:1
The international %onetary syste% had %any infor%al and for%al stages" For %ore than one hundred
years, the gold standard provided a stable %eans for countries to exchange their currencies and
facilitate trade" With the @reat Depression, the gold standard collapsed and gradually gave !ay to the
*retton Woods syste%"
The *retton Woods syste% established a ne! %onetary syste% based on the 81 dollar" This syste%
incorporated so%e of the disciplinary advantages of the gold syste% !hile giving countries the
flexibility they needed to %anage te%porary econo%ic setbacks, !hich had led to the fall of the gold
standard"
The *retton Woods syste% lasted until ;HR; and provided the longest for%al %echanis% for an
exchange'rate syste% and foru%s for countries to cooperate on coordinating policy and navigating
te%porary econo%ic crises"
While no ne! for%al syste% has replaced *retton Woods, so%e of its key ele%ents have endured,
including a %odified %anaged float of foreign exchange, the International .onetary Fund +I.F,, and
the World *ank-although each has evolved to %eet changing !orld conditions"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is the international %onetary syste%#
<" What !as the gold standard, and !hy did it collapse#
=" What !as *retton Woods, and !hy did it collapse#
>" What is the current syste% of exchange rates#
9)7 What Is the Ro%e of the IF and the Wor%d *an3"
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the history and purpose of the I.F"
<" Describe the I.Fs current role and %a5or challenges and opportunities"
=" 8nderstand the history and purpose of the World *ank"
>" Describe the World *anks current role and %a5or challenges and opportunities"
1ection ="; AWhat Is the International .onetary 1yste%#A discusses ho!, during the ;H=Fs, the @reat
Depression resulted in failing econo%ies" The fall of the gold standard led countries to raise trade barriers,
devalue their currencies to co%pete against one another for export %arkets and curtail usage of foreign
exchange by their citi)ens" $ll these factors led to declining !orld trade, high une%ploy%ent, and
plu%%eting living standards in %any countries" In ;H>>, the *retton Woods $gree%ent established a ne!
international %onetary syste%" The creation of the International .onetary Fund +I.F, and the World *ank
!ere t!o of its %ost enduring legacies"
The World *ank and the I.F, often called the *retton Woods Institutions, are t!in intergovern%ental pillars
supporting the structure of the !orlds econo%ic and financial order" *oth have taken on expanding roles,
and there have been rene!ed calls for additional expansion of their responsibilities, particularly in the
continuing absence of a single global %onetary agree%ent" The t!o institutions %ay see% to have confusing
or overlapping functions" Eo!ever, !hile so%e si%ilarities exist +see the follo!ing figure,, they are t!o
distinct organi)ations !ith different roles"

6Despite these and other si%ilarities, ho!ever, the *ank and the I.F re%ain distinct" The funda%ental
difference is this9 the *ank is pri%arily a de'elo+mentinstitutionB the I.F is a coo+erati'e institution that
seeks to %aintain an orderly syste% of pay%ents and receipts bet!een nations" 3ach has a different
purpose, a distinct structure, receives its funding fro% different sources, assists different categories of
%e%bers, and strives to achieve distinct goals through %ethods peculiar to itself"7 J;K This section explores
both of these institutions and ho! they have evolved in the al%ost seventy years since their creation"
Internationa% onetar/ Fund
Histor/ and Purpose
!igure 0.2 IA! Head5uarters in Wasington3 8$

6ource" International Aonetary !und3 ./22.
The architects of the *retton Woods $gree%ent, Nohn .aynard eynes and Earry Dexter White, envisioned
an institution that !ould oversee the international %onetary syste%, exchange rates, and international
pay%ents to enable countries and their citi)ens to buy goods and services fro% each other" They expected
that this ne! global entity !ould ensure exchange rate stability and encourage its %e%ber countries to
eli%inate the exchange restrictions that hindered trade" (fficially, the I.F ca%e into existence in Dece%ber
;H>? !ith t!enty'nine %e%ber countries" +The 1oviets, !ho !ere at *retton Woods, refused to 5oin the I.F",
In ;H>R, the institutions first for%al year of operations, the French beca%e the first nation to borro! fro% the
I.F" (ver the next thirty years, %ore countries 5oined the I.F, including so%e $frican countries in the ;HGFs"
The 1oviet bloc nations re%ained the exception and !ere not part of the I.F until the fall of the *erlin Wall in
;HOH" The I.F experienced another large increase in %e%bers in the ;HHFs !ith the addition of 2ussiaB
2ussia !as also placed on the I.Fs executive co%%ittee" Today, ;OR countries are %e%bers of the I.FB
t!enty'four of those countries or groups of countries are represented on the executive board"
The purposes of the International .onetary Fund are as follo!s9
;" To pro%ote international %onetary cooperation through a per%anent institution !hich provides the %achinery
for consultation and collaboration on international %onetary proble%s"
<" To facilitate the expansion and balanced gro!th of international trade, and to contribute thereby to the
pro%otion and %aintenance of high levels of e%ploy%ent and real inco%e and to the develop%ent of the
productive resources of all %e%bers as pri%ary ob5ectives of econo%ic policy"
=" To pro%ote exchange stability, to %aintain orderly exchange arrange%ents a%ong %e%bers, and to avoid
co%petitive exchange depreciation"
>" To assist in the establish%ent of a %ultilateral syste% of pay%ents in respect of current transactions bet!een
%e%bers and in the eli%ination of foreign exchange restrictions !hich ha%per the gro!th of !orld trade"
?" To give confidence to %e%bers by %aking the general resources of the Fund te%porarily available to the%
under ade&uate safeguards, thus providing the% !ith opportunity to correct %alad5ust%ents in their balance
of pay%ents !ithout resorting to %easures destructive of national or international prosperity"
G" In accordance !ith the above, to shorten the duration and lessen the degree of dise&uilibriu% in the
international balances of pay%ents of %e%bers" J<K
In addition to financial assistance, the I.F also provides %e%ber countries !ith technical assistance to
create and i%ple%ent effective policies, particularly econo%ic, %onetary, and banking policy and regulations"
1pecial Dra!ing 2ights +1D2s,
$ Specia% 8ra2ing Right 0S8R4 is basically an international %onetary reserve asset" 1D2s !ere created in
;HGH by the I.F in response to the Triffin Caradox" The Triffin Caradox stated that the %ore 81 dollars !ere
used as a base reserve currency, the less faith that countries had in the ability of the 81 govern%ent to
convert those dollars to gold" The !orld !as still using the *retton Woods syste%, and the initial expectation
!as that 1D2s !ould replace the 81 dollar as the global %onetary reserve currency, thus solving the Triffin
Caradox" *retton Woods collapsed a fe! years later, but the concept of an 1D2 solidified" Today the value of
an 1D2 consists of the value of four of the I.Fs biggest %e%bers currencies-the 81 dollar, the *ritish
pound, the Napanese yen, and the euro-but the currencies do not hold e&ual !eight" 1D2s are &uoted in
ter%s of 81 dollars" The basket, or group of currencies, is revie!ed every five years by the I.F executive
board and is based on the currencys role in international trade and finance" The follo!ing chart sho!s the
current valuation in percentages of the four currencies"
Currenc/
Weighti
ng
81 dollar
>>
percent
3uro
=>
percent
Napanese
yen
;;
percent
*ritish
pound
;;
percent
The 1D2 is not a currency, but so%e refer to it as a for% of I.F currency" It does not constitute a clai% on
the I.F, !hich only serves to provide a %echanis% for buying, selling, and exchanging 1D2s" Countries are
allocated 1D2s, !hich are included in the %e%ber countrys reserves" 1D2s can be exchanged bet!een
countries along !ith currencies" The 1D2 serves as the unit of account of the I.F and so%e other
international organi)ations, and countries borro! fro% the I.F in 1D2s in ti%es of econo%ic need"
The I.Fs Current 2ole and .a5or Challenges and (pportunities
Criticis. and Cha%%enging Areas for the IF
The I.F supports %any developing nations by helping the% overco%e %onetary challenges and to %aintain
a stable international financial syste%" Despite this clearly defined purpose, the execution of its !ork can be
very co%plicated and can have !ide repercussions for the recipient nations" $s a result, the I.F has both its
critics and its supporters" The challenges for organi)ations like the the I.F and the World *ank center not
only on so%e of their operating deficiencies but also on the global political environ%ent in !hich they
operate" The I.F has been sub5ect to a range of criticis%s that are generally focused on the conditions of its
loans, its lack of accountability, and its !illingness to lend to countries !ith bad hu%an rights records" J=K
These criticis%s include the follo!ing9
;" Conditions for %oans) The I.F %akes the loan given to countries conditional on the i%ple%entation of
certain econo%ic policies, !hich typically include the follo!ing9
2educing govern%ent borro!ing +higher taxes and lo!er spending,
Eigher interest rates to stabili)e the currency
$llo!ing failing fir%s to go bankrupt
1tructural ad5ust%ent +privati)ation, deregulation, reducing corruption and bureaucracy, J>K
The austere policies have !orked at ti%es but al!ays extract a political toll as the i%pact on average citi)ens
is usually &uite harsh" The opening case inChapter < AInternational Trade and Foreign Direct
Invest%entA presents the current i%pact of I.F policies on @reece" 1o%e suggest that the loan conditions
are 6based on !hat is ter%ed the MWashington Consensus, focusing on liberalisation-of trade, invest%ent
and the financial sector-, deregulation and privatisation of nationalised industries" (ften the conditionalities
are attached !ithout due regard for the borro!er countries individual circu%stances and the prescriptive
reco%%endations by the World *ank and I.F fail to resolve the econo%ic proble%s !ithin the countries"
I.F conditionalities %ay additionally result in the loss of a states authority to govern its o!n econo%y as
national econo%ic policies are predeter%ined under I.F packages"7 J?K
<" !(change rate refor.s) 6When the I.F intervened in enya in the ;HHFs, they %ade the Central bank
re%ove controls over flo!s of capital" The consensus !as that this decision %ade it easier for corrupt
politicians to transfer %oney out of the econo%y +kno!n as the @old%an scandal," Critics argue this is
another exa%ple of ho! the I.F failed to understand the dyna%ics of the country that they !ere dealing !ith
-insisting on blanket refor%s"7 JGK
=" 8e'a%uations) In the initial stages, the I.F has been critici)ed for allo!ing inflationary devaluations" JRK
>" Free;.ar3et criticis.s of the IF) 6*elievers in free %arkets argue that it is better to let capital %arkets
operate !ithout atte%pts at intervention" They argue atte%pts to influence exchange rates only %ake things
!orse-it is better to allo! currencies to reach their %arket level"7 JOKThey also assert that bailing out
countries !ith large debts is %orally ha)ardousB countries that kno! that there is al!ays a bailout provision
!ill borro! and spend %ore recklessly"
?" &ac3 of transparenc/ and in'o%'e.ent) The I.F has been critici)ed for 6i%posing policy !ith little or no
consultation !ith affected countries"7JHK
G" Supporting .i%itar/ dictatorships) The I.F has been critici)ed over the decades for supporting %ilitary
dictatorships" J;FK
(pportunities and Future (utlook for the I.F
The <FFO global econo%ic crisis is one of the toughest situations that the I.F has had to contend !ith since
the @reat Depression"
For %ost of the first decade of the t!enty'first century, global trade and finance fueled a global expansion
that enabled %any countries to repay any %oney they had borro!ed fro% the I.F and other official creditors"
These countries also used surpluses in trade to accu%ulate foreign exchange reserves" The global econo%ic
crisis that began !ith the <FFR collapse of %ortgage lending in the 8nited 1tates and spread around the
!orld in <FFO !as preceded by large i%balances in global capital flo!s" @lobal capital flo!s fluctuated
bet!een < and G percent of !orld @DC bet!een ;HOF and ;HH?, but since then they have risen to ;? percent
of @DC" The %ost rapid increase has been experienced by advanced econo%ies, but e%erging %arkets and
developing countries have also beco%e %ore financially integrated"
The founders of the *retton Woods syste% had taken for granted that private capital flo!s !ould never again
resu%e the pro%inent role they had in the nineteenth and early t!entieth centuries, and the I.F had
traditionally lent to %e%bers facing current account difficulties" The <FFO global crisis uncovered fragility in
the advanced financial %arkets that soon led to the !orst global do!nturn since the @reat Depression"
1uddenly, the I.F !as inundated !ith re&uests for standby arrange%ents and other for%s of financial and
policy support"
The international co%%unity recogni)ed that the I.Fs financial resources !ere as i%portant as ever and
!ere likely to be stretched thin before the crisis !as over" With broad support fro% creditor countries, the
I.Fs lending capacity tripled to around TR?F billion" To use those funds effectively, the I.F overhauled its
lending policies" It created a flexible credit line for countries !ith strong econo%ic funda%entals and a track
record of successful policy i%ple%entation" (ther refor%s targeted lo!'inco%e countries" These factors
enabled the I.F to disburse very large su%s &uicklyB the disburse%ents !ere based on the needs of
borro!ing countries and !ere not as tightly constrained by &uotas as in the past" J;;K
.any observers credit the I.Fs &uick responses and leadership role in helping avoid a potentially !orse
global financial crisis" $s noted in the +2eference f!k';GO=OO'chFG not found in *ook, opening case on
@reece, the I.F has played a role in helping countries avert !idespread financial disasters" The I.Fs
re&uire%ents are not al!ays popular but are usually effective, !hich has led to its expanding influence" The
I.F has sought to correct so%e of the criticis%sB according to a Foreign Colicy in Focus essay designed to
sti%ulate dialogue on the I.F, the funds strengths and opportunities include the follo!ing9
;" F%e(i-i%it/ and speed) 6In .arch <FFH, the I.F created the Flexible Credit Iine +FCI,, !hich is a fast'
disbursing loan facility !ith lo! conditionality ai%ed at reassuring investors by in5ecting li&uidityQ
Traditionally, I.F loan progra%s re&uire the i%position of austerity %easures such as raising interest rates
that can reduce foreign invest%entQIn the case of the FCI, countries &ualify for it not on the basis of their
pro%ises, but on the basis of their history" Nust as individual borro!ers !ith good credit histories are eligible
for loans at lo!er interest rates than their risky counterparts, si%ilarly, countries !ith sound %acroecono%ic
funda%entals are eligible for dra!ings under the FCI" $ si%ilar progra% has been proposed for lo!'inco%e
countries" no!n as the 2apid Credit Facility, it is front'loaded +allo!ing for a single, up'front payout as !ith
the FCI, and is also intended to have lo! conditionality"7 J;<K
<" Cheer%eading) 6The Fund is positioning itself to be less of an adversary and %ore of a cheerleader to
%e%ber countries" For so%e countries that need loans %ore for reassurance than refor%, these changes to
the Fund toolkit are !elco%e"7 J;=K This enables %ore do%estic political and econo%ic stability"
=" Adapta-i%it/) 6Instead of providing the sa%e %edicine to all countries regardless of their particular proble%s,
the ne! loan facilities are intended to aid refor%'%inded govern%ents by providing short'ter% resources to
reassure investors" In this %anner, they help politicians in developing countries %anage the do!nside costs
of integration"7 J;>K
>" Transparenc/) The I.F has %ade efforts to i%prove its o!n transparency and continues to encourage its
%e%ber countries to do so" 1upporters note that this creates a barrier to any one or %ore countries that
have %ore geopolitical influence in the organi)ation" In reality, the %a5or econo%ies continue to exert
influence on policy and i%ple%entation"
To underscore the global expectations for the I.Fs role, China, 2ussia, and other global econo%ies have
rene!ed calls for the @<F to replace the 81 dollar as the international reserve currency !ith a ne! global
syste% controlled by the I.F"
The !inancial Times reported that [hou Uiaochuan, the Chinese central banks governor, said the goal !ould
be to create a reserve currency that is disconnected fro% individual nations and is able to re%ain stable in
the long run, thus re%oving the inherent deficiencies caused by using credit'based national currencies" 6MThis
is a clear sign that China, as the largest holder of 81 dollar financial assets, is concerned about the potential
inflationary risk of the 81 Federal 2eserve printing %oney, said `u Eongbin, chief China econo%ist for
E1*C"7 J;?K
$lthough .r" [hou did not %ention the 81 dollar, the essay gave a pointed criti&ue of the current dollar'
do%inated %onetary syste%9
6The outbreak of the JcurrentK crisis and its spillover to the entire !orld reflected the inherent vulnerabilities
and syste%ic risks in the existing international %onetary syste%,7 .r [hou !rote"
China has little choice but to hold the bulk of its T<,FFFbn of foreign exchange reserves in 81 dollars, and
this is unlikely to change in the near future"
To replace the current syste%, .r" [hou suggested expanding the role of special dra!ing rights, !hich !ere
introduced by the I.F in ;HGH to support the *retton Woods fixed exchange rate regi%e but beca%e less
relevant once that collapsed in the ;HRFsQ"
.r [hou said the proposal !ould re&uire 6extraordinary political vision and courage7 and ackno!ledged a
debt to Nohn .aynard eynes, !ho %ade a si%ilar suggestion in the ;H>Fs" J;GK
China is politically and econo%ically %otivated to reco%%end an alternative reserve currency" Colitically, the
country !hose currency is the reserve currency is perceived as the do%inant econo%ic po!er, as 1ection
="; AWhat Is the International .onetary 1yste%#A discusses" 3cono%ically, China has co%e under
increasing global pressure to increase the value of its currency, the ren%inbi, !hich +2eference f!k';GO=OO'
chFRasF= not found in *ook,discusses in greater depth"
The Wor%d *an3 and the Wor%d *an3 $roup
Histor/ and Purpose
!igure 0.. World Ban, Head5uarters in Wasington3 8$

6ource" World Ban,3 ./22.
The World *ank ca%e into existence in ;H>> at the *retton Woods conference" Its for%al na%e is the
International *ank for 2econstruction and Develop%ent +I*2D,, !hich clearly states its pri%ary purpose of
financing econo%ic develop%ent" The World *anks first loans !ere extended during the late ;H>Fs to
finance the reconstruction of the !ar'ravaged econo%ies of Western 3urope" When these nations recovered
so%e %easure of econo%ic self'sufficiency, the World *ank turned its attention to assisting the !orlds
poorer nations" The World *ank has one central purpose9 to pro%ote econo%ic and social progress in
developing countries by helping raise productivity so that their people %ay live a better and fuller life9
JIn <FFH,K the World *ank provided T>G"H billion for =F= pro5ects in developing countries !orld!ide, !ith our
financial andSor technical expertise ai%ed at helping those countries reduce poverty"
The *ank is currently involved in %ore than ;,OFF pro5ects in virtually every sector and developing country"
The pro5ects are as diverse as providing %icrocredit in *osnia and Eer)egovina, raising $ID1'prevention
a!areness in @uinea, supporting education of girls in *angladesh, i%proving health care delivery in .exico,
and helping 3ast Ti%or rebuild upon independence and India rebuild @u5arat after a devastating
earth&uake" J;RK
Today, The World *ank consists of t!o %ain bodies, the International *ank for 2econstruction and
Develop%ent +I*2D, and the International Develop%ent $ssociation +ID$,, established in ;HGF" The World
*ank is part of the broader World *ank @roup, !hich consists of five interrelated institutions9 the I*2DB the
ID$B the International Finance Corporation +IFC,, !hich !as established in ;H?GB the .ultilateral Invest%ent
@uarantee $gency +.I@$,, !hich !as established in ;HOOB and the International Centre for 1ettle%ent of
Invest%ent Disputes +IC1ID,, !hich !as established in ;HGG" These additional %e%bers of the World *ank
@roup have specific purposes as !ell" The ID$ typically provides interest'free loans to countries !ith
sovereign guarantees" The IFC provides loans, e&uity, risk'%anage%ent tools, and structured finance" Its
goal is to facilitate sustainable develop%ent by i%proving invest%ents in the private sector" The .I@$
focuses on i%proving the foreign direct invest%ent of developing countries" The IC1ID provides a %eans for
dispute resolution bet!een govern%ents and private investors !ith the end goal of enhancing the flo! of
capital"
The current pri%ary focus of the World *ank centers on six strategic the%es9
;" The poorest countries) Coverty reduction and sustainable gro!th in the poorest countries, especially in
$frica"
<" Postconf%ict and fragi%e states) 1olutions to the special challenges of postconflict countries and fragile
states"
=" idd%e;inco.e countries) Develop%ent solutions !ith custo%i)ed services as !ell as financing for %iddle'
inco%e countries"
>" $%o-a% pu-%ic goods) $ddressing regional and global issues that cross national borders, such as cli%ate
change, infectious diseases, and trade"
?" The Ara- 2or%d) @reater develop%ent and opportunity in the $rab !orld"
G" 5no2%edge and %earning) Ieveraging the best global kno!ledge to support develop%ent" J;OK
The World *ank provides lo!'interest loans, interest'free credits, and grants to developing countries" Theres
al!ays a govern%ent +or 6sovereign7, guarantee of repay%ent sub5ect to general conditions" The World *ank
is directed to %ake loans for pro5ects but never to fund a trade deficit" These loans %ust have a reasonable
likelihood of being repaid" The ID$ !as created to offer an alternative loan option" ID$ loans are free of
interest and offered for several decades, !ith a ten'year grace period before the country receiving the loan
needs to begin repay%ent" These loans are often called soft %oans"
1ince it issued its first bonds in ;H>R, the I*2D generates funds for its develop%ent !ork through the
international capital %arkets +!hich Chapter > AForeign 3xchange and the @lobal Capital .arketsA covers,"
The World *ank issues bonds, typically about T<? billion a year" These bonds are rated $$$ +the highest
possible rating, because they are backed by %e%ber states shared capital and by borro!ers sovereign
guarantees" *ecause of the $$$ credit rating, the World *ank is able to borro! at relatively lo! interest
rates" This provides a cheaper funding source for developing countries, as %ost developing countries have
considerably lo! credit ratings" The World *ank charges a fee of about ; percent to cover its ad%inistrative
overheads"
What $re the World *anks Current 2ole and .a5or Challenges and (pportunities#
Iike the I.F, the World *ank has both its critics and its supporters" The criticis%s of the World *ank extend
fro% the challenges that it faces in the global operating environ%ent" 1o%e of these challenges have
co%plicated causesB so%e result fro% the conflict bet!een nations and the global financial crisis" The
follo!ing are four exa%ples of the !orlds difficult needs that the World *ank tries to address9
;" 3ven in <F;F, over = billion people lived on less than T<"?F a day"
<" $t the start of the t!enty'first century, al%ost a billion people couldnt read a book or sign their na%es"
=" Iess than ; percent of !hat the !orld spends each year on !eapons !ould have put every child into school
by the year <FFF, but it didnt happen"
>" Fragile states such as $fghanistan, 2!anda, and 1ri Ianka face severe develop%ent challenges9 !eak
institutional capacity, poor governance, political instability, and often ongoing violence or the legacy of past
conflict" J;HK
$ccording to the Encyclo+edia of te 4ew American 4ation and the 4ew Yor, Times, the World *ank is
critici)ed pri%arily for the follo!ing reasons9
Ad.inistrati'e inco.petence) The World *ank and its lending practices are increasingly scrutini)ed, !ith
critics asserting that 6the World *ank has shifted fro% being a Mlender of last resort to an international !elfare
organi)ation,7 resulting in an institution that is 6bloated, inco%petent, and even corrupt"7 $lso incri%inating is
that 6the banks lax lending standards have led to a rapidly deteriorating loan portfolio"7 J<FK
Re2arding or supporting inefficient or corrupt countries) The banks lending policies often re!ard
%acroecono%ic inefficiency in the underdeveloped !orld, allo!ing inefficient nations to avoid the types of
funda%ental refor%s that !ould in the long run end poverty in their countries" .any analysts note that the
best exa%ple is to co%pare
the fantastic gro!th in 3ast $sia to the deplorable econo%ic conditions of $frica" In ;H?F the regions !ere
alike-1outh orea had a lo!er per capita @DC than 4igeria" *ut by pursuing %acroecono%ic refor%s, high
savings, investing in education and basic social services, and opening their econo%ies to the global trading
order, the 6Cacific Tigers7 have been able to lift the%selves out of poverty and into !ealth !ith very little help
fro% the World *ank" .any countries in $frica, ho!ever, have relied pri%arily on %ultilateral assistance fro%
organi)ations like the World *ank !hile avoiding funda%ental %acroecono%ic refor%s, !ith deplorable but
predictable results"
Conservatives point out that the World *ank has lent %ore than T=?F billion over a half'century, %ostly to the
underdeveloped !orld, !ith little to sho! for it" (ne study argued that of the sixty'six countries that received
funding fro% the bank fro% ;HR? to <FFF, !ell over half !ere no better off than before, and t!enty !ere
actually !orse off" The study pointed out that 4iger received TG=R %illion bet!een ;HG? and ;HH?, yet its per
capita @4C had fallen, in real ter%s, %ore than ?F percent during that ti%e" In the sa%e period 1ingapore,
!hich received one'seventh as %uch World *ank aid, had seen its per capita @4C increase by %ore than G
percent a year" J<;K
Focusing on %arge proBects rather than %oca% initiati'es) 1o%e critics clai% that World *ank loans give
preference to 6large infrastructure pro5ects like building da%s and electric plants over pro5ects that !ould
benefit the poor, such as education and basic health care"7 The pro5ects often destroy the local environ%ent,
including forests, rivers, and fisheries" 1o%e esti%ates suggest 6that %ore than t!o and a half %illion people
have been displaced by pro5ects %ade possible through World *ank loans"7 Failed pro5ects, argue
environ%entalists and antiglobali)ation groups, are particularly illustrative9 6The 1ardar 1arovar da% on the
4ar%ada 2iver in India !as expected to displace al%ost a &uarter of a %illion people into s&ualid
resettle%ent sites" The Colonoroeste Frontier Develop%ent sche%e has led to large'scale deforestation in
the *ra)ilian rain forest" In Thailand, the Cak .un da% has destroyed the fisheries of the .un 2iver,
i%poverishing thousands !ho had %ade their living fishing and forever altering the diet of the
region"7 J<<K Further, the larger pro5ects beco%e targets for corruption by local govern%ent officials because
there is so %uch %oney involved"
$nother exa%ple !as in <FFH, !hen an internal audit found that the IFC had 6ignored its o!n environ%ental
and social protection standards !hen it approved nearly T<FF %illion in loan guarantees for pal% oil
production in IndonesiaQIndonesia is ho%e to the !orlds second'largest reserves of natural forests and
peat s!a%ps, !hich naturally trap carbon dioxide-the %ain greenhouse gas that causes cli%ate change"
*ut ra%pant destruction of the forests to %ake !ay for pal% oil plantations has caused giant releases of
C(< into the at%osphere, %aking Indonesia the third'largest e%itter of greenhouse gases on the
planetQMFor each invest%ent, co%%ercial pressures !ere allo!ed to prevail, auditors !rote"7 J<=K Eo!ever,
such issues are not al!ays as clear'cut as they %ay see%" The IFC responded to the audit by
ackno!ledging 6shortco%ings in the revie! process" *ut the lender also defended invest%ent in pal% oil
production as a !ay to alleviate poverty in Indonesia" MIFC believes that production of pal% oil, !hen carried
out in an environ%entally and socially sustainable fashion, can provide core support for a strong rural
econo%y, providing e%ploy%ent and i%proved &uality of life for %illions of the rural poor in tropical areas, it
said"7 J<>K
Negati'e inf%uence on theor/ and practice) $s one of the t!o *retton Woods Institutions, the World *ank
plays a large role in research, training, and policy for%ulation" Critics !orry that because 6the World *ank
and the I.F are regarded as experts in the field of financial regulation and econo%ic develop%ent, their
vie!s and prescriptions %ay under%ine or eli%inate alternative perspectives on develop%ent"7 J<?K
8o.inance of $F countries) The industriali)ed countries do%inate the World *ank +and I.F, governance
structures" Decisions are typically %ade and policies i%ple%ented by these leading countries-the @R-
because they are the largest donors, so%e suggest !ithout sufficient consultation !ith poor and developing
countries" J<GK
Opportunities and Future Out%oo3 for the Wor%d *an3
$s vocal as the World *anks critics are, so too are its supporters" The World *ank is praised by %any for
engaging in develop%ent pro5ects in re%ote locations around the globe to i%prove living standards and
reduce poverty" The World *anks current focus is on helping countries achieve the .illenniu% Develop%ent
@oals +.D@s,, !hich are eight international develop%ent goals, established in <FFF at the .illenniu%
1u%%it, that all ;H< 8nited 4ations %e%ber states and t!enty'three international organi)ations have agreed
to achieve by the year <F;?" They include reducing extre%e poverty, reducing child %ortality rates, fighting
disease epide%ics such as $ID1, and developing a global partnership for develop%ent" The World *ank is
focused on the follo!ing four key issues9
;" Increased transparenc/) In response to the criticis%s over the decades, the World *ank has %ade
progress" .ore of the World *anks decision %aking and country assess%ents are available publicly" The
World *ank has continued to !ork !ith countries to co%bat corruption both at the country and bank levels"
<" !(panding socia% issues in the fight on po'ert/) In <FF;, the World *ank began to incorporate gender
issues into its policy" 6T!o years later the World *ank announced that it !as starting to evaluate all of its
pro5ects for their effects on !o%en and girls,7 noting that 6poverty is experienced differently by %en and
!o%en7 and 6a full understanding of the gender di%ensions of poverty can significantly change the definition
of priority policy and progra% interventions"7 J<RK
=" I.pro'e.ents in countries co.petiti'eness and increasing e(ports) The World *anks policies and its
role as a donor have helped i%prove the ability of so%e countries to secure %ore of the global revenues for
basic co%%odities" In 2!anda, for exa%ple, refor%s transfor%ed the countrys coffee industry and increased
exports" enya has expanded its exports of cut flo!ers, and 8ganda has i%proved its fish'processing
industry" World *ank efforts have also helped $frican financial co%panies develop" J<OK
>" I.pro'ing efficiencies in di'erse industries and %e'eraging the pri'ate sector) The World *ank has
!orked closely !ith businesses in the private sector to develop local infrastructure, including po!er,
transportation, teleco%%unications, health care, and education" J<HK In $fghanistan, for exa%ple, s%all da%s
are built and %aintained by the locals the%selves to support s%all industries processing local produce"
The World *ank continues to play an integral role in helping countries reduce poverty and i%prove the !ell'
being of their citi)ens" World *ank funding provides a resource to countries to utili)e the services of global
co%panies to acco%plish their ob5ectives"
5!6 TA5!AWA6S
The I.F is playing an expanding role in the global %onetary syste%" The I.Fs key roles are the
follo!ing9
To pro%ote international %onetary cooperation
To facilitate the expansion and balanced gro!th of international trade
To pro%ote exchange stability
To assist in the establish%ent of a %ultilateral syste% of pay%ents
To give confidence to %e%bers by %aking the I.Fs general resources te%porarily available to
the% under ade&uate safeguards
To shorten the duration and lessen the degree of dise&uilibriu% in the international balances of
pay%ents of %e%bers
The World *ank consists of t!o %ain bodies, the I*2D and the International Develop%ent $ssociation
+ID$,"
The World *ank @roup includes the follo!ing interrelated institutions9
I*2D, !hich %akes loans to countries !ith the purpose of building econo%ies and reducing
poverty
ID$, !hich typically provides interest'free loans to countries !ith sovereign guarantees
International Finance Corporation +IFC,, !hich provides loans, e&uity, risk'%anage%ent tools,
and structured finance !ith the goal of facilitating sustainable develop%ent by i%proving
invest%ents in the private sector
.ultilateral Invest%ent @uarantee $gency +.I@$,, !hich focuses on i%proving the foreign direct
invest%ent of the developing countries
International Centre for 1ettle%ent of Invest%ent Disputes +IC1ID,, !hich provides a %eans for
dispute resolution bet!een govern%ents and private investors, !ith the end goal of enhancing
the flo! of capital
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is the I.F, and !hat role does it play#
<" What are t!o criticis%s of the I.F and t!o of its opportunities for the future#
=" Discuss !hether 1D2s or another global currency created by the I.F should replace the 81 dollar as
the international reserve currency"
>" What is the World *ank, and !hat role does it play#
?" What are t!o criticis%s of the World *ank and t!o of its opportunities for the future#
Chapter :
Foreign !(change and the $%o-a% Capita% ar3ets
WHATS IN IT FOR !"
;" What do !e %ean by currency and foreign exchange#
<" Eo! do you deter%ine exchange rates#
=" What are the global capital %arkets#
>" What is the i%pact of the global capital %arkets +particularly the venture capital and global capital
%arkets, on international business#
This chapter explores currencies, foreign exchange rates, and ho! they are deter%ined" It also discusses
the global capital %arkets-the key co%ponents and ho! they i%pact global business" Foreign exchange is
one aspect of the global capital %arkets" Co%panies access the global capital %arkets to utili)e both the
debt and e&uity %arketsB these are i%portant for gro!th" *eing able to access transparent and efficient
capital %arkets around the !orld is another i%portant co%ponent in the flattening !orld for global fir%s"
Finally, this chapter discusses ho! the expansion of the global capital %arkets has benefited
entrepreneurship and venture capitalists"
Opening Case# Wh/ a ain Street Fir.1 Wa%.art1 Is I.pacted -/ Foreign !(change F%uctuations
.ost people in 4orth $%erica are fa%iliar !ith the na%e Wal%art" It con5ures up an i%age of a gigantic, box'
like store filled !ith a !ide range of essential and nonessential products" Whats less kno!n is that Wal%art
is the !orlds largest co%pany, in ter%s of revenues, as ranked by the Fortune ?FF in <F;F" With T>FO billion
in sales, it operates in fifteen global %arkets and has >,=>= stores outside of the 8nited 1tates, !hich
a%ounts to about ?F percent of its total stores" .ore than RFF,FFF people !ork for Wal%art internationally"
With nu%bers like this, its easy to see ho! i%portant the global %arkets have beco%e for this co%pany" J;K
Wal%arts strength co%es fro% the upper hand it has in its negotiations !ith suppliers around the !orld"
1uppliers are %otivated to negotiate !ith Wal%art because of the huge sales volu%e the stores offer
%anufacturers" The business rationale for %any suppliers is that !hile they %ay lose a certain percentage of
profitability per product, the overall sales volu%e of an order fro% Wal%art can %ake the% far %ore %oney
overall than orders fro% %ost other stores" Wal%arts purchasing professionals are kno!n for being
aggressive negotiators on purchases and for extracting the best ter%s for the co%pany"
In order to buy goods fro% around the !orld, Wal%art has to deal extensively in different currencies" 1%all
changes in the daily foreign currency %arket can significantly i%pact the costs for Wal%art and in turn both
its profitability and that of its global suppliers"
$ co%pany like Wal%art needs foreign exchange and capital for different reasons, including the follo!ing
co%%on operational uses9
;" To build ne! stores, expand stores, or refurbish stores in a specific country
<" To purchase products locally by paying in local currencies or the 81 dollar, !hichever is cheaper and !orks
to Wal%arts advantage
=" To pay salaries and benefits for its local e%ployees in each country as !ell as its expatriate and global
!orkforce
>" To take profits out of a country and either reinvest the %oney in another country or %arket or save it and
%ake profits fro% returns on invest%ent
To illustrate this i%pact of foreign currency, lets look at the currency of China, the ren%inbi +2.*,, and its
i%pact on a global business like Wal%art" .any global analysts argue that the Chinese govern%ent tries to
keep the value of its currency lo! or cheap to help pro%ote exports" When the local 2.* is valued cheaply
or lo!, Chinese i%porters that buy foreign goods find that the prices are %ore expensive and higher"
Eo!ever, Chinese exporters, those businesses that sell goods and services to foreign buyers, find that sales
increase because their prices are cheaper or lo!er for the foreign buyers" 3cono%ists say that the Chinese
govern%ent has intervened to keep the ren%inbi cheap in order to keep Chinese exports cheapB this has led
to a huge trade surplus !ith the 8nited 1tates and %ost of the !orld" 3ach country tries to pro%ote its
exports to generate a trade advantage or surplus in its favor" When China has a trade surplus, it %eans the
other country or countries are running trade deficits, !hich has 6beco%e an irritant to a lot of Chinas trading
partners and those !ho are co%peting !ith China to sell goods around the !orld"7 J<K
For Wal%art, an $%erican co%pany, a cheap ren%inbi %eans that it takes fe!er 81 dollars to buy Chinese
products" Wal%art can then buy cheap Chinese products, add a s%all profit %argin, and then sell the goods
in the 8nited 1tates at a price lo!er than !hat its co%petitors can offer" If the Chinese 2.* increased in
value, then Wal%art !ould have to spend %ore 81 dollars to buy the sa%e products, !hether the products
are clothing, electronics, or furniture" $ny increase in cost for Wal%art !ill %ean an increase in cost for their
custo%ers in the 8nited 1tates, !hich could lead to a decrease in sales" 1o !e can see !hy Wal%art !ould
be opposed to an increase in the value of the 2.*"
To %anage this currency concern, Wal%art often re&uires that the currency exchange rate be fixed in its
purchasing contracts !ith Chinese suppliers" *y fixing the currency exchange rate, Wal%art locks in its
product costs and therefore its profitability" Fixing the exchange rate %eans setting the price that one
currency !ill convert into another" This is ho! a co%pany like Wal%art can avoid unexpected drops or
increases in the value of the 2.* and the 81 dollar"
While global co%panies have to buy and sell in different currencies around the !orld, their pri%ary goal is to
avoid losses and to fix the price of the currency exchange so that they can %anage their profitability !ith
surety" This chapter takes a look at so%e of the currency tools that co%panies use to %anage this risk"
@lobal fir%s like Wal%art often set up local operations that help the% balance or %anage their risk by doing
business in local currencies" Wal%art no! has =F> stores in China" 3ach store generates sales in ren%inbi,
earning the co%pany local currency that it can use to %anage its local operations and to purchase local
goods for sale in its other global %arkets"J=K
Opening Case !(ercises
+$$C1*9 3thical 2easoning, .ulticulturalis%, 2eflective Thinking, $nalytical 1kills,
;" Iist t!o reasons a global co%pany needs foreign exchange"
<" Why is Wal%art concerned about foreign exchange rates#
:)1 What 8o We ean -/ Currenc/ and Foreign !(change"
&!ARNIN$ O*+!CTI,!S
;" 8nderstand !hat is %eant by currency and foreign exchange"
<" 3xplore the purpose of the foreign exchange %arket"
=" 8nderstand ho! to deter%ine exchange rates"
What Are Currenc/ and Foreign !(change"
In order to understand the global financial environ%ent, ho! capital %arkets !ork, and their i%pact on global
business, !e need to first understand ho! currencies and foreign exchange rates !ork"
*riefly, currenc/ is any for% of %oney in general circulation in a country" What exactly is a foreign
exchange# In essence, foreign e(change is %oney deno%inated in the currency of another country or-
no! !ith the euro-a group of countries" 1i%ply put, an e(change rate is defined as the rate at !hich the
%arket converts one currency into another"
$ny co%pany operating globally %ust deal in foreign currencies" It has to pay suppliers in other countries
!ith a currency different fro% its ho%e countrys currency" The ho%e country is !here a co%pany is
head&uartered" The fir% is likely to be paid or have profits in a different currency and !ill !ant to exchange it
for its ho%e currency" 3ven if a co%pany expects to be paid in its o!n currency, it %ust assess the risk that
the buyer %ay not be able to pay the full a%ount due to currency fluctuations"
If you have traveled outside of your ho%e country, you %ay have experienced the currency %arket-for
exa%ple, !hen you tried to deter%ine your hotel bill or tried to deter%ine if an ite% !as cheaper in one
country versus another" In fact, !hen you land at an airport in another country, youre likely to see boards
indicating the foreign exchange rates for %a5or currencies" These rates include t!o nu%bers9 the bid and the
offer" The -id 0or -u/4 is the price at !hich a bank or financial services fir% is !illing to buy a specific
currency" Theas3 0or the offer or se%%4, refers to the price at !hich a bank or financial services fir% is !illing
to sell that currency" Typically, the bid or the buy is al!ays cheaper than the sellB banks %ake a profit on the
transaction fro% that difference" For exa%ple, i%agine youre on vacation in Thailand and the exchange rate
board indicates that the *angkok *ank is !illing to exchange currencies at the follo!ing rates +see the
follo!ing figure," @*C refers to the *ritish poundB NC: refers to the Napanese yenB and ED refers to the
Eong ong dollar, as sho!n in the follo!ing figure" *ecause there are several countries that use the dollar
as part or !hole of their na%e, this chapter clearly states 681 dollar7 or uses 81T or 81D !hen referring to
$%erican currency"

This chart tells us that !hen you land in Thailand, you can use ; 81 dollar to buy =;"GR Thai baht" Eo!ever,
!hen you leave Thailand and decide that you do not need to take all your baht back to the 8nited 1tates,
you then convert baht back to 81 dollars" We then have to use %ore baht-=<"=< according to the preceding
figure-to buy ; 81 dollar" The spread bet!een these nu%bers, F"G? baht, is the profit that the bank %akes
for each 81 dollar bought and sold" The bank charges a fee because it perfor%ed a service-facilitating the
currency exchange" When you !alk through the airport, youll see %ore boards for different banks !ith
different buy and sell rates" While the difference %ay be very s%all, around F"; baht, these nu%bers add up
if you are a global co%pany engaged in large foreign exchange transactions" $ccordingly, global fir%s are
likely to shop around for the best rates before they exchange any currencies"
What Is the Purpose of the Foreign !(change ar3et"
The foreign exchange %arket +or FU %arket, is the %echanis% in !hich currencies can be bought and sold"
$ key co%ponent of this %echanis% is pricing or, %ore specifically, the rate at !hich a currency is bought or
sold" Well cover the deter%ination of exchange rates %ore closely in this section, but first lets understand
the purpose of the FU %arket" International businesses have four %ain uses of the foreign exchange
%arkets"
Currenc/ Con'ersion
Co%panies, investors, and govern%ents !ant to be able to convert one currency into another" $ co%panys
pri%ary purposes for !anting or needing to convert currencies is to pay or receive %oney for goods or
services" I%agine you have a business in the 8nited 1tates that i%ports !ines fro% around the !orld" :oull
need to pay the French !ine%akers in euros, your $ustralian !ine suppliers in $ustralian dollars, and your
Chilean vineyards in pesos" (bviously, you are not going to access these currencies physically" 2ather, youll
instruct your bank to pay each of these suppliers in their local currencies" :our bank !ill convert the
currencies for you and debit your account for the 81 dollar e&uivalent based on the exact exchange rate at
the ti%e of the exchange"
Currency Eedging
(ne of the biggest challenges in foreign exchange is the risk of rates increasing or decreasing in greater
a%ounts or directions than anticipated"Currenc/ hedging refers to the techni&ue of protecting against the
potential losses that result fro% adverse changes in exchange rates" Co%panies use hedging as a !ay to
protect the%selves if there is a ti%e lag bet!een !hen they bill and receive pay%ent fro% a custo%er"
Conversely, a co%pany %ay o!e pay%ent to an overseas vendor and !ant to protect against changes in the
exchange rate that !ould increase the a%ount of the pay%ent" For exa%ple, a retail store in Napan i%ports
or buys shoes fro% Italy" The Napanese fir% has ninety days to pay the Italian fir%" To protect itself, the
Napanese fir% enters into a contract !ith its bank to exchange the pay%ent in ninety days at the agreed'on
exchange rate" This !ay, the Napanese fir% is clear about the a%ount to pay and protects itself fro% a
sudden depreciation of the yen" If the yen depreciates, %ore yen !ill be re&uired to purchase the sa%e
euros, %aking the deal %ore expensive" *y hedging, the co%pany locks in the rate"
Currency $rbitrage
$rbitrage is the si%ultaneous and instantaneous purchase and sale of a currency for a profit" $dvances in
technology have enabled trading syste%s to capture slight differences in price and execute a transaction, all
!ithin seconds" Creviously, arbitrage !as conducted by a trader sitting in one city, such as 4e! :ork,
%onitoring currency prices on the *loo%berg ter%inal" 4oticing that the value of a euro is cheaper in Eong
ong than in 4e! :ork, the trader could then buy euros in Eong ong and sell the% in 4e! :ork for a profit"
Today, such transactions are al%ost all handled by sophisticated co%puter progra%s" The progra%s
constantly search different exchanges, identify potential differences, and execute transactions, all !ithin
seconds"
Currency 1peculation
1peculation refers to the practice of buying and selling a currency !ith the expectation that the value !ill
change and result in a profit" 1uch changes could happen instantly or over a period of ti%e"
Eigh'risk, speculative invest%ents by nonfinance co%panies are less co%%on these days than the current
ne!s !ould indicate" While co%panies can engage in all four uses discussed in this section, %any
co%panies have deter%ined over the years that arbitrage and speculation are too risky and not in align%ent
!ith their core strategies" In essence, these co%panies have deter%ined that a loss due to high'risk or
speculative invest%ents !ould be e%barrassing and inappropriate for their co%panies"
Anderstand Ho2 to 8eter.ine !(change Rates
Ho2 to Guote a Currenc/
There are several !ays to &uote currency, but lets keep it si%ple" In general, !hen !e &uote currencies, !e
are indicating ho! %uch of one currency it takes to buy another currency" This &uote re&uires t!o
co%ponents9 the-ase currenc/ and the Huoted currenc/" The &uoted currency is the currency !ith !hich
another currency is to be purchased" In an exchange rate &uote, the &uoted currency is typically the
nu%erator" The base currency is the currency that is to be purchased !ith another currency, and it is noted in
the deno%inator" For exa%ple, if !e are &uoting the nu%ber of Eong ong dollars re&uired to purchase ; 81
dollar, then !e note ED O S 81D ;" +4ote that O reflects the general exchange rate average in this
exa%ple", In this case, the Eong ong dollar is the &uoted currency and is noted in the nu%erator" The 81
dollar is the base currency and is noted in the deno%inator" We read this &uote as 6O Eong ong dollars are
re&uired to purchase ; 81 dollar"7 If you get confused !hile revie!ing exchanging rates, re%e%ber the
currency that you !ant to buy or sell" If you !ant to sell ; 81 dollar, you can buy O Eong ong dollars, using
the exa%ple in this paragraph"
Direct Currency `uote and Indirect Currency `uote
$dditionally, there are t!o %ethods-the A.erican ter.s and the!uropean ter.s-for noting the base
and &uoted currency" These t!o %ethods, !hich are also kno!n as direct and indirect &uotes, are opposite
based on each reference point" Iets understand !hat this %eans exactly"

The $%erican ter%s, also kno!n as 81 ter%s, are fro% the point of vie! of so%eone in the 8nited 1tatesB
this is the approach generally used around the !orld" In this approach, foreign exchange rates are expressed
in ter%s of ho! %any 81 dollars can be exchanged for one unit of another currency +the non'81 currency is
the base currency," For exa%ple, a dollar'pound &uote in $%erican ter%s is 81DS@*C +81TS], e&uals ;"?G"
This is read as 6;"?G 81 dollars are re&uired to buy ; pound sterling"7 This is also called a direct Huote,
!hich states the do%estic currency price of one unit of foreign currency" If you think about this logically, a
business that needs to buy a foreign currency needs to kno! ho! %any 81 dollars %ust be sold in order to
buy one unit of the foreign currency" In a direct &uote, the do%estic currency is a variable a%ount and the
foreign currency is fixed at one unit"

Conversely, the 3uropean ter%s are the other approach for &uoting rates, !hich is %ainly used in +for%er,
Co%%on!ealth countries" In this approach, foreign exchange rates are expressed in ter%s of ho! %any
currency units can be exchanged for a 81 dollar +the 81 dollar is the base currency," For exa%ple, the
pound'dollar &uote in 3uropean ter%s is ]F"G>S81T; +]S81T;," While this is a direct &uote for so%eone in
3urope, it is an indirect Huote in the 8nited 1tates" $n indirect &uote states the price of the do%estic
currency in foreign currency ter%s" In an indirect &uote, the foreign currency is a variable a%ount and the
do%estic currency is fixed at one unit"
$ direct and an indirect &uote are si%ply reverse &uotes of each other" If you have either one, you can easily
calculate the other using this si%ple for%ula9
direct &uote 0 ; S indirect &uote"
To illustrate, lets use our dollar'pound exa%ple" The direct &uote is 81T;"?G 0 ;S]F"G> +the indirect &uote,"
This can be read as
; divided by F"G> e&uals ;"?G"
In this exa%ple, the direct currency &uote is !ritten as 81TS] 0 ;"?G"
While you are perfor%ing the calculations, it is i%portant to keep track of !hich currency is in the nu%erator
and !hich is in the deno%inator, or you %ight end up stating the &uote back!ard" The direct &uote is the rate
at !hich you buy a currency" In this exa%ple, you need 81T;"?G to buy a *ritish pound"
Ti+" .any international business professionals beco%e experienced over their careers and are able to
correct the%selves in the event of a %ix'up bet!een currencies" To illustrate using the exa%ple %entioned
previously, the seasoned global professional kno!s that the *ritish pound is historically higher in value than
the 81 dollar" This %eans that it takes %ore 81 dollars to buy a pound than the other !ay around" When !e
say 6higher in value,7 !e %ean that the value of the *ritish pound buys you %ore 81 dollars" 8sing this logic,
!e can then deduce that ;"?G 81 dollars are re&uired to buy ; *ritish pound" $s an international
businessperson, !e !ould kno! instinctively that it cannot be less-that is, only F"G> 81 dollars to buy a
*ritish pound" This !ould i%ply that the dollar value !as higher in value" While %a5or currencies have
changed significantly in value vis'\'vis each other, it tends to happen over long periods of ti%e" $s a result,
this self'test is a good !ay to use logic to keep track of tricky exchange rates" It !orks best !ith %a5or
currencies that do not fluctuate greatly vis'\'vis others"
$ useful side note9 traders al!ays list the base currency as the first currency in a currency pair" Iets
assu%e, for exa%ple, that it takes O? Napanese yen to purchase ; 81 dollar" $ currency trader !ould note
this as follo!s9 81D ; S NC: O?" This &uote indicates that the base currency is the 81 dollar and O? yen are
re&uired to purchase a dollar" This is also called a direct &uote, although FU traders are %ore likely to call it
an $%erican rate rather than a direct rate" It can be confusing, but try to keep the logic of !hich currency you
are selling and !hich you are buying clearly in your %ind, and say the &uote as full sentences in order to
keep track of the currencies"
These days, you can easily use the Internet to access up'to'date &uotes on all currencies, although the %ost
reliable sites re%ain the Wall 6treet <ournal, the!inancial Times, or any !ebsite of a trust!orthy financial
institution"
1pot 2ates
The exchange rates discussed in this chapter are spot rates-exchange rates that re&uire i%%ediate
settle%ent !ith delivery of the traded currency" 6I%%ediate7 usually %eans !ithin t!o business days, but it
i%plies an 6on the spot7 exchange of the currencies, hence the ter% s+ot rate" Thespot e(change rate is the
exchange rate transacted at a particular %o%ent by the buyer and seller of a currency" When !e buy and
sell our foreign currency at a bank or at $%erican 3xpress, its &uoted at the rate for the day" For currency
traders though, the spot can change throughout the trading day even by tiny fractions"
To illustrate, assu%e that you !ork for a clothing co%pany in the 8nited 1tates and you !ant to buy shirts
fro% either .alaysia or Indonesia" The shirts are exactly the sa%eB only the price is different" +For no!,
ignore shipping and any taxes", $ssu%e that you are using the spot rate and are %aking an i%%ediate
pay%ent" There is no risk of the currency increasing or decreasing in value" +Well cover for!ard rates in the
next section",
The currency in .alaysia is the .alaysian ringgit, !hich is abbreviated .:2" The supplier in uala Iu%pur
e'%ails you the &uote-you can buy each shirt for .:2 =?" Iets use a spot exchange rate of .:2 =";= S
81D ;"
The Indonesian currency is the rupiah, !hich is abbreviated as 2p" The supplier in Nakarta e'%ails you a
&uote indicating that you can buy each shirt for 2p RF,FFF" 8se a spot exchange rate of 2p O,HGF S 81D ;"
It !ould be easy to instinctively assu%e that the Indonesian fir% is %ore expensive, but look %ore closely"
:ou can calculate the price of one shirt into 81 dollars so that a co%parison can be %ade9
For .alaysia9 .:2 =? S .:2 =";= 0 81D ;;";OFor Indonesia9 2p RF,FFF S 2p O,HGF 0 81D R"O;
Indonesia is the cheaper supplier for our shirts on the basis of the spot exchange rate"
Cross 2ates
Theres one %ore ter% that applies to the spot %arket-the cross rate" This is the exchange rate bet!een
t!o currencies, neither of !hich is the official currency in the country in !hich the &uote is provided" For
exa%ple, if an exchange rate bet!een the euro and the yen !ere &uoted by an $%erican bank on 81 soil,
the rate !ould be a cross rate"
The %ost co%%on cross'currency pairs are 382S@*C, 382SCEF, and 382SNC:" These currency pairs
expand the trading possibilities in the foreign exchange %arket but are less actively traded than pairs that
include the 81 dollar, !hich are called the 6%a5ors7 because of their high degree of li&uidity" The %a5ors are
382S81D, @*CS 81D, 81DSNC:, 81DSC$D +Canadian dollar,, 81DSCEF +1!iss franc,, and 81DS$8D
+$ustralian dollar," Despite the changes in the international %onetary syste% and the expansion of the
capital %arkets, the currency %arket is really a %arket of dollars and nondollars" The dollar is still the reserve
currency for the !orlds central banks" Table >"; ACurrency Cross 2atesA contains so%e currency cross rates
bet!een the %a5or currencies" We can see, for exa%ple, that the rate for the cross'currency pair of
382S@*C is ;";H?G" This is read as 6it takes ;";H?G euros to buy one *ritish pound"7 $nother exa%ple is the
382SNC: rate, !hich is F"FFHF;" Eo!ever, a seasoned trader !ould not say that it takes F"FFHF; euros to
buy ; Napanese yen" Ee or she !ould instinctively kno! to &uote the currency pair as the NC:S382 rate or-
%ore specifically-that it takes ;;;"FOO yen to purchase ; euro"
Table >"; Currency Cross 2ates
Currenc/
codes < na.es
Anited
5ingdo.
Pound
Canadian
8o%%ar
!uro
Hong 5ong
8o%%ar
+apanese
6en
S2iss
Franc
AS
8o%%ar
Chinese 6uan
Ren.in-i
@*C ; F"G;RR F"O=R> F"FO;>? F"FFR?>> F"G>?? F"G== F"FH?;<
C$D ;"?HR ; ;"==?O F";<HH F"F;<F=< ;"F<HG ;"FFH? F";?;R
382 ;";H?G F"R>HH ; F"FHR>O F"FFHF; F"RR; F"R?G= F";;=G
ED ;<"<OHG R"RFH<
;F"<G<
<
; F"FH<GR R"H<H> R"RR>H ;";GO<
NC: ;=<"R?> O="<HF?
;;;"FO
O
;F"OFO= ; O?"G? O>"FF; ;<"G<;=
CEF ;"??;< F"HR=< ;"<HO; F";<G= F"F;;GHG ; F"HO;? F";>R?
81D ;"?OFR F"HH;? ;"=<=< F";<OR F"F;;H;H ;"F;HH ; F";?F=
Currenc/
codes < na.es
Anited
5ingdo.
Pound
Canadian
8o%%ar
!uro
Hong 5ong
8o%%ar
+apanese
6en
S2iss
Franc
AS
8o%%ar
Chinese 6uan
Ren.in-i
C4: ;F"?<;O G"GFF< O"OFR? F"O?G? F"FRH=> G"ROOR G"G?G? ;
Note# The officia% na.e for the Chinese currenc/ is ren.in-i and the .ain unit of the currenc/ is the
/uan)
Source# ICurrenc/ Cross Rates# Resu%ts1J Oanda1 accessed a/ 7?1
7K111http#<<222)oanda)co.<currenc/<cross; rate<resu%t"
HuotesL$*PDHuotesLCA8DHuotesL!ARDHuotesLH58DHuotesL+P6DHuotesL
CHFDHuotesLAS8DHuotesLCN6DgoL$etM./MTa-%eMMM)
For!ard 2ates
The for2ard e(change rate is the exchange rate at !hich a buyer and a seller agree to transact a currency
at so%e date in the future" For!ard rates are really a reflection of the %arkets expectation of the future spot
rate for a currency" The for2ard .ar3et is the currency %arket for transactions at for!ard rates" In the
for!ard %arkets, foreign exchange is al!ays &uoted against the 81 dollar" This %eans that pricing is done in
ter%s of ho! %any 81 dollars are needed to buy one unit of the other currency" 4ot all currencies are traded
in the for!ard %arket, as it depends on the de%and in the international financial %arkets" The %a5ors are
routinely traded in the for!ard %arket"
For exa%ple, if a 81 co%pany opted to buy cell phones fro% China !ith pay%ent due in ninety days, it !ould
be able to access the for!ard %arket to enter into a for!ard contract to lock in a future price for its pay%ent"
This !ould enable the 81 fir% to protect itself against a depreciation of the 81 dollar, !hich !ould re&uire
%ore dollars to buy one Chinese yuan" $for2ard contract is a contract that re&uires the exchange of an
agreed'on a%ount of a currency on an agreed'on date and a specific exchange rate" .ost for!ard contracts
have fixed dates at =F, HF, or ;OF days" Custo% for!ard contracts can be purchased fro% %ost financial
fir%s" For!ard contracts, currency s!aps, options, and futures all belong to a group of financial instru%ents
called derivatives" In the ter%s broadest definition, deri'ati'esare financial instru%ents !hose underlying
value co%es fro% +derives fro%, other financial instru%ents or co%%odities-in this case, another currency"
1!aps, (ptions, and Futures
1!aps, options, and futures are three additional currency instru%ents used in the for!ard %arket"
$ currenc/ s2ap is a si%ultaneous buy and sell of a currency for t!o different dates" For exa%ple, an
$%erican co%puter fir% buys +i%ports, co%ponents fro% China" The fir% needs to pay its supplier in
ren%inbi today" $t the sa%e ti%e, the $%erican co%puter is expecting to receive 2.* in ninety days for its
netbooks sold in China" The $%erican fir% enters into t!o transactions" First, it exchanges 81 dollars and
buys yuan ren%inbi today so that it can pay its supplier" 1econd, it si%ultaneously enters into a for!ard
contract to sell yuan and buy dollars at the ninety'day for!ard rate" *y entering into both transactions, the
fir% is able to reduce its foreign exchange rate risk by locking into the price for both"
Currenc/ options are the option or the right-but not the obligation-to exchange a specific a%ount of
currency on a specific future date and at a specific agreed'on rate" 1ince a currency option is a right but not
a re&uire%ent, the parties in an option do not have to actually exchange the currencies if they choose not to"
This is referred to as not exercising an option"
Currenc/ futures contracts are contracts that re&uire the exchange of a specific a%ount of currency at a
specific future date and at a specific exchange rate" Futures contracts are si%ilar to but not identical to
for!ard contracts"
!(change;Traded and Standardized Ter.s
Futures contracts are actively traded on exchanges, and the ter%s are standardi)ed" $s a result, futures
contracts have clearinghouses that guarantee the transactions, substantially reducing any risk of default by
either party" For!ard contracts are private contracts bet!een t!o parties and are not standardi)ed" $s a
result, the parties have a higher risk of defaulting on a contract"
1ettle%ent and Delivery
The settle%ent of a for!ard contract occurs at the end of the contract" Futures contracts are %arked'to'
%arket daily, !hich %eans that daily changes are settled day by day until the end of the contract"
Further%ore, the settle%ent of a futures contract can occur over a range of dates" For!ard contracts, on the
other hand, only have one settle%ent date at the end of the contract"
.aturity
Futures contracts are fre&uently e%ployed by speculators, !ho bet on the direction in !hich a currencys
price !ill %oveB as a result, futures contracts are usually closed out prior to %aturity and delivery usually
never happens" (n the other hand, for!ard contracts are %ostly used by co%panies, institutions, or hedgers
that !ant to eli%inate the volatility of a currencys price in the future, and delivery of the currency !ill usually
take place"
Co%panies routinely use these tools to %anage their exposure to currency risk" (ne of the co%plicating
factors for co%panies occurs !hen they operate in countries that li%it or control the convertibility of currency"
1o%e countries li%it the profits +currency, a co%pany can take out of a country" $s a result, %any co%panies
resort to countertrade, !here co%panies trade goods and services for other goods and services and actual
%onies are less involved"
The challenge for co%panies is to operate in a !orld syste% that is not efficient" Currency %arkets are
influenced not only by %arket factors, inflation, interest rates, and %arket psychology but also-%ore
i%portantly-by govern%ent policy and intervention" .any co%panies %ove their production and operations
to overseas locations to %anage against unforeseen currency risks and to circu%vent trade barriers" Its
i%portant for co%panies to actively %onitor the %arkets in !hich they operate around the !orld"
5!6 TA5!AWA6S
In this section you learned about the follo!ing9
;" $n exchange rate is the rate at !hich the %arket converts one currency into another" $n exchange rate
can be &uoted as direct or indirect"
<" The spot rate is an exchange rate that re&uires i%%ediate settle%ent !ith delivery of the traded
currency" The for!ard exchange rate is the exchange rate at !hich a buyer and seller agree to transact
a currency at so%e date in the future" 1!aps, options, and futures are additional types of currency
instru%ents used in the for!ard %arket"
=" Co%panies routinely use these tools to %anage their exposure to currency risk" Well'functioning
currency %arkets are a co%ponent of the global financial %arkets and an essential %echanis% for
global fir%s that need to exchange currencies"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is currency and foreign exchange# Why are they so i%portant to international business#
<" What is the difference bet!een $%erican and 3uropean ter%s for &uoting currencies# @ive an
exa%ple" If you have traveled outside your ho%e country, discuss ho! you exchanged currency !hile
abroad" What process did you follo!#
=" Describe a spot rate and a for!ard rate"
>" What are the %ain differences bet!een a for!ard contract and a futures contract#
:)7 Anderstanding Internationa% Capita% ar3ets
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the purpose of capital %arkets, do%estic and international"
<" 3xplore the %a5or co%ponents of the international capital %arkets"
=" 8nderstand the role of international banks, invest%ent banks, securities fir%s, and financial
institutions"
What Are Internationa% Capita% ar3ets"
$ capita% .ar3et is basically a syste% in !hich people, co%panies, and govern%ents !ith an excess of
funds transfer those funds to people, co%panies, and govern%ents that have a shortage of funds" This
transfer %echanis% provides an efficient !ay for those !ho !ish to borro! or invest %oney to do so" For
exa%ple, every ti%e so%eone takes out a loan to buy a car or a house, they are accessing the capital
%arkets" Capital %arkets carry out the desirable econo%ic function of directing capital to productive uses"
There are t!o %ain !ays that so%eone accesses the capital %arkets-either as debt or e&uity" While there
are %any for%s of each, very si%ply, de-t is %oney thats borro!ed and %ust be repaid, and eHuit/ is
%oney that is invested in return for a percentage of o!nership but is not guaranteed in ter%s of repay%ent"
In essence, govern%ents, businesses, and people that save so%e portion of their inco%e invest their %oney
in capital %arkets such as stocks and bonds" The borro!ers +govern%ents, businesses, and people !ho
spend %ore than their inco%e, borro! the savers invest%ents through the capital %arkets" When savers
%ake invest%ents, they convert risk'free assets such as cash or savings into risky assets !ith the hopes of
receiving a future benefit" 1ince all invest%ents are risky, the only reason a saver !ould put cash at risk is if
returns on the invest%ent are greater than returns on holding risk'free assets" *asically, a higher rate of
return %eans a higher risk"
Capital %arkets pro%ote econo%ic efficiency" In the exa%ple, the beverage co%pany !ants to invest its
T;FF,FFF productively" There %ight be a nu%ber of fir%s around the !orld eager to borro! funds by issuing
a debt security or an e&uity security so that it can i%ple%ent a great business idea" Without issuing the
security, the borro!ing fir% has no funds to i%ple%ent its plans" *y shifting the funds fro% the beverage
co%pany to other fir%s through the capital %arkets, the funds are e%ployed to their %axi%u% extent" If there
!ere no capital %arkets, the beverage co%pany %ight have kept its T;FF,FFF in cash or in a lo!'yield
savings account" The other fir%s !ould also have had to put off or cancel their business plans"
Internationa% capita% .ar3ets are the sa%e %echanis% but in the global sphere, in !hich govern%ents,
co%panies, and people borro! and invest across national boundaries" In addition to the benefits and
purposes of a do%estic capital %arket, international capital %arkets provide the follo!ing benefits9
;" Higher returns and cheaper -orro2ing costs) These allo! co%panies and govern%ents to tap into foreign
%arkets and access ne! sources of funds" .any do%estic %arkets are too s%all or too costly for co%panies
to borro! in" *y using the international capital %arkets, co%panies, govern%ents, and even individuals can
borro! or invest in other countries for either higher rates of return or lo!er borro!ing costs"
<" 8i'ersif/ing ris3) The international capital %arkets allo! individuals, co%panies, and govern%ents to
access %ore opportunities in different countries to borro! or invest, !hich in turn reduces risk" The theory is
that not all %arkets !ill experience contractions at the sa%e ti%e"
The structure of the capital %arkets falls into t!o co%ponents-pri%ary and secondary"
The pri.ar/ .ar3et is !here ne! securities +stocks and bonds are the %ost co%%on, are issued" If a
corporation or govern%ent agency needs funds, it issues +sells, securities to purchasers in the pri%ary
%arket" *ig invest%ent banks assist in this issuing process as inter%ediaries" 1ince the pri%ary %arket is
li%ited to issuing only ne! securities, it is valuable but less i%portant than the secondary %arket"
The vast %a5ority of capital transactions take place in the secondar/ .ar3et" The secondary %arket
includes stock exchanges +the 4e! :ork 1tock 3xchange, the Iondon 1tock 3xchange, and the Tokyo
4ikkei,, bond %arkets, and futures and options %arkets, a%ong others" $ll these secondary %arkets deal in
the trade of securities" The ter% securities includes a !ide range of financial instru%ents" :oure probably
%ost fa%iliar !ith stocks and bonds" Investors have essentially t!o broad categories of securities available
to the%9 e&uity securities, !hich represent o!nership of a part of a co%pany, and debt securities, !hich
represent a loan fro% the investor to a co%pany or govern%ent entity"
Creditors, or debt holders, purchase debt securities and receive future inco%e or assets in return for their
invest%ent" The %ost co%%on exa%ple of a debt instru%ent is the -ond" When investors buy bonds, they
are lending the issuers of the bonds their %oney" In return, they !ill receive interest pay%ents usually at a
fixed rate for the life of the bond and receive the principal !hen the bond expires" $ll types of organi)ations
can issue bonds"
Stoc3s are the type of e&uity security !ith !hich %ost people are fa%iliar" When investors buy stock, they
beco%e o!ners of a share of a co%panys assets and earnings" If a co%pany is successful, the price that
investors are !illing to pay for its stock !ill often riseB shareholders !ho bought stock at a lo!er price then
stand to %ake a profit" If a co%pany does not do !ell, ho!ever, its stock %ay decrease in value and
shareholders can lose %oney" 1tock prices are also sub5ect to both general econo%ic and industry'specific
%arket factors"
The key to re%e%ber !ith either debt or e&uity securities is that the issuing entity, a co%pany or
govern%ent, only receives the cash in the pri%ary %arket issuance" (nce the security is issued, it is tradedB
but the co%pany receives no %ore financial benefit fro% that security" Co%panies are %otivated to %aintain
the value of their e&uity securities or to repay their bonds in a ti%ely %anner so that !hen they !ant to
borro! funds fro% or sell %ore shares in the %arket, they have the credibility to do so"
For co%panies, the global financial, including the currency, %arkets +;, provide stability and predictability, +<,
help reduce risk, and +=, provide access to %ore resources" (ne of the funda%ental purposes of the capital
%arkets, both do%estic and international, is the concept of %iHuidit/, !hich basically %eans being able to
convert a noncash asset into cash !ithout losing any of the principal value" In the case of global capital
%arkets, li&uidity refers to the ease and speed by !hich shareholders and bondholders can buy and sell their
securities and convert their invest%ent into cash !hen necessary" Ii&uidity is also essential for foreign
exchange, as co%panies dont !ant their profits locked into an illi&uid currency"
aBor Co.ponents of the Internationa% Capita% ar3ets
Internationa% !Huit/ ar3ets
International *ond .arkets
Foreign *ond
3urobond

A
8id 6ou 5no2"
$s the international bond %arket has gro!n, so too have the creative variations of bonds, in so%e cases to
%eet the specific needs of a buyer and issuer co%%unity" 6u,u,, an $rabic !ord, is a type of financing
instru%ent that is in essence an Isla%ic bond" The religious la! of Isla%, 1haria, does not per%it the
charging or paying of interest, so 1ukuk securities are structured to co%ply !ith the Isla%ic la!" 6$n I.F
study released in <FFR noted that the Issuance of Isla%ic securities +sukuk, rose fourfold to T<R billion during
<FF>DFG" While ;> types of sukuk are recogni)ed by the $ccounting and $uditing (rgani)ation of Isla%ic
Finance Institutions, their structure relies on one of the three basic for%s of legiti%ate Isla%ic finance,
%urabahah +synthetic loansSpurchase orders,, %usharakahS%udharabah +profit'sharing arrange%ents,, and
i5ara +sale'leasebacks,, or a co%bination thereof"7 J;K
The Economist notes 6that by <FFF, there !ere %ore than <FF Isla%ic banksQand today TRFF billion of
global assets are said to co%ply !ithsaria la!" 3ven so, traditional finance houses rather than Isla%ic
institutions continue to handle %ost @ulf oil %oney and other .usli% !ealth"7
6.ore !orrying still, the rules for Isla%ic finance are not unifor% around the !orld" $ u!aiti .usli% cannot
buy a .alaysian su,u, +saria'co%pliant bond, because of differing definitions of !hat constitutes usury
+interest," Indeed, a respected Isla%ic 5urist recently denounced %ostsu,u, as godless" 4or are banking
licenses granted easily in %ost .usli% countries" That is !hy big Isla%ic banks are so !eak" (ften they are
little %ore than loose collections of subsidiaries" They also lack ho%e'gro!n talent9 %ost senior staff are
poached fro% %ultinationals"7 *ut in <FFH, one entrepreneur, $dnan :ousif, %ade headlines as he tried to
change that and create the !orlds biggest Isla%ic bank" While his efforts are still in progress, its clear that
Isla%ic banking is a gro!ing and profitable industry niche" J<K
3urocurrency .arkets
(ffshore Centers
8id 6ou 5no2"
The Economist reported in Dece%ber <FFH that a 6poll of *loo%berg subscribers in (ctober found that
*ritain had dropped behind 1ingapore into third place as the city %ost likely to be the best financial hub t!o
years fro% no!" $ survey of executivesQby 3versheds, a la! fir%, found that 1hanghai could overtake
Iondon !ithin the next ten years"7 J=K .any of these changes in rank are due to local costs, taxes, and
regulations" Iondon has beco%e expensive for financial professionals, and changes in the regulatory and
political environ%ent have also lessened the citys i%%ediate popularity" Eo!ever, Iondon has re%ained a
pre%ier financial center for %ore than t!o centuries, and it !ould be too soon to assu%e its days as one of
the global financial hubs is over"
3thics in $ction
(ffshore financial centers have also co%e under criticis%" .any people critici)e these countries because
corporations and individuals hide !ealth there to avoid paying taxes on it" .any offshore centers are
countries that have a )ero'tax basis, !hich has earned the% the title of ta& a'ens"
The Economist notes that offshore financial centers
are typically s%all 5urisdictions, such as .acau, *er%uda, Iiechtenstein or @uernsey, that %ake their living
%ainly by attracting overseas financial capital" What they offer foreign businesses and !ell'heeled
individuals is lo! or no taxes, political stability, business'friendly regulation and la!s, and above all
discretion" *ig, rich countries see (FCs as the !eak link in the global financial chainQ
The %ost obvious use of (FCs is to avoid taxes" .any successful offshore 5urisdictions keep on the right
side of the la!, and %any of the !orldYs richest people and its biggest and %ost reputable co%panies use
the% &uite legally to %ini%ise their tax liability" *ut the onshore !orld takes a hostile vie! of the%" (ffshore
tax havens have 6declared econo%ic !ar on honest 81 taxpayers,7 says Carl Ievin, an $%erican senator"
Ee points to a study suggesting that $%erica loses up to TRF billion a year to tax havensQ
*usiness in (FCs is boo%ing, and as a group these 5urisdictions no longer sit at the fringes of the global
econo%y" (ffshore holdings no! run to T? trillionDR trillion, five ti%es as %uch as t!o decades ago, and
%ake up perhaps GDO percent of !orld!ide !ealth under %anage%ent, according to Neffrey (!ens, head of
fiscal affairs at the (3CD" Cay%an, a trio of islands in the Caribbean, is the !orldYs fifth'largest banking
centre, !ith T;"> trillion in assets" The *ritish Pirgin Islands +*PI, are ho%e to al%ost RFF,FFF offshore
co%panies"
$ll this has been very good for the (FCs econo%ies" *et!een ;HO< and <FF= they gre! at an annual
average rate per person of <"O percent, over t!ice as fast as the !orld as a !hole +;"< percent,, according to
a study by Na%es Eines of the 8niversity of .ichigan" Individual (FCs have done even better" *er%uda is
the richest country in the !orld, !ith a @DC per person esti%ated at al%ost TRF,FFF, co%pared !ith T>=,?FF
for $%ericaQ(n average, the citi)ens of Cay%an, Nersey, @uernsey and the *PI are richer than those in
%ost of 3urope, Canada and Napan" This has encouraged other countries !ith s%all do%estic %arkets to set
up financial centres of their o!n to pull in offshore %oney-%ost spectacularly Dubai but also u!ait, 1audi
$rabia, 1hanghai and even 1udanYs hartou%, not so far fro% !ar'ravaged Darfur"
@lobalisation has vastly increased the opportunities for such business" $s co%panies beco%e ever %ore
%ultinational, they find it easier to shift their activities and profits across borders and into (FCs" $s the !ell'
to'do lead increasingly peripatetic lives, !ith 5obs far fro% ho%e, %ansions scattered across continents and
invest%ents around the !orld, they can keep and %anage their !ealth any!here" Financial liberalisation-
the eli%ination of capital controls and the like-has %ade all of this easier" 1o has the internet, !hich allo!s
%oney to be shifted around the !orld &uickly, cheaply and anony%ously" J>K
For %ore on these controversial offshore centers, please see the full article
at http9SS!!!"econo%ist"co%SnodeSOGH?;=H"
The Ro%e of Internationa% *an3s1 In'est.ent *an3s1 Securities Fir.s1 and $%o-a% Financia% Fir.s
The role of international banks, invest%ent banks, and securities fir%s has evolved in the past fe! decades"
Iets take a look at the pri%ary purpose of each of these institutions and ho! it has changed, as %any have
%erged to beco%e global financial po!erhouses"
Traditionally, international banks extended their do%estic role to the global arena by servicing the needs of
%ultinational corporations +.4C," These banks not only received deposits and %ade loans but also provided
tools to finance exports and i%ports and offered sophisticated cash'%anage%ent tools, including foreign
exchange" For exa%ple, a co%pany purchasing products fro% another country %ay need short'ter%
financing of the purchaseB electronic funds transfers +also called !ires,B and foreign exchange transactions"
International banks provide all these services and %ore"
In broad strokes, there are different types of banks, and they %ay be divided into several groups on the basis
of their activities" 2etail banks deal directly !ith consu%ers and usually focus on %ass'%arket products such
as checking and savings accounts, %ortgages and other loans, and credit cards" *y contrast, private banks
nor%ally provide !ealth'%anage%ent services to fa%ilies and individuals of high net !orth" *usiness banks
provide services to businesses and other organi)ations that are %ediu% si)ed, !hereas the clients of
corporate banks are usually %a5or business entities" Iastly, invest%ent banks provide services related to
financial %arkets, such as %ergers and ac&uisitions" Invest%ent banks also focused pri%arily on the creation
and sale of securities +e"g", debt and e&uity, to help co%panies, govern%ents, and large institutions achieve
their financing ob5ectives" 2etail, private, business, corporate, and invest%ent banks have traditionally been
separate entities" $ll can operate on the global level" In %any cases, these separate institutions have
recently %erged, or !ere ac&uired by another institution, to create global financial po!erhouses that no!
have all types of banks under one giant, global corporate u%brella"
Eo!ever the %erger of all of these types of banking fir%s has created global econo%ic challenges" In the
8nited 1tates, for exa%ple, these t!o types-retail and invest%ent banks-!ere barred fro% being under
the sa%e corporate u%brella by the $%ass;Steaga%% Act" 3nacted in ;H=< during the @reat Depression, the
@lass'1teagall $ct, officially called the *anking 2efor% $ct of ;H==, created the Federal Deposit Insurance
Corporations +FDIC, and i%ple%ented bank refor%s, beginning in ;H=< and continuing through ;H==" These
refor%s are credited !ith providing stability and reduced risk in the banking industry for decades" $%ong
other things, it prohibited bank'holding co%panies fro% o!ning other financial co%panies" This served to
ensure that invest%ent banks and banks !ould re%ain separate-until ;HHH, !hen @lass'1teagall !as
repealed" 1o%e analysts have critici)ed the repeal of @lass'1teagall as one cause of the <FFRDO financial
crisis"
*ecause of the si)e, scope, and reach of 81 financial fir%s, this historical reference point is i%portant in
understanding the i%pact of 81 fir%s on global businesses" In ;HHH, once bank'holding co%panies !ere
able to o!n other financial services fir%s, the trend to!ard creating global financial po!erhouses increased,
blurring the line bet!een !hich services !ere conducted on behalf of clients and !hich business !as being
%anaged for the benefit of the financial co%pany itself" @lobal businesses !ere also part of this trend, as
they sought the largest and strongest financial players in %ultiple %arkets to service their global financial
needs" If a co%pany has operations in t!enty countries, it prefers t!o or three large, global banking
relationships for a %ore cost'effective and lo!er'risk approach" For exa%ple, one large bank can provide
services %ore cheaply and better %anage the co%panys currency exposure across %ultiple %arkets" (ne
large financial co%pany can offer %ore sophisticated risk'%anage%ent options and products" The challenge
has beco%e that in so%e cases, the party on the opposite side of the transaction fro% the global fir% has
turned out to be the global financial po!erhouse itself, creating a conflict of interest that %any feel !ould not
exist if @lass'1teagall had not been repealed" The issue re%ains a point of ongoing discussion bet!een
co%panies, financial fir%s, and policy%akers around the !orld" .ean!hile, global businesses have
benefited fro% the expanded services and capabilities of the global financial po!erhouses"
For exa%ple, 81'based Citigroup is the !orlds largest financial services net!ork, !ith ;G,FFF offices in ;GF
countries and 5urisdictions, holding <FF %illion custo%er accounts" Its a financial po!erhouse !ith
operations in retail, private, business, and invest%ent banking, as !ell as asset %anage%ent" Citibanks
global reach %ake it a good banking partner for large global fir%s that !ant to be able to %anage the
financial needs of their e%ployees and the co%panys operations around the !orld"
In fact this strength is a core part of its %arketing %essage to global co%panies and is even posted on its
!ebsite +http9SS!!!"citigroup"co%ScitiSproductsSinstinvest"ht%,9 6Citi puts the !orlds largest financial net!ork
to !ork for you and your organi)ation"7
!thics in Action
(utsourcing Day Trading to China
$%erican and Canadian trading fir%s are hiring Chinese !orkers to 6day trade7 fro% China during the hours
the $%erican stock %arket is open" In essence, day trading or speculative trading occurs !hen a trader buys
and sells stock &uickly throughout the day in the hopes of %aking &uick profits" The 4ew Yor,
Times reported that as %any as ;F,FFF Chinese, %ainly young %en, are busy !orking the night shift in
Chinese cities fro% H9=F p"%" to > a"%", !hich are the hours that the 4e! :ork 1tock 3xchange is open in
4e! :ork"
The %otivation is severalfold" First, $%erican and Canadian fir%s are looking to access !ealthy Chinese
clients !ho are technically not allo!ed to use Chinese currency to buy and sell shares on a foreign stock
exchange" Eo!ever, there are no restrictions for trading stocks in accounts o!ned by a foreign entity, !hich
in this case usually belongs to the trading fir%s" Chinese traders also get paid less than their $%erican and
Canadian counterparts"
There are ethical concerns over this arrange%ent because it isnt clear !hether the use of traders in China
violates $%erican and Canadian securities la!s" In a 4ew Yor, Times article &uotes Tho%as N" 2ice, an
expert in securities la! at *aker V .cen)ie, !ho states, 6This is a 5urisdictional %ess for the 8"1"
regulators" $re these Chinese traders essentially acting as brokers# If they are, they !ould need to be
registered in the 8"1"7 While the regulatory issues %ay not be clear, the trading fir%s are doing !ell and
gro!ing9 6%any Chinese day traders see this as an opportunity to &uickly gain ne! riches"7 1o%e $%erican
and Canadian trading fir%s see the opportunity to get 6profit fro% trading operations in China through a
co%bination of cheap overhead, rebates and other financial incentives fro% the %a5or stock exchanges, and
pent'up de%and for broader invest%ent options a%ong Chinas elite"7 J?K

5!6 TA5!AWA6S
Capital %arkets provide an efficient %echanis% for people, co%panies, and govern%ents !ith %ore
funds than they need to transfer those funds to people, co%panies, or govern%ents !ho have a
shortage of funds"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is a capital %arket# What is an international capital %arket#
<" What is the role of bond and e&uity %arkets"
=" 1elect one global financial center and research its history and evolution to present ti%es" Do you feel
that the center !ill re%ain influential# Why or !hy not# Which other global financial centers co%pete
!ith the one you have chosen#

Chapter ?
!(porting1 I.porting1 and $%o-a% Sourcing
WHATS IN IT FOR !"
;" What are i%porting and exporting#
<" What is global sourcing#
$ %a5or part of international business is, of course, i%porting and exporting" $n increase in the level of
exports and i%ports is, after all, one of the sy%pto%s of a flattening !orld" In a flat !orld, goods and services
can flo! fluidly fro% one part of the globe to another" In 1ection ?"; AWhat is I%porting and 3xporting#A youll
take a &uick look back in ti%e to see i%porting and exporting in their historical context" Then, youll discover
the reasons !hy co%panies export, as !ell as the pitfalls and risks associated !ith exporting" 4ext, youll
venture into %ore speciali)ed %odes of entry into an international %arket, %oving progressively fro% the
least expensive to the %ost expensive options"
In 1ection ?"< A@lobal 1ourcing and Its 2ole in *usinessA, youll explore global sourcing and study the best
practices to %anage sourcing, to 5udge &uality fro% afar, and to i%prove sustainability through !ell'planned
sourcing thats beneficial to the environ%ent" :oull understand !hat outsourcing is, !hy co%panies
outsource, and !hat the hidden costs of outsourcing are" 1o%e of these costs are related to the fact that the
!orld is not all that flat! :oull see tips for %anaging outsourced services and look at the opportunities that
outsourcing offers entrepreneurs"
Opening Case# G;Ce%%s
`'Cells exe%plifies the successes and challenges of global i%porting and exporting" Founded in @er%any in
;HHH, the co%pany beca%e the largest %anufacturer of solar cells !orld!ide" J;K *y <F;F, ho!ever, it !as
experiencing losses due, in part, to %isti%ing so%e of the entry strategies that are covered in 1ection ?";
AWhat is I%porting and 3xporting#A"
First, its i%portant to kno! that @er%any is a high'cost %anufacturing country co%pared to China or
1outheast $sia" (n the other hand, @er%any is kno!n for its engineering pro!ess" `'Cells ga%bled that
custo%ers !ould be !illing to pay a pre%iu% for @er%an'%ade solar panels" +:oull learn %ore about this
6country of origin7 factor in Chapter R ACo%peting 3ffectively through @lobal .arketing, Distribution, and
1upply'Chain .anage%entA", The trouble !as that solar cells arent that sophisticated or co%plex to
%anufacture, and $sian co%petitors !ere able to provide reliable products at =F percent less cost than `'
Cells"

The Cost $dvantage

`'Cells recogni)ed the $sian cost advantage-not only are labor and utility costs lo!er in $sia, but so are
the selling, general, and ad%inistrative +1@V$, costs" Whats %ore, govern%ents like China provide
significant tax breaks to attract solar co%panies to their countries" 1o, `'Cells opened a %anufacturing plant
in .alaysia" (nce the .alaysian plant is fully ra%ped up, the costs to %anufacture solar cells there !ill be =F
percent less than at the `'Cells plant in @er%any"
Then, `'Cells entered into a 5oint venture !ith China'based ID, in !hich `'Cells used ID silicon !afers
to %ake its solar cells" The t!o co%panies also used each others respective expertise to %arket their
products in China and 3urope" J<K $lthough the 5oint venture gave `'Cells local kno!ledge of the Chinese
%arket, it also locked `'Cells into buying !afers fro% ID" These !afers !ere priced higher than those `'
Cells could source on the spot %arket" $s a result, `'Cells !as paying about <F cents %ore for its !afers
than co%petitors !ere paying" Thus, in the short ter%, the 5oint venture hurt `'Cells" Eo!ever, the co%pany
!as able to renegotiate the price it !ould pay for ID !afers"
To stay cost co%petitive, `'Cells has decided to outsource its solar'panel production to contract
%anufacturer Flextronics International" `'Cells co%petitors, 1unCo!er Corp" and *Cs solar unit, also have
outsourced production to contract %anufacturers" The outsourcing has not only saved %anufacturing costs
but also brought the products physically closer to the $sian %arket !here the greatest de%and is currently"
This has reduced the costs of shipping, breakage, and inventory carrying" J=K
Opening Case !(ercises
+$$C1*9 3thical 2easoning, .ulticulturalis%, 2eflective Thinking, $nalytical 1kills,
;" Do you think `'Cells could have avoided its current financial troubles# What could they have done
differently#
<" Do you see i%port or export opportunities for entrepreneurs or s%all businesses in the solar industry# What
advice !ould you give the%#
?)1 What is I.porting and !(porting"
&!ARNIN$ O*+!CTI,!S
;" 8nderstand !hat i%porting and exporting are"
<" Iearn !hy co%panies export"
=" 3xplain the %ain contractual and invest%ent entry %odes"
What 8o We ean -/ !(porting and I.porting"
The history of i%porting and exporting dates back to the 2o%an 3%pire, !hen 3uropean and $sian traders
i%ported and exported goods across the vast lands of 3urasia" Trading along the Si%3 Road flourished
during the thirteenth and fourteenth centuries" J;K Caravans laden !ith i%ports fro% China and India ca%e
over the desert to Constantinople and $lexandria" Fro% there, Italian ships transported the goods to
3uropean ports" J<K
For centuries, i%porting and exporting has often involved inter%ediaries, due in part to the long distances
traveled and different native languages spoken" The spice trade of the ;>FFs !as no exception" 1pices !ere
very %uch in de%and because 3uropeans had no refrigeration, !hich %eant they had to preserve %eat
using large a%ounts of salt or risk eating half'rotten flesh" 1pices disguised the other!ise poor flavor of the
%eat" 3uropeans also used spices as %edicines" The 3uropean de%and for spices gave rise to the spice
trade" J=K The trouble !as that spices !ere difficult to obtain because they gre! in 5ungles half a !orld a!ay
fro% 3urope" The overland 5ourney to the spice'rich lands !as arduous and involved %any %iddle%en along
the !ay" 3ach %iddle%an charged a fee and thus raised the price of the spice at each point" *y the end of
the 5ourney, the price of the spice !as inflated ;,FFF percent" J>K
$s explained in +2eference f!k';GO=OO'ch;F not found in *ook,, e(porting is defined as the sale of
products and services in foreign countries that are sourced or %ade in the ho%e country" I%porting is the
flipside of exporting"I.porting refers to buying goods and services fro% foreign sources and bringing the%
back into the ho%e country" I%porting is also kno!n as global sourcing, !hich !ill be exa%ined in depth
in +2eference f!k';GO=OO'ch;;asF> not found in *ook,"
An !ntrepreneurs I.port Success Stor/
1elena Cuffe started her !ine i%port co%pany, Eeritage Iink *rands, in <FF?" I%porting !ine isnt ne!, but
Cuffe did it !ith a t!ist9 she focused on i%porting !ine produced by black 1outh $fricans" Cuffe got the idea
after attending a !ine festival in 1o!eto, !here she sa! %ore than five hundred !ines fro% eighty'six
producers sho!cased" J?K Cuffe did so%e %arket research and learned of the T= billion !ine industry in
$frica" 1he also sa! a gap in the existing %arket related to !ine produced by indigenous $frican vintners
and decided to fill it" 1he started her co%pany !ith TRF,FFF, financed through her savings and credit cards"
+In +2eference f!k';GO=OO'ch;;asF? not found in *ook,, youll learn about other sources of financing
available to entrepreneurs and s%all businesses as !ell as to larger enterprises", In the first year, sales !ere
only T;FF,FFF but then 5u%ped to T; %illion in the second year, !hen Cuffe sold to %ore than one thousand
restaurants, retailers, and grocery stores" JGK 3ven better, $%erican $irlines began carrying Cuffes i%ported
!ines on flights, thus providing a steady flo! of business a%id the %ore uncertain restaurant
%arket" JRK Cuffe has attributed her success to passion as !ell as to patience for %eeting the %ultiple
regulations re&uired !hen running an i%port business" JOK +:oull learn %ore about these regulations
in +2eference f!k';GO=OO'ch;;asF> not found in *ook,,"
3xporting is an effective entry strategy for co%panies that are 5ust beginning to enter a ne! foreign %arket"
Its a lo!'cost, lo!'risk option co%pared to the other strategies" These sa%e reasons %ake exporting a good
strategy for s%all and %idsi)e co%panies that cant or !ont %ake significant financial invest%ent in the
international %arket"
Co%panies can sell into a foreign country either through a local distributor or through their o!n salespeople"
.any govern%ent export'trade offices can help a co%pany find a local distributor" Increasingly, the Internet
has provided a %ore efficient !ay for foreign co%panies to find local distributors and enter into co%%ercial
transactions"
8istri-utors are export inter%ediaries !ho represent the co%pany in the foreign %arket" (ften, distributors
represent %any co%panies, acting as the 6face7 of the co%pany in that country, selling products, providing
custo%er service, and receiving pay%ents" In %any cases, the distributors take title to the goods and then
resell the%" Co%panies use distributors because distributors kno! the local %arket and are a cost'effective
!ay to enter that %arket"
Eo!ever, using distributors to help !ith export can have its o!n challenges" For exa%ple, so%e co%panies
find that if they have a dedicated salesperson !ho travels fre&uently to the country, theyre likely to get %ore
sales than by relying solely on the distributor" (ften, thats because distributors sell %ultiple products and
so%eti%es even co%peting ones" .aking sure that the distributor favors one fir%s product over another
product can be hard to %onitor" In countries like China, so%e co%panies find that-culturally-Chinese
consu%ers %ay be %ore likely to buy a product fro% a foreign co%pany than fro% a local distributor,
particularly in the case of a co%plicated, high'tech product" 1i%ply put, the Chinese are %ore likely to trust
that the overseas salesperson kno!s their product better"
Wh/ 8o Co.panies !(port"
Co%panies export because its the easiest !ay to participate in global trade, its a less costly invest%ent
than the other entry strategies, and its %uch easier to si%ply stop exporting than it is to extricate oneself
fro% the other entry %odes" $n export partner in the for% of either a distributor or an export %anage%ent
co%pany can facilitate this process" $ne(port .anage.ent co.pan/ 0!C4 is an independent co%pany
that perfor%s the duties that a fir%s o!n export depart%ent !ould execute" The 3.C handles the necessary
docu%entation, finds buyers for the export, and takes title of the goods for direct export" In return, the 3.C
charges a fee or co%%ission for its services" *ecause an 3.C perfor%s all the functions that a fir%s export
depart%ent !ould, the fir% doesnt have to develop these internal capabilities" .ost of all, exporting gives a
co%pany &uick access to ne! %arkets"
*enefits of !(porting# ,itrac
3gyptian co%pany Pitrac !as founded by .ounir Fakhry $bdel 4our to take advantage of 3gypts surplus
fruit products" $t its inception, Pitrac sourced local fruit, %ade it into 5a%, and exported it !orld!ide" Pitrac
has ac&uired %oney, %arket, and %anufacturing advantages fro% exporting9 JHK
ar3et) The co%pany has access to a ne! %arket, !hich has brought added revenues"
one/) 4ot only has Pitrac earned %ore revenue, but it has also gained access to foreign currency, !hich
benefits co%panies located in certain regions of the !orld, such as in Pitracs ho%e country of 3gypt"
anufacturing) The cost to %anufacture a given unit decreased because Pitrac has been able to
%anufacture at higher volu%es and buy source %aterials in higher volu%es, thus benefitting fro% volu%e
discounts"
2isks of 3xporting
There are risks in relying on the export option" If you %erely export to a country, the distributor or buyer %ight
s!itch to or at least threaten to s!itch to a cheaper supplier in order to get a better price" (r so%eone %ight
start %aking the product locally and take the %arket fro% you" $lso, local buyers so%eti%es believe that a
co%pany !hich only exports to the% isnt very co%%itted to providing long'ter% service and support once a
sale is co%plete" Thus, they %ay prefer to buy fro% so%eone !hos producing directly !ithin the country" $t
this point, %any co%panies begin to reconsider having a local presence, !hich %oves the% to!ard one of
the other entry options"
!thics in Action
Different Countries, Different Food and Drug 2ules
Carticular products, especially foods and drugs, are often sub5ect to local la!s regarding safety, purity,
packaging, labeling, and so on" Co%panies that !ant to %ake a product that can be sold in %ultiple countries
!ill have to co%ply !ith the highest co%%on deno%inator of all the la!s of all the target %arkets" Co%plying
!ith the highest standard could increase the overall cost of the product" $s a result, so%e co%panies opt to
stay out of %arkets !here co%pliance !ith the regulation !ould be %ore costly" Is it ethical to be selling a
product in one country that another country dee%s substandard#
Specia%ized !ntr/ odes# Contractua%
3xporting is a easy !ay to enter an international %arket" In addition to exporting, co%panies can choose to
pursue %ore speciali)ed %odes of entry-na%ely, contracutal %odes or invest%ent %odes" Contractual
%odes involve the use of contracts rather than invest%ent" Iets look at the t!o %ain contractual entry
%odes, licensing and franchsing"
&icensing
&icensing is defined as the granting of per%ission by the licenser to the licensee to use intellectual property
rights, such as trade%arks, patents, brand na%es, or technology, under defined conditions" The possibility of
licensing %akes for a flatter !orld, because it creates a legal vehicle for taking a product or service delivered
in one country and providing a nearly identical version of that product or service in another country" 8nder a
licensing agree%ent, the %ultinational fir% grants rights on its intangible property to a foreign co%pany for a
specified period of ti%e" The licenser is nor%ally paid a royalty on each unit produced and sold" $lthough the
%ultinational fir% usually has no o!nership interests, it often provides ongoing support and advice" .ost
co%panies consider this %arket'entry option of licensing to be a lo!'risk option because theres typically no
up'front invest%ent"
For a %ultinational fir%, the advantage of licensing is that the co%panys products !ill be %anufactured and
%ade available for sale in the foreign country +or countries, !here the product or service is licensed" The
%ultinational fir% doesnt have to expend its o!n resources to %anufacture, %arket, or distribute the goods"
This lo! cost, of course, is coupled !ith lo!er potential returns, because the revenues are shared bet!een
the parties"
Franchising
1i%ilar to a licensing agree%ent, under a franchising agree%ent, the %ultinational fir% grants rights on its
intangible property, like technology or a brand na%e, to a foreign co%pany for a specified period of ti%e and
receives a royalty in return" The difference is that the franchiser provides a bundle of services and products
to the franchisee" For exa%ple, .cDonalds expands overseas through franchises" 3ach franchise pays
.cDonalds a franchisee fee and a percentage of its sales and is re&uired to purchase certain products fro%
the franchiser" In return, the franchisee gets access to all of .cDonalds products, syste%s, services, and
%anage%ent expertise"
Specia%ized !ntr/ odes# In'est.ent
*eyond contractual relationships, fir%s can also enter a foreign %arket through one of t!o invest%ent
strategies9 a 5oint venture or a !holly o!ned subsidiary"
+oint ,entures
$n eHuit/ Boint 'enture is a contractual, strategic partnership bet!een t!o or %ore separate business
entities to pursue a business opportunity together" The partners in an e&uity 5oint venture each contribute
capital and resources in exchange for an e&uity stake and share in any resulting profits" +In a nonentity 5oint
venture, there is no contribution of capital to for% a ne! entity",
To see ho! an e&uity 5oint venture !orks, lets return to the exa%ple of 3gyptian co%pany, Pitrac" .ounir
Fakhry $bdel 4our founded his 5a% co%pany to take advantage of 3gypts surplus fruit products" $bdel 4our
initially approached the French 5a% co%pany, Pitrac, to enter into a 5oint venture !ith his ne!ly founded
co%pany, Pitrac3gypt" $bdel 4our supplied the fruit and the %arkets, !hile his French partner supplied the
technology and kno!'ho! for producing 5a%s"
In addition to exporting to $ustralia, the 8nited 1tates, and the .iddle 3ast, Pitrac began exporting to Napan"
1ales results fro% Napan indicated a high de%and for blueberry 5a%" To %eet this de%and-in an interesting
t!ist, given Pitracs origin-Pitrac had to i%port blueberries fro% Canada" Pitrac thus !as i%porting
blueberries fro% Canada, %anufacturing the 5a% in 3gypt, and exporting it to Napan" J;FK
8sing French Pitracs %anufacturing kno!'ho!, $bdel 4our had found a ne! supply and the opportunity to
enter ne! %arkets !ith it, thus expanding his partners reach" The partnership fit !as good" The t!o
co%panies 5oint venture continued for three years, until the French co%pany sold its shares to $bdel 4our,
%aking Pitrac a ;FF percent o!ned and operated 3gyptian co%pany" $bdel 4ours co%pany reached T<<
%illion in sales and !as the 3gyptian 5a%'%arket leader before being bought by a larger 1!iss co%pany,
Eero" J;;K
2isks of Noint Pentures
3&uity 5oint ventures pose both opportunities and challenges for the co%panies involved" First and fore%ost
is the challenge of finding the right partner-not 5ust in ter%s of business focus but also in ter%s of
co%patible cultural perspectives and %anage%ent practices"
1econd, the local partner %ay gain the kno!'ho! to produce its o!n co%petitive product or service to rival
the %ultinational fir%" This is !hats currently happening in China" To %anufacture cars in China, non'
Chinese co%panies %ust set up 5oint ventures !ith Chinese auto%akers and share technology !ith the%"
(nce the contract ends, ho!ever, the local co%pany %ay take the kno!ledge it gained fro% the 5oint venture
to co%pete !ith its for%er partner" For exa%ple, 1hanghai $uto%otive Industry +@roup, Corporation, !hich
!orked !ith @eneral .otors +@., to build Chevrolets, has plans to increase sales of its o!n vehicles tenfold
to =FF,FFF in five years and to co%pete directly !ith its for%er partner" J;<K
8id 6ou 5no2"
In the past, 5oint ventures !ere the only relationship foreign co%panies could for% !ith Chinese co%panies"
In fact, prior to ;HOG, foreign co%panies could not !holly o!n a local subsidiary" The Chinese govern%ent
began to allo! e&uity 5oint ventures in ;HRH, !hich %arked the beginning of the (pen Door Colicy, an
econo%ic liberali)ation initiative" The Chinese govern%ent strongly encouraged e&uity 5oint ventures as a
!ay to gain access to the technology, capital, e&uip%ent, and kno!'ho! of foreign co%panies" The risk to
the foreign co%pany !as that if the venture soured, the Chinese co%pany could end up keeping all of these
assets" (ften, Chinese co%panies only contributed things like land or tax concessions that foreign
co%panies couldnt keep if the venture ended" $s of <F;F, e&uity 5oint ventures bet!een a Chinese co%pany
and a foreign partner re&uire a %ini%u% e&uity invest%ent by the foreign partner of at least == to RF percent
of the e&uity, but theres no %ini%u% invest%ent set for the Chinese partner" J;=K
Wholly (!ned 1ubsidiaries
Fir%s %ay !ant to have a direct operating presence in the foreign country, co%pletely under their control" To
achieve this, the co%pany can establish a ne!, !holly o!ned subsidiary +i"e", a greenfield venture, fro%
scratch, or it can purchase an existing co%pany in that country" 1o%e co%panies purchase their resellers or
early partners +as Pitrac3gypt did !hen it bought out the shares that its partner, Pitrac, o!ned in the e&uity
5oint venture," (ther co%panies %ay purchase a local supplier for direct control of the supply" This is kno!n
as vertical integration"
3stablishing or purchasing a !holly o!ned subsidiary re&uires the highest co%%it%ent on the part of the
international fir%, because the fir% %ust assu%e all of the risk-financial, currency, econo%ic, and political"
8id 6ou 5no2"
.cDonalds has a plant in Italy that supplies all the buns for .cDonalds restaurants in Italy, @reece, and
.alta" International sales has accounted for as %uch as GF percent of .cDonalds annual revenue" J;>K
Cautions When Purchasing an !(isting Foreign !nterprise
$s !eve seen, so%e co%panies opt to purchase an existing co%pany in the foreign country outright as a
!ay to get into a foreign %arket &uickly" When %aking an ac&uisition, due diligence is i%portant-not only on
the financial side but also on the side of the countrys culture and business practices" The annual disposable
inco%e in 2ussia, for exa%ple, exceeds that of all the other *2IC countries +i"e", *ra)il, India, and China,"
For %any %a5or co%panies, 2ussia is too big and too rich to ignore as a %arket" Eo!ever, 2ussia also has a
reputation for corruption and red tape that even its highest'ranking officials ad%it" Cresidential econo%ic
advisor $rkady Dvorkovich +!hose office in the re%lin !as once occupied by 1oviet leader Ieonid
*re)hnev,, for exa%ple, advises, 6Investors should choose !isely7 !hich regions of 2ussia they locate their
business in, !arning that so%e areas are %ore corrupt than others" J;?KCorruption %akes the !orld less flat
precisely because it under%ines the viability of legal vehicles, such as licensing, !hich other!ise lead to a
flatter !orld"
The culture of corruption is even e%bedded into so%e 2ussian co%pany structures" In the ;HHFs, la!s
inadvertently encouraged 2ussian fir%s to establish legal head&uarters in offshore tax havens, like Cyprus"
$ ta( ha'en is a country that has very advantageous +lo!, corporate inco%e taxes"
*usinesses registered in these offshore tax havens to avoid certain 2ussian taxes" 3ven though co%panies
could obtain a refund on these taxes fro% the 2ussian govern%ent, 6the procedure is so co%plicated you
never actually get a refund,7 said $ndrey Co)dnyakov, cofounder of 1iberian'based 3lecard" J;GK
This offshore registration, unfortunately, is a danger sign to potential investors like Intel" 6We cant invest in
co%panies that have even a slight shado!,7 said Intels .osco!'based regional director D%itry onash
about the co%plex structure predica%ent" J;RK
8id 6ou 5no2"
1o%e foreign co%panies believe that o!ning their o!n operations in China is an easier option than having to
deal !ith a Chinese partner" For exa%ple, %any foreign co%panies still fear that their Chinese partners !ill
learn too %uch fro% the% and beco%e co%petitors" Eo!ever, in %ost cases, the Chinese partner kno!s the
local culture-both that of the custo%ers and !orkers-and is better e&uipped to deal !ith Chinese
bureaucracy and regulations" In addition, even !holly o!ned subsidiaries cant be totally independent of
Chinese fir%s, on !ho% they %ight have to rely for ra! %aterials and shipping as !ell as %aintenance of
govern%ent contracts and distribution channels"
Collaborations offer different kinds of opportunities and challenges than self'handling Chinese operations"
For %ost co%panies, the local nuances of the Chinese %arket %ake so%e for% of collaboration desirable"
The co%panies that opt to self'handle their Chinese operations tend to be very large andSor have a
proprietary technology base, such as high'tech or aerospace co%panies-for exa%ple, *oeing or .icrosoft"
3ven then, these co%panies tend to hire senior Chinese %anagers and consultants to facilitate their %arket
entry and then help %anage their expansion" 4evertheless, navigating the local Chinese bureaucracy is
tough, even for the %ost'experienced co%panies"
Iets take a deeper look at one co%panys entry path and its !holly o!ned subsidiary in China" 3%braer is
the largest aircraft %aker in *ra)il and one of the largest in the !orld" 3%braer chose to enter China as its
first foreign %arket, using the 5oint'venture entry %ode" In <FF=, 3%braer and the $viation Industry
Corporation of China 5ointly started the Earbin 3%braer $ircraft Industry" $ year later, Earbin 3%braer began
%anufacturing aircraft"
In <F;F, 3%braer announced the opening of its first subsidiary in China" The subsidiary, called 3%braer
China $ircraft Technical 1ervices Co" Itd", !ill provide logistics and spare'parts sales, as !ell as consulting
services regarding technical issues and flight operations, for 3%braer aircraft in China +both for existing
aircraft and those on order," 3%braer !ill invest T;O %illion into the subsidiary !ith a goal of strengthening its
local custo%er support, given the steady gro!th of its business in China"
@uan Dongyuan, president of 3%braer China and C3( of the subsidiary, said the establish%ent of 3%braer
China $ircraft Technical 1ervices de%onstrates the co%panys 6long'ter% co%%it%ent and confidence in the
gro!ing Chinese aviation %arket"7 J;OK
*ui%ding &ong;Ter. Re%ationships
Developing a good relationship !ith regulators in target countries helps !ith the long'ter% entry strategy"
*uilding these relationships %ay include keeping people in the countries long enough to for% good ties,
since a deal negotiated !ith one person %ay fall apart if that person returns too &uickly to head&uarters"
8id 6ou 5no2"
(ne of the %ost i%portant cultural factors in China is guan&i +pronouncedguan si,, !hich is loosely defined
as a connection based on reciprocity" 3ven !hen 5ust %eeting a ne! co%pany or potential partner, its best
to have an introduction fro% a co%%on business partner, vendor, or supplier-so%eone the Chinese !ill
respect" China is a relationship'based society" 2elationships extend !ell beyond the personal side and can
drive business as !ell" With guanxi, a person invests !ith relationships %uch like one !ould invest !ith
capital" In a sense, its akin to the Western phrase 6:ou o!e %e one"7
@uanxi can potentially be beneficial or har%ful" $t its best, it can help foster strong, har%onious relationships
!ith corporate and govern%ent contacts" $t its !orst, it can encourage bribery and corruption" Whatever the
case, co%panies !ithout guanxi !ont acco%plish %uch in the Chinese %arket" .any co%panies address
this need by entering into the Chinese %arket in a collaborative arrange%ent !ith a local Chinese co%pany"
This entry option has also been a useful !ay to circu%vent regulations governing bribery and corruption, but
it can raise ethical &uestions, particularly for $%erican and Western co%panies that have a different cultural
perspective on gift giving and bribery"
Conc%usion
In su%%ary, !hen deciding !hich %ode of entry to choose, co%panies should ask the%selves t!o key
&uestions9
;" Eo! %uch of our resources are !e !illing to co%%it# The fe!er the resources +i"e", %oney, ti%e, and
expertise, the co%pany !ants +or can afford, to devote, the better it is for the co%pany to enter the foreign
%arket on a contractual basis-through licensing, franchising, %anage%ent contracts, or turnkey pro5ects"
<" Eo! %uch control do !e !ish to retain# The %ore control a co%pany !ants, the better off it is establishing or
buying a !holly o!ned subsidiary or, at least, entering via a 5oint venture !ith carefully delineated
responsibilities and accountabilities bet!een the partner co%panies"
2egardless of !hich entry strategy a co%pany chooses, several factors are al!ays i%portant"
Cu%tura% and %inguistic differences) These affect all relationships and interactions inside the co%pany, !ith
custo%ers, and !ith the govern%ent" 8nderstanding the local business culture is critical to success"
Gua%it/ and training of %oca% contacts and<or e.p%o/ees)3valuating skill sets and then deter%ining if the
local staff is &ualified is a key factor for success"
Po%itica% and econo.ic issues) Colicy can change fre&uently, and co%panies need to deter%ine !hat level
of invest%ent theyre !illing to %ake, !hats re&uired to %ake this invest%ent, and ho! %uch of their
earnings they can repatriate"
!(perience of the partner co.pan/) $ssessing the experience of the partner co%pany in the %arket-!ith
the product and in dealing !ith foreign co%panies-is essential in selecting the right local partner"
Co%panies seeking to enter a foreign %arket need to do the follo!ing9
2esearch the foreign %arket thoroughly and learn about the country and its culture"
8nderstand the uni&ue business and regulatory relationships that i%pact their industry"
8se the Internet to identify and co%%unicate !ith appropriate foreign trade corporations in the country or
!ith their o!n govern%ents e%bassy in that country" 3ach e%bassy has its o!n trade and co%%ercial desk"
For exa%ple, the 81 3%bassy has a foreign co%%ercial desk !ith officers !ho assist 81 co%panies on ho!
best to enter the local %arket" These resources are best for s%aller co%panies" Iarger co%panies, !ith
%ore %oney and resources, usually hire top consultants to do this for the%" Theyre also able to have a
dedicated tea% assigned to the foreign country that can travel the country fre&uently for the later'stage entry
strategies that involve invest%ent"
(nce a co%pany has decided to enter the foreign %arket, it needs to spend so%e ti%e learning about the
local business culture and ho! to operate !ithin it"
5!6 TA5!AWA6S
3xporting is the sale of products and services in foreign countries that are sourced or %ade in the
ho%e country" I%porting refers to buying goods and services fro% foreign sources and bringing the%
back into the ho%e country"
Co%panies export because its the easiest !ay to participate in global trade, its a less costly
invest%ent than the other entry strategies, and its %uch easier to si%ply stop exporting than it is to
extricate oneself fro% the other entry %odes" The benefits of exporting include access to ne! %arkets
and revenues as !ell as lo!er %anufacturing costs due to higher %anufacturing volu%es"
Contractual for%s of entry +i"e", licensing and franchising, have lo!er up'front costs than invest%ent
%odes do" Its also easier for the co%pany to extricate itself fro% the situation if the results arent
favorable" (n the other hand, invest%ent %odes +5oint ventures and !holly o!ned subsidiaries, %ay
bring the co%pany higher returns and a deeper kno!ledge of the country"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What are the risks and benefits associated !ith exporting#
<" 4a%e t!o contractual %odes of entry into a foreign country" Which do you think is better and !hy#
=" Why !ould a co%pany choose to use a contractual %ode of entry rather than an invest%ent %ode#
>" What are the advantages to a co%pany using a 5oint venture rather than buying or creating its o!n
!holly o!ned subsidiary !hen entering a ne! international %arket#
?)7 $%o-a% Sourcing and Its Ro%e in *usiness
&!ARNIN$ O*+!CTI,!S
;" Identify !hat global sourcing is"
<" Iearn !hat co%prises the best practices in global sourcing"
=" 2ecogni)e the difference bet!een outsourcing and global sourcing"
What Is $%o-a% Sourcing"
$%o-a% sourcing refers to buying the ra! %aterials, co%ponents, or services fro% co%panies outside the
ho%e country" In a flat !orld, ra! %aterials are sourced fro% !herever they can be obtained for the
cheapest price +including transportation costs, and the highest co%parable &uality"
2ecall the discussion of the spice trade in 1ection ?"; AWhat is I%porting and 3xporting#A" 3uropeans
sourced spices fro% China and India" The long overland trade routes re&uired %any pay%ents to
inter%ediaries and local rulers, raising prices of spices ;,FFF percent by the end of the 5ourney" 1uch a
%arkup naturally spurred 3uropeans to look for other trade routes and sources of spices" The desire for
spices and gold is !hat ulti%ately led Christopher Colu%bus to secure funding for his voyage across the
$tlantic (cean" 3ven before that, Cortuguese ships !ere sailing do!n the coast of $frica" In the ;>OFs,
Cortuguese ships !ere returning to 3urope laden !ith $frican %elegueta pepper" This pepper !as inferior to
the Far 3astern varieties, but it !as %uch cheaper" *y ;?FF, pepper prices dropped by <? percent due to the
ne! sources of supply" J;K
Today, the pattern of global sourcing continues as a !ay to obtain co%%odities and ra! %aterials" *ut
sourcing no! is %uch %ore expandedB it includes the sourcing of co%ponents, of co%plete %anufactured
products, and of services as !ell"
There are %any co%panies that export to a country !hile sourcing fro% that sa%e country" For exa%ple,
$pple sells iCods and iCads to China, and it also %anufactures and sources co%ponents in China"
*est Practices in $%o-a% Sourcing
@iven the challenges of global sourcing, large co%panies often have a staff devoted to overseeing the
co%panys overseas sourcing process and suppliers, %anaging the relationships, and handling legal, tax and
ad%inistrative issues"
+udging Gua%it/ fro. Afar# ISO =KKK Certification
Eo! can co%panies kno! that the products or services theyre sourcing fro% a foreign country are of good
&uality# The %ark of good &uality around the !orld is I1( HFFF certification" In ;HOR, the International
(rgani)ation of 1tandardi)ation +I1(, developed unifor% standards for &uality guidelines" Crior to Dece%ber
<FFF, three I1( standards !ere used9 I1( HFF;, I1( HFF<, and I1( HFF=" These standards !ere
collectively referred to as I1( HFFF" In <FFF, the standards !ere %erged into a revised I1( HFF; standard
na%ed I1( HFF;9<FFF" In <FFO, a ne! revision !as issued, I1( HFF;9<FFO" The standards are voluntary,
but co%panies can de%onstrate their co%pliance !ith the standard by passing certification" +Co%panies that
had achieved I1( HFF;9<FFF certification !ere re&uired to be recertified to %eet I1( HFF;9<FFO standards",
The certification is a %ark that the co%panys products and services have %et &uality standards and that the
co%pany has &uality %anage%ent processes in place" Co%panies of any si)e can get certified" To ensure
high'&uality products, so%e co%panies re&uire that their suppliers be certified before they !ill source
products or services fro% the%" I1( HFF;9<FFO certification is a 6seal of &uality7 that is trusted around the
!orld"
In addition to &uality standards, I1( also developed I1( ;>FFF standards, !hich focus on the environ%ent"
1pecifically, I1( ;>FFF certification sho!s that the co%pany !orks to %ini%i)e any har%ful effects it %ay
have on the environ%ent"
(ver the years, co%panies have learned to %anage for &uality and consistency"
Co%panies can use unannounced inspections to verify that their suppliers %eet &uality'assurance standards
+although this is costly !hen suppliers are far a!ay,"
For consistency, to avoid disruption in getting goods, Wal%art %akes sure that no supplier does %ore than
<? percent of their business !ith Wal%art"
Co%panies can evaluate supplier perfor%ance" Cost isnt everything" .any co%panies use scorecards to
evaluate suppliers fro% !ho% they source co%ponents" Cost is part of the scorecard, of course, but often it
represents only part of the evaluation, not all of it" Instead, co%panies look at issues such as supply
continuity, as !ell as !hether the relationship is based on openness and trust"
Trends in 1ourcing9 Considering Carbon Costs
(ne of the rising concerns about global sourcing is that of the carbon footprint of goods traveling long
distances" $ car-on footprint is a %easure of the i%pact that activities like transportation and %anufacturing
have on the environ%ent, especially on cli%ate change" +The 6footprint7 is the i%pact, and 6carbon7 is
shorthand for all the different greenhouse gases that contribute to global !ar%ing" J<K, 3veryones daily
activities, such as using electricity or driving, have a carbon footprint because of the greenhouse gases
produced by burning fossil fuels for electricity, heating, transportation, and so on" The higher the carbon
footprint, the !orse the activity is for the environ%ent"
In global sourcing, although transporting goods by air and truck has a high carbon footprint due to the fossil
fuels burned, ocean transport doesnt" $lso, the carbon'footprint %easure doesnt 5ust focus on distanceB it
looks at all the fossil fuels used in the %anufacture of an ite%" For exa%ple, !hen one looks at the total
picture of ho! %uch energy is re&uired to %ake a product, the carbon footprint of transportation %ay be less
than the carbon footprint of the %anufacturing process" 1o%e regions have natural advantages" For
exa%ple, it is %ore environ%entally friendly to s%elt alu%inu% in Iceland than locally because of the
tre%endous a%ount of electricity re&uired for s%elting" Iceland has abundant geother%al energy, !hich has
no carbon footprint co%pared to generating electricity by burning coal" Its better for the environ%ent to s%elt
the alu%inu% in Iceland and then ship it else!here"
1i%ilarly, it is %ore environ%entally sound for people in the 8nited ingdo% to buy virgin !ood fro% 1!eden
than to buy recycled paper %ade in the 8nited ingdo%" Why# 1!eden uses nuclear energy to %ake paper,
!hich has a %uch lo!er carbon footprint than electricity in the 8nited ingdo%, !hich is generated by
burning coal" 3ven though the paper is recycled, the electricity costs of recycling %ake it %ore har%ful to the
environ%ent"
Cerhaps one of the %ost'effective changes co%panies can %ake to help the environ%ent is to !ork
collaboratively !ith their trading partners" For exa%ple, an agree%ent bet!een potato'chip %anufacturers
and potato suppliers eli%inated !asted resources" 1pecifically, the physics of frying potato chips re&uires
boiling off the !ater in the potato, !hich consu%es a large a%ount of energy" $lthough boiling off the !ater
!ould see% to be a re&uire%ent in the cooking process, 8'based Carbon Trust discovered a %an'%ade
practice that increased these costs" Cotato'chip %anufacturers buy potatoes by !eight" Cotato suppliers, to
get the %ost for their potatoes, soak the potatoes in !ater to boost their !eight, thus adding unnecessary
!ater that has to be boiled off" *y changing the contracts so that suppliers are paid %ore for less'soggy
potatoes, suppliers had an incentive to use less !ater, chip %akers needed to expend less energy to boil off
less !ater, and the environ%ent benefited fro% less !ater and energy !aste" These changes had a %uch
%ore beneficial i%pact on the environ%ent than !ould have been gained by a change in transportation" J=K
Outsourcing 'ersus $%o-a% Sourcing
In outsourcing, the co%pany delegates an entire process +e"g", accounts payable, to an outsource vendor"
The vendor takes control of the operation and runs the operation as it sees fit" The co%pany pays the
outsource vendor for the end resultB ho! the vendor achieves those end results is up to the vendor"
Co%panies outsource for nu%erous reasons" There are %any advantages to outsourcing9
2educing costs by %oving labor to a lo!er'cost country
1peeding up the pace of innovation by hiring engineers in a developing %arket at %uch lo!er cost
Funding develop%ent pro5ects that !ould other!ise be unaffordable
Iiberating expensive ho%e'country'based engineers and salespeople fro% routines tasks, so that they can
focus on higher value'added !ork or interacting !ith custo%ers
Cutting a standard business practice out to bid, in order to lo!er costs and let the co%pany respond !ith
flexibility" If a ne! %ethod of perfor%ing the function beco%es advantageous, the co%pany can change
vendors to take advantage of the ne! develop%ent, !ithout incurring the delays of hiring and training ne!
e%ployees on the process"
Char%aceutical co%pany 3li Iilly and Co%pany uses outsourcing to bring do!n the cost of developing a ne!
drug, !hich stands at T;"; billion" Iilly hopes to bring do!n the cost to TOFF %illion through outsourcing" The
co%pany is outsourcing the heart of the research effort-drug develop%ent-to contract research
organi)ations +C2(s," J>K It does <F percent of its che%istry !ork in China, for one'&uarter the 81 cost" Iilly
hopes to reduce the cost of clinical trials as !ell, by expanding those efforts to *2IC countries +i"e", *ra)il,
2ussia, India, and China," J?K
The Hidden Costs of Outsourcing
$lthough outsourcings costs savings, such as labor costs, are easy to see, so%e of the hidden costs arent
as visible" For exa%ple, high'tech products that spend %onths traveling by ocean face product
obsolescence, deterioration, spoilage, taxes, loss due to da%age or theft, and increased ad%inistrative and
business travel costs" Threats of terroris%, religious strife, changing govern%ents, and failing econo%ies are
further issues of concern" 1tanley Furniture, a 81 %aker of ho%e furnishings, decided to bring its offshore
production back ho%e after product recalls fro% cribs %ade in 1lovenia, transportation costs, and intellectual
property issues out!eighed the advantages of cheap goods and labor" JGK $ll of these hidden costs add up to
a !orld that is less than flat"
.anufacturing outsourcing is also called contract %anufacturing" The %ove
tocontract .anufacturing %eans that co%panies like I*. have less control over %anufacturing than they
did !hen they o!ned the factories" Contract'%anufacturing co%panies such as Celestica are %aking I*.
products alongside Ee!lett'Cackard +EC, and Dell products" Celesticas o!n financial considerations
influence !hether it gives preference to I*., EC, or Dell if there is a rush on %anufacturing" The contract
%anufacturers best efforts !ill go to !hichever client negotiated the best ter%s and highest priceB this %akes
co%panies %ore vulnerable to variability"
`uanta Co%puter, based in Tai!an, is the largest notebook'co%puter contract %anufacturer in the !orld"
`uanta %akes laptops for 1ony, Dell, and EC, a%ong others" In Nune <F;F, `uanta shipped >"O %illion
laptops, a laptop'ship%ent record" JRK For consu%er electronics, outsourcing has beco%e the do%inant !ay
of doing business"
.anaging (utsourced 1ervices
If a co%pany outsources a service, ho! does it guarantee the &uality of that service# (ne !ay is through
service'level agree%ents" Ser'ice;%e'e% agree.ents 0S&As4 contractually specify the service levels that the
outsourcer %ust %eet !hen perfor%ing the service" 1I$s are one !ay that co%panies ensure &uality and
perfor%ance !hen outsourcing services" 1I$s typically include the follo!ing co%ponents9
1cope of services
Fre&uency of service
`uality expected
Ti%ing re&uired
Cost of service
Co%%unications
Dispute'resolution procedures
2eporting and governance
ey contacts
Cerfor%ance'i%prove%ent ob5ectives
+ohns Hop3ins !nterprises S&A for Accounts Recei'a-%e
Nohns Eopkins 3nterprise expects the follo!ing service levels for accounts receivable9
Contact the custo%er after forty'five days if the open invoice is greater than T;F,FFF"
Contact the custo%er after sixty days if the open invoice is bet!een T=,FFF and T;F,FFF"
Contact the custo%er after ninety days if the open invoice is less than T=,FFF"
Contact the depart%ent !ithin t!o days if the custo%er clai%s the invoice !ill not be paid due to
perfor%ance" $t this point, it is the depart%ents responsibility to resolve and the invoice !ill be closed as
uncollectible" (nce the disagree%ent !ith the custo%er is resolved, a ne! invoice !ill be issued"
$ll issues that the $S2 1ervice Center can fix !ill be co%pleted !ithin three business days" Follo!'up calls
!ill be %ade !ithin five business days" JOK
3ntrepreneurial (pportunities fro% (utsourcing
Cri%son Consulting @roup is a California'based fir% that perfor%s global %arket research on everything
fro% routers to soft!are for clients including Cisco 1yste%s, EC, and .icrosoft" Cri%son has only fourteen
full'ti%e e%ployees, !hich !ould be too fe! to handle these %arket research in&uiries" *ut Cri%son
outsources so%e of the %arket research to 3valueserve in India and so%e to independent experts in China,
the C)ech 2epublic, and 1outh $frica" 6This allo!s a s%all fir% like us to co%pete !ith .cinsey and *ain
on a very global basis !ith very lo! costs,7 said Cri%son C3( @lenn @o!" JHK
For exa%ple, i%agine a co%pany that has an idea for a ne! %edical device, but lacks %arket research into
the opportunity" The co%pany could outsource its %arket research to a fir% like 3valueserve" For a relatively
s%all fee, the outsourced fir% could, !ithin a day, asse%ble a tea% of Indian patent attorneys, engineers,
and business analysts, start %ining global databases, and call do)ens of 81 experts and !holesalers to
provide an independent %arket'research report"
5!6 TA5!AWA6S
@lobal sourcing refers to buying the ra! %aterials, co%ponents, co%plete products, or services fro%
co%panies located outside the ho%e country"
Infor%ation technology and co%%unications have enabled the outsourcing of business processes,
enabling those processes to be perfor%ed in different countries around the !orld"
*est practices in global sourcing include the follo!ing co%ponents9
8sing I1( HFF;9<FFO certification to help ensure the &uality of products regardless of !here they
are produced
Considering not 5ust the &uality of products but also the environ%ental practices of the co%pany
providing the products, through I1( ;>FFF certification
8sing service'level agree%ents to ensure the &uality of services
3ntrepreneurs benefit fro% outsourcing because they can ac&uire services as needed, !ithout having
to build those capabilities internally"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" Why do co%panies source globally#
<" What are so%e !ays in !hich to ensure &uality fro% unkno!n suppliers#
=" When and ho! !ould you use a service'level agree%ent#
>" Is contract %anufacturing the sa%e as outsourcing#
?" 3xplain the advantages and disadvantages of outsourcing"
Chapter N
Winning through !ffecti'e1 $%o-a% Ta%ent anage.ent
WHATS IN IT FOR !"
;" What is the scope and changing role of global, strategic hu%an resources %anage%ent +1E2., in
international business#
<" Eo! can you visuali)e the battlefield in the global !ar for talent#
=" Eo! can you engage in effective selection and place%ent strategies#
>" What are the roles of pay structure and pay for perfor%ance in effective talent %anage%ent#
?" Eo! can you use the Workforce 1corecard to gauge and proactively %anage hu%an capital, including
your o!n#
:ouve probably heard the saying 6people %ake the place"7 .oreover, fir%s !ith operations across borders
have this added advantage9 access to the best and brightest people fro% around the !orld, because talent
isnt constrained by national borders" Indeed, one of the key forces in flattening the !orld is ne!
technologiesB other trends too are e%po!ering people fro% every corner of the earth" $t the sa%e ti%e,
co%panies large and s%all are able to find and leverage hu%an capital fro% the farthest reaches of the
planet" This ability to arbitrage and attract hu%an capital !orld!ide is a key driver in the the war for talent,
!hich is a ter% signifying the strategic i%portance of attracting top e%ployees to !ork for your co%pany" In
todays fast'changing environ%ent, co%panies need e%ployees !ho understand the organi)ations strategy
and are e%po!ered to execute it" To achieve this, organi)ations need to follo! a strategic hu%an resources
%anage%ent +1E2., approach" 1E2. ensures that people are a key factor in a fir%s co%petitive
advantage" (rgani)ations need hu%an resources to be a partner in identifying, recruiting, and hiring the
types of e%ployees !ho !ill be %ost &ualified to help the co%pany achieve its goals" 1E2. re&uires
attracting the right e%ployees to the co%pany, identifying %etrics to help e%ployees stay on target to %eet
the co%panys goals, and re!arding the% appropriately for their efforts so that they stay engaged and
%otivated" Eaving all these co%ponents in place results in a high'perfor%ance !ork syste%, i%proves
organi)ational perfor%ance, and unleashes e%ployee talent"
Opening Case# !.p%o/ee Recruit.ent1 Se%ection1 and 8e'e%op.ent Strategies at !nterprise Ho%dings
:ou %ay kno! this co%pany through one of its businesses, 3nterprise 2ent'$'Car, and its 6Well pick you
up7 5ingle" The 3nterprise car'rental business is part of a %uch larger fa%ily business-3nterprise Eoldings"
Through its regional subsidiaries, 3nterprise Eoldings operates %ore than ; %illion cars and trucks, the
largest fleet of passenger vehicles in the !orld today" J;K Its one of the largest and %ost co%prehensive
providers in the car'rental industry, serving approxi%ately R,GFF neighborhood and airport locations in the
8nited 1tates, Canada, .exico, the Caribbean, Iatin $%erica, the 8nited ingdo%, Ireland, @er%any, and
$sia" In addition, 3nterprise Eoldings is part of a global strategic alliance !ith 3uropcar, creating the !orlds
largest car'rental net!ork" In this case study, youll see ho! 3nterprise-!ith %ore than GO,FFF e%ployees
and T;< billion revenue-ensures it has the right people !ith the right skills in the right locations !orld!ide"

Core Palues fro% the 1tart

3nterprise !as founded in ;H?R by Nack Taylor, !ho returned fro% World War II to start a car'leasing
co%pany in 1t" Iouis" Ee launched !ith a total of seven cars and one e%ployee, but he had a vision to gro!
and a strong %otto9 6Take care of your custo%ers and your e%ployees first, and the profits !ill
follo!"7 J<K This vision of exceptional custo%er service %eans that 3nterprise has to identify, attract, and hire
e%ployees !ho !ould be good at delivering on its custo%er service %ission" To acco%plish this, 3nterprise
looks for potential ne! hires !ho have the follo!ing set of skills and co%petencies that support the
co%panys ob5ectives9
;" Custo%er service focus
<" 1ales and listening skills
=" Cositive !ork ethic +a drive to achieve results,
>" Ieadership aptitude
?" Co%%unication skills
G" Flexibility
The co%pany has identified the co%petencies and behaviors that such skills provide and has clearly
articulated the benefits that these skills provide to 3nterprise" For instance, flexibility is defined as dealing
!ell !ith challenges, de%onstrating resilience, and being able to prioriti)e" 3nterprise believes that it-the
co%pany-is better able to cope !ith changing circu%stances !hen an e%ployee exhibits flexibility"
3nterprise describes the co%petencies it seeks on its !ebsite so that 5ob seekers can deter%ine for
the%selves !hether they !ill %easure up and fit in !ith the 3nterprise culture"

$ttracting and 2ecruiting 3%ployees

3nterprise has a tea% of <FF recruiters !hose 5ob is to identify potential ne! candidates at over one hundred
college ca%puses each year" J=K @iven its gro!th and international expansion, 3nterprise hires O,FFF college
graduates a year to fill its future %anage%ent needs" J>K The recruiting function at 3nterprise is
decentrali)ed9 each recruiter is responsible for recruiting !ithin his or her local %arket" The rationale for this
structure is this9 local hires reflect the local co%%unity for each branch office" 6We try to %irror our
co%%unities,7 says Ca% Webster, assistant vice president for recruiting at 3nterprise" J?K
3nterprise also uses an internship progra% as a !ay to identify potential future e%ployees" The progra% is
open to college 5uniors and seniorsB interested interns then spend a su%%er !orking at 3nterprise after
graduating" 2ecruiters stay in touch !ith interns during the school year through e'%ails and lunches" 1o%e
even send a care package to interns during final exa% ti%e"
In the 8nited ingdo%, 3nterprise began using Ca%pus *rand .anagers on university ca%puses to find
potential interns and 5ob applicants" These Ca%pus *rand .anagers are interns or students !ho already
!ork for 3nterprise and !ho act as liaisons for potential applicants" JGK
3nterprise also has an e%ployee'referral progra% through !hich current e%ployees get a financial re!ard if
they reco%%end a ne! e%ployee to 3nterprise and that candidate is hired into a full'ti%e position" The
referral progra% has been the co%panys pri%ary source of %inority and fe%ale hires, and approxi%ately >F
percent of ne! hires 5oin 3nterprise that !ay"JRK
Finally, 3nterprise recruits onlineB about ?F percent of 3nterprises 8 and Ireland !orkforce is recruited via
the !eb"

Developing 3%ployees

To develop ne! recruits !ho !ould like to enter the ranks of %anage%ent, 3nterprise offers its @raduate
.anage%ent Trainee progra%, !hich is a progra% that teaches %anage%ent skills such as leadership and
big'picture thinkingB finance and business %anage%ent skills such as cost control and attention to profitsB
sales and %arketing skills to generate %ore salesB fleet'control skills such as handling repairs and getting the
right nu%ber and type of carsB and of course custo%er service skills" In as little as eight to t!elve %onths,
trainees can beco%e assistant %anagers" (nce they beco%e assistant %anagers, they start to earn
perfor%ance pay in addition to their salaries" JOK The perfor%ance pay is based on branch profits, !hich
%eans e%ployees can directly benefit fro% the i%prove%ents they %ake to branch operations"
3nterprises training progra% supports the co%panys pro%ote'fro%'!ithin philosophy" 6We have al!ays
hired college grads into our %anage%ent training progra%, and fro% there !e pro%ote entirely fro% !ithin,7
says .arie $rti%, assistant vice president of recruiting" 6Its !here I started, its !here our C3( started, and
its !here al%ost all our senior leadership started"7 JHK 3nterprise Eoldings president and chief operating
officer +C((,, Ca%ela 4icholson, started as a %anage%ent trainee in ;HO;, !orking behind the rental
counter, as did current chair%an and C3( $ndy Taylor" J;FK 4icholson %oved steadily through the ranks of
the co%pany and in ;HHH !as pro%oted to senior vice president of the co%panys 4orth $%erican
operations, then to C(( in <FF=, and to president in <FFO" J;;K

@lobal 3ntrepreneurship

In addition to custo%er service, entrepreneurship is another key corporate value at 3nterprise" The tradition
began !ith founder Nack Taylor and continued through innovations introduced by 3nterprises branch
%anagers" For exa%ple, in ;HR> a rental %anager in (rlando decided to offer his custo%ers a ne! service9
a free ride to the 3nterprise rental office" (ther branches e%ulated this free pick'up service, !hich
de%onstrated that e%ployees !ith a great idea can see it i%ple%ented across the co%pany"
(ther entrepreneurial ideas include WeCar, !hich is 3nterprises ne! car'sharing progra% for corporations
and ca%puses" J;<K For exa%ple, @oogle is using the WeCar progra% and lets its e%ployees choose a%ong
Criuses and Ford 3scape Eybrids that 3nterprise provides" J;=K
3xpanding internationally is like!ise done through entrepreneurial e%ployees" 3nterprise opened its first
@er%an office in (ttobrunn in ;HHR" 3nterprises @er%an pioneer, Nack Cope, said, 6Its a lot of fun taking
so%ething fro% nothing and %aking it big, and I% on %y !ay to %aking that happen" $ fe! years ago,
3nterprise !as unkno!n here in @er%any" Today, thanks to the efforts of our %otivated @er%an !orkforce,
the 3nterprise %ission, philosophy and culture are catching on"7 J;>K
The co%pany entices international entrepreneurs through %essages like the follo!ing one on its !ebsite9
Nust i%agine the possibilities that co%e !ith 5oining a huge, internationally successful co%pany !ith a
personal, entrepreneurial approach !hich allo!s individuals to stand out" (ur secret lies in the fact that !ere
divided up into thousands of s%aller, local businesses" 1o !hen you take one of our graduate trainee 5obs,
youll be learning ho! to run the business yourself" $nd ho! %any organi)ations !ith a T;< billion turnover
can say that# J;?K
Opening Case !(ercises
+$$C1*9 3thical 2easoning, .ulticulturalis%, 2eflective Thinking, $nalytical 1kills,
;" Eo! does 3nterprise use 1E2. to support its custo%er service ob5ectives#
<" What strategies does 3nterprise use to attract ne! e%ployees#
=" Do you think entrepreneurial e%ployees !ould be %otivated to !ork at 3nterprise# Why or !hy not#
N)1 The Changing Ro%e of Strategic Hu.an Resources anage.ent in Internationa% *usiness
&!ARNIN$ O*+!CTI,!S
;" 8nderstand ho! hu%an resources %anage%ent is beco%ing a strategic partner"
<" 2ecogni)e the i%portance of an organi)ations hu%an capital"
=" Iearn the key ele%ents of 1E2."
HR as a Strategic Partner
The role of hu%an resources %anage%ent +E2., is changing in business, particularly in international
business" Creviously considered a support function, E2. is no! beco%ing a strategic partner in helping a
global co%pany achieve its goals" The strategic approach to E2.-
strategic hu.an resources .anage.ent 0SHR4-%eans going beyond ad%inistrative tasks such as
payroll processing" Instead, as sho!n in the opening case on 3nterprise, %anagers need to think %ore
broadly and deeply about ho! e%ployees !ill contribute to the co%panys success"
1E2. is not 5ust a function of the hu%an resources +E2, depart%ent-all %anagers and executives need to
be involved because the role of people is so vital to a co%panys co%petitive advantage" J;K In addition,
organi)ations that value their e%ployees are %ore profitable than those that dont" J<K 2esearch sho!s that
successful organi)ations have several things in co%%on9 providing e%ploy%ent security, engaging in
selective hiring, using self'%anaged tea%s, being decentrali)ed, paying !ell, training e%ployees, reducing
status differences, and sharing infor%ation" J=K When organi)ations enable, develop, and %otivate hu%an
capital, they i%prove accounting profits as !ell as shareholder value in the process" J>K The %ost successful
organi)ations %anage E2 as a strategic asset and %easure E2 perfor%ance in ter%s of its strategic i%pact"
When each piece is in the right place, it creates a high;perfor.ance 2or3 s/ste. 0HPWS4-a set of
%anage%ent practices that atte%pt to create an environ%ent !ithin an organi)ation in !hich the e%ployee
has greater involve%ent and responsibility"
The follo!ing are so%e &uestions that E2. should be prepared to ans!er in this ne! !orld9 J?K
Co.petence) To !hat extent does our co%pany have the re&uired kno!ledge, skills, and abilities to
i%ple%ent its strategy#
ConseHuence) To !hat extent does our co%pany have the right %easures, re!ards, and incentives in place
to align peoples efforts !ith the co%pany strategy#
$o'ernance) To !hat extent does our co%pany have the right structures, co%%unications syste%s, and
policies to create a high'perfor%ing organi)ation#
&earning and &eadership) To !hat extent can our co%pany respond to uncertainty and learn and adapt to
change &uickly#
Crucia% Ro%e of SHR in $%o-a% Fir.s
Developing an effective international !orkforce is %uch %ore difficult for a co%petitor to e%ulate than buying
technology or securing capital" JGK *esides, ho! !ell co%panies %anage their E2 around the !orld can
%ean the difference bet!een success and failure" In a nutshell, fir%s that effectively %anage their
international E2 typically outperfor% co%petitors in ter%s of identifying ne! international business
opportunities, adapting to changing conditions !orld!ide, sharing innovation kno!ledge throughout the fir%,
effectively coordinating subsidiary operations, conducting successful cross'border ac&uisitions, and
%aintaining a high'perfor%ing, co%%itted overseas !orkforce" JRK
8id 6ou 5no2"
2obert Ealf International +2EI,, a professional consulting fir%, has staffing operations in %ore than >FF
locations !orld!ide" JOK During the recession of <FFH, 2EI began hiring older, %ore experienced !orkers to
add to its roster of te%porary !orkers" Typically, te%porary !orkers are lo!'level e%ployees, but during the
recession, %any !orkers !ith fifteen or t!enty years of experience lost their 5obs or retired fro% full'ti%e
5obs" 2EI hired older highly skilled !orkers, such as accounting and finance experts, to !ork on te%porary
pro5ects-helping a co%pany restructure or e%erge fro% bankruptcy, for instance" The situation is a !in'!in9
co%panies get access to experts they %ay not other!ise be able to afford, !hile retired !orkers earn extra
%oney or inco%e after a layoff" [urich'based $decco, a co%petitor to 2EI, like!ise hired older !orkers"
6.ore co%panies are looking for flexible, highly skilled te%porary e%ployees because its %uch easier to end
an assign%ent than ter%inate e%ploy%ent,7 said Doug $r%s, chief talent officer at $5ilon Crofessional
1taffing, a unit of $decco" JHK
In %any %ultinationals, an i%portant challenge is balancing the need to coordinate units scattered around
the !orld !ith the need for individual units to have the control necessary to deal effectively !ith local
issues" J;FK$chieving this balance beco%es %ore difficult as the level of diversity that fir%s are exposed to
increases" For exa%ple, consider a situation !here the parent fir%s national culture differs dra%atically fro%
the cultures in its overseas subsidiaries" In this case, it %ay be harder for the parent fir% to share
infor%ation, technology, and innovations bet!een the ho%e office and foreign outposts" It %ay also be %ore
difficult to pro%ote needed organi)ational changes and %anage any conflicts that arise bet!een e%ployees
in different countries"
Fortunately, international hu%an resources %anage%ent +IE2., strategies can overco%e such proble%s"
For instance, IE2. professionals can help ensure that top executives understand the different cultures
!ithin the co%pany !orkforce and around the !orld" They can also offer advice on ho! to coordinate
functions across boundaries and develop outstanding cross'cultural skills in e%ployees +e"g", through various
training progra%s and career paths that involve significant overseas exposure," J;;K
(f course, these are general suggestions and a range of E2 practices %ight be used to i%ple%ent the%"
Co%panies should develop an international E2 philosophy that describes corporate values about E2-this
in turn, !ill shape the broad outline of !hat constitutes acceptable IE2. practices for e%ployees all over the
!orld" Fro% there, individual units can fine'tune and select specific practices that best fit their local
conditions" *ut this is easier said than done, especially for fir%s operating in do)ens of countries"
.ultinationals typically find it extre%ely difficult, for exa%ple, to design a co%pensation syste% that is
sensitive to cultural differences yet still %eets general guidelines of being seen as fair by e%ployees
every!here" Indeed, culture %ay i%pact local E2. practices in a variety of !ays-fro% ho! benefit
packages are constructed to the hiring, ter%ination, and pro%otion practices used, 5ust to na%e a fe!" J;<K
4evertheless, selecting the right IE2. strategy can pay off, particularly in difficult foreign %arkets" Consider
%ultinationals !anting to &uickly enter countries !ith transitional econo%ies-those that are %oving fro%
being state'do%inated to being %arket'based +e"g", China and 2ussia," Choosing to enter those %arkets by
buying local fir%s, building ne! plants, or establishing 5oint ventures %ay create significant E2 challenges
that !ill undercut perfor%ance if not handled !ell" Conse&uently, global fir%s need to adopt an appropriate
IE2. strategy to %eet transition econo%y challenges"
The I.portance of Hu.an Capita%
3%ployees provide an organi)ations hu.an capita%" :our hu%an capital is the set of skills that you have
ac&uired on the 5ob-through training and experience-!hich increase your value in the %arketplace" The
1ociety of Eu%an 2esource .anage%ents Researc Cuarterly defined an organi)ations hu%an capital as
6the collective su% of the attributes, life experience, kno!ledge, inventiveness, energy, and enthusias% that
its people choose to invest in their !ork"7 J;=K
Focus on Outco.es
8nfortunately, %any E2 %anagers are %ore effective in the technical or operational aspects of E2 than they
are in the strategic, even though the strategic facet has a %uch larger effect on the co%panys
success" J;>K In the past, E2 professionals focused on co%pliance to rules, such as those set by the federal
govern%ent, and tracked si%ple %etrics-for instance, the nu%ber of e%ployees hired or the nu%ber of
hours of training delivered" The ne! principles of %anage%ent, ho!ever, re&uire a focus on outco%es and
results, not 5ust nu%bers and co%pliance" Nust as la!yers count ho! %any cases theyve !on-not 5ust ho!
%any !ords they used-so too %ust E2 professionals track ho! e%ployees are using the skills theyve
learned to attain goals, not 5ust ho! %any hours theyve spent in training" J;?K
Nohn .urabito, executive vice president and head of Eu%an 2esources and 1ervices at CI@4$, says that
E2 executives need to understand the co%panys goals and strategy and then provide e%ployees !ith the
skills needed" Too often, E2. executives get !rapped up in their o!n initiatives !ithout understanding ho!
their role contributes to the business" Thats dangerous, because !hen it co%es to the E2 depart%ent,
6anything that is ad%inistrative or transactional is going to get outsourced,7 .urabito says" J;GK Indeed, the
nu%ber of E2. outsourcing contracts over T<? %illion has been increasing, !ith nearly =,FFF active
co%pany contracts recently under !ay" J;RK For exa%ple, *ank of $%erica outsourced its E2.
ad%inistration to 4orthgate$rinso" 4orthgate$rinso no! provides ti%ekeeping, payroll processing, and
payroll services for ;F,FFF *ank of $%erica e%ployees outside the 8nited 1tates" J;OK To avoid being
outsourced, E2. needs to stay relevant and accept accountability for its business results" In short, the
people strategy needs to fully align !ith the co%panys business strategy, keeping the focus on outco%es"
5e/ !%e.ents of HR
*eyond the basic need for co%pliance !ith E2. rules and regulations, the four key ele%ents of E2 are
su%%ari)ed in Figure G"; Aey E2. 3le%entsA" In high'perfor%ing co%panies such as 3nterprise Eoldings,
each ele%ent of the E2. syste% is designed to reflect best practices and to %axi%i)e e%ployee
perfor%ance" The different parts of the E2. syste% are strongly aligned !ith co%pany goals"
!igure :.2 Key HRA Elements

Se%ection and P%ace.ent
Its good for fir%s to ac&uaint prospective ne! hires !ith the nature of the 5obs theyll be expected to fulfill
early in the hiring process" This includes explaining the technical co%petencies needed +e"g", collecting
statistical data, and defining behavioral co%petencies" *ehavioral co%petencies %ay have a custo%er
focus, such as the ability to sho! e%pathy and support of custo%ers feelings and points of vie!, or a !ork'
%anage%ent focus, such as the ability to co%plete tasks efficiently or to kno! !hen to seek guidance"
In addition, an 1E2. best practice is to %ake the organi)ations culture clear by discussing the values that
underpin the organi)ation" For exa%ple, fir%s can describe the 6heroes7 of the organi)ation-those
e%ployees !ho e%body the values of the organi)ation" For exa%ple, a service co%panys heroes %ay be
the people !ho go the extra %ile to get custo%ers to s%ile" In a soft!are co%pany, the heroes %ay be the
people !ho toil through the night to develop ne! code" *y sharing such stories of co%pany heroes !ith
potential hires, the fir% helps reinforce the values and behaviors that %ake the co%pany uni&ue" This, in
turn, !ill help the 5ob candidates deter%ine !hether theyll fit !ell into that organi)ations culture"
Nob Design
+o- design refers to the process of co%bining tasks to for% a !hole 5ob" The goal is to design 5obs that
involve doing a !hole piece of !ork and that are challenging but ulti%ately doable for the e%ployee" Nob
design also takes into account issues of health and safety of the !orker" When planning 5obs or assigning
people to 5obs, E2 %anagers also consider training +ensuring that e%ployees to have the kno!ledge and
skills to perfor% all parts of their 5ob, and giving the% the authority and accountability to do so" J;HK
(ne co%pany that does training right is .otorola" $s a global co%pany, .otorola operates in %any
countries, including China" (perating in China presents particular challenges in ter%s of finding and hiring
skilled e%ployees" In a recent survey conducted by the $%erican Cha%ber of Co%%erce in 1hanghai, =R
percent of 81'o!ned enterprises operating in China said that recruiting skilled e%ployees !as their biggest
operational proble%" J<FK Indeed, polled co%panies cited E2. as a proble% %ore often than they cited
regulatory concerns, bureaucracy, or infringe%ent on intellectual property rights" This is because Chinese
universities dont turn out candidates !ith the skills that %ultinational co%panies need" $s a result, .otorola
has created its o!n training and develop%ent progra%s to bridge the gap" For exa%ple, .otorolas China
$ccelerated .anage%ent Crogra% is designed for local %anagers" .otorolas .anage%ent Foundation
progra% helps train %anagers in areas such as co%%unication and proble% solving" Finally, .otorola offers
a high'tech .*$ progra% in partnership !ith $ri)ona 1tate 8niversity and Tsinghua 8niversity, so that top
e%ployees can earn an .*$ in'house" J<;K1uch progra%s are tailor'%ade to the %ini%ally skilled-but
highly %otivated-Chinese e%ployees"
Co%pensation and 2e!ards
The 1E2. function also includes evaluating and paying people on the basis of their perfor%ance-not
si%ply for sho!ing up to the 5ob" Fir%s %ust offer re!ards for skill develop%ent and organi)ational
perfor%ance, e%phasi)ing tea%!ork, collaboration, and responsibility for perfor%ance" @ood co%pensation
syste%s include incentives, gainsharing, profit sharing, and skill'based pay that re!ards e%ployees !ho
learn ne! skills and put those skills to !ork for the organi)ation" 3%ployees !ho are trained in proble%
solving and a broad range of skills are %ore likely to gro! on the 5ob and feel %ore satisfaction" Their training
enables the% to %ake %ore valuable contributions to the co%pany, !hich, in turn, gains the% higher re!ards
and greater co%%it%ent to the co%pany" J<<K Iike!ise, the co%pany benefits fro% e%ployees increased
flexibility, productivity, and co%%it%ent"
When e%ployees have access to infor%ation and the authority to act on that infor%ation, theyre %ore
involved in their 5obs, %ore likely to %ake the right decision, and %ore inclined to take the necessary actions
to further the organi)ations goals" 1i%ilarly, re!ards need to be linked to perfor%ance so that e%ployees are
naturally inclined to pursue outco%es that !ill earn re!ards and further the organi)ations success at the
sa%e ti%e" J<=K
Diversity .anage%ent
$nother key to successful 1E2. in todays business environ%ent is e%bracing diversity" In past decades,
6diversity7 %eant avoiding discri%ination against !o%en and %inorities in hiring" Today, diversity goes far
beyond this li%ited definitionB diversity %anage%ent involves actively appreciating and using the differing
perspectives and ideas that individuals bring to the !orkplace" Diversity is an invaluable contributor to
innovation and proble%'solving success" $s Na%es 1uro!iecki sho!s in Te Wisdom of $rowds, the %ore
diverse the group in ter%s of expertise, gender, age, and background, the %ore ability the group has to avoid
the proble%s of groupthink" J<>K Diversity helps co%pany tea%s to co%e up !ith %ore creative and effective
solutions" Tea%s !hose %e%bers have co%ple%entary skills are often %ore successful because %e%bers
can see one anothers blind spots" Diverse people !ill probably %ake different kinds of errors, !hich also
%eans that theyll be %ore likely to catch and correct each others %istakes"
5!6 TA5!AWA6S
E2. is beco%ing increasingly i%portant in organi)ations because todays kno!ledge econo%y
re&uires e%ployees to contribute ideas and be engaged in executing the co%panys strategy"
E2. is beco%ing a strategic partner by identifying the skills that e%ployees need and then providing
e%ployees !ith the training and structures needed to develop and deploy those co%petencies"
$ll the ele%ents of E2.-selection, place%ent, 5ob design, and co%pensation-need to be aligned
!ith the co%panys strategy so that the right e%ployees are hired for the right 5obs and re!arded
properly for their contributions to furthering the co%panys goals"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What are the advantages of the ne! 1E2. approach#
<" 4a%e three ele%ents of E2."
=" What %ust E2. do to be a true strategic partner of the co%pany#
>" What benefits does a diverse !orkforce provide the co%pany#
?" If you !ere an E2 %anager, !hat steps !ould you take to %ini%i)e the outsourcing of 5obs in your
depart%ent#
N)7 The $%o-a% War for Ta%ent
&!ARNIN$ O*+!CTI,!S
;" Define talent %anage%ent"
<" Discover ho! to attract the right !orkers to your organi)ation"
=" 8nderstand the benefits of good talent %anage%ent"
What Talent .anage%ent .eans
:ou have likely heard the phrase 6the 2ar for ta%ent,7 !hich reflects co%petition a%ong organi)ations to
attract and retain the %ost able e%ployees" For years, agencies that track de%ographic trends have been
!arning that the 81 !orkforce !ill shrink in the second and third decades of the t!enty'first century as the
baby boo% generation +those born bet!een ;H>? and ;HG;, reaches retire%ent age" $ccording to one
source, there !ill be ;;"? %illion %ore 5obs than !orkers in the 8nited 1tates by <F;F" J;K 3ven though %any
boo%ers say they !ant +or have, to continue !orking past the traditional age of retire%ent, those !ho do
retire or !ho leave decades'long careers to pursue 6so%ething Ive al!ays !anted to do7 !ill force
e%ployers to scra%ble to replace !ell'trained, experienced !orkers" $s !orkers co%pete for the %ost
desirable 5obs, e%ployers !ill have to co%pete even %ore fiercely to find the right talent"
Ceter Cappelli of the Wharton 1chool defines ta%ent .anage.ent as anticipating the need for hu%an capital
and setting a plan to %eet it" Talent %anage%ent goes hand in hand !ith succession p%anning, !hich
refers to the process of recruiting and developing e%ployees to ensure that the key roles in the co%pany are
filled" J<K .ost co%panies, unfortunately, dont plan ahead for the talent they need, !hich %eans that they
face shortages of critical skills at so%e ti%es and surpluses at other ti%es" (ther co%panies use outdated
%ethods of succession planning that dont accurately forecast the skills theyll need in the future"
Interestingly, ho!ever, techni&ues that !ere developed to achieve productivity breakthroughs in
%anufacturing can be applied to talent %anage%ent" For exa%ple, its expensive to develop all talent
internallyB training people takes a long ti%e and re&uires accurate predictions about !hich skills !ill be
needed" 1uch predictions are increasingly difficult to %ake in our uncertain !orld" Therefore, rather than
developing everyone internally, co%panies can hire fro% the outside !hen they need to tap specific skills" In
%anufacturing, this principle is kno!n as 6%ake or buy"7 In hu%an resources %anage%ent +E2.,, the
solution is to %ake and buy-that is, to train so%e people and to hire others fro% the external %arketplace"
In this case, 6%aking7 an e%ployee %eans hiring a person !ho doesnt yet have all the needed skills to fulfill
the role but !ho can be trained to develop the%" The key to a successful 6%ake7 decision is to distinguish
bet!een the high'potential e%ployees !ho dont yet have the skills but !ho can learn the%, fro% the
%ediocre e%ployees !ho %erely lack the skills" The 6buy7 decision %eans hiring an e%ployee !ho has all
the necessary skills and experience to fulfill the role fro% day one" The buy decision is useful !hen its too
difficult to predict exactly !hich skills !ill be needed in the future" J=K
!thics in Action
(ne %onth after launching in enya, start'up txteagle beca%e one of the countrys largest e%ployers !ith a
!orkforce of ;F,FFF enyans" J>K4athan 3agle founded txteagle in <FFO" Txteagle deconstructs !ork into
%icrotasks that can be perfor%ed on any si%ple %obile phone through texting" For exa%ple, one task is to
type in local road signs +the data !ill be used to create a satellite navigation syste%," J?K Txteagle is si%ilar
to $%a)ons .echanical Turk +%Turk,, !hich also asks !orkers to co%plete %icrotasks such as clicking on
photos that contain a particular ob5ect" The difference is that !orkers for txteagle only need a si%ple %obile
phone-no co%puter or Internet access is necessary" Txteagle distributes the %icrotasks to thousands of
!orkers +currently pri%arily in $frica, !ho co%plete the% and get paid via the %obile phone either in airti%e
%inutes or in cash through the .'Cesa service" JGK 6Txteagle is a co%%ercial corporation that enables
people to earn s%all a%ounts of %oney on their %obile phones by co%pleting si%ple tasks for our corporate
clients,7 says 3agle" JRK
Txteagle no! has partnerships !ith <<F %obile operators in %ore than eighty countries" JOK This expands
txteagle s reach to <"; billion cell phone users in sub'1aharan $frica, *ra)il, and India, !ho can all
participate as !orkers" JHK Currently, the fir% earns revenues in forty'nine countries" Co%panies like txteagle
and %Turk give citi)ens in poor countries an opportunity to get !ork" *ut so%e Westerners critici)e %Turk
because e%ployers can re5ect a persons !ork !ithout explanation" The pay scale is also very lo!-about
t!enty'four cents an hour, !hich %akes so%e critics call %Turk a 6digital s!eatshop"7 J;FK For !orkers in
developing nations, ho!ever, !here !ages are lo! and une%ploy%ent rates are high, such !ages %ay be
better than the alternative of no !ork"
$nother principle fro% %anufacturing that !orks !ell in talent %anage%ent is to run s%aller batch
si)es" J;;K That is, rather than sending e%ployees to three'year'long training progra%s, send the% to shorter
progra%s %ore fre&uently" With this approach, %anagers dont have to %ake the training decision so far in
advance" They can !ait to decide exactly !hich skills e%ployees !ill learn closer to the ti%e the skill is
needed, thereby ensuring that e%ployees are trained on the skills theyll actually use"
$ttracting the 2ight Workers to the (rgani)ation
Winning the !ar for talent %eans %ore than si%ply attracting !orkers to your co%pany" It %eans attracting
the rigt !orkers-the ones !ho !ill be enthusiastic about their !ork" 3nthusias% for the 5ob re&uires %ore
than having a good attitude about receiving good pay and benefits-it %eans that an e%ployees goals and
aspirations also %atch those of the co%pany" Therefore, its i%portant to identify e%ployees preferences and
%utually assess ho! !ell they align !ith the co%panys strategy" To do this, the organi)ation %ust first be
clear about the type of e%ployee it !ants" Co%panies already do this !ith custo%ers-%arketing executives
identify specific seg%ents of the universe of buyers to target for selling products" 2ed *ull, for exa%ple,
targets college'age consu%ers, !hereas 1li% Fast goes for adults of all ages !ho are over!eight" *oth
co%panies are selling beverages but to co%pletely different consu%er seg%ents" 1i%ilarly, co%panies need
to develop a profile of the type of !orkers they !ant to attract" Do you !ant entrepreneurial types !ho seek
autono%y and continual learning, or do you !ant tea% players !ho en5oy collaboration, stability, and
structure# 4either e%ployee type is inherently 6better,7 but an e%ployee !ho craves autono%y %ay feel
constrained !ithin the very sa%e environ%ent in !hich a tea% player !ould thrive"
$s stated earlier, its i%portant to 6%utually assess7 ho! !ell e%ployees preferences align !ith the
co%panys strategy" Ealf of 6%utual7 refers to the co%pany, but the other half refers to the 5ob candidate"
Cotential e%ployees need to kno! !hether theyll fit into the co%pany !ell" (ne !ay to help prospective
hires %ake this deter%ination is to describe to the% the 6signature experience7 that sets your co%pany apart"
$s Ta%ara 3rickson and Iynda @ratton define it, your co%panys signature experience is the distinctive
practice that sho!s !hat its really like to !ork at your co%pany" J;<K
Eere are the signature experiences of t!o co%panies-Whole Foods .arket and @old%an 1achs" $t Whole
Foods, tea%'based hiring is a signature experience-e%ployees in each depart%ent vote on !hether a ne!
e%ployee !ill be retained after a four'!eek trial period" This de%onstrates to potential hires that Whole
Foods is all about collaboration" In contrast, @old%an 1achss signature experience is %ultiple one'on'one
intervie!s" The story often told to prospective hires is of the .*$ student !ho !ent through sixty intervie!s
before being hired" This story signals to ne! hires that they need to be co%fortable %eeting endless
nu%bers of ne! people and building net!orks across the co%pany" Those !ho en5oy %eeting and being
intervie!ed by so %any diverse people are exactly the ones !ho !ill fit into @old%ans culture"
The added benefit of hiring !orkers !ho %atch your organi)ational culture and are engaged in their !ork is
that they !ill be less likely to leave your co%pany 5ust to get a higher salary"
eeping 1tar 3%ployees
The !ar for talent ste%s fro% the approaching shortage of !orkers" $s %entioned earlier in this chapter, the
%illions of baby boo%ers reaching retire%ent age are leaving a gap in the 81 !orkforce" Whats %ore,
!orkers are 5ob'hopping %ore fre&uently than in the past" $ccording to the 81 *ureau of Iabor 1tatistics, the
average 5ob tenure has dropped fro% fifteen years in ;HOF to four years in <FFR" $s a %anager, therefore,
you need to give your e%ployees reasons to stay !ith your co%pany" (ne !ay to do this is to spend ti%e
talking !ith e%ployees about their career goals" Iisten to their likes and dislikes so that you can help the%
fully utili)e the skills they like using or develop the ne! ones they !ish to ac&uire" J;=K
Dont be afraid to 6gro!7 your e%ployees" 1o%e %anagers !ant to keep their e%ployees in their depart%ent"
They fear that helping e%ployees gro! on the 5ob !ill %ean that e%ployees !ill outgro! their 5obs and
leave" J;>K Eo!ever, keeping your e%ployees do!n is a sure !ay to lose the%" Whats %ore, if you help your
e%ployees advance, itll be easier for you to %ove up, because your e%ployees !ill be better able to take on
the role you leave behind"
In so%e cases, your e%ployees %ay not be sure !hat career path they !ant" $s a %anager, you can help
the% identify their goals by asking &uestions such as the follo!ing9
What assign%ents have you found %ost engaging#
Which of your acco%plish%ents in the last six %onths %ade you proudest#
What %akes for a great day at !ork# J;?K
What !.p%o/ees Want
3%ployees !ant to gro! and develop, stretching their capabilities" They !ant pro5ects that engage their
heads as !ell as their hearts, and they !ant to connect !ith the people and things that !ill help the%
achieve their professional goals" J;GK Eere are t!o !ays to provide this to your e%ployees9 First, connect
people !ith %entors and help the% build their net!orks" 2esearch suggests that successful %anagers
dedicate RF percent %ore ti%e to net!orking activities and ;F percent %ore ti%e to co%%unication than their
less successful counterparts" J;RK What %akes net!orks special# Through net!orks, people energi)e one
another as !ell as learn, create, and find ne! opportunities for gro!th" 1econd, help connect people !ith a
sense of purpose" Focusing on the need for purpose is especially i%portant for younger !orkers, !ho rank
%eaningful !ork and challenging experiences at the top of their 5ob'search lists" J;OK
*enefits of @ood Talent .anage%ent
@lobal consulting fir% .cinsey V Co%pany conducted a study to identify a possible link bet!een a
co%panys financial perfor%ance and its success in %anaging talent" The survey results, reported in .ay
<FFO, sho! that there !as indeed a relationship bet!een a fir%s financial perfor%ance and its global talent'
%anage%ent practices" Three talent'%anage%ent practices, in particular, correlated highly !ith exceptional
financial perfor%ance9
Creating globally consistent talent'evaluation processes
$chieving cultural diversity in a global setting
Developing and %anaging global leaders J;HK
The .cinsey survey found that co%panies achieving scores in the top third of any of these areas had a RF
percent chance of achieving financial perfor%ance in the top third of all co%panies" J<FK
Iets take a closer look at !hat each of these three best practices entail" First, having consistent talent
evaluation %eans that e%ployees around the !orld are evaluated on the sa%e standards" This is i%portant
because it %eans that if an e%ployee fro% one country transfers to another, his or her %anager can be
assured that the e%ployee has been held to the sa%e level of skills and standards" 1econd, having cultural
diversity %eans having e%ployees !ho learn so%ething about the culture of different countries, not 5ust
ac&uire language skills" This helps bring about open'%indedness across cultures" Finally, developing global
leaders %eans rotating e%ployees through different cultures, giving the% international experience"
Co%panies that do this best also have policies of giving %anagers incentives to share their e%ployees !ith
other units"
5!6 TA5!AWA6S
The co%ing shortage of !orkers %akes it i%perative for %anagers to find, hire, retain, and develop
their e%ployees"
.anagers first need to define the skills that the co%pany !ill need for the future" Then they can 6%ake
or buy7-that is, train or hire-e%ployees !ith the needed skills"
2etaining these e%ployees re&uires engaging the% on the 5ob" @ood talent'%anage%ent practices
translate into i%proved financial perfor%ance for the co%pany as a !hole"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" Eo! %ight a %anager go about identifying the skills that the co%pany !ill need in the future#
<" Describe the 6%ake or buy7 option and ho! it can be applied to hu%an resources %anage%ent"
=" Eo! !ould you go about attracting and recruiting talented !orkers to your organi)ation# 1uggest
ideas you !ould use to retain stars and keep the% happy in their 5obs"
>" What skills %ight an organi)ation like a bank need fro% its e%ployees#
4ext
N)9 !ffecti'e Se%ection and P%ace.ent Strategies
&!ARNIN$ O*+!CTI,!S
;" Identify !hy a good 5ob description benefits both the e%ployer and the applicant"
<" Iearn ho! co%pany culture can be used in selecting ne! e%ployees"
=" no! the advantages and disadvantages of personnel testing"
>" 2ecogni)e so%e of the considerations in international staffing and place%ent"
+o-;8escription *est Practices
1electing the right e%ployees and placing the% in the right positions !ithin the co%pany is a key hu%an
resources %anage%ent +E2., function and is vital to a co%panys success" Co%panies should devote as
%uch care and attention to this 6soft7 issue as they do to financial planning, because errors !ill have a
financial i%pact and adverse effects on a co%panys strategy"
Iets use a hypothetical exa%ple of Walt, a %anager in a %idsi)e co%pany !ho considers hi%self fortunate
that the organi)ational chart allo!s hi% to have a full'ti%e ad%inistrative assistant +$$, !ho reports to hi%"
In the t!o years Walt has been in his 5ob, ho!ever, five people have held this $$ 5ob" The %ost recent $$,
!ho resigned after four !eeks, told Walt that she hadnt kno!n !hat the 5ob !ould involve" 6I dont do
nu%bersB I% not an accountant,7 she said" 6If you !ant so%eone to add up figures and do calculations all
day, you should say so in the 5ob description" *esides, I didnt reali)e ho! long and stressful %y co%%ute
!ould be-the traffic bet!een here and %y house is %urder!7
Taken aback, Walt contacted the co%panys E2. depart%ent to clarify the 5ob description for the $$
position" What he learned !as that the description %ade available to applicants !as, indeed, inade&uate in a
nu%ber of !ays, !hich resulted in fre&uent turnover that !as draining Walts co%pany of resources that
could be used for %uch %ore constructive purposes"
$n accurate and co%plete 5ob description is a po!erful strategic hu%an resources %anage%ent +1E2., tool
that costs little to produce and can save a bundle in reduced turnover" While the realistic description %ay
discourage so%e applicants +e"g", those !ho lack an affinity for calculations %ight not bother to apply for
Walts $$ position,, those !ho follo! through !ith the application process are %uch %ore likely to be
satisfied !ith the 5ob once hired" In addition to su%%ari)ing !hat the !orker !ill actually be doing all day,
here are so%e other suggestions for !riting an effective 5ob description9 J;K
Iist the 5ob re&uire%ents in bullet for%, so that 5ob seekers can scan the posting &uickly"
8se co%%on industry ter%s, !hich speak to kno!ledgeable 5ob seekers"
$void organi)ation'specific ter%s and acrony%s, !hich !ould confuse 5ob seekers"
8se %eaningful 5ob titles +not the internal 5ob codes of the organi)ation,"
8se key !ords taken fro% the list of co%%on search ter%s +to %axi%i)e the chance that a 5ob posting
appears on a 5ob seekers search,"
Include infor%ation about the organi)ation, such as a short su%%ary and links to %ore detailed infor%ation"
Eighlight special intangibles and unusual benefits of the 5ob and !orkplace +e"g", flexti%e or travel,"
1pecify the 5obs location +and nearest large city, and provide links to local co%%unity pages +to entice 5ob
seekers !ith &uality'of'life infor%ation,"
Tai%oring Recruit.ent to atch Co.pan/ Cu%ture
.anagers !ho hire !ell dont 5ust hire for skills or acade%ic backgroundB they ask about the potential
e%ployees philosophy on life or ho! the candidate likes to spend free ti%e" These &uestions help the
%anager assess !hether the cultural fit is right" $ co%pany in !hich all !ork is done in tea%s needs tea%
players, not 5ust 6$7 students" $sk &uestions such as 6Do you have a personal %ission state%ent# If not,
!hat !ould it be if you !rote one today#7 to identify a potential hires preferences" J<K
$t @oogle, for exa%ple, 5ob candidates are asked &uestions such as 6If you could change the !orld using
@oogles resources, !hat !ould you build#7 J=K@oogle !ants e%ployees !ho !ill think and act on a grand
scale-e%ployees !ho !ill take on the challenges of their 5obs, !hatever their 5obs %ay be" Take Nosef
De1i%one, @oogles executive chef" De1i%one, !hos !orked every!here fro% fa%ily'style restaurants to
.ichelin'caliber ones, !as a%a)ed to learn that @oogle had seventeen cafes for its e%ployees" 64obody
changes the %enu daily on this scale,7 he says" 6Its unheard of"7 When he !as hired, De1i%one reali)ed,
6Wo!, you hire a guy !hos an expert in food and let hi% run !ith it! :ou dont get in his !ay or
%icro%anage#7 J>K @oogle applies this approach to all positionsB they let e%ployees run !ith the challenge"
Traditionally, co%panies have built a co%petitive advantage by focusing on !hat they have-structural
advantages such as econo%ies of scale, a !ell'established brand, or do%inance in certain %arket
seg%ents" Co%panies such as 1outh!est $irlines, by contrast, see its people as their advantage9 6(ur fares
can be %atchedB our airplanes and routes can be copied" *ut !e pride ourselves on our custo%er service,7
said 1herry Chelps, director of corporate e%ploy%ent" Thats !hy 1outh!est looks for candidates !ho
generate enthusias%B they lean to!ard extroverted personalities" 1outh!est hires for attitude" Flight
attendants have been kno!n to sing the safety instructions, and pilots tell 5okes over the public address
syste%"
1outh!est $irlines %akes clear right fro% the start the kind of people it !ants to hire" For exa%ple, one
recruit%ent ad depicted 1outh!est cofounder Eerb elleher dressed as 3lvis and read 6Work in a Clace
Where 3lvis Eas *een 1pottedQThe &ualifications# It helps to be outgoing" .aybe even a bit off'center" $nd
be prepared to stay a!hile" $fter all, !e have the lo!est e%ployee turnover rate in the industry"7 Ceople %ay
scoff or &uestion !hy 1outh!est indulges in such sho!y activities or !onder ho! an airline can treat its 5obs
so lightly" Chelps ans!ers, 6We do take our !ork seriously" Its ourselves that !e dont"7 Ceople !ho dont
have a hu%ane, can'do attitude are fired" 1outh!est has a probationary period during !hich it deter%ines
the co%patibility of ne! hires !ith the culture" Ceople %ay be excellent perfor%ers, but if they dont %atch
the culture, theyre let go" $s elleher once said, 6Ceople !ill !rite %e and co%plain, MEey, I got ter%inated
or put on probation for purely sub5ective reasons" $nd Ill say, M2ight! Those are the i%portant reasons"7 J?K
In %any states, e%ployees are covered under !hat is kno!n as the at;2i%% e.p%o/.ent doctrine" The at'
!ill e%ploy%ent doctrine defines an e%ploy%ent relationship in !hich either party can break the relationship
!ith no liability, provided there !as no express contract for a definite ter% governing the e%ploy%ent
relationship and that the e%ployer doesnt belong to a collective bargaining unit +i"e", a union," JGK Eo!ever,
there are legal restrictions on ho! purely sub5ective the reasons for firing can be" For instance, if the
organi)ation has !ritten hiring and firing procedures and doesnt follo! the% in selective cases, then those
cases %ight give rise to clai%s of !rongful ter%ination" 1i%ilarly, in situations !here ter%ination is clearly
syste%atic-for exa%ple, based on age, race, religion, and so on-!rongful ter%ination can be clai%ed"
Organized &a-or and Internationa% *usiness
.any labor %arkets around the !orld have organi)ed labor and labor unions, 5ust as the 8nited 1tates does"
Eistorically, %ost labor relations depart%ents !ere decentrali)ed, operating on the individual subsidiary level"
With the rise of globali)ation, ho!ever, labor unions are seeing ne! threats, such as %ultinational
enterprises +.43s, threatening to %ove production to another country if the local union is de%anding too
%uch"
*ecause the actions of labor unions can constrain a fir%s ability to pursue an effective global strategy, the
fir%s 1E2. function %ust develop policies and practices that %aintain har%ony and reduce potential
conflict bet!een labor and %anage%ent" 1i%ilarly, .43s evaluate the labor cli%ate !hen considering
entering a ne! international location" .43s typically look for labor %arkets that do not have a history of
strife" .43s %ay also try to negotiate better ter%s !ith a local union in exchange for locating a ne! facility in
the country" To counter this, organi)ed labor has atte%pted to organi)e globally, but this has proven to be
difficult due to legal and cultural differences a%ong countries" JRK
Too%s and ethods# Inter'ie2ing and Testing
To %ake good selection and place%ent decisions, a co%pany needs infor%ation about the 5ob candidate"
Testing and intervie!ing are t!o ti%e'tested %ethods used to get that infor%ation"
$ detailed intervie! begins by asking the candidate to describe his !ork history and then getting as %uch
background on his %ost recent position +or the position %ost si%ilar to the open position," $sk about the
candidates responsibilities and %a5or acco%plish%ents" Then, ask in'depth &uestions about specific 5ob
situations" Called situationa% inter'ie2s, these types of intervie!s can focus on past experience or future
situations" For exa%ple, experienced'based &uestions dra! on the e%ployees past perfor%ance" (ne such
&uestion %ay be 6What is a %a5or initiative you developed and the steps you took to get it adopted# Describe
a proble% you had !ith so%eone and ho! you handled it"7 In contrast, future'oriented situation intervie!
&uestions ask candidates to describe ho! they !ould handle a future hypothetical situation" $n exa%ple of
this kind of &uestion is 61uppose you ca%e up !ith a faster !ay to do a task, but your tea% !as reluctant to
%ake the change" What !ould you do in that situation#7
In addition to !hat is asked, its also i%portant that intervie!ers understand !hat they should not ask, largely
because certain &uestions lead to ans!ers that %ay be used to discri%inate" There are five particularly
sensitive areas" First, the only ti%es you can ask about age are !hen it is a re&uire%ent of a 5ob duty or you
need to deter%ine !hether a !ork per%it is re&uired" 1econd, it is rarely appropriate or legal to ask
&uestions regarding race, color, national origin, or gender" Third, although candidates %ay volunteer religious
or sexual orientation infor%ation in an intervie!, you still need to be careful not to discri%inate" $sk &uestions
that are relevant to !ork experience or &ualifications" Fourth, fir%s cannot discri%inate for health or
disabilitiesB you %ay not ask about s%oking habits, health'related issues, or disabilities in an intervie!"
Finally, you %ay not ask &uestions about %arital status, children, personal life, pregnancy, or arrest record"
These kinds of &uestions could be te%pting to ask if youre intervie!ing for a position re&uiring travelB
ho!ever, you can only explain the travel re&uire%ents and confir% that these re&uire%ents are acceptable"
In addition to intervie!s, %any e%ployers use testing to select and place 5ob applicants" $ny tests given to
candidates %ust be 5ob related and follo! guidelines set forth by the 81 3&ual 3%ploy%ent (pportunity
Co%%ission to be legal" JOK For the tests to be effective, they should be developed by reputable
psychologists and ad%inistered by professionally &ualified personnel !ho have had training in occupational
testing in an industrial setting" The rationale behind testing is to give the e%ployer %ore infor%ation before
%aking the selection and place%ent decision-infor%ation vital to assessing ho! !ell a candidate is suited
to a particular 5ob" .ost pree%ploy%ent assess%ent tests %easure thinking styles, behavioral traits, and
occupational interests" The results are available al%ost i%%ediately after a candidate co%pletes the roughly
hour'long &uestionnaire" Thinking'styles tests can tell the potential e%ployer ho! fast so%eone can learn
ne! things or ho! !ell she can verbally co%%unicate" *ehavioral'traits assess%ents %easure energy level,
assertiveness, sociability, %anageability, and attitude" For exa%ple, a high sociability score !ould be a
desirable trait for salespeople" JHK
Internationa% Staffing and P%ace.ent
In our increasingly global econo%y, %anagers need to decide bet!een using expatriates or hiring locals
!hen staffing international locations" $ne(patriate, or expat, is a person !ho is living in a country other than
his or her ho%e +native, country" .ost expatriates only stay te%porarily in the foreign country, planning to
return to their ho%e country" 1o%e expatriates, ho!ever, never return to their country of citi)enship" (n the
surface, this see%s a si%ple choice bet!een the fir%'specific expertise of the expatriate and the cultural
kno!ledge of the local hire" In reality, co%panies often fail to consider the high probability and high cost of
expatriates failing to adapt and perfor% in their international assign%ents"
There are four predictors of a %anagers ability to succeed as an expatriate9
;" Se%f;orientation) The expatriate has attributes that strengthen his or her self'estee%, self'confidence, and
%ental !ell'being" J;FK
<" Others orientation) The expatriate has attributes that enhance his or her ability to interact effectively !ith
host'country nationals +e"g", sociability and openness," J;;K
=" Perceptua% a-i%it/) The expatriate has the ability to understand !hy people of other countries behave the
!ay they do" J;<K
>" Cu%tura% toughness) The expatriate has the ability to ad5ust to a particular posting given the culture of the
assign%ents country" J;=K
Individuals !ho are high on all four di%ensions are generally better able to cope and thrive !ith an expat
experience" 2esearch also sho!s that a global %ind'set +i"e", having cognitive co%plexity-the ability to
differentiate, articulate, and integrate-and a cos%opolitan outlook, greatly increases the chances that a
global %anager !ill be successful in international assign%ents"J;>K Ironically, ho!ever, studies sho! that
%ost fir%s select expatriate %anagers on the basis of technical expertise and do not factor in a global %ind'
set"
Fir%s that use expatriates to staff international operations %ust be a!are of and prepare for the possibility of
expatriate failure, !hich %eans that the expatriate returns to the ho%e country before co%pleting the
international assign%ent" 2esearchers esti%ate the expatriate failure rate to be >F percent to ?? percent"
J;?K For exa%ple, cultural issues can easily create %isunderstandings bet!een expatriate %anagers and
e%ployees, suppliers, custo%ers, and local govern%ent officials" @iven the high cost of expatriate failure,
international'assign%ent decisions are often %ade too lightly in %any co%panies" There are several factors
that contribute to expatriate failure in 81'head&uartered %ultinational fir%s9
The expatriates spouse is unable to adapt to a foreign culture, or there are other fa%ily'related reasons"
The expatriate is unable to ad5ust to the ne! culture or lacks personal or e%otional %aturity to function !ell
in the ne! country"
The expatriate is unable to handle the larger overseas responsibilities"
The challenge is to overco%e the natural tendency to hire a !ell'kno!n, corporate insider over an unkno!n
local at the international site" Eere are so%e indications to consider in deter%ining !hether an expatriate or a
local hire !ould be best"
.anagers %ay !ant to choose an expatriate !hen the follo!ing factors are true9
Co%pany'specific technology or kno!ledge is i%portant"
Confidentiality in the staff position is an issue"
There is a need for speed +i"e", assigning an expatriate is usually faster than hiring a local,"
Work rules regarding local !orkers are restrictive"
The corporate strategy is focused on global integration"
.anagers %ay !ant to staff the position !ith a local hire !hen the follo!ing factors are true9
The need to interact !ith local custo%ers, suppliers, e%ployees, or officials is para%ount"
The corporate strategy is focused on %ultido%estic or %arket'oriented operations"
Cost is an issue +i"e", expatriates often bring high relocationStravel costs,"
I%%igration rules regarding foreign !orkers are restrictive"
There are large cultural distances bet!een the host country and candidate expatriates" J;GK
5!6 TA5!AWA6S
3ffective selection and place%ent %eans finding and hiring the right e%ployees for your organi)ation
and then putting the% into the 5obs for !hich they are best suited" Croviding an accurate and co%plete
5ob description is a key step in the selection process"
$n i%portant deter%ination is !hether the candidates personality is a good fit for the co%panys
culture" Intervie!ing is a co%%on selection %ethod" 1ituational intervie!s ask candidates to describe
ho! they handled specific situations in the past +experience'based situational intervie!s, and ho! they
!ould handle hypothetical &uestions in the future +future'oriented situational intervie!s," (ther
selection tools include cognitive tests, personality inventories, and behavioral'traits assess%ents"
1pecific personalities %ay be best suited for positions that re&uire sales, tea%!ork, or
entrepreneurship, respectively"
In our increasingly global econo%y, %anagers need to decide bet!een using expatriates and hiring
locals !hen staffing international locations"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What kind of infor%ation !ould you include in a 5ob description#
<" Do you think it is i%portant to hire e%ployees !ho fit into the co%pany culture# Why or !hy not#
=" Iist &uestions that you !ould ask in a future'oriented situational intervie!"
>" What re&uire%ents %ust personnel tests %eet#
?" If you !ere hiring to fill a position overseas, ho! !ould you go about selecting the best candidate#
N): The Ro%es of Pa/ Structure and Pa/ for Perfor.ance
&!ARNIN$ O*+!CTI,!S
;" 3xplain the factors to be considered !hen setting pay levels"
<" 8nderstand the value of pay for perfor%ance plans"
=" Discuss the challenges of individual versus tea%'based pay"
Co.pensation 8esign Issues for $%o-a% Fir.s
Cay can be thought of in ter%s of the 6total re!ard7 that includes an individuals base salary, variable pay,
share o!nership, and other benefits" $ -onus, for exa%ple, is a for% of variable pay" $ bonus is a one'ti%e
cash pay%ent, often a!arded for exceptional perfor%ance" Croviding e%ployees !ith an annual state%ent of
all the benefits they receive can help the% understand the full value of !hat they are getting" J;K
There are five areas that global fir%s %ust %anage !hen designing their co%pensation strategy" The first
involves setting up a !orld!ide co%pensation syste%" What this %eans is that the fir% is coordinating each
countrys co%pensation in such a !ay that the overall collection of countries operates as a syste%"
.anage%ent, for instance, !ill have decided !hich features of the syste% to standardi)e and !hich ones to
adapt to local custo%s, cultures, and practices" The second part of the strategy involves decisions about ho!
to co%pensate third'country nationals" $ third;countr/ nationa% 0TCN4 is an individual !ho is a citi)en of
neither the 8nited 1tates nor the host country and !ho is hired by the 81 govern%ent or a govern%ent'
sanctioned contractor to perfor% !ork in the host country" TC4s %ost often perfor% !ork on govern%ent
contracts in the role of a private %ilitary contractor" The ter% can also be applied to foreign !orkers
e%ployed in private industry in the $rab @ulf region +e"g", u!ait, `atar, and 1audi $rabia,, in !hich its
co%%on to outsource !ork to nonciti)ens"
The last three areas of co%pensation strategy relate to &uestions about international benefits and related
taxes, pension plans, and stock'o!nership plans" With expatriates, for instance, pay is but a s%all
percentage of total co%pensation" $ typical expatriate package !ill include the follo!ing9 J<K
$ cost'of'living allo!ance to protect the e%ployees purchasing po!er +the goal is e&uali)ation, not a bonus,
$ %obility pre%iu% of ? percent to ;? percent of gross salary
$ hardship allo!ance of up to =F percent for e%ployees %oving to difficult areas
2easonable costs for %oving furniture
1chooling costs for children bet!een four and eighteen years of age
Fa%ily support to cover language and cultural training and help for the spouse to find !ork
$ one'off pay%ent, usually of one %onths salary, to cover %iscellaneous expenses
8id 6ou 5no2"
$s fir%s enter e%erging %arkets to take advantage of the tre%endous gro!th opportunities there, they are
finding that they need to develop in'country talent rather than 5ust send expatriates" The kno!ledge that in'
country %anagers have of the local culture and the sheer nu%bers of e%ployees that !ill be needed to staff
local operations drive %anagers to hire locally" 1enior E2 professionals need to ask the%selves the follo!ing
&uestions9
Eo! %any of our current executives live in the countries !here !e do business#
Is the nu%ber of native executives proportional to the revenue of those countries#
Eo! %any of our senior executive tea% are fro% countries !here !e are experiencing gro!th#
It takes ti%e to build talent in e%erging %arkets, !here the talent pool %ay be less experienced, so E2
%anagers need to plan ahead"
Pa/ S/ste. !%e.ents
$s su%%ari)ed in Table G"; A3le%ents of a Cay 1yste%A, pay can take the for% of direct or indirect
co%pensation" 4on%onetary pay can include any benefit an e%ployee receives fro% an e%ployer or 5ob that
doesnt involve tangible value" This includes career and social re!ards-5ob security, flexible hours,
opportunities for gro!th, praise and recognition, task en5oy%ent, and friendships" Direct pay is an
e%ployees base !age" It can be an annual salary, hourly !age, or any perfor%ance'based pay that an
e%ployee receives, such as profit'sharing bonuses"
Table G"; 3le%ents of a Cay 1yste%
Non.onetar
/ pa/
*enefits that dont involve tangible value
8irect pa/ 3%ployees base !age
Indirect pa/ 3verything fro% legally re&uired progra%s to health insurance, retire%ent, housing, etc"
*asic pa/
Cash !ages paid to the e%ployee" *ecause paying a !age is a standard practice, the
co%petitive advantage can only co%e by paying a higher a%ount"
Incenti'e
pa/
$ bonus paid !hen specified perfor%ance ob5ectives are %et" .ay inspire e%ployees to set
and achieve a higher perfor%ance level and is an excellent %otivator to acco%plish fir% goals"
Stoc3
options
$ right to buy a piece of the business that %ay be given to an e%ployee to re!ard excellent
service" $n e%ployee !ho o!ns a share of the business is far %ore likely to go the extra %ile
for the operation"
*onuses
@ifts given occasionally to re!ard exceptional perfor%ance or for special occasions" *onuses
can sho! that an e%ployer appreciates its e%ployees and ensures that good perfor%ance or
special events are re!arded"
1ource9 .ason Carpenter, Talya *auer, and *errin 3rdogan, ?rinci+les of Aanagement +4yack, 4:9 Flat
World no!ledge, <FFH,, accessed Nanuary ?, <F;;, http9SS!!!"flat!orldkno!ledge"co%Sprinted'
bookS;<RO=>"
Indirect co%pensation is far %ore varied, including everything fro% social security and health insurance to
retire%ent progra%s, paid leave, child care, and housing" 81 la! re&uires so%e indirect'co%pensation
ele%ents +e"g", social security, une%ploy%ent, and disability pay%ents," (ther indirect ele%ents are up to
the e%ployer and can serve as excellent !ays to provide benefits to both the e%ployees and the e%ployer"
For exa%ple, a !orking parent %ay take a lo!er'paying 5ob !ith flexible hours that !ill allo! hi% to be ho%e
!hen the children get ho%e fro% school" $ recent graduate %ay be looking for stable !ork and an affordable
place to live" *oth of these individuals have different needs and, therefore, !ould appreciate different
co%pensation ele%ents"
Setting Pa/ &e'e%s
When setting pay levels for positions, %anagers should %ake sure that the pay level is fair relative to !hat
other e%ployees in the position are being paid" Cart of the pay level is deter%ined by si%ilar pay levels at
other co%panies" If your co%pany pays substantially less than others, its going to be the last choice of
e%ploy%ent-unless it offers so%ething over!hel%ingly positive to offset the lo! pay, such as flexible hours
or a fun, congenial !ork at%osphere" *esides these external factors, co%panies conduct
a Bo- e'a%uation to deter%ine the internal value of the 5ob-the %ore vital the 5ob to the co%panys success,
the higher the pay level" Nobs are often ranked alphabetically-6$7 positions are those on !hich the
co%panys value dependsB 6*7 positions are so%e!hat less i%portant in that they dont deliver as %uch
upside to the co%panyB and 6C7 positions are those of least i%portance-in so%e cases, these are
outsourced"
The %ost vital 5obs to one co%panys success %ay not be the sa%e in other co%panies" For exa%ple,
infor%ation technology co%panies %ay put top priority on their soft!are developers and progra%%ers,
!hereas retailers such as 4ordstro% !ould consider the frontline e%ployees !ho provide personali)ed
service as the 6$7 positions" For an airline, pilots !ould be a 6*7 5ob because, although they need to be !ell
trained, investing further in their training is unlikely to increase the airlines profits" 6C7 positions for a retailer
%ight include back'office bill processing, !hile an infor%ation technology co%pany %ight classify custo%er
service as a 6C7 5ob"
When setting re!ard syste%s, its i%portant to pay for !hat the co%pany actually hopes to achieve" 1teve
err, a senior advisor and for%er chief learning officer at @old%an 1achs, talks about the co%%on %istakes
that co%panies %ake !ith their re!ard syste%s, such as saying they value tea%!ork but only re!arding
individual effort" 1i%ilarly, co%panies say they !ant innovative thinking or risk taking, but they re!ard people
!ho 6%ake the nu%bers"7 J=K If co%panies truly !ant to achieve !hat they hope for, they need pay%ent
syste%s aligned !ith their goals" For exa%ple, if retention of star e%ployees is i%portant to your co%pany,
re!ard %anagers !ho retain top talent" $t CepsiCo, for instance, a third of a %anagers bonus is tied directly
to ho! !ell the %anager did at developing and retaining e%ployees" Tying co%pensation to retention %akes
%anagers accountable" J>K
$s you can i%agine, one of the reasons that fir%s seek !orkers in other countries is to take advantage of the
lo! relative cost of labor" $s sho!n in the follo!ing figure, the %ost recent 81 *ureau of Iabor 1tatistics
data sho! that the 8nited 1tates is a%ong the costliest countries for %anufacturing e%ployees, exceeded
only by Canada and countries in the 3uro $rea +$ustria, *elgiu%, Finland, France, @er%any, @reece,
Ireland, Italy, Iuxe%bourg, the 4etherlands, Cortugal, 1lovakia, and 1pain,"

6ource" (6 Bureau of %abor 6tatistics3 7International $om+arisons of Hourly $om+ensation $osts in
Aanufacturing3 .//D39 news release3 Aarc >3 ./223 accessed <une 03
./223 tt+"==www.bls.go'=news.release=+df=iccc.+df.
Its i%portant to point out, ho!ever, that si%ply because a co%pany locates an operation in a lo!er'pay
%arket doesnt necessarily %ean that the cost of the operation !ill be less" For instance, in a <FFH intervie!
3%%anuel Ee%%erle, a principal !ith executive search fir% Eeidrick V 1truggles, noted,
Theres a !rong assu%ption !ith regard to China" Eead&uarters in Napan, in 3urope, in the 81 tend to
believe that China, because its lo! cost, should be cheaper in ter%s of executives packages" 4othing is
%ore !rong" In fact, if you !ant to !oo top talent, youre going to have to pay the right a%ounts" (ften you
end up !ith packages for si%ilar skill sets, si%ilar responsibility, scope, si)e, everythingQthat is higher in
China than !hat !ould be the case !ith si%ilar counterparts in 3urope and the 81" $nd !e spend a lot of
ti%e coaching co%panies, especially those that are head&uartered overseas, that they need to invest in
talent Jin %uch the sa%e !ay as they !ouldK invest to create a ne! research center, to create ne!
production facilities in China" They need to invest in the talent" If you !ant top talent, youre going to have to
pay for it" Were starting to see so%e interesting trends" We can start seeing a nu%ber of top talents !ho
%eet the international best standards, !ho could co%pete !ith their peers in the 81 or in 3urope-and I%
talking about in ter%s of perfor%ance, in ter%s of skill sets" $nd probably, !ere going to start seeing %ore
and %ore of thatQI believe that it %akes less and less sense to have Westerners, or JexpatriatesK, lets say,
!ho are co%pensated t!ice or three ti%es as %uch as the local %ainland Chinese, !hile perfor%ance is
e&uivalent or so%eti%es even lo!er" That !ill create issues, very serious issues, in your organi)ation" I%
al!ays concerned and !orried !hen a co%pany tells %e that they !ant to locali)e because they !ant to
drive do!n costs" Theres a host of reasons that are better reasons than 5ust cost" J?K
$s the Eeidrick V 1truggles exa%ple suggests, its often a dile%%a !hether a %ultinational co%pany should
locali)e or globali)e its co%pensation for the local %anagers" If they pay the% on the basis of global
standards, a higher cost !ill e%erge" If not, it !ill be difficult to retain the%" Cay ine&uity !ill often lead to a
sense of unfairness" :ou can i%agine a local %anager asking herself, 6Why should I get t!o or three ti%es
less pay even !hen I deliver a better perfor%ance than the expatriates#7
Pa/ for Perfor.ance
$s its na%e i%plies, pa/ for perfor.ance ties pay directly to an individuals perfor%ance in %eeting specific
business goals or ob5ectives" .anagers +often together !ith the e%ployees the%selves, design perfor%ance
targets to !hich the e%ployees !ill be held accountable" The targets have acco%panying %etrics that enable
e%ployees and %anagers to track perfor%ance" The %etrics can be financial indicators, or they can be
indirect indicators such as custo%er satisfaction or speed of develop%ent" Cay'for'perfor%ance sche%es
often co%bine a fixed base salary !ith a variable pay co%ponent +e"g", bonuses or stock options, that varies
!ith the individuals perfor%ance"
Innovative 3%ployee'2ecognition Crogra%s
In addition to regular pay structures and syste%s, co%panies often create special progra%s that re!ard
exceptional e%ployee perfor%ance" For exa%ple, the financial soft!are co%pany Intuit instituted a progra%
called 1potlight" The purpose of 1potlight is to 6spotlight perfor%ance, innovation and service
dedication"7 JGK 8nlike regular salaries or year'end bonuses, 1potlight a!ards can be given on the spot for
specific behavior that %eets the re!ard criteria, such as filing a patent, inventing a ne! product, or %eeting a
%ilestone for years of service" 2e!ards can be cash a!ards of T?FF to T=,FFF and can be %ade by
%anagers !ithout high'level approval" In addition to cash and noncash a!ards, t!o Intuit a!ards feature a
trip !ith T?FF in spending %oney"JRK
Pa/ Structures for $roups and Tea.s
1o far, !e have discussed pay in ter%s of individual co%pensation, but %any e%ployers also use
co%pensation syste%s that re!ard all the organi)ations e%ployees as a group or various groups and tea%s
!ithin the organi)ation" Iets exa%ine so%e of these less'traditional pay structures"
$ainsharing
1o%eti%es called profit sharing, gainsharing is a for% of pay for perfor%ance" In gainsharing, the
organi)ation shares the financial gains !ith e%ployees" 3%ployees receive a portion of the profit achieved
fro% their efforts" Eo! %uch they receive is deter%ined by their perfor%ance against the plan" Eeres ho!
gainsharing !orks9 First, the organi)ation %ust %easure the historical +baseline, perfor%ance" Then, if
e%ployees help i%prove the organi)ations perfor%ance on those %easures, they share in the financial
re!ards achieved" This sharing is typically deter%ined by a for%ula"
The effectiveness of a gainsharing plan depends on e%ployees seeing a relationship bet!een !hat they do
and ho! !ell the organi)ation perfor%s" The larger the organi)ation, the harder it is for e%ployees to see the
effects of their !ork" Therefore, gainsharing plans are %ore effective in co%panies !ith fe!er than ;,FFF
people" JOK @ainsharing success also re&uires the co%pany to have good perfor%ance %etrics in place so
that e%ployees can track their process" The gainsharing plan can only be successful if e%ployees believe
and see that if they perfor% better, they !ill be paid %ore" The pay should be given as soon as possible after
the perfor%ance so that the tie bet!een the t!o is established"
When designing syste%s to %easure perfor%ance, reali)e that perfor%ance appraisals need to focus on
&uantifiable %easures" Designing these %easures !ith input fro% the e%ployees helps %ake the %easures
clear and understandable to e%ployees and increases their gainsharing buy'in"
Tea%'*ased Cay
.any %anagers seek to build tea%s but face the &uestion of ho! to %otivate all the %e%bers to achieve the
tea%s goals" $s a result, tea%'based pay is beco%ing increasingly accepted" In ;HH<, only = percent of
co%panies had tea%'based pay" JHK *y ;HHH, OF percent of co%panies had tea%'based pay" J;FKWith
increasing acceptance and adoption co%es different choices and options of ho! to structure tea%'based
pay" (ne !ay is to first identify the type of tea% you have-parallel, !ork, pro5ect, or partnership-and then
choose the pay option thats %ost appropriate"
?arallel teams are tea%s that exist alongside +parallel to, an individuals daily tea%" For exa%ple, a person
%ay be !orking in the accounting depart%ent but %ay also be asked to 5oin a tea% on productivity" Carallel
tea%s usually %eet on a part'ti%e rather than a full'ti%e basis and are often interdepart%ental and for%ed to
deal !ith a specific issue" The re!ard for perfor%ance on this tea% !ould typically be a %erit increase or a
recognition a!ard +cash or noncash, for perfor%ance on the tea%"
$ +roEect team is another te%porary tea%, but it %eets full'ti%e for the life of the pro5ect" For exa%ple, a
tea% %ay be for%ed to develop a ne! product and then disband !hen the ne! product is co%pleted" The
pay sche%es appropriate for this tea% include profit sharing, recognition re!ards, and stock options" Tea%
%e%bers %ay be asked to evaluate each others perfor%ance"
$ +artnersi+ team is for%ed around a 5oint venture or strategic alliance" Crofit sharing in the venture is the
%ost co%%on pay structure"
Finally, !ith the wor, team, all individuals !ork together daily to acco%plish their 5obs" 1kill'based pay and
gainsharing are the pay%ent sche%es of choice, !ith tea% %e%bers evaluating one anothers perfor%ance"
Pa/ S/ste.s that Re2ard *oth Tea. and Indi'idua% Perfor.ance
There are t!o %ain theories of ho! to re!ard e%ployees" 4ancy at) characteri)ed the theories as t!o
opposing ca%ps" The first ca%p advocates re!arding individual perfor%ance, through plans such as
co%%issions'sales sche%es and %erit'based pay" The clai% is that this !ill increase e%ployees energy,
drive, !illingness to take risks, and task identification" The disadvantages of re!arding individual
perfor%ance are that e%ployees !ill cooperate less, that high perfor%ers %ay be resented by others in the
corporation, and that lo! perfor%ers %ay try to under%ine top perfor%ers"J;;K
The second ca%p believes that organi)ations should re!ard tea% perfor%ance, !ithout regard for individual
acco%plish%ent" This re!ard syste% is thought to bring the advantages of increased helping and
cooperation, sharing of infor%ation and resources, and %utual respect a%ong e%ployees" The
disadvantages of tea%'based re!ard sche%es are that they create a lack of drive, that lo! perfor%ers
beco%e free riders, and that high perfor%ers %ay !ithdra! or beco%e 6tough cops"7 Free riders are
individuals !ho benefit fro% a the actions of others !ithout contributing or paying their fair share of the costs"
The ter% can apply to individuals !ho do not do their fair share of !ork on tea%s, and it can also apply to
fir%s that benefit fro% a shared resource but do not pay or contribute to its creation or %aintenance"
at) sought to identify re!ard sche%es that achieve the best of both !orlds" These hybrid pay syste%s
!ould re!ard individual and tea% perfor%ance and pro%ote excellence at both levels" at) suggested t!o
possible hybrid re!ard syste%s" The first syste% features a base rate of pay for individual perfor%ance that
increases !hen the group reaches a target level of perfor%ance" In this re!ard syste%, individuals have a
clear pay'for'perfor%ance incentive, and their rate of pay increases !hen the group as a !hole does !ell" In
the second hybrid, the pay'for'perfor%ance rate also increases !hen a target is reached" 8nder this re!ard
syste%, ho!ever, every tea% %e%ber %ust reach a target level of perfor%ance before the higher pay rate
kicks in" In contrast !ith the first hybrid, this re!ard syste% clearly incentivi)es the better perfor%ers to aid
poorer perfor%ers" (nly !hen the poorest perfor%er reaches the target does the higher pay rate kick in"
5!6 TA5!AWA6S
Co%pensation plans re!ard e%ployees for contributing to co%pany goals" Cay levels should reflect
the value of each type of 5ob to the co%panys overall success" For so%e co%panies, technical 5obs
are the %ost vital, !hereas for others frontline custo%er'service positions deter%ine the success of the
co%pany against its co%petitors"
Co%panies should identify the types of tea%s they have-parallel, !ork, pro5ect, or partnership-and
then choose the pay options that are %ost appropriate"
Cay'for'perfor%ance plans tie an individuals pay directly to their ability to %eet perfor%ance targets"
These plans can re!ard individual perfor%ance or tea% perfor%ance-or a co%bination of the t!o"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What factors !ould you consider !hen setting a pay level for a particular 5ob#
<" What %ight be the 6$7 level positions in a bank#
=" If you !ere running a business, !ould you i%ple%ent a pay'for'perfor%ance sche%e# Why or !hy
not#
>" Describe the difference bet!een a base salary, a bonus, and a gainsharing plan"
?" Discuss the advantages and disadvantages of re!arding individual versus tea% perfor%ance"
N)? T/ing It A%% TogetherCAsing the HR *a%anced Scorecard to $auge and anage Hu.an Capita%1
Inc%uding 6our O2n
&!ARNIN$ O*+!CTI,!S
;" Describe the *alanced 1corecard %ethod and ho! it can be applied to E2."
<" Discuss !hat is %eant by 6hu%an capital"7
=" 8nderstand !hy %etrics are i%portant to i%proving co%pany perfor%ance"
>" Consider ho! your hu%an capital %ight be %apped on an E2. *alanced 1corecard"
App%/ing the *a%anced Scorecard ethod to HR
:ou %ay already be fa%iliar !ith the *alanced 1corecard, a tool that helps %anagers %easure !hat %atters
to a co%pany" Developed by 2obert aplan and David 4orton, the *a%anced Scorecard helps %anagers
define the perfor%ance categories that relate to the co%panys strategy" The %anagers then translate those
categories into %etrics and track perfor%ance on those %etrics" *esides traditional financial and &uality
%easures, co%panies use e%ployee'perfor%ance %easures to track their e%ployees kno!ledge, skills, and
contributions to the co%pany" J;K
The e%ployee'perfor%ance aspects of the *alanced 1corecard analy)e e%ployee capabilities, satisfaction,
retention, and productivity" Co%panies also track !hether e%ployees are %otivated +e"g", by tracking the
nu%ber of suggestions %ade and i%ple%ented by e%ployees, and !hether e%ployee perfor%ance goals
are aligned !ith co%pany goals"
App%/ing the *a%anced Scorecard ethod to HR
*ecause the *alanced 1corecard focuses on the strategy and %etrics of the business, .ark Euselid and his
colleagues took this concept a step further and developed the Workforce 1corecard to provide a fra%e!ork
specific to E2." $ccording to Euselid, the Wor3force Scorecard identifies and %easures the behaviors,
skills, %ind'sets, and results re&uired for the !orkforce to contribute to the co%panys success" 1pecifically,
as su%%ari)ed in the follo!ing figure, the Workforce 1corecard has four key se&uential ele%ents9 J<K
;" Wor3force .ind;set and cu%ture) Does the !orkforce understand the strategy and e%brace it# Does the
!orkforce have the culture needed to support strategy execution#
<" Wor3force co.petencies) Does the !orkforce, especially in the strategically i%portant or 6$7 positions,
have the skills it needs to execute the strategy# +2e%e%ber that 6$7 positions are those 5ob categories %ost
vital to the co%panys success",
=" &eadership and 2or3force -eha'iors) $re the leadership tea% and !orkforce consistently behaving in
!ays that !ill lead to the attain%ent of the co%panys key strategic ob5ectives#
>" Wor3force success) Eas the !orkforce achieved the key strategic ob5ectives for the business# +If the
organi)ation can ans!er yes to the first three ele%ents, then the ans!er should be yes here as !ell", J=K

Te Wor,force Balanced 6corecard bridges HRA best +ractices and te firmFs com+reensi'e Balanced
6corecard.
Eu%an Capital
I%ple%enting the Workforce 1corecard re&uires a change in perspective, fro% seeing people as a cost to
seeing people as the co%panys %ost i%portant asset to be %anaged-hu%an capital" $s discussed
in 1ection G"; AThe Changing 2ole of 1trategic Eu%an 2esources .anage%ent in International *usinessA,
hu%an capital is the collective su% of the attributes, life experiences, kno!ledge, inventiveness, energy, and
enthusias% that a co%panys e%ployees choose to invest in their !ork" 1uch an asset is difficult to %easure
because its intangible, and factors like 6inventiveness7 are sub5ective and open to interpretation" The
challenge for %anagers, then, is to develop %easure%ent syste%s that are %ore rigorous and provide a
fra%e of reference" The %etrics can range fro% activity'based +transactional, %etrics to strategic ones"
Transactional %etrics are the easiest to %easure and include counting the nu%ber of ne! people hired, fired,
transferred, and pro%oted" The %easures associated !ith these include the cost of each ne! hire, the length
of ti%e and cost associated !ith transferring an e%ployee, and so forth" Typical ratios associated !ith
transactional %etrics include the training cost factor +i"e", the total training cost divided by the nu%ber of
e%ployees trained, and training cost percentage +i"e", the total training cost divided by the operating
expense," J>K *ut these transactional %easures dont get at the strategic issues-na%ely, !hether the right
e%ployees are being trained and !hether theyre re%e%bering and using !hat they learned" .easuring
training effectiveness re&uires not only devising %etrics but also changing the nature of the training"
!thics in Action
Eo! to Initiate an 3thics Crogra%
The *alanced 1corecard doesnt explicitly have a facet on global ethics, but that doesnt %ean you cant add
one" Fostering business'ethics a!areness in todays %ulticultural !orkplace and global %arketplace is only
the beginning" The follo!ing initiatives can be i%ple%ented to your corporate ethics progra%9
8ncover or discover !hat the burning ethical issues are in your organi)ation !orld!ide" This %ay involve
conducting a broad survey to a cross section of all e%ployees, covering all areas and depart%ents of the
organi)ation !orld!ide"
.ake ethics explicit by developing a clear code of conduct that is based on values and that deals directly and
cross'culturally !ith issues" (nce articulated, the challenge is to co%%unicate and inculcate this explicit
code throughout the organi)ation"
Crovide opportunities to learn about ethical dile%%as and ho! to resolve the%" Cractice doing so in
nonthreatening, experiential !ays, such as through si%ulation training or case studies" This %ight involve
creating an ethics progra% built around the organi)ations explicit code of conduct"
4et!ork !ith others in your industry and !ith ethics personnel fro% other organi)ations and industries" This
is an effective !ay to learn the best practices in the field and to bench%ark your organi)ation"
2evie! the 6ethical state of health7 on a continual basis by repeatedly revisiting your research,
co%%unication and training progra%s, code of conduct, and so forth" Ti%es change, and strategies shift"
Thus there is al!ays a need to revisit the sub5ect" Dont expect the core values to change" Eo!ever, one
!ord in a definition %ay need to be edited or replaced, or a ne! value %ay e%erge that is critical to the
future character and success of your business"
The *.( *ank of .ontreal has taken this step" 6What !ere trying to do at the *ank of .ontreal is to build
learning into !hat it is that people are doing,7 said Ni% 2ush of the *ank of .ontreals Institute for Iearning"
6The difficulty !ith training as !e once conceived it is that youre taken off your 5ob, youre taken out of
context, youre taken a!ay fro% those things that youre currently !orking on, and you go through so%e kind
of training" $nd then youve got to co%e back and begin to apply that" Well, you !alk back to that
environ%ent and it hasnt changed" Its not supportive or conducive to you behaving in a different kind of !ay,
so you revert back to the !ay you !ere, very naturally"7 To overco%e this, the bank conducts training such
that tea%s bring in specific tasks on !hich theyre !orking, so that they learn by doing" This re%oves the gap
bet!een learning in one context and applying it in another" The bank then looks at perfor%ance indices
directly related to the botto% line" 6If !e take an entire business unit through a progra% designed to help
the% learn ho! to increase the %arket share of a particular product, !e can look at %arket share and see if it
i%proved after the training,7 2ush said" J?K
.otorola has adopted a si%ilar approach, using action learning in its 1enior 3xecutive Crogra%" $ction
learning tea%s are assigned a specific pro5ect by .otorolas C3( and are responsible for i%ple%enting the
solutions they design" This approach not only educates the tea% %e%bers but also lets the% i%ple%ent the
ideas, so theyre in a position to influence the organi)ation" In this !ay, the training sea%lessly supports
.otorolas goals"
$s you can see in these exa%ples, organi)ations need e%ployees to apply their kno!ledge to activities that
add value to the co%pany" In planning and applying hu%an capital %easures, %anagers should use both
retrospective +lagging, and prospective +leading, indicators" Iagging indicators are those that tell the
co%pany !hat it has acco%plished +e"g", the *ank of .ontreals docu%enting the effect that training had on
a business units perfor%ance," Ieading indicators are forecasts that help an organi)ation see !here it is
headed" Ieading indicators include e%ployee learning and gro!th indices" JGK
!thics in Action
$s .ark Pickers of the Eu%an 2esource Institute points out, global corporations often have to operate in
nations !here bribery, sexual harass%ent, racial discri%ination, and a variety of other issues are not
unifor%ly vie!ed as illegal or even unethical" JRK $s a result, co%panies %ust grapple !ith %aintaining an
enterprise'!ide standard of ethics in countries !here these practices are not the nor% and %ay even be
counter to local traditions" For %any co%panies, China %ay be the test bed for dealing !ith these issues" $
recent study reported that in China 6there is a need to harness the +largely neglected, ethical di%ension to
transfor% business practice along international standardsQ$t a %ini%u%, fraud and corruption %ust be
suppressed in an at%osphere !here contract and property rights are clearly defined and honored"7 JOK $s
countries !ork together to develop %ultinational trade and labor agree%ents, a co%%on set of ethical nor%s
!ill develop over ti%e, but the process !ill not happen overnight" In the %eanti%e, co%panies !ill need to
think internally about ho! to handle ethical issues in a !ay that %akes sense at ho%e and abroad"JHK
The Cayoff
@iven the co%plexity of trying to %easure intangibles !ith %etrics and a scorecard, so%e %anagers %ay be
inclined to ask, 6Why bother doing all this#7 2esearch by Nohn Iingle and Willia% 1chie%ann provides a
clear ans!er" Co%panies that %ake a concerted effort to %easure intangibles such as e%ployee
perfor%ance, innovation, and change in addition to %easuring financial bench%arks perfor% better" Iingle
and 1chie%ann exa%ined ho! executives %easured six strategic perfor%ance areas9 +;, financial
perfor%ance, +<, operating efficiency, +=, custo%er satisfaction, +>, e%ployee perfor%ance, +?, innovation
and change, and +G, co%%unitySenviron%ent issues" To evaluate ho! carefully the %easures !ere tracked,
the researchers asked the executives, 6Eo! highly do you value the infor%ation in each strategic
perfor%ance area#7 and 6Would you bet your 5ob on the &uality of the infor%ation on each of these areas#7
The researchers found that the co%panies that paid the closest attention to the %etrics and had the %ost
credible infor%ation !ere the ones that had been identified as industry leaders over the previous three years
+e"g", R> percent of %easure%ent'%anaged co%panies but only >> percent of others, and reported financial
perfor%ance in the top third of their industry +e"g", O= percent co%pared !ith ?< percent," J;FK
The Workforce 1corecard is vital because %ost organi)ations have %uch better control and accountability
over their ra! %aterials than they do over their !orkforce" For exa%ple, a retailer can &uickly identify the
source of a bad product, but the sa%e retailer cant identify a poor %anager !hose negative attitude is
poisoning %orale and strategic execution" J;;K
5!6 TA5!AWA6S
The *alanced 1corecard, !hen applied to E2., helps %anagers align all E2. activities !ith the
co%panys strategic goals" $ssigning %etrics to the E2. activities lets %anagers track progress on
goals and ensure that theyre !orking to!ard strategic ob5ectives" It adds rigor and lets %anagers
&uickly identify gaps"
Co%panies that %easure intangibles such as e%ployee perfor%ance, innovation, and change perfor%
better financially than co%panies that dont use such %etrics"
2ather than investing e&ually in training for all 5obs, a co%pany should invest disproportionately %ore
in developing the people in the key strategic +6$7, 5obs on !hich the co%panys success is %ost
dependent"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" Define the *alanced 1corecard %ethod"
<" Iist the ele%ents of a Workforce 1corecard"
=" Discuss ho! hu%an capital can be %anaged like a strategic asset"
>" Why is it i%portant to align E2. %etrics !ith co%pany strategy#
?" What kind of %etrics !ould be %ost useful for E2. to track#
Chapter F
Co.peting !ffecti'e%/ through $%o-a% ar3eting1 8istri-ution1 and Supp%/;Chain anage.ent

6ource" Interbrand
WHATS IN IT FOR !"
;" What are the funda%entals of global %arketing#
<" What are the trade'offs bet!een standardi)ed and custo%i)ed products and pro%otions#
=" What are the funda%entals of distribution#
>" Eo! does international distribution differ fro% purely do%estic distribution#
?" What are the international aspects of supply'chain %anage%ent#
In this chapter, youll learn the 6ho!s7 of global %arketing, distribution, and supply'chain %anage%ent"
1pecifically, youll see ho! co%panies decide !hich products to %arket internationally, ho! to source and
distribute those products, and ho! to %anage operations for s%ooth operation throughout the co%panys
supply chain"
The chapter opens !ith a case study on :u%! *rands entry into China !ith FC restaurants" $fter initial
%issteps, :u%! *rands and FC have had great success and are no! pondering !ays to sustain that
success" In 1ection R"; AFunda%entals of @lobal .arketingA, youll learn the funda%entals of %arketing in an
international context" If the !orld !ere truly flat, then it !ould be easy to sell a product or service that is
popular in one setting in another country setting !ith little additional !ork" Eo!ever, because the !orld
is not truly flat in ter%s of culture, ad%inistration, geography, and econo%ics +i"e", C$@3,, fir%s %ust %ake
choices as to ho! they adapt to or avoid international %arkets" :oull see ho! co%panies like 1tarbucks
adapt and innovate in different %arkets, ho! integrated'circuit %aker Intel deals !ith the difficulties of
counterfeit %arkets, and ho! entertain%ent giant *ertels%ann %akes decisions in e%erging %arkets" :oull
also get a gli%pse of ho! consu%ers in *2IC countries +i"e", *ra)il, 2ussia, India, and China, differ and the
special challenges of %arketing products to countries !here inco%es are lo!"
:oull be follo!ing along as co%panies like 4okia %ake decisions about !hether to adapt products to
specific %arkets" :oull see the innovations that Crocter V @a%ble and @eneral 3lectric create as they
develop products for *2IC countries and ho! these innovations earn the% additional benefits back ho%e in
developed %arkets" :oull learn ho! to avoid the pitfalls that trapped Ford .otor Co%pany, and youll see the
entrepreneurial approaches to distribution %anage%ent that 8nilever created" +2eference f!k';GO=OO'
ch;>asF> not found in *ook, !ill highlight the difference bet!een outsourcing and offshoring and the
advantages and disadvantages they bring" Finally, 1ection R"> A@lobal Croduction and 1upply'Chain
.anage%entA !ill de%onstrate the value of an integrated approach to supply'chain %anage%ent"
Opening Case# Co%one% Sanders Is No Chic3en@
entucky Fried Chicken +FC, !as the first $%erican fast'food restaurant to enter China, opening its first
outline there in ;HOR in *ei5ing" J;K FCs 81 archrival, .cDonalds, didnt open a restaurant in China until
;HHF" J<KDespite initial %arketing %istakes-like its 6finger lickin good7 slogan being %istranslated into
Chinese characters that %eant 6eat your fingers off7-the co%pany gre! and thrived" J=K Today, FC has
<,OR< restaurants in China, !hich generate over T< billion in sales for its parent co%pany, :u%! *rands" J>K
The %ain factor contributing to FCs success in China is its locali)ation strategy" Iets see ho! FC did it"
When FC first entered the Chinese %arket, Chinese la! stipulated that foreign co%panies could only
operate in China if they had a local partner" FC selected partners !ho had connections to govern%ent, so
that it could benefit fro% their resources and contacts" J?K FC learned a lot fro% its local partners, and once
5oint ventures !ere no longer re&uired, FC chose a leadership tea% that kne! Chinese culture inti%ately"
2ather than sending expatriates to China to lead the expansion, for exa%ple, FC selected people !ho had
6an understanding of China and the Chinese cultural context Mso deep that it is intuitive, to understand the
Chinese peoples M%ixed feelings, of love and hate about the West, to understand Chinese history, language,
the influence of Confucianis%, *uddhis% and Taois%, this is especially i%portant if you are in the consu%er
goods industry,7 said Warren Iiu, for%er vice president of develop%ent at FC China and author of the
book K!$ in $ina" 6ecret Reci+e for 6uccess" JGKThis leadership tea% reco%%ended that FC follo! a
strategy of locali)ation9 offering local Chinese food options on the %enu to appeal to local tastes" For
exa%ple, instead of serving colesla!, FC offers ba%boo shoots and lotus roots" Iike!ise, it sells a
sand!ich in the style that Ceking duck is served, si%ply substituting fried chicken for the duck" JRK The extent
of FCs product locali)ation is extensive, fro% preserved 1ichuan pickle and shredded pork soup to a
Chinese'style porridge called congee for breakfast" JOK
FCs pro%otional %arketing is si%ilarly steep in Chinese culture" $s :u Cui and [hang Ting explain, 6China
is a society !ith relatively high collectivis%, !here people have a high sense of identity to the traditional
culture and traditional food" 1ince the fa%ily %e%bers in China often share the si%ilar value and %ost
Chinese people consider that it is necessary to keep on the !onderful fa%ily traditions, such as respecting,
loving and supporting the elderly, helping others, friendship bet!een individuals and so on" Thus, %any
advertise%ents of FC in recent years try to reveal the background of co%%on Chinese fa%ilies"7 JHK
FC e%phasi)es speed and convenience rather than chicken" 6Choosing to eat at fast food restaurants like
FC doesnt necessarily indicate a desire for Western flavors,7 said 1un .in, a local govern%ent official !ho
eats at FC because speed and convenience are his top priorities !hen choosing a place to eat" J;FK
1electing the right place or location for its outlets is also i%portant for convenience, and FC is opening
stores at a pace of nearly one a day in China, to be close to !herever its custo%ers are" J;;K FC also
developed its distribution syste% &uickly, right fro% the start, and its parent, :u%! *rands, o!ns those
distribution centers" (!ning its o!n distribution centers lets :u%! *rands gro! it restaurants efficiently as it
expands into >F< cities in China" J;<K
For the future, David 4ovak, C3( of :u%! *rands +!hich o!ns Ci))a Eut and Taco *ell in addition to FC,,
said he envisions eventually having %ore than t!enty thousand restaurants in China" 6Were in the first
inning of a nine'inning ball ga%e in China,7 4ovak told investors in a conference call in February <F;F" J;=K
Opening Case !(ercises
+$$C1*9 3thical 2easoning, .ulticulturalis%, 2eflective Thinking, $nalytical 1kills,
;" Do you think that :u%s other restaurants-Ci))a Eut and Taco *ell-!ould be successful in China# Why or
!hy not# What !ould help the% be %ore successful#
<" What advice !ould you give FC about ho! to continue its gro!th in China#
=" Eo! %ight FCs presence in China help the restaurant in other %arkets#
F)1 Funda.enta%s of $%o-a% ar3eting
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the four Cs of %arketing and ho! they differ in international %arketing"
<" no! ho! to seg%ent international %arkets"
=" *e able to explain ho! gray and counterfeit %arkets can be har%ful to co%panies"
The Four Ps
$s !e sa! in the opening case, FC has had great success in China after a first failed atte%pt" Why did
FC try again after its first failure# For the sa%e reason that %ost co%panies %arket their products globally"
1pecifically, co%panies expand internationally to reach %ore custo%ers, gain higher profit opportunities,
balance sales across countries in case one country experiences proble%s, and co%pete !ith other brands
that are expanding internationally and !ith global fir%s in their ho%e %arkets"
2eaching ne! consu%ers is often the %ain reason for international expansion" The rising standards of living
in the developing !orld, especially *2IC countries +i"e", *ra)il, 2ussia, India, and China, %ean billions of
ne! consu%ers" J;K In fact, OF percent of the !orlds population lives in e%erging'%arket countries"
Co%panies based in the %ature econo%ies of the West are attracted by the potential for double'digit gro!th
in e%erging %arkets"
What is the best !ay to reach those international custo%ers# :ou begin !ith the core of %arketing
kno!ledge-the four Ps-product, price, pro%otion, and place" While you likely learned this fra%e!ork in
your %arketing class, its i%portant to recogni)e ho! this essential tool !ill help you think about %arketing in
the context of international business" In a flat !orld, the ans!ers to &uestions about the four Cs are all the
sa%eB ho!ever, because the !orld isnt really that flat, country differences !ill have i%portant i%plications for
ho! product, price, pro%otion, and place play out !hen an organi)ation takes its offerings across borders"
The first C-product-refers to any physical good or intangible service thats offered for sale" For exa%ple,
the product could be physical, like a laser printer, or it could be a service, like printing or photocopying
services" The product could also be access to infor%ation, such as stock'%arket reports" @iven the
differences bet!een countries +e"g", language, culture, la!s, and technology standards,, a co%panys
products %ay need to be adapted to different countries" 1o%e products, like Coca'Cola or 1tarbucks coffee,
need little, if any, %odification" *ut even these co%panies create product variations to suit local tastes" For
exa%ple, 1tarbucks introduced a green tea Frappuccino in China" The ne! flavor !as very successful there"
Well learn %ore about product standardi)ation and custo%i)ation in the next section"
8id 6ou 5no2"
Innovation at 1tarbucks
$nnie :oung'1crivner, 1tarbuckss chief %arketing officer, described her co%panys plans for innovation and
international expansion" 6We continue to have very solid plans for China,7 :oung'1crivner said" 6$s !e
expand outside of the 8"1" and get %ore depth in JinternationalK %arkets, !ere finding lots of best practices
and innovation that !e can bring back" There are so %any exa%ples of creativity, like flat !hite Ja %ilk and
espresso beverageK in the 8"", black sesa%e JandK green tea Frappuccino in China" @reen tea Frappuccino
ca%e fro% an international %arket and !e launched it here" The local relevance beca%e a tipping point for
innovation in other %arkets for the brand"7 J<K
The second C-price-is the a%ount of %oney that the consu%er pays for the product" Cricing can take
different for%s" For exa%ple, pricing can be by ite% +e"g", a can of corn,, by volu%e +e"g", gasoline,, by
subscription +e"g", %onthly cable service,, by usage +e"g", cell'phone %inutes,, or by perfor%ance +e"g",
paying %ore for overnight delivery versus t!o'day delivery,"
Iets spend a little %ore ti%e on price, because pricing has even %ore nuances !hen applied to international
products" For exa%ple, e%erging'%arket countries often have a less'developed financial syste% and li%ited
credit available to local consu%ers and businesses" 1o%e of the biggest challenges in selling to e%erging
%arkets involve %aking the product affordable" In *ra)il, <G percent of the population lives belo! the poverty
line" Eo!ever, co%panies have devised !ays to help even the poorest consu%ers afford products" Iets see
ho! Casas *ahia has succeeded in selling to the botto%'of'the'pyra%id +*(C, consu%ers in *ra)il"
8id 6ou 5no2"
Casas *ahia-1elling to *(C Consu%ers
1o%e consu%ers in developing countries are very poor" (ften called thebottom of te +yramid GBO?H on
inco%e scales, they are the four billion people !ho live on less than T< a day" Would you %arket products to
these people# 1urprisingly, the ans!er %ay be yes in %any instances" $ccording to C" " Crahalad, *(C
consu%ers are a viable %arket seg%ent to target" J=KThe key is having the right %arket %ix of product, price,
pro%otion, and place" Iets see ho! it !orks"
Casas *ahia is a retailer in *ra)il that sells appliances and furniture" It successfully sells to the *(C" In fact,
>? percent of its appliance and furniture products are sold to *(C consu%ers" First, consider +roduct" :ou
%ight think that a refrigerator is a luxury ite% for these consu%ers" In a tropical country like *ra)il, ho!ever,
a refrigerator beco%es %ore of a necessity" 1econd, +rice9 obviously, keeping costs lo! is key" Casas *ahia
does this by buying products in huge volu%es to get huge discounts" It has built large !arehouses capable of
storing %uch %ore inventory than a typical retailer !ould, in order to handle the large volu%es" *ut lo!
prices alone are not enough, as Wal%art learned in its failed expansion into *ra)il" Indeed, RF percent of
Casas *ahia custo%ers have no for%al or consistent inco%e" Eo! are these custo%ers able to pay for their
purchases# Casas *ahia helps the% by giving the% a passbook-si%ilar to a credit card but !ith i%portant
differences" First, Casas *ahia hires credit analysts and trains the% extensively, so that they can accurately
assess ho! %uch a custo%er can afford to pay" These credit analysts help steer a custo%er a!ay fro%
products that %ay be too expensive for the% and instead suggest a %ore %odest %odel" 1econd, unlike
credit'card state%ents that co%e in the %ail and are easy to ignore, custo%ers %ust %ake passbook
pay%ents directly inside the Casas *ahia store" This direct approach builds a personal relationship bet!een
the custo%er and the friendly store e%ployees" 2ates of default on passbooks are %uch lo!er than they are
on credit cards" To recap, %any of Casas *ahias +roducts are seen as %ore of a necessity than a luxury"
Io! +rices coupled !ith credit assess%ent and friendly e%ployees encourage %onthly pay%ents" 1elling in
retail stores ++lace, reduces the need for external +romotions, because custo%ers return %onthly to %ake
pay%ents, !hich gives Casas *ahia an opportunity to sell the% additional products"
The third C-pro.otion-refers to all the activities that infor% and encourage consu%ers to buy a given
product" J>K Cro%otions include advertising +!hether print, broadcast radio, television, online, billboard,
poster, or %obile,, coupons, rebates, and personal sales" Iike products, pro%otions are often custo%i)ed to
a country to appeal to local sensibilities" (ne obvious %istake to avoid is a language translation that %isses
the nuances of native speakers" For exa%ple, a straight translation of Clairols 6.ist 1tick7 curling iron into
@er%an %isses the nuance that 6%ist7 in @er%an is slang for %anure" Iike!ise, Coors 6turn it loose7 slogan,
!hen translated into 1panish, is interpreted by so%e locals as 6suffer fro% diarrhea"7 J?K Iess obvious, but
i%portant to kno!, are the different countries regulations affecting advertising" For exa%ple, as discussed
in +2eference f!k';GO=OO'ch;F not found in *ook,, +2eference f!k';GO=OO'ch;FasF< not found in *ook,,
regulations in @er%any prohibited discounts, free gifts, or %oney'back guarantees !ith purchase" When 81
clothier Iands 3nd expanded into @er%any, it !as taken to court for its guarantee that 6If youre not satisfied
!ith any ite%, si%ply return it to us at any ti%e for an exchange or refund of its purchase price"7 (nly recently
have these @er%an la!s been repealed to bring the% in line !ith 3uropean 8nion la!s" JGK
The final C-p%ace-refers to the location at !hich a co%pany offers its products for sale" The place could
be a s%all kiosk in a village, a store in to!n, or an online !ebsite" Clace poses a particular challenge !hen
selling internationally" .any of the things !e take for granted in the 8nited 1tates-national retailers, grocery
stores, and extensive rail!ays and road!ays to reach the%-arent prevalent every!here" +2eference f!k'
;GO=OO'ch;>asF> not found in *ook, discusses ho! to overco%e these challenges"
Croducts reach consu%ers through a channe% of distri-ution, !hich is a series of fir%s or individuals !ho
facilitate the %ove%ent of the product fro% the producer to the final consu%er" The shortest channel, called
thedirect channe%, consists of 5ust the producer and the consu%er" In this case, the consu%er buys directly
fro% the producer, such as !hen you buy an apple fro% a local far%er" $n indirect channe%, in contrast,
contains one or %ore inter%ediaries bet!een the consu%er and the producer" These inter%ediaries include
distributors, !holesalers, agents, brokers, and retailers" In international business, the nu%ber of
inter%ediaries can expand due to the regulations affecting i%port and export across national boundaries"
$gents, brokers, international freight for!arders, and trading co%panies %ay get involved" Then, once a
co%panys product is in the foreign country, that country %ay have its o!n !holesalers !ho get involved"
The fir% %ust pay all these inter%ediaries for their services, !hich increases the cost of the product" Fir%s
%ust raise prices or accept lo!er %argins !hen confronting these added channel costs"
3ven !hen sales are direct, as !ith Internet sales, place differences can affect %arketing" For exa%ple, as
%entioned previously, la!s in @er%any prohibit retailer Iands 3nd fro% advertising its unconditional %oney'
back guarantee because returns are allo!ed only up to fourteen days" JRK
!thics in Action
The Case of International .arketing
.a5or international %arketing ethical proble%s derived fro% applied research are presented !ith their short
definitions as follo!s9
Traditional 1%all 1cale *ribery-involves the pay%ent of s%all su%s of %oney, typically to a foreign official
in exchange for hi%Sher violating so%e official duty or responsibility or to speed routine govern%ent actions
+grease pay%ents, kickbacks,"
Iarge 1cale *ribery-a relatively large pay%ent intended to allo! a violation of the la! or designed to
influence policy directly or indirectly +e"g", political contribution,"
@iftsSFavorsS3ntertain%ent-includes a range of ite%s such as9 lavish physical gifts, call girls, opportunities
for personal travel at the co%panys expense, gifts received after the co%pletion of transaction and other
extravagant expensive entertain%ent"
Cricing-includes unfair differential pricing, &uestionable invoicing-!here the buyer re&uests a !ritten
invoice sho!ing a price other than the actual price paid, pricing to force out local co%petition, du%ping
products at prices !ell belo! that in the ho%e country, pricing practices that are illegal in the ho%e country
but legal in host country +e"g", price fixing agree%ents,"
CroductsSTechnology-includes products and technology that are banned for use in the ho%e country but
per%itted in the host country andSor appear unsuitable or inappropriate for use by the people of the host
country"
Tax 3vasion Cractices-used specifically to evade tax such as transfer pricing +i"e", !here prices paid
bet!een affiliates andSor parent co%pany ad5usted to affect profit allocation, including the use of tax havens,
!here any profit %ade is in lo! tax 5urisdiction, ad5usted interest pay%ents on intra'fir% loans, &uestionable
%anage%ent and service fees charged bet!een affiliates and Sor the parent co%pany"
IllegalSI%%oral $ctivities in the Eost Country-practices such as9 polluting the environ%ent, %aintaining
unsafe !orking conditionsB productStechnology copying !here protection of patents, trade%arks or copyrights
has not been enforced and short'!eighting overseas ship%ents so as to charge a country a phanto% !eight"
`uestionable Co%%issions to Channel .e%bers-unreasonably large co%%issions of fees paid to channel
%e%bers, such as sales agents, %iddle%en, consultants, dealers and i%porters" JOK
Cultural Differences-bet!een cultures involving potential %isunderstandings related to the traditional
re&uire%ents of the exchange process +e"g", transactions, %ay be regarded by one culture as bribes but be
acceptable business practices in another culture" These practices include9 gifts, %onetary pay%ents, favors,
entertain%ent and political contributions"
Involve%ent in Colitical $ffairs-related to the co%bination of %arketing activities and politics including the
follo!ing9 the exertion of political influence by %ultinationals, engaging in %arketing activities !hen either
ho%e or host countries are at !ar and illegal technology transfers"
The ar3eting i(
The four Cs together for% the .ar3eting .i(" *ecause the four Cs affect each other, %arketers look at the
%ix of product, price, pro%otion, and place" They fine'tune and ad5ust each ele%ent to %eet the needs of the
%arket and to create the best outco%e for the co%pany" Cro%otion has an i%pact on the other Cs because a
products price, for exa%ple, %ay be lo!ered during a pro%otional event" Iike!ise, holding a special
pro%otional event like a t!o'for'one deal on a product i%pacts place, because the co%pany %ust ensure
that it supplies stores !ith enough product to %eet the anticipated de%and" Finally, the pro%otion %ight
affect the products packaging, such as bundling a sha%poo and conditioner together"
$ co%panys %arketing %ix !ill often be different for different countries based on
a countrys culture and local preferences,
a countrys econo%ic level,
!hat a countrys consu%ers can afford, and
a countrys distribution channels and %edia"
ar3et Seg.entation
ar3et seg.entation is the process of dividing a larger %arket into s%aller %arkets that share a co%%on
characteristic" The characteristics %ight be de%ographics, such as seg%ents divided by age groups +e"g",
eighteen to t!enty'four year'olds,, genders, or household inco%es" 1eg%entation can also be done on the
basis of geographic location or by lifestyle +e"g", ne! %o%s of different ages %ight have %ore in co%%on
!ith each other than they have !ith identically aged non%others", The purpose of seg%entation is to give the
co%pany a concrete vision of its custo%ers, so that it can better understand ho! to %arket to that custo%er"
1eg%entation helps co%panies target their %arketing efforts %ore effectively"
For exa%ple, geographic seg%entation is i%portant for language differences" 1o%eti%es, the seg%entation
%ust be done even %ore granularly than at the country level" 1o%e parts of .exico, for instance, dont use
1panish as the pri%ary language" *ecause of this, Wal%art .exicos stores in Nuchitbn conduct business in
the local [apotec tongue" Its fe%ale e%ployees !ear traditional skirts, and the %orning co%pany cheer is in
[apotec" JHK
3ach country %ay have its o!n cultural groups that divide the country or transcend national boundaries" For
exa%ple, the northern coast of Colo%bia is culturally %ore si%ilar to the Caribbean than it is to the interior of
its o!n country because the $ndes .ountains split the country into t!o regions9 east and !est" Eistorically,
these regions had been cut off fro% each other"
8nderstanding :our Target Custo%ers
Foreign %arkets are not 5ust copies of 81 %arketsB they re&uire products suitable to the local population"
$lthough 3uropean and developed country %arkets are %ore si%ilar to the 8nited 1tates, e%erging %arkets
like the *2IC countries have i%portant differences" Croducts %ust %eet local needs in ter%s of cost, &uality,
perfor%ance, and features and, in order to be successful, a co%pany %ust be a!are of the interplay
bet!een these factors" Iets look at consu%ers in e%erging countries to get a feel for these differences"
Rising idd%e C%ass
The nu%ber of %iddle'class people in e%erging countries has been gro!ing, partly because of Western
co%panies hiring lo!'cost labor +directly or through outsourcing agree%ents, in these regions" Croviding 5obs
in these countries has i%proved household inco%es" These fast'rising inco%es, especially in urban areas,
create vast ne! pools of disposable inco%e" 3ight of the ten largest cities in the !orld are in e%erging
%arkets" Their populations are young, and theyre 5ust beginning to adopt the full range of consu%er goods
found in the developed !orld"
In so%e cases, these %iddle'class consu%ers !ill buy %ore expensive branded goods, if the brands
resonate !ith the interests of the local cro!d" Consider the relative sales ratio of TGF 4ike basketball shoes
versus T;<F :ao .ingDbranded 4ike basketball shoes" In the 8nited 1tates, sales %ight be <F percent for
the higher priced shoe" In %ainland China, it %ight be ? percent for the :ao .ing shoe due to costB but in
%ore prosperous Eong ong, the sales %ight be ?F percent for the shoes" J;FK .iddle'class populations are
reading about Western goods and !ant branded ite%s, but pricing can be an issue depending on the local
level of affluence"
.illionaires $re 3very!here
Nust because the average inco%e is %uch lo!er in e%erging %arkets doesnt %ean that no one can afford
high'end luxury goods" 1o%e auto%obile %anufacturers, for exa%ple, track the nu%ber of %illionaires in the
country as an indicator of the very affluent seg%ent" *y recent esti%ates, China has approxi%ately >RR,FFF
%illionaires, J;;K *ra)il has approxi%ately ;>=,FFF,J;<K 2ussia has approxi%ately ;=G,FFF, J;=K and India
has approxi%ately ;<G,FFF" J;>K These very high net'!orth individuals explicitly !ant the sa%e products that
are sold in the West, not do!n'%arket versions" 1pecific cities in e%erging'%arket countries %ay have a
concentration of affluent consu%ers" In .onterrey, .exico, for exa%ple, the costs of consu%er goods are
co%parable to those of 4e! :ork City"
3%erging .arkets for *usiness Custo%ers
*usiness'to'business +*<*, opportunities also abound, as e%erging'%arket businesses gro! to serve export
or internal %arkets" Nust as !ith consu%ers, businesses in e%erging %arkets are different fro% developed
%arkets" For exa%ple, co%panies in e%erging %arkets %ay be s%aller and less sophisticated and %ay have
lo!er budgets than their Western counterparts" They %ay lack the level of auto%ation and infor%ation
technology that prevails in the developed !orld" This is especially true in the retail industry" .any developing
countries have a predo%inance of s%all %o%'and'pop stores"
@lobal .arket 2esearch
@lobal %arket research includes understanding the %arkets culture and social trends, because these factors
i%pact !hich products consu%ers !ill like and !hich advertising appeals !ill resonate !ith the%"
1o%e of the sa%e techni&ues of %arket research used in the 8nited 1tates can be applied internationally"
For exa%ple, Crocter V @a%ble +CV@, uses a variety of focus'group testing and in'ho%e research to
understand !hy people buy the products they buy" CV@ researchers !atch ho! consu%ers use products
and ask about !hat features they %ight !ant in the future" The co%pany has learned fro% past experience
that 5ust because a product sells !ell in one %arket doesnt i%ply that it !ill sell !ell in another %arket" For
exa%ple, although *ounty paper to!els sell !ell in the 8nited 1tates, the 3uropean launch of *ounty paper
to!els did !ell in only t!o of t!elve %arkets" Why# CV@ &uickly learned that @er%ans found the entire
concept of paper to!els to be too !asteful and, therefore, didnt buy the%"
Dealing !ith @ray and Counterfeit .arkets
The gra/ .ar3et exists because of price discrepancies bet!een different %arkets" For exa%ple, consu%er
packaged'goods co%panies %ay price their products higher in $ustria than in the neighboring C)ech
2epublic due to the $ustrian citi)ens higher inco%e levels" $s a result, $ustrians %ight order their goods
fro% C)ech retailers and si%ply drive over the border to pick up the products" The goods in the C)ech stores
are legiti%ate and authentic, but the existence of this gray'%arket activity hurts the producer and their
channel partners +e"g", distributors and retailers, in the higher'priced country"
In contrast to gray %arkets, !hich are legiti%ate but-legally-in a gray area,counterfeit .ar3ets purposely
deceive the buyer" For exa%ple, counterfeiters slightly alter the 1ony logo to *ony in a !ay that %akes it
hard to distinguish !ithout careful inspection"
Counterfeit %arkets hurt co%panies that have invested in building intellectual assets such as uni&ue product
designs, technological develop%ents, costly %edia content, and carefully crafted brands" Together, these
intellectual assets represent an invest%ent of %illions or billions of dollars" If a co%panys product,
technology, or brand is counterfeited, both the co%panys reputation and financial security suffers" $ll of its
channel partners +i"e", distributors, retailers, and licensing partners, are affected as !ell" For exa%ple, an
executive traveling in Eong ong sa! uni&ue styles of 4ike shoes" When he asked about the%, he !as told
the shoes !ere only available in si)e nine" This fact led hi% to reali)e that the shoes !ere probably prototype
sa%ples fro% a local factory that had been s%uggled out of the factory to be sold" 1o%e industries have tried
to li%it the scope of the counterfeiting and copying of DPDs through regionali)ed encoding, but even this is
too easy to circu%vent" Thats !hy %usical and entertain%ent giant *ertels%ann avoids expansion into
e%erging'%arket countries that have lax enforce%ent of intellectual property rights"
Counterfeiters %ay also ta%per !ith branded products" For exa%ple, Intel processor chips vary in price
based on their processing speed9 the higher the speed, the higher the price of the chip" Counterfeiters buy
+or steal, lo!'end chips, repaint a fe! nu%bers on the%, and then sell the% as high'end chips" The high'end
chips sell for T;FF or T<FF %ore than the lo!'end chips" Custo%ers looking for a bargain %ay un!ittingly
buy these chips" For Intel, these re%arked chips not only cannibali)e sales of the higher'%argin, high'
perfor%ance chips, but they also create higher !arranty costs because custo%ers turn to Intel !hen these
chips fail" The counterfeiting can also da%age the brands reputation" To defeat counterfeiters, Intel
i%ple%ented a long list of product'security %easures" It replaced re%ovable painted nu%bers !ith %ore'
per%anent, laser'etched nu%bersB developed retail packages !ith hologra%s and other hard'to'copy
%arkingsB and created soft!are to detect any %is%atch bet!een the chips internal rating and operating
speed"
1trategically, Intel executives debated !hether to even use the Intel na%e on products at the lo! end of the
spectru% that !ere sold in e%erging %arkets" 4ot using the Intel na%e !ould prevent the lo!'priced goods
fro% re'entering Western %arkets" The do!nside of that strategy, ho!ever, is less brand recognition in the
developing country"
5!6 TA5!AWA6S
The funda%entals of global %arketing begin !ith the core of %arketing kno!ledge, the four Cs" The
four Cs refer to product, price, pro%otion, and place" When put together, the four Cs for% the
%arketing %ix"
(ne or %ore of the four Cs can differ fro% country to country" For exa%ple, the product can differ fro%
country to country if a co%pany chooses to adapt its product to local tastes or to create a ne! product
specifically for local tastes" Thus, 1tarbucks introduced a green tea Frappuccino in China"
The second C, price, refers to the a%ount of %oney that the consu%er pays for the product" Crice
represents a special challenge !hen co%panies sell to e%erging %arkets because consu%ers inco%e
levels in these countries are %uch lo!er than in developed countries" In addition, the channel of
distribution often gets longer !hen co%panies sell to international %arkets" 2ather than a direct
channel in !hich a co%pany sells directly to a consu%er, inter%ediaries +i"e", distributors, !holesalers,
agents, brokers retailers, international freight for!arders, and trading co%panies, bet!een the
consu%er and the producer often characteri)e the international'%arket distribution chain" Co%panies
%ust pay each of these inter%ediaries, !hich increases the cost of the product"
The third C, pro%otion, refers to the activities that infor% and encourage consu%ers to buy a given
product" Co%panies often custo%i)e these pro%otions to use i%ages and !ording that resonate !ith
local %arkets"
The final C, place, refers to !here a co%pany offers its products for sale" .any e%erging countries
%ay lack national retail chains, !hich %eans that co%panies %ay need to sell their products through a
%uch %ore frag%ented syste% of s%all storefronts or kiosks"
.arket seg%entation refers to the process of dividing a larger %arket into s%aller %arkets that share a
co%%on characteristic, such as age or lifestyle" Its i%portant to note that not all citi)ens of a given
country can be %arketed to unifor%ly, because besides de%ographic differences there %ay be
regional differences !ithin each country as !ell"
Crice discrepancies bet!een %arkets can cause the develop%ent of gray %arkets" These price
discrepancies are hard to avoid because inco%e levels differ in different countries" Co%panies !ant to
charge prices that locals in different countries can afford" The result, ho!ever, is that consu%ers in
!ealthier countries %ay buy the product in a less'affluent country for a cheaper price" Counterfeit
%arkets deceive custo%ers into buying !hat they think is a branded product at a bargain price"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" Why %ight a co%panys %arketing %ix be different for different countries#
<" What proble%s can gray or counterfeit %arkets cause for co%panies#
=" What are so%e characteristics of e%erging'%arket custo%ers#
>" 3xplain so%e !ays to seg%ent international %arkets"
?" 4a%e the four Cs and ho! they %ight differ in international %arketing"
F)7 Critica% 8ecision Points in $%o-a% ar3eting
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the advantages and disadvantages of global branding"
<" no! the trade'offs of centrali)ed versus decentrali)ed %arketing decision %aking"
=" Identify the special challenges of branding decisions in e%erging %arkets"
$%o-a% *randing
$ g%o-a% -rand is the brand na%e of a product that has !orld!ide recognition" Indeed, the !orld does
beco%e flatter to the extent a brand is recogni)ed, accepted, and trusted across borders" 1o%e of the %ost'
recogni)ed brands in the !orld include Coca'Cola, I*., .icrosoft, @3, 4okia, .cDonalds, @oogle, Toyota,
Intel, and Disney" J;K
Co%panies invest a lot in building their brand recognition and reputation because a brand na%e signals trust"
6Trust is !hat drives profit %argin and share price,7 says Iarry Iight, C3( of $rcature brand consultancy and
a veteran of .cDonalds and **D( World!ide and *ates World!ide advertising agencies" 6It is !hat
consu%ers are looking for and !hat they share !ith one another"7 J<K
The advantages of creating a global brand are econo%ies of scale in production and packaging, !hich lo!er
%arketing costs !hile leveraging po!er and scope" The disadvantages, ho!ever, are that consu%er needs
differ across countries, as do legal and co%petitive environ%ents" 1o !hile global branding, and consu%er
acceptance of such, is a flattener, significant country differences re%ain even !hen a fir% has a strong
global brand" Co%panies %ay decide to follo! a global'brand strategy but also %ake ad5ust%ents to their
co%%unications strategy and %arketing %ix locally based on local needs"
The decision co%panies face is !hether they should %arket one single brand around the !orld or %ultiple
brands" Coca'Cola uses the Coke na%e on its cola products around the !orld but %arkets its !ater under
the Dasani brand" 4estlL uses a local branding strategy for its R,FFF brands but also pro%otes the 4estlL
corporate brand globally"
Acers u%tip%e;*rand Strateg/
CC %aker $cer sells its personal co%puters under four different brands" 8sing a %ultibrand strategy is a
good choice !hen a country has a strong, positive association !ith a particular brand" For exa%ple, !hen
Tai!an'based $cer bought 81 CC'%aker @ate!ay, $cer kept the @ate!ay brand to use in the 8nited 1tates
for %idtier CCs" In 3urope, ho!ever, $cer uses the Cackard *ell brand" $cer also has t!o other brands,
!hich are seg%ented by price" $cers e.achines brand is for the lo!er'end consu%er !ho is %ost focused
on price, !hereas the $cer brand is reserved for the highest'&uality products ai%ed at technophiles" This
%ultibrand strategy also helps $cers distribution" $s $cers chief %arketing officer, @ianpiero .orbello, says,
6Its difficult to get a retailer to place ?F percent of his space !ith one brand" Its easier to split that sa%e
space !ith three brands"7 J=K
$%o-a% *rand We- Strateg/
Co%panies that are pro%oting their global brands successfully on the !eb include @oogle, Chilips, 1kype,
3ricsson, Ee!lett'Cackard, and Cisco 1yste%s" These co%panies are %indful of the cultural and language
differences across countries" They have created !ebsites in local languages and are using i%ages and
content specific to each country" $t the sa%e ti%e, ho!ever, each country !ebsite has the sa%e look and
feel of the %ain corporate !ebsite to preserve the overall brand" J>K
P%anning a *rand Strateg/ for !.erging ar3ets
3ntering an e%erging %arket !ith a developed'country brand poses an extra challenge" $s noted in 1ection
R"; AFunda%entals of @lobal .arketingA, inco%e levels in e%erging %arkets are lo!er, so co%panies tend to
price their products as inexpensively as possible" This lo!'cost strategy %ay have conse&uences for the
co%panys brand, ho!ever" For exa%ple, if a co%pany introduces its brand as a 6pre%iu%7 product despite
having a lo!er price, ho! !ill it introduce and differentiate its true 6pre%iu%7 brand later as consu%ers
inco%es rise#
*randing Issues# Ho2 &o2 Can 6ou $o"
.any e%erging %arkets call for lo!er'cost goods" *ut ho! lo! can a co%pany go on &uality and
perfor%ance !ithout da%aging the co%panys brand# The challenge is to balance %aintaining a global
reputation for &uality !hile serving local %arkets at lo!er cost points"
(ne !ay to resolve the challenge is to offer the product at &uality levels that are the best in that country even
though they !ould be so%e!hat belo! developed'country standards" This is the tactic Wal%art has
successfully used in .exico" Wal%arts flooring, lighting, and air conditioning %ake its .exican stores better
than any other local stores even if they %ight see% 1partan to 81 consu%ers"
.
Centra%ized 'ersus 8ecentra%ized ar3eting 8ecisions
Who has the authority to %ake %arketing decisions# In a centra%ized;.ar3eting organizationa% structure,
the ho%e'country head&uarters retains decision'%aking po!er" In a decentra%ized;
.ar3eting organizationa% structure, the regions are able to %ake decisions !ithout head&uarters
approval" The advantage of the centrali)ed structure is speed, consistency, and econo%ies of scale that can
save costs +such as through global'%arketing ca%paigns," The disadvantages are that the %arketing isnt
tied to local kno!ledge and doesnt reflect local tastes, so sales arent opti%i)ed to appeal to regional
differences"
5!6 TA5!AWA6S
(ne of the key decisions that %ust be %ade !hen %arketing internationally is ho! to set up the
structure of the %arketing organi)ation in the co%pany-centrali)ed or decentrali)ed" In a centrali)ed
structure, the ho%e'country head&uarters %akes the decisions, !hich can save costs and bring
consistency to %arketing ca%paigns" In a decentrali)ed organi)ational structure, the regions are able
to %ake decisions autono%ously, !hich enables regions to tailor their %arketing to local sensibilities"
$nother decision concerns !hether to pursue a single global'brand strategy or a %ultiple'brand
strategy" $ global brand is the brand na%e of a product that has !orld!ide recognition, such as Coca'
Cola or I*." @lobal brands bring econo%ies of scale and %arketing po!er" .ultiple brands, ho!ever,
%ay resonate %ore !ith specific %arkets, especially if a co%pany %erges !ith or ac&uires a local
brand that is !ell respected in that region" The purpose of brands is to signal trust" In so%e cases,
consu%ers %ay trust a fa%iliar local brand %ore than a foreign global brand"
Finally, co%panies need to plan a brand strategy for e%erging %arkets, !here products have to be
sold at lo!er price points, !hich could hurt a pre%iu% brand reputation"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What are the benefits of a centrali)ed'%arketing organi)ation#
<" When %ight a co%pany prefer to %ake decentrali)ed'%arketing decisions#
=" Iist the advantages of a global'brand strategy"
>" Discuss the advantages of a %ultibrand strategy"
?" Eo! can a co%pany use the !eb to pro%ote a global brand !hile at the sa%e ti%e locali)ing it#
F)9 Standardized or Custo.ized Products
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the trade'offs bet!een standardi)ed versus custo%i)ed products"
<" no! the influence of the country'of'origin effect"
=" Co%prehend the benefits of reverse innovation"
1traight Croduct 3xtension
Co%panies deciding to %arket their products in different countries typically have a choice of three co%%on
strategies to pursue" The first is thestraight product e(tension" This %eans taking the co%panys current
products and selling the% in other countries !ithout %aking changes to the product" The advantages of this
strategy are that the co%pany doesnt need to invest in ne! research, develop%ent, or %anufacturing"
Changes %ay be %ade in packaging and labeling, but these are driven by local regulatory re&uire%ents" The
disadvantages, ho!ever, are that its products %ay not be !ell suited to local needs and that the products
%ay be %ore costly due to higher %anufacturing and labor costs in the 8nited 1tates"
Croduct $daptation
The second strategy is product adaptation and refers to %odifying the co%panys existing product in a !ay
that %akes it fit better !ith local needs" For exa%ple, !hen Crocter V @a%ble +CV@, introduced Tide laundry
detergent in e%erging %arkets like India, it changed the for%ulation to re%ove softeners" The refor%ulated
Tide cost less than the original Tide" This change !as i%portant because price !as an i%portant factor in
India !here inco%e levels !ere lo!er" Indian consu%ers !ere %ore able to afford the refor%ulated Tide"
$nother !ay to locali)e a product is through packaging" Iocally appropriate packaging doesnt 5ust %ean
using the countrys language" It also %eans creating packaging si)es that suit the country" For exa%ple, a
co%pany !anting to %ake its products %ore econo%ical to less'!ealthy countries %ay be te%pted to sell
larger, econo%y'si)ed packaging" *ut e%erging'%arket consu%ers often prefer s%aller package si)es, even
if that increases the cost'per'use" They tend to buy sachets of sha%poo rather than econo%y'si)e bottles"
These s%aller si)es are also easier to transport to local villages or to store in s%aller'si)ed ho%es"
.obile'phone %aker 4okia !ent a step further in locali)ing its phones to different %arkets" The co%pany
uses local designers to create %obile'phone handset %odels that are specifically appropriate for each
country" For exa%ple, the handsets designed in India are dust resistant and have a built'in flashlight" The
%odels designed in China have a touchscreen, stylus, and Chinese character recognition"
Iocal designers are %ore likely to understand the needs of the local population than head&uarters'located
designers do"
The exa%ples of Tide and 4okia sho! ho! co%panies can create a version of their existing product tailored
to specific countries"
Croduct Invention9 CV@ Diapers
The third strategy, product in'ention, is creating an entirely ne! product for the target %arket" In this
strategy, co%panies go back to the dra!ing board and rethink ho! best to design a product for that country"
:ou !ere introduced to this idea in +2eference f!k';GO=OO'ch;= not found in *ook,"
The first step in inventing a product for a ne! country %arket is to understand the key product characteristics
needed to succeed in that %arket" For exa%ple, !hen CV@ !anted to sell diapers in *2IC countries +i"e",
*ra)il, 2ussia, India, and China,, it started fro% s&uare one" 2ather than %erely %odifying the existing
design, CV@ engaged local kno!ledge and reconsidered all the key features of the design in the context of
the needs of the e%erging %arkets"
$ %a5or issue !as price" To %ake the diaper affordable, CV@ settled on an aggressive price target-each
diaper should cost as %uch as one egg" *ut the co%pany also !anted a diaper that could uphold the CV@
brand na%e" $t first, the designers thought that the lo!er'cost product needed to do everything that the
current developed'!orld product did" *ut further discussions refined and narro!ed the definition so that CV@
could %eet the cost target !ithout da%aging the brand"
CV@ designers debated features such as absorbency, color, fit, and packaging to find a design that !as
acceptable on cost targets, acceptable to e%erging'%arket consu%ers, and acceptable as a CV@'branded
product" The designers considered %aterials and ho! they could avoid using high'paid, speciali)ed
suppliers" 1o%e characteristics, such as packaging, could be ad5usted to %eet local cost standards" In other
cases, a characteristic !as nonnegotiable-such as corporate social'responsibility issues" For exa%ple,
CV@ !anted to ensure that none of the suppliers to its diaper business used child labor" In the end, CV@
succeeded by understanding both the critical ele%ents of the brand and the e%erging'%arket custo%ers
expectations"
4uances of Croduct 3xtension, $daptation, and Invention
The product'adaptation strategy is easier for fir%s to execute than product invention" 4onetheless, even
product adaptation re&uires understanding the local %arket !ell" Consider Ford .otor Co%panys %issteps
in adapting its %idpriced car %odel to the Indian %arket" Ford reali)ed that it needed to lo!er the cost of its
car to %ake it %ore affordable to Indian consu%ers" Ford brought a tea% of designers together in Detroit and
tasked the% !ith figuring out ho! to reduce the cost of the car" The designers looked at re%oving
nonessential ele%ents" The first feature to go !as air conditioning" 4ext, the tea% decided to re%ove po!er
!indo!s in the back, keeping the% only in the front" These and other such t!eaks brought the total cost of
the car do!n fro% T<F,FFF to T;?,FFF" 2educing the cost by <? percent is notable, but unfortunately the
design tea% lacked vital local kno!ledge about India" First, even though the price of the car !as lo!er, the
T;?,FFF price point in India is still !ay above !hat the %iddle class can afford" The Indians !ho can afford a
T;?,FFF car are the very rich" 1econd, the very rich in India !ho can afford to pay T;?,FFF for a car can also
afford +and !ill have, a chauffeur" 2e%e%ber the clever idea of re%oving the air conditioning and the po!er
!indo!s in the back# The conse&uence is that the chauffeur is the only one !ho gets a bree)e" @iven the
s!eltering su%%er te%peratures and traffic congestion in Indian cities, you can guess that the Ford car
didnt sell !ell" J;K
Country'of'(rigin 3ffect
The countr/;of;origin effect refers to consu%ers using the country !here the product !as %ade as a
baro%eter for evaluating the product" Their perceptions of the country influence !hether they !ill perceive
the product favorably or unfavorably" That perception influences consu%ers purchasing decisions" For
exa%ple, France is kno!n for its !ines and luxury goods" Wines fro% Chile %ay be 5ust as good and %ore
affordably priced, but consu%ers %ay perceive French !ines to be better due to the country'of'origin effect"
In the ;HGFs, 6.ade in Napan7 !as a signal of lo! &uality, but over ti%e Napan has changed that perception
through a dedicated focus on high &uality" 1pecifically, Napan
adopted Tota% Gua%it/ anage.ent 0TG4 !hich is a set of %anage%ent practices initially introduced to
Napan by W" 3d!ards De%ing" The focus of T`. is increasing &uality and reducing errors in production or
service delivery" T`. consists of syste%atic processes, planning, %easure%ent, continuous i%prove%ent,
and custo%er satisfaction" These days, 6%ade in Napan7 is vie!ed positively, but 6%ade in China7 faces %ore
of a stig%a" Iike!ise, consu%ers in Colo%bia dont !ant products that are %ade in Colo%bia" $ si%ilar
proble% happens !ith .ercedes'*en)-.ercedes'*en) cars asse%bled in 3gypt have %uch lo!er resale
value than those asse%bled in @er%any" In these cases, local asse%bly in 3gypt %ight be taken as a sign of
inferior &uality"
2everse Innovation9 Eo! Designing for 3%erging 3cono%ies *rings *enefits *ack Eo%e
Increasingly, %arketing and innovation are directly linked"Re'erse inno'ation %eans designing a product
for a developing country and bringing that innovation back to the ho%e country" Creating ne! products and
services for developing countries re&uires radical innovation and opens ne! opportunities in developed'
!orld %arkets as !ell" For exa%ple, @3 Eealthcare sells sophisticated %edical'i%aging devices around the
!orld" Eistorically, @3 has sold these high'end %achines in e%erging econo%ies like India" *ut only ;F
percent of Indian hospitals can afford a T;F,FFF electrocardiogra% +3C@, %achine" 2eaching the other HF
percent of the %arket takes %ore than si%ply cutting a fe! costs" It re&uires radical innovation and an in'
depth understanding of local conditions"
(ne i%portant local fact to kno! is that %ost Indians live in rural areas" That %eans they dont have a local
hospital to visit" Therefore, %edical e&uip%ent needs to go to the%, and no rural health care clinic is going to
lug a T;F,FFF 3C@ %achine into the field even if it could afford the device" $chieving the goal of a
light!eight, reliable, si%ple'to'use 3C@ device took radical rethinking" @3 built such a device that could fit in
a shoulder bag or backpack" The device has a built'in replaceable printer and costs only T?FF" In addition,
because the device !ould be used in rural locations !ith scant access to electricity, @3 designed a battery
that could do ?FF 3C@s on one charge" To %ake it easy to use, @3 designed the device to have only three
buttons" Finally, 5ust because the device is inexpensive doesnt %ean its du%b" @3 installed professional'
level analysis soft!are to aid rural doctors"
With its ne! portable 3C@ device, @3 has unlocked a !hole ne! %arket in developing countries" *eyond
that, @3 has also opened up ne! opportunities back ho%e-and thats the reverse innovation side of the
story" Eo!# The portable 3C@ %achine !ith a T?FF price tag is ideal for use in a%bulances, saving lives of
accident victi%s in developed countries as !ell" Cheap, portable, and easy'to'use devices are desirable in
any country" J<K, J=K
5!6 TA5!AWA6S
There are three strategies for introducing a co%panys product to a ne! international %arket9 +;,
straight product extension, +<, product adaptation, and +=, product invention"
$ straight product extension involves taking the co%panys current product and selling it in other
countries !ithout %aking changes to the product" The advantages of this strategy are that the
co%pany doesnt need to invest in ne! research and develop%ent or %anufacturing" The
disadvantages, ho!ever, are that its products %ay not be !ell suited to local needs and that the
products %ay be %ore costly due to higher 81 %anufacturing and labor costs"
Croduct adaptation refers to %odifying the co%panys existing product in a !ay that %akes it fit better
!ith local needs, as 4okia did by %aking its %obile phones for India dust'resistant"
Croduct invention %eans creating an entirely ne! product for the target %arket, as CV@ did by
designing a diaper for e%erging %arkets that cost the sa%e as a single egg" 1uch a price !ould %ake
the diaper affordable in e%erging'%arket countries"
When adapting or inventing a product for a ne! %arket, its i%portant to have local kno!ledge, as the
%issteps of Fords car for India have sho!n" In addition, the country'of'origin effect influences
consu%ers purchasing decisions" If consu%ers perceive one country %ore favorably than another,
theyre %ore apt to buy products fro% that country"
Inventing a ne! product for an international country can bring benefits back to the ho%e %arket" @3
Eealthcare co%pletely reinvented a T;F,FFF %edical'i%aging device to create a T?FF portable,
i%aging device for the Indian %arket" In the process, @3 reali)ed it had created a ne! product for its
ho%e %arket as !ell"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" Describe three strategies for introducing a product to a ne! international %arket"
<" Why %ight a co%pany !ant to adapt its product to a local country rather than doing a straight product
extension#
=" What are the challenges of the product'invention strategy#
>" Could the country'of'origin effect be used to a co%panys advantage#
?" 3xplain reverse innovation and the potential advantages it brings"
4ext
F): $%o-a% Production and Supp%/;Chain anage.ent
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the differences bet!een outsourcing and offshoring"
<" 3xplain three strategies for locating production operations"
=" no! the value of supply'chain %anage%ent"
1trategic Choices9 3xport, Iocal $sse%bly, and Iocal Croduction
When deciding !here and ho! to produce products for international %arkets, co%panies typically have a
choice of three strategies" The strategies vary in ter%s of levels of risk, cost, exposure to exchange'rate
fluctuations, and leveraging of local capabilities" Co%panies need to tailor their strategy to fit their product
and the country"

anufacture in the Ho.e Countr/ and Then !(port
The lo!est'invest%ent production strategy is to %ake the product at the co%panys existing %anufacturing
locations and then export the% to the ne! %arket" Co%panies use this solution in situations !here the total
opportunity in the ne! %arket doesnt 5ustify opening a plant" For exa%ple, 3.C supplies its $sia'Cacific
custo%ers fro% plants in the 8nited 1tates and Ireland" This strategy does have several do!nsides"
1pecifically, the co%pany faces higher shipping costs, i%portation delays, local i%port duties, risks due to
exchange'rate fluctuations, and isolation fro% local kno!ledge"
@lobal Co%ponents !ith Iocal $sse%bly
The next level of strategy uses of out'of'country suppliers but local asse%bly" Dell Iatin $%erica uses this
approach" It buys high'tech co%puter co%ponents globally but perfor%s custo%i)ed asse%bly in *ra)il"
*eing closer to the %arket i%proves Dells sales, service, and custo%er kno!ledge"
$nother exa%ple is Ia%s" Ia%s %akes its proprietary pet food in the 8nited 1tates and ships it to other
countries for packaging" This strategy lets Ia%s do so%e local custo%i)ation and offer better custo%er
response, !hile gaining tax or tariff incentives fro% local asse%bly"
$long !ith these advantages co%e increased supplier'coordination issues and concerns about supplier
&uality" In so%e cases, local asse%bly can har% the product, !hich leads back to the country'of'origin effect
discussed in 1ection R"= A1tandardi)ed or Custo%i)ed CroductsA" For exa%ple, so%e %arkets like Colo%bia
dont !ant to buy Colo%bian'%ade goods" In those cases, local asse%bly can har% product sales"
Iocal Croduction
Finally, a co%pany can go co%pletely local, sourcing %aterials in the foreign country and %anufacturing the
product there" 4okia used this strategy in India" This strategy takes the greatest advantage of lo!er'cost
labor, regional suppliers, and local kno!ledge" Eo!ever, it involves high invest%ent and depends heavily on
the &uality of local resources" It also exposes the co%pany to political risks" Eo!ever, going ;FF percent
local %ay !ork !ell in *2IC countries +i"e", *ra)il, 2ussia, India, and China, for labor'intensive, lo!'value
products" These types of products can tolerate the potentially lo!er levels of &uality associated !ith local
suppliers"
Co%panies that decide to build a local plant have to decide in !hich country to locate the plant" The criteria
to consider are
political stability,
statutorySlegal environ%ents,
infrastructure &uality,
foreign'invest%ent incentives,
local teleco%%unications and utility infrastructure,
!orkforce &uality,
security and privacy,
co%pensation costs,
tax and regulatory costs, and
co%%unication costs"
$o'ern.ent Incenti'es
Countries so%eti%es offer special incentives to attract co%panies to their area" .alaysia, for exa%ple, set
up the .ulti%edia 1uper Corridor that offers tax breaks, desirable facilities, and excellent infrastructure to
foreign co%panies" 1i%ilarly, China has special econo%ic )ones +13[s, that pro%ote international high'
&uality standards in the Eainan Crovince, 1hen)hen, 1hantou, and else!here" While one co%ponent is a
govern%ent initiative to set up 13[s or corridors that boast excellent co%%unications infrastructure, other
factors, such as uninterrupted po!er supply and connections to transportation infrastructure, play an
i%portant role as !ell" 3ven though the econo%ic or political picture of a country %ay appear appealing,
co%panies also need to understand public policy and the regulatory environ%ent of the specific state or
%unicipality in !hich they plan to set up operations, because la!s on a local level %ay be different and %ay
create roadblocks for ne! co%pany operations"
Infrastructure Issues
3%erging'%arket countries are investing in ne! infrastructure to varying degrees" China is !orking hard to
gro! rail, road, and port infrastructure" In other countries, invest%ent %ay be lagging" $nd in so%e cases,
co%panies have been caught in the %iddle of govern%ental proble%s arising fro% dealing !ith officials !ho
turn out to be corrupt"
Iocating a plant in China %eans having to ship products fro% China" If a co%panys pri%ary %arket is in the
8nited 1tates, China is half!ay around the !orld" The co%pany %ay save on labor, but there are other
added costs-extra shipping costs as !ell as hidden costs of uncertainty" J;K If the co%panys products are
en route and experience delays, for exa%ple, custo%ers %ight experience a stoc3;out" $ stock'out %eans
that there is no %ore stock of the co%panys product" The product is unavailable to custo%ers !ho !ant to
buy it" To avoid stock'out situations, a co%pany %ay decide to hold inventory close to its custo%ers"
Called safet/ stoc3, this inventory helps ensure that the co%pany !ont run out of products if theres a delay
or crisis in a distant %anufacturing region" The do!nsides of safety stock, ho!ever, include the increased
costs of carrying that inventory, such as the invest%ent in the products, taxes and insurance, and storage
space" In addition, co%panies risk obsolescence of the products before theyre sold"
Its i%portant to note that China is far a!ay only if the co%panys pri%ary %arkets are outside $sia" The
distance that truly %atters is the distance to the co%panys %arkets" Co%panies that sell their products
around the !orld %ay !ant to have production facilities around the !orld as !ell, so that their products are
closer to custo%ers-!herever those custo%ers %ay be"
8id 6ou 5no2"
Intels $pproach to .anaging 2isk in @lobal Croduction
If a co%pany builds plants in different locations, the co%pany %ay face the issue of differing &uality a%ong
its plants" Intel, the !orld leader in the %anufacturing, %arketing, and sales of integrated circuits for
co%puting and co%%unications industries !orld!ide has faced this proble%" `uality is a %a5or issue !hen
%aking these tiny, co%plex integrated'circuit chips" Intels $to% chips, for exa%ple, are the si)e of a grain of
rice" To ensure high &uality at all of its plants !orld!ide, Intel devised a strategy called Copy 3xact! J<K That
is, Intel builds all of its se%iconductor'fabrication plants +also kno!n as 6fabs7, to the sa%e exact
specifications, creating interchangeable processes and interchangeable fabs throughout the co%pany" Intel
began the Copy 3xact! strategy in the %id';HOFs as a !ay to cope !ith the co%plexity of se%iconductor
%anufacturing" .anufacturing integrated co%puter chips is highly delicate" The s%allest variation in
te%perature, pressure, che%istry, or handling can %ean the difference bet!een producing a !afer that %ade
up of hundreds of T;,FFF chips and producing a !afer that is a useless silicon disk" (nce Intel has a ne!
se%iconductor'%anufacturing process debugged at one facility, it copies that process-do!n to the lengths
of the hoses on the vacuu% pu%ps-to other Intel facilities" Intel has reali)ed that this Copy 3xact! strategy
also provides flexibility in %anufacturing" For exa%ple, Intel can transfer capacity back and forth bet!een
facilities to eli%inate %anufacturing bottlenecks" When the severe acute respiratory syndro%e +1$21, flu
epide%ic hit $sia, for exa%ple, Intel si%ply transferred partially co%pleted !afers fro% one plant to another
for finishing"
The Copy 3xact! strategy extends beyond se%iconductor fabrication to include the asse%bly and test
factories and the contractors that support building electronic boards, such as personal co%puter
%otherboards" 6If so%ething happens to that facility, !e roll over to a subcontractor at another site that can
pick up the sa%e asse%bly test and %ake sure that !e get the sa%e product co%ing out and the sa%e
a%ounts for our shipping plans,7 said Intels 1teve Iund" J=K Copy 3xact! even extends to Intels infor%ation
technology infrastructure" Identical soft!are and hard!are architecture support a range of activities, such as
ordering and production planning, at eighteen %anufacturing, testing, and asse%bly sites across three
continents"
(utsourcing and (ffshoring
Offshoring %eans setting up operations in a lo!'cost country for the purpose of hiring local !orkers at lo!er
labor rates" (ffshoring differs fro% outsourcing in that the fir% retains control of the operations and directly
hires the e%ployees" In outsourcing, by contrast, the co%pany delegates an entire process +such as
accounts payable, to the outsource vendor" The vendor takes control of the operations and runs the
operations as they see fit" The co%pany pays the outsource vendor for the end resultB ho! the vendor
achieves those end results is up to the vendor"
Co%panies that choose to offshore face the sa%e location'criteria factors as co%panies that %ake
production'operation decisions"
The advantages of outsourcing include the follo!ing9
3fficient processes +the outsourcer typically speciali)es in a particular process or set of processes, giving
the% high levels of expertise !ith that process,
$ccess to speciali)ed e&uip%ent that %ay be too expensive for a co%pany to invest in unless that process is
their chief business
India has long been a favorite location for outsourcing services, such as call centers and soft!are testing,
because of its 3nglish'speaking, highly educated !orkforce" The labor'rate ratio has been five to one,
%eaning that a co%pany based in the 8nited ingdo%, for exa%ple, could hire five Indian college graduates
for the price of hiring one 8 college graduate" @iven the high de%and for their labor, ho!ever, Indian
e%ployees !ages have begun to rise" (ffshoring co%panies are no! faced !ith a ne! challenge" The fir%s
hire and train Indian e%ployees only to see the% leave in a year for a higher salary else!here" J>K This !age
inflation and high turnover in India has led so%e co%panies, like $*4 $.2( *ank, to consider !hether they
should %ove offshoring operations to China, !here !ages are still lo!" The do!nside is that graduates in
China arent as kno!ledgeable about the financial industry, and language proble%s %ay be greater"
Diageo, the !orlds largest purveyor of spirits, used the follo!ing criteria !hen choosing an offshoring'
services location" J?K Diageo analy)ed nineteen locations in fourteen countries, ulti%ately choosing
*udapest, Eungary, as the location of its offshore shared'services operations" The pri%ary criteria Diageo
used !ere
a lo!'cost base, both in ter%s of start'up and ongoing running costsB
a favorable general business environ%entB
the availability of suitable staff-particularly !ith regard to language skillsB
a high level of local and international accessibility !ith good transport linksB
the attractiveness for international staffB and
a robust regulatory fra%e!ork" JGK
Co%panies save on labor costs !hen offshoring, but the 6hidden costs7 can be significant" These hidden
costs include the costs of additional facilities, teleco%%unications, and technological infrastructure" Delays or
proble%s !ith internal pro5ect coordination and the need for redundancy can add even %ore costs"
8id 6ou 5no2"
1tandard Chartered *ank .itigated 2isk by Duplicating (perations in Chennai and uala Iu%pur
$s you can i%agine, banks are very concerned about security because of the highly confidential custo%er
infor%ation they possess" 1o%e banks try to %itigate the risks by setting up %irror sites" 1tandard Chartered
*ank, for instance, chose Chennai in 1outh India as the hub for its 1cope International operations, but so%e
of the tasks are also done in uala Iu%pur in .alaysia9 6*ecause !e run the operations of ?< countries, !e
have to satisfy infor%ation security and business continuity issues in all locations,7 says 1reera% Iyer, @roup
Eead, @lobal 1hared 1ervices Centers, 1tandard Chartered 1cope International at the ti%e of the decision"
6uala Iu%pur backs up the Chennai center and vice versa"7 JRK
1upply'Chain .anage%ent
Supp%/;chain .anage.ent enco%passes the planning and %anage%ent of all activities involved in
sourcing and procure%ent, conversion, and logistics" I%portantly, it also includes coordination and
collaboration !ith channel partners, !hich can be suppliers, inter%ediaries, third'party service providers, and
custo%ers" In essence, supply'chain %anage%ent integrates supply'and'de%and %anage%ent !ithin and
across co%panies" JOK
$ctivities in the supply chain include
de%and %anage%ent +e"g", forecasting, pricing, and custo%er seg%entation,,
procure%ent +e"g", purchasing, supplier selection, and supplier'base rationali)ation,,
inventory %anage%ent +e"g", ra! %aterials and finished goods,,
!arehousing and %aterial handling,
production planning and control +e"g", aggregate planning, !orkforce scheduling, and factory operations,,
packaging +i"e", industrial and consu%er,,
transportation %anage%ent,
order %anage%ent,
distribution net!ork design +e"g", facility location and distribution strategy,, and
product'return %anage%ent"
Cross'organi)ational tea%s across the supply chain can bring great perspective to the overall tea% process"
2epresentatives fro% design, business, purchasing, %anufacturing, e&uip%ent purchasing, planning,
custo%er, logistics, infor%ation technology, and finance all bring their speciali)ed kno!ledge to the benefit of
the supply chain as a !hole" JHK
Spot%ight on Internationa% Strateg/ and !ntrepreneurship
3ntrepreneurial Innovation at CV@
In <FF<, Crocter V @a%ble +CV@, created a test factory, called the @arage, in Pietna% to experi%ent !ith
lo!'cost diaper %anufacturing for e%erging %arkets" This factory !as different fro% CV@s 81'based
factories because it didnt use high'tech, auto%ation'intensive %anufacturing processes" 2ather, CV@
!anted a lo!'cost, lo!'tech solution" The factory helped CV@ devise a ne!, lo!'cost approach to
%anufacturing in e%erging'%arket countries" The strategy re&uired finding local suppliers, so%e of !ho%
!ouldnt have been acceptable for other CV@ products but !ere suitable for this one" CV@ for%ed a net!ork
of ;?F lo!'cost %achine builders !ho could supply %anufacturing e&uip%ent to CV@s Pietna% factory" This
%anufacturing e&uip%ent !as appropriate for e%erging'%arket sites and e%erging'%arket prices" The
e&uip%ent !as not on par to CV@s 81'based %anufacturing e&uip%ent, but CV@ could use it in other
countries and in other product lines" For exa%ple, CV@ took the lessons and %achine'building kno!'ho! it
had learned fro% %aking lo!'cost diapers in $sia and applied it to reducing the costs of %aking fe%inine
pads in .exico" In transferring this kno!'ho! fro% one country to the next, CV@ reduced the costs of its
fe%inine pads in .exico by <F percent"
CV@ has gone a step further and brought its results back ho%e to the 8nited 1tates in t!o !ays" First,
thanks to the 4orth $%erican Free Trade $gree%ent +4$FT$,, CV@ can i%port its lo!'cost fe%inine pads
fro% .exico back into the 8nited 1tates" 1econd, CV@ no! sees an opportunity to give a second life to
obsolete plants in the 8nited 1tates" The experience CV@ has gained in e%erging %arkets has taught the
co%pany that not every product in every %arket needs the latest and greatest approaches to %anufacturing
in order to be successful" CV@s experience !ith its Pietna%ese factory has given it a scalable approach,
!hich has enabled CV@ to %ake diapers and other si%ilar personal'care products in %any different
e%erging'%arket countries using !idely available, lo!'cost %anufacturing e&uip%ent"
3: T$3$W$:1
There are several strategic choices available to co%panies !hen they decide ho! to produce their
products for international %arkets" First, co%panies can %anufacture their products in their ho%e
countries and export the%" This strategy involves the least a%ount of change but has the do!nsides of
higher supply'chain costs, potential delays, exchange'rate risks, and isolation fro% local kno!ledge"
1econd, a co%pany can build co%ponents in one country and do local asse%bly in another" This
strategy offers advantages of tax or tariff incentives but increases coordination costs and %ay bring
unfavorable country'of'origin effects"
Finally, a co%pany can opt for local production" This decision re&uires a careful evaluation of the risks
and re!ards of production operations in that country, including assessing political risks, the skills of the
local !orkforce, and the &uality of the infrastructure"
1o%e co%panies also choose to outsource or offshore their processes, either giving control to the
outsource vendor for the process and paying for the results +i"e", outsourcing, or retaining control of the
process !hile taking advantage of lo!er labor rates +i"e", offshoring,"
1upply'chain %anage%ent is the coordination of a host of activities that can give a co%pany a distinct
co%petitive advantage" Cross'organi)ational tea%s are the best !ay to take advantage of the
perspectives of each supply'chain function for the benefit of all"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What processes does supply'chain %anage%ent enco%pass#
<" If you !ere going to build a plant overseas, !hat factors !ould you take into account !hen %aking
your location decisions#
=" What strategic choices do international co%panies have about !here to locate production operations#
>" Describe strategies for %itigating so%e of the risks of overseas production"
?" What are so%e advantages and disadvantages of outsourcing#
Chapter >
Anderstanding the Ro%es of Finance and Accounting in $%o-a% Co.petiti'e Ad'antage
WHATS IN IT FOR !"
;" What are the role of accounting in business and the i%pact of international standards#
<" What are the nature of currency risk and the %ethods of currency translation#
=" What are the sources of financing available to fir%s#
>" What are capital budgeting and the factors that influence international invest%ent decisions#
?" What are global %oney %anage%ent %ethods that reduce corporate transaction costs and taxes#
In this chapter, youll learn the principles and techni&ues of global finance and accounting" In the opening
case study, youll see the increased role that govern%ents are playing in the business finance arena" In a flat
!orld, access to capital +i"e", part of the finance function, is unifor% across countries, as are accounting
standards" Eo!ever, access to capital varies significantly across countries and bet!een s%all and large
fir%s" $ccounting standards also vary, though these differences are decreasing"
In 1ection O"; AInternational $ccounting 1tandardsA, youll get a gli%pse into !hy countries developed
different accounting rules in the past and ho! ne! international accounting standards have e%erged to
create s%oother capital %arkets functioning in our increasingly global !orld"
In +2eference f!k';GO=OO'ch;?asF< not found in *ook,, youll learn the i%portance of consolidated financial
state%ents, and the challenges they present in currency translation" :oull also explore t!o techni&ues of
currency translation and t!o !ays to %itigate the risks of currency exposure"
In 1ection O"< AFunda%entals of FinanceA, youll learn the sources of financing available to international fir%s
and see ho! fir%s like I(ccitane, I*., Ee!lett'Cackard, i%berly'Clark, 1$C, and .cDonalds are %aking
financing and invest%ent decisions"
In 1ection O"= AFinancial .anage%ent in International *usinessA, youll see the factors underlying political
risk and econo%ic volatility and learn three !ays that %ultinational fir%s are structuring their financial
organi)ations to deal !ith those risks" :oull also find out ho! religion can i%pact the financial la!s of so%e
countries"
Finally, in 1ection O"> A@lobal .oney .anage%ent9 .oving .oney across *ordersA, youll delve into global
%oney %anage%ent and ho! fir%s like Colgate %ove %oney across borders to %ini%i)e costs and taxes,
!hile gaining %axi%u% returns on their capital"
Opening Case# *uc/rus and !(;I. *an3
$%ong the %any changes taking place in the international business landscape, nu%erous leading
%anage%ent consultants predict that govern%ent !ill play an increasingly active role" @overn%ents !ill no
longer si%ply be an external regulator but !ill be a direct participant in particular strategic choices and
actions" The new normal, in ter%s of govern%ent involve%ent in business, is one in !hich govern%ents
hand in strategy and strategy execution !ill be highly visible and significant" Cart of this govern%ental
activis% is a result of the gro!ing scale and reach of global fir%s" For instance, even before the global
financial %eltdo!n in <FFH, .cinsey V Co%pany consultancy noted the follo!ing9
$s businesses expand their global reach, and as the econo%ic de%ands on the environ%ent intensify, the
level of societal suspicion about big business is likely to increase" The tenets of current global business
ideology-for exa%ple, shareholder value, free trade, intellectual'property rights, and profit repatriation-are
not understood, let alone accepted, in %any parts of the !orld" 1candals and environ%ental %ishaps see%
as inevitable as the likelihood that these incidents !ill be subse&uently blo!n out of proportion, thereby
fueling resent%ent and creating a political and regulatory backlash" This trend is not 5ust of the past ? years
but of the past <?F years" The increasing pace and extent of global business, and the e%ergence of truly
giant global corporations, !ill exacerbate the pressures over the next ;F years" J;K
8nfortunately for big +and s%all, business, the apparent syste%atic risk, %anagerial excesses, and
i%prudence that led to the global financial %eltdo!n in <FFO and <FFH have only exacerbated the interest of
govern%ent in business %atters" Iets look at the exa%ple of *ucyrus International for ho! to survive and
thrive in this ne! nor%al of govern%ental activis%" J<K

.eet *ucyrus

*ucyrus caters to those !ho mine their o!n business" J=K To be precise, the co%pany designs and
%anufactures surface and subsurface %ining e&uip%ent and after%arket replace%ent parts, as !ell as
servicing its e&uip%ent" Its %ining products are used for unearthing coal, gold, iron ore, oil sands, and other
ra! %aterials" The co%pany sells products to custo%ers !orld!ide, fro% large co%panies to s%all ones to
&uasi'govern%ental agencies operating largely in 1outh $%erica, $ustralia, Canada, China, India, 1outh
$frica, and the 8nited 1tates" 3ven though *ucyrus is a 81'based co%pany, international sales account for
%ore than RF percent of its revenues"

*ucyrus in 3%erging .arkets

Iike %any successful %ultinationals, %uch of *ucyruss ne! !ork takes place in e%erging %arkets !here
the gro!th and need is greatest" For instance, *ucyrus struck a deal in !hich its %ining shovels !ould be
used to dig coal to fire a giant, ne! po!er plant being built by 2eliance Industries in India" 2eliance, !ith
nearly <?,FFF e%ployees, is Indias largest private'sector conglo%erate, !ith business interests in energy,
retailing, che%icals, textiles, and co%%unications" J>K
$lthough *ucyrus and 2eliance had agreed on the deal, the involve%ent of the 3xport'I%port *ank of the
8nited 1tates +3x'I% *ank, as a loan guarantor co%plicated things" 3x'I% *ank is the principal govern%ent
agency responsible for aiding the export of $%erican goods and services-thereby creating and sustaining
81 5obs-through a variety of loan, guarantee, and insurance progra%s" $lthough supporting 81 exports is
its pri%ary %ission, the bank !as sued by Friends of the 3arth, @reenpeace and four $%erican cities that
brought a global !ar%ing la!suit against the bank as !ell as the (verseas Crivate Invest%ent Corporation
+(CIC,, contending that the agencies provided financial assistance to pro5ects !ithout first evaluating the
pro5ects global !ar%ing i%pacts" J?K The la!suit took seven years to resolve, but in the end the courts ruled
that 3x'I% *ank and (CIC %ust consider the environ%ental effect of the pro5ects they fund" JGK
In revie!ing *ucyruss loan'guarantee application, 3x'I% *ank expressed concerns about the pro5ects
environ%ental i%pact" JRK In the end, the bank re5ected the application" It stated that the coal'fired po!er
plant that !ould be fed by the %ine conflicted !ith the (ba%a ad%inistrations environ%ental goals" JOK The
guarantees !ould have backed loans that 2eliance !ould have used to purchase %ining e&uip%ent fro%
*ucyrus" If the banks re5ection of the financing stood, 2eliance could turn to another country, %ost likely
China, for financing and e&uip%ent" JHK The banks ruling !as not appealable, but !ithin hours of hearing
about it, *ucyrus C3( Ti% 1ullivan launched an intense ca%paign ai%ed at getting 3x'I% *ank to reverse
course before the Indian pro5ects e&uip%ent orders !ent to Chinese co%panies" 1ullivan argued that the
re5ection could result in a loss of TGFF %illion in e&uip%ent sales for *ucyrus and up to ;,FFF 81 5obs could
be at stake" J;FK

Creparation / 2eaching (ut to 1takeholdersQand a Iittle Iuck

1ullivan fu%ed at the banks re5ection of his loan application" Ee had recently gone out on a li%b and %ade
the bold %ove of convincing his board of directors to spend T<?F %illion to expand and refurbish *ucyruss
1outh .il!aukee operations, !hile the co%panys co%petitors !ere %oving !ork to China" J;;K Instead of
accepting defeat !ith the banks decision, he !ent on the attack" 1ullivan notified elected officials, %any of
!ho% !ere engaged in reelection ca%paigns" @iven the prevailing tough 81 econo%ic at%osphere, the
officials !ould likely back an initiative that !ould retain or increase 81 5obs" 1ullivan also called business
and labor union leaders and enlisted support fro% *ucyruss hundreds of suppliers" The president of the
8nited 1teel!orkers of $%erica, Ieo @erard, appealed to the public to participate in a letter'!riting ca%paign
to protest 3x'I% *anks refusal to finance %ining e&uip%ent that !ould be %ade by union %e%bers" 6$t a
ti%e !hen !e are losing good'paying 5obs, and at a ti%e !hen Cresident (ba%a !ants to double 81
exports, ho! can the 3xport'I%port *ank deny a loan that !ould create and protect 5obs at *ucyrus
International# It !as a du%b decision,7 @erard told the <ournal 6entinel"J;<K
$s 1ullivan rallied potential supporters, luck played its role9 Cresident *arack (ba%a !as planning for a
to!n hall %eeting in 2acine, Wisconsin, 5ust a fe! %iles fro% *ucyruss head&uarters" 3ven better, the to!n
hall %eeting topic !as the econo%y" $ local business association took out full'page advertise%ents in the
local ne!spapers asking the president to help reverse the banks decision and save 81 5obs" 1ullivan !as
astute in pushing the right political hot buttons, but getting (ba%as attention !ould have been %uch harder
had he not been co%ing to 2acine"

$ll'4ight 4egotiations and a 1urprise 2eversal of the 3x'I% *ank Decision

It is i%portant to re%e%ber that *ucyrus is not a coal %iner but instead a supplier to that industry, so 3x'I%
*anks co%plaint !as really !ith *ucyruss custo%er, 2eliance" $fter all'night negotiations, still prior to
Cresident (ba%as visit to Wisconsin, 2eliance and 3x'I% *ank re%ained in disagree%ent" The banks
pri%ary %ission is to support 81 exports, J;=K but it still !anted 2eliance to co%%it to buying 81 e&uip%ent
for rene!able energy pro5ects as a condition of its approving the loan guarantees" J;>K2eliance, ho!ever,
stated that %aking such a pro%ise !ould violate World Trade (rgani)ation rules" The i%passe !as finally
settled !hen 2eliance agreed to pursue rene!able energy pro5ects in addition to the coal'fired po!er
plant" J;?K In an 3xport'I%port *ank ne!s release, 3x'I% *ank chair%an and president Fred C" Eochberg
said, 6We are pleased that 2eliance is %aking this co%%it%ent to rene!able energy, !hich allo!s us to
sustain 8"1" 5obs and pro%ote both conventional and rene!able energy exports"7 J;GK 2ene!able energy
sources only account for about ;< percent of Indias po!er, J;RK !hile ?F percent co%es fro% coal'fired
plants and the rest fro% oil and gas" J;OK Therefore, progress on alternative energy sources in India !as
seen as a victory +or at least a face'saving reason, for 3x'I% *anks reversing its original decision"
$ fe! of hours before (ba%a landed in Wisconsin, therefore, 3x'I% *ank announced it !ould reconsider its
re5ection of the loan guarantees and !ould revie! the application again, taking 6into account 2eliances
expressed co%%it%ent to invest in the rene!able energy sector7 in its revie!" J;HK In a letter to 2eliance
chair%an $nil $%bani, Eochberg asked 2eliance to consider building rene!able'energy po!er plants
capable of producing at least <?F %ega!atts of po!er, !hich !ould be a%ong the largest rene!able
pro5ects built in India to date" J<FK The letter did not, ho!ever, %ake the loan guarantees contingent on a
fixed a%ount of rene!able energy nor did it i%pose a deadline for those pro5ects" J<;K
4onetheless, 2eliances agree%ent to support rene!able energy pro5ects !as the key factor in the banks
reversed decision" 6If !e can encourage India to %ove faster to!ard rene!able energy as part of this pro5ect,
and to increase opportunities for 8"1" exporters, and to finali)e the deal !ith *ucyrus and save 5obs, thats a
big victory for everyone,7 an 3x'I% *ank official said" J<<K
$lthough experts agree that (ba%as involve%ent !as vital to the banks reverse decision, %any think
*ucyrus !ould have prevailed in the long run any!ay, because the banks decision !ould not prevent the
plant fro% being built but %erely result in the e&uip%ent contract going to a foreign co%petitor"
3xperts said *ucyruss reaction to the banks initial decision could be a great exa%ple of ho! a co%pany
should behave !hen a deal is threatened by a govern%ent agency" J<=K 1ullivan %ay have been lucky !ith
(ba%as pending visit to 2acine, but he also had courage and kne! ho! to sei)e the %o%ent, enlisting the
help of business leaders, union officials, and elected officials alike" 6If you are going to be aggressive, the
!ay *ucyrus !as in this case, then you had better have the facts on your side,7 said 8niversity of
WisconsinD.adison professor .ason Carpenter" *ucyrus took risks and expended %uch political capital"
6The stakes !ere big here,7 Carpenter said" 6To %e, this !as a case of ho! to respond to a crisis in our ne!,
%ore political !orld"7 J<>K
Opening Case !(ercises
+$$C1*9 3thical 2easoning, .ulticulturalis%, 2eflective Thinking, $nalytical 1kills,
;" Eo! !as the deal bet!een *ucyrus and 2eliance threatened by a govern%ent agency#
<" What do you think of ho! *ucyruss C3( handled the situation#
=" Do you think govern%ental agencies !ill beco%e %ore involved in business %atters# Why or !hy not#
>)1 Internationa% Accounting Standards
&!ARNIN$ O*+!CTI,!S
;" Iearn the value of accounting in international business"
<" Describe the role of accounting standards"
=" 2ecogni)e the difficulties caused by countries using different accounting standards"
The Ro%e of Accounting in Internationa% *usiness
The purpose of accounting is to co%%unicate the organi)ations financial position to co%pany %anagers,
investors, banks, and the govern%ent"Accounting standards provide a syste% of rules and principles that
prescribe the for%at and content of financial state%ents" Through this consistent reporting, a fir%s
%anagers and investors can assess the financial health of the fir%" $ccounting standards cover topics such
as ho! to account for inventories, depreciation, research and develop%ent costs, inco%e taxes,
invest%ents, intangible assets, and e%ployee benefits" Investors and banks use these financial state%ents
to deter%ine !hether to invest in or loan capital to the fir%, !hile govern%ents use the state%ents to ensure
that the co%panies are paying their fair share of taxes"
$s countries developed different cultures, languages, and social and econo%ic traditions, they developed
different accounting practices as !ell" In an increasingly globali)ed !orld, ho!ever, these differences are not
opti%al for the s%ooth functioning of international business"
The !.ergence of Ne2 Internationa% Accounting Standards
The International $ccounting 1tandards *oard +I$1*, is the %a5or entity proposing international standards of
accounting" (riginally for%ed in ;HR= as the International $ccounting 1tandards Co%%ittee +I$1C, and
rena%ed the International $ccounting 1tandards *oard in <FF;, the I$1* is an independent agency that
develops accounting standards kno!n asinternationa% financia% reporting standards 0IFRS4" J;K
The I$1* is co%posed of fifteen representatives fro% professional accounting fir%s fro% %any
countries" J<K These board %e%bers for%ulate the international reporting standards" For a standard to be
approved, R? percent of the board %e%bers %ust agree" (ften, getting agree%ent is difficult given the
social, econo%ic, legal, and cultural differences a%ong countries" $s a result, %ost I$1* state%ents provide
t!o acceptable alternatives" T!o alternatives arent as solid or straightfor!ard as one, but its better than
having a do)en different options"
$dherence to the I$1*s standards is voluntary, but %any countries have %andated use of IF21" For
exa%ple, all co%panies listed on 38 stock exchanges are re&uired to use IF21" J=K The sa%e is true for all
co%panies listed on 1outh $fricas Nohannesburg 1tock 3xchange and Turkeys Istanbul 1tock 3xchange" In
all, over one hundred nations have adopted or per%itted co%panies to use the I$1*s standards to report
their financial results" J>K
The 8nited 1tates doesnt %andate using the IF21" Instead, the 8nited 1tates has the Financial $ccounting
1tandards *oard +F$1*,, !hich issues standards kno!n
as genera%%/ accepted accounting princip%es 0$AAP4" The 81 currently %andates follo!ing @$$C"
Eo!ever, the F$1* and I$1* are !orking on har%oni)ing the accounting standardsB %any I$1* standards
are si%ilar to F$1* ones" The 8nited 1tates is %oving to!ard adopting the IF21 but hasnt co%%itted to a
specific ti%e fra%e" J?K
The pri%ary reason for adopting one standard internationally is that if different accounting standards are
used, its difficult for investors or lenders to co%pare the financial health of t!o co%panies" In addition, if a
single international standard is used, %ultinational fir%s !ont have to prepare different reports for the
different countries in !hich they operate"
$ccounting standards can be co%plexB and this %akes %odification of standards difficult" In addition,
differing practices a%ong various nations add to the co%plications of a unified accounting for%at" For
exa%ple, in the 8nited 1tates and @reat *ritain, individual investors provide a substantial source of capital to
co%panies, so accounting rules are designed to help individual investors" JGK In contrast, the tradition in
1!it)erland, @er%any, and Napan is for co%panies to rely %ore on banks for funding" Co%panies in these
countries have a tighter relationship !ith banks" This %eans that less infor%ation is disclosed to the public" It
also results in accounting rules that value assets conservatively to protect a banks invest%ent" In other
countries, the govern%ent steps in to %ake loans or invest in co%panies !hose activities are in the 6national
interest"7
Finally, accounting rules in China follo! neither IF21 nor @$$C, !hich %akes it hard for investors to gauge
the true value of a co%pany" JRK To address this issue, so%e large Chinese co%panies report results in both
Chinese accounting standards and the I$1*s standards" The t!o accounting standards can sho! &uite
different results for the sa%e co%pany, !hich is !hy convergence proponents advocate using one global
accounting standard"
Characteristics of Internationa% Accounting Standards and Their I.p%ications for Internationa%
*usiness
(n one hand, having to adhere to @$$C rules as !ell as IF21 rules creates extra labor and paper!ork for
%ultinational fir%s" For exa%ple, a 81 co%pany seeking to raise funds in @er%any has to prepare a
financial report according to IF21 accounting rules as !ell as 81 @$$C rules" Further proble%s arise !hen
different country accounting rules %ake the financial state%ents look different" If the sa%e transaction is
accounted for in different !ays based on different country accounting rules, the co%parability of financial
reports is under%ined"
In so%e instances, the differences bet!een 81 @$$C rules and IF21 are significant" For exa%ple, the last'
in, first'out +IIF(, accounting %ethod is allo!ed by @$$C but banned by IF21" 1o%e fir%s, such as
alu%inu% co%pany $lcoa, receive a tax benefit fro% using the IIF( %ethod" JOK If IF21 is %andated for all
81 co%panies, fir%s like $lcoa %ay need to %ake significant cash'tax pay%ents" This is !hy 81 adoption of
IF21 is taking ti%e, and !hy the F$1* and I$1* are !orking hard to har%oni)e the standards"
(n the positive side, other co%panies, like I*., %ay gain greater efficiencies and stronger controls fro% a
%ove to IF21" For exa%ple, converting to IF21 !ould %ake it possible for I*. to create a globally shared
service center for accounting, rather than having accounting depart%ents in different regions" JHK
81 adoption of the I$1*s global accounting standards !ould be useful to big %ultinational co%panies" Tyco
International, for exa%ple, is the parent of ;,<FF legal entities, HFF of the% outside the 8nited 1tates" For
Tyco, having to follo! only IF21 rules !ould be positive, because it !ould enable Tyco to prepare financials
on the sa%e basis !orld!ide and to %ore freely %ove accounting staff fro% country to country and business
to business" 4onetheless, given Tycos %assive net!ork of infor%ation syste%s, %aking the s!itch !ould
still be 6a tre%endous a%ount of !ork,7 according to Nohn Davidson, the co%panys controller and chief
accounting officer" J;FK
1o%e s%aller public co%panies, ho!ever, !ould see only costs fro% a %ove to IF21" Davey Tree 3xpert
Co%pany, for exa%ple, !hich only does business in the 8nited 1tates and Canada, sees no benefits"
*ecause the co%pany is unlikely to ever list on any national exchange, the argu%ent that unified standards
!ould allo! co%parability of financials has no value" J;;K
$n interi% step to!ard the 8nited 1tates adopting IF21 is to per%it 81 fir%s that operate globally to file only
under IF21, rather than under both @$$C and IF21, thereby reducing their financial'state%ent preparation
costs"
5!6 TA5!AWA6S
The purpose of accounting is to co%%unicate an organi)ations financial position to co%pany
%anagers, investors, banks, and the govern%ent" $ccounting provides a syste% of rules and principles
that prescribe the for%at and content of financial state%ents" Through this consistent reporting, a
co%panys %anagers and investors can assess the financial health of the fir%"
Eistorically, countries have follo!ed different accounting standards" If different accounting standards
are used, ho!ever, its difficult for investors or lenders to co%pare t!o co%panies or deter%ine their
financial condition" 81 fir%s and any listed on a 81 stock exchange %ust prepare financial state%ents
in accordance !ith the 81 Financial $ccounting 1tandards *oard +F$1*, standards, !hich are kno!n
as generally accepted accounting principles +@$$C," Fir%s based in the 3uropean 8nion +38, follo!
standards adopted by the International $ccounting 1tandards *oard +I$1*, kno!n as international
financial reporting standards +IF21," (ver one hundred nations have adopted or per%it co%panies to
use IF21 to report their financial results" The 8nited 1tates is %oving to!ard adopting IF21 but hasnt
co%%itted to a ti%e fra%e" The F$1* and I$1* are !orking on har%oni)ing the t!o accounting
standards"
The three %ain advantages of a single set of international accounting standards are +;, an increased
co%parability bet!een fir%s, !hich reduces investor risk and facilitates cross'border financing and
invest%entB +<, a reduction in the cost of preparing consolidated financial state%ents for %ultinational
fir%sB and +=, the i%proved reliability and credibility of financial reports"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What is the purpose of accounting#
<" Why do countries have different accounting standards#
=" What are the advantages of a single set of international accounting standards#
>" Which set of accounting standards does the 8nited 1tates follo!#
?" Why are so%e govern%ents reluctant to follo! IF21#
>)7 Funda.enta%s of Finance
&!ARNIN$ O*+!CTI,!S
;" no! the various financing options available to international fir%s"
<" 3xplain the value of capital budgeting"
=" 8nderstand the role of govern%ents in affecting invest%ent decisions"
Financia% Structure and Sources of Financing
$s de%onstrated in the opening case study, govern%ents, banks, and individuals all play a role in
international financing" *usinesses get external capital fro% these sources-capital that lets the% build,
expand, and gro!"
Financia% structure refers to the !ays in !hich a %ultinational fir%s assets are financed-fro% short'ter%
borro!ing to long'ter% debt and e&uity" .anaging a %ultinational fir%s financial structure involves
asking9 Wat is te ideal mi& of debt 'ersus e5uity to finance international o+erationsB Were sould tese
funds be in'estedB .ultinational fir%s engage in bothtransnationa% financing +i"e", seeking capital fro% a
foreign sources, andtransnationa% in'est.ent +i"e", investing capital in foreign %arkets,"
1ources of financing available to fir%s include foreign stock exchanges, foreign bond %arkets, foreign banks,
venture'capital fir%s, and funding fro% the parent co%pany" $lthough global e&uity and debt %arkets offer
fir%s a ne! !ay to get funding-often at lo!er cost than 81 %arkets-they are also co%plicated by foreign
currency and exchange rates"
!Huit/ financing refers to raising capital by selling shares of stock" Thestoc3 .ar3et refers to the
organi)ed trading of securities through exchanges" $n individual or entity can purchase partial o!nership in a
corporation, buying shares of stock in the co%pany" The g%o-a% eHuit/ .ar3et refers to all stock exchanges
!orld!ide !here fir%s can buy and sell stock for financing an invest%ent"
The largest exchanges in the !orld include the 4e! :ork 1tock 3xchange +4:13, 3uronext, the Tokyo 1tock
3xchange, 4$1D$` +4ational $ssociation of 1ecurities Dealers $uto%ated `uotations, stock exchange,
and the Iondon 1tock 3xchange" The advantage of raising capital in e&uity %arkets is that the fir% doesnt
have to repay the %oney at a specific ti%e or at a specific interest rate, as it does !ith bank loans" The
disadvantage is that each ti%e a fir% offers stock, the fir%s %anage%ent loses so%e control of the co%pany
because shareholders can no! vote to approve or disallo! %anage%ent actions"
8e-t financing refers to raising capital by borro!ing the %oney and agreeing to repay the entire a%ount
plus agreed'on interest at a specific date in the future" Fir%s can borro! %oney fro% banks or by selling
bonds" The advantage of raising %oney through debt financing is that co%pany %anage%ent doesnt give up
any o!nership of the fir%"
Fir%s can also obtain funding via intrafir% loans or trade credits" $trade credit lets the custo%er +in this
case, the subsidiary buying the goods or services, defer pay%ent on the good or service for a specified
period of ti%e, typically thirty or ninety days" *y borro!ing capital fro% a parent, both the subsidiary and the
parent eli%inate paying transaction costs to an outside entity such as a bank, !hich !ould charge fees to
%ake the transaction"
Financing Options A'ai%a-%e to Su-sidiaries
1ubsidiaries can choose bet!een t!o %a5or !ays to finance their operations through external sources9
overseas e&uity %arkets and overseas debt %arkets" Iets look at each in turn"
Raising one/ in O'erseas !Huit/ ar3ets
.ultinational fir%s choose to raise %oney in foreign %arkets for a nu%ber of reasons" For exa%ple, French
luxury beauty products co%pany I(ccitane conducted its initial public offering +IC(, on Eong ongs stock
exchange, rather than on the stock exchange in its ho%e country-the 4:13 3uronext in
Caris" J;K I(ccitane %ade this decision because e%erging'%arket consu%ers are its fastest'gro!ing
seg%ent" Iisting on Eong ongs exchange %akes the co%pany %ore visible in these gro!ing %arkets and
lets locals participate in the gro!th of the fir% by buying shares"
1o%e %ultinational fir%s raise %oney in both their ho%e'country and overseas stock exchanges" (ne of the
reasons for listing on %ultiple exchanges is a lo!er cost of capital as shares beco%e available to global
investors !ho %ight not other!ise be able to purchase shares due to international invest%ent barriers"
3%erging %arkets are also opening stock exchanges" For exa%ple, the 1hanghai and 1hen)hen 1tock
3xchanges in China opened in ;HHF" In Nuly <F;F, the 1hanghai 1tock 3xchange beca%e the sixth'largest
stock exchange in the !orld based on %arket capitali)ation"
Cublic share o!nership in China re%ains co%plex !ith three classes of shares9 $, *, and E" $'shares are
local shares deno%inated in Chinas local currency for do%estic investors" *'shares are deno%inated in
Eong ong dollars or 81 dollars and are generally o!ned by foreigners" E'shares are for China'incorporated
co%panies traded in Eong ong" Chinese authorities +the China 1ecurities 2egulatory Co%%ission, the
Ceoples *ank of China, and the 1tate $d%inistration of Foreign 3xchange, closely regulate the 1hanghai
and 1hen)hen 1tock 3xchanges" Indeed, the Chinese govern%ent actively intervenes in its capital %arkets"
For exa%ple, it didnt allo! any ne! e&uity funds to be established in <FFR" The govern%ent also o!ns a
relatively high nu%ber of shares in %any listed co%panies" Chinas lo! transparency, poor i%ple%entation of
securities regulations, and restrictions on hedging and risk'%anage%ent tools are !arning signs to foreign
invest%ent'fund executives" $t the sa%e ti%e, the govern%ent lacks %any regulations related to educating
or protecting investors" $ brokerage fir% can allo! an investor to buy and sell any a%ount of any security
after the investor ans!ers three &uestions in the follo!ing areas9 na%e, health, and risk tolerance" J<K
2aising .oney in (verseas Debt .arkets
.ultinational fir%s can issue bonds in overseas %arkets as !ell as in their ho%e countries" 3ven China no!
has an active bond %arket" *efore $pril <FFO, Chinese state'o!ned enterprises !ere about the only ones
issuing corporate debt in China because corporate bonds !ere so costly and ti%e'consu%ing to issue there"
Corporate bonds had to be listed on the stock exchange and approved by exchange regulators, %aking the
process sub5ect to political !hi%s" 1tate'o!ned enterprises raised %oney in the bond %arket to finance big
infrastructure pro5ects, and the bonds had state guarantees" In <FFO, ne! rules si%plified the issuing
process, and the Chinese govern%ent began letting foreign co%panies issue yuan'deno%inated bonds
through Eong ong in <F;F" The attraction of the Chinese bond %arket, according to Chris [hou, director of
debt capital %arkets at 8*1 1ecurities in *ei5ing, is that 6the bond %arket is a relatively easy and cost'
effective !ay to get %oney"7 J=K
.cDonalds !as the first foreign co%pany to issue yuan'deno%inated bonds, selling <FF %illion yuan +or T<H
%illion, of = percent notes due in 1epte%ber <F;=" $s Donald 1tras)hei%, senior %anaging director and
head of China research at the International 1trategy V Invest%ent @roup observed, 6There are hundreds of
global co%panies !anting to do %ore business in China, and they !ill !ant to be involved in the countrys
evolving credit %arket"7 J>K
$ccording to .cDonalds spokesperson Iisa Eo!ard, issuing bonds in China 6gives us access to ne!
funding to support gro!th in China" We are very confident in the Chinese %arket and have a strong plan to
gro! our business in China"7 J?K .cDonalds !ill use the %oney it has raised in the bond %arket to provide
!orking capital for expansion in China, including opening as %any as ;R? restaurants in <F;F, adding to the
;,FFF restaurants it already has there"
Inno'ation and !ntrepreneurship
WaterEealth9 Financing for 3ntrepreneurs in Developing Countries
WaterEealth is a co%pany that sells and leases !ater purification syste%s for use in developing countries"
The co%pany also sells and leases special sanitary !ater containers that reduce the spread of !aterborne
diseases fro% conta%inated ladles" WaterEealth developed ultraviolet technology to saniti)e !ater" The
technology doesnt re&uire large'scale operations or e&uip%ent, !hich enables local entrepreneurs in
developing countries to use the technology to open their o!n !ater shops to sell !ater to local custo%ers"
The result# Consu%ers gain access to cheaper, cleaner !ater, !hile the local econo%y gains ne!
businesses" WaterEealths innovative financing doesnt re&uire high up'front pay%ents for its technology"
Instead, the co%pany collects user fees, allo!ing the repay%ent of financing costs over ti%e" JGK
In'est.ent 8ecisions
Capita% *udgeting
Capita% -udgeting refers to the process of financing long'ter% outlays for %a5or pro5ects such as plant
expansion, entry into ne! %arkets, or research and develop%ent" The process of capital budgeting helps a
fir% decide !hich %a5or invest%ent pro5ects !ill be %ost econo%ically advantageous for the fir% by
assessing each pro5ects benefits, costs, and risks" When %aking capital'invest%ent decisions, fir%s
exa%ine the initial invest%ent that !ill be re&uired, the cost of capital, and the a%ount of cash flo! or other
gains !hich the pro5ect !ill provide" The cost of capita% is the rate of return that a co%pany could earn if it
chose a different invest%ent of e&uivalent risk" The cost of capital co%es into play because fir%s have
choices in ho! to put their capital to useB using the capital for one purpose precludes using it for a different
purpose"
1o%e govern%ents court foreign borro!ers by offering lo!'interest loans or by offering lo!er corporate
inco%e tax to attract invest%ent in their countries" For exa%ple, Coland created special tax breaks for
co%panies" These tax breaks %ake the country attractive for fir%s such as Ee!lett'Cackard and I*. to
locate operations there" 1i%ilarly, 1ingapores govern%ent has invested heavily in education and training in
an effort to attract invest%ent by leading %ultinational fir%s" 1ingapore also offers subsidies to co%panies
locating there" $s corporations think about !here to invest, build factories, locate offices, and source talent,
they explore such opportunities actively" JRK
Eo! @overn%ent $ctions $ffect Invest%ent Decisions
@overn%ent policy affects foreign invest%ent and innovation" $ccording to Neffrey 1achs, a leading
international econo%ic advisor and Colu%bia 8niversity professor, the near'ter% prospects for *ra)il are
bright, and its poised to do the best a%ong Iatin $%erican countries"
*razi%
For the last fifteen years, *ra)il has been investing heavily in education" In particular, *ra)il %ade high
school available to all citi)ens and invested in higher education, science, and technology" The result of these
govern%ent invest%ents is that not only does *ra)il have a %ore educated !orkforce, but it has also
narro!ed off the gap bet!een rich and poor and bet!een ethnically divided seg%ents of *ra)ilian society" In
contrast, countries !ith deep ethnic and racial ine&uities arent unified societies, !hich leads to %ediocre
econo%ic perfor%ance" *ra)il plans to invest another T<< billion in science and technology innovation in
<F;F and seeks corporations to 5oin in additional invest%ents in the country" JOK

I*. is one of the co%panies investing in *ra)il" C3( 1a% Cal%isano %et !ith then *ra)ilian Cresident Iui)
Inacio Iula Da 1ilva to discuss the creation of a 6collaboratory7 in *ra)il" I*.s collaboratories %atch I*.
researchers !ith local experts fro% govern%ents, universities and co%panies" I*.s Cal%isano praised
*ra)ils strategy9 6Invest%ents in innovation are critical, especially in a do!nturn" They can help *ra)il and
other countries, including the 81, reali)e an econo%ic expansion"7 $%ong the *2IC countries +*ra)il,
2ussia, India, and China,, *ra)il is seeing the highest gro!th in business partners that I*. !orks !ith,
averaging ;?F percent year over year, according to Claudia Fan .unce, %anaging director of I*. Penture
Capital @roup" JHK
$s the above exa%ple illustrates, *ra)il is attracting foreign business" Co%panies %aking foreign
invest%ents, ho!ever, %ust be a!are of the total financial picture, including the tax environ%ent" *ra)il has
a very co%plex tax syste%" 6If its not the %ost co%plicated tax syste% in the !orld, its certainly right up
there,7 said .ark *uth%an, finance chief at i%berly'Clark, the consu%er packaged goods giant, !hich has
approxi%ately =,FFF people in its *ra)ilian operation" 6Its not unco%%on to have disagree%ents !ith the
taxing authorities that you have to !ork through over ti%e"7 J;FK What %akes doing business in *ra)il
challenging is that the tax la!s have not kept pace !ith the progress of %odern products or servicesB that is,
the categories of taxes do not correspond to %odern'day categories of products and services" The lack of
parallelis% leads to confusion and %isinterpretation" To deal !ith the difficulties, i%berly'Clark, for exa%ple,
e%ploys seventy people-%ost of the% native *ra)ilians-in its finance group in *ra)il"
In addition to federal taxes, *ra)ilian states assess their o!n taxes as !ell" Thack *ro!n, CF( of 1$C Iatin
$%erica, says that any %isstep regarding a labor or tax regulation can prove costly" 6If you do have an issue,
not only can the penalties be large, but you can spend three or four or even ;F years !orking through the
5udicial syste%"7 J;;K Despite the difficulties, *ro!n says that co%pared to China, the *ra)ilian syste% is still
%ore structured and capable of dealing !ith issues" J;<K
Indonesia
Indonesia is the third'largest de%ocracy in the !orld and the largest econo%y in 1outheast $sia" The country
recently created an invest%ent coordinating board to attract foreign direct invest%ent into Indonesia" Eo! is
Indonesia %aking itself attractive to foreign investors#
;" Its touting its young population-half of the population is under thirty years of age, !hich bodes !ell for a
skilled !orkforce and gro!ing consu%er base"
<" Its touting its political stability of t!elve years after de%ocrati)ation, and %onetary stability for the last five to
six years"
=" Its investing in infrastructure" 6We are co%%itting T?F billion fro% a budgetary standpoint for the
develop%ent of infrastructure as part of a T;?F billion five'year progra%,7 said @ita Wir5a!an, Indonesias
chair%an of *adan oordinasi Cenana%an .odal +*C.,, the countrys ne!ly created invest%ent
coordinating board" 6That !ill produce <F,FFF kilo%eters of ne! roads and an additional ;?,FFF %ega!atts
of po!er generation" That is going to create a %uch higher degree of connectivity than !hat !e have
today"7 J;=K
Despite these advances, Indonesia still restricts !hich industries foreign investors can invest in" For
exa%ple, investors cant invest in teleco%%unications to!ers" 4onetheless, Indonesia has attracted so%e
%a5or investors, such as a large .iddle 3astern investor !ho !ill build an integrated infrastructure pro5ect
including a port, a rail track, and ne! po!er'generation capability" The total invest%ent !ill be about T?"<
billion" Indonesia has also convinced the 1!iss fir% Eolci% to expand its ce%ent capabilities in Indonesia"
J;>K
The 2ole of @overn%ent
The role of govern%ent in ter%s of international business and finance includes
passing la!s and setting policies +e"g", regulating stock and bond %arkets and setting tax codes,,
enforcing la!s +la!s laxly enforced have little value,,
providing infrastructure +e"g", fast co%%unications infrastructure and reliable electricity are i%portant to the
s%ooth functioning of capital %arkets,, and
providing capital +e"g", providing or guaranteeing loans, as the 81 govern%ent does through the 3xport'
I%port *ank of the 8nited 1tates,"J;?K
5!6 TA5!AWA6S
.ultinational fir%s have a choice in ho! they finance international operations" 1o%e choose to raise
capital through e&uity %arkets, issuing stock on do%estic or overseas stock exchanges" (thers opt for
debt financing through banks or bond %arkets in order to not give up o!nership in the fir%"
Capital budgeting is the process by !hich fir%s assess the relative %erits of different invest%ent
choices, !eighing the cost of capital and the expected returns of different invest%ent options"
@overn%ents can play an active role in attracting fir%s to invest in their countries or enticing foreign
borro!ers by offering lo!'interest loans or lo!er corporate inco%e taxes" When evaluating countries
for invest%ent potential, co%panies consider a govern%ents econo%ic policies +e"g", business
environ%ent, trade policy, invest%ent policy, and infrastructure, as !ell as any cultural issues +e"g",
ethnic, religious, and gender ine&ualities, that %ay be a barrier"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" What sources of financing are available to a co%panys subsidiaries#
<" What is the advantage of e&uity financing over debt financing#
=" When %ight a co%pany choose debt financing#
>" 4a%e t!o advantages of raising %oney on a foreign stock exchange"
?" Why is capital budgeting i%portant to a %ultinational co%pany#
>)9 Financia% anage.ent in Internationa% *usiness
&!ARNIN$ O*+!CTI,!S
;" 8nderstand the factors that underlie political risk and volatility"
<" Identify t!o !ays in !hich the financial organi)ation of a %ultinational fir% can be structured"
=" 2ecogni)e ho! religion can influence financial practices in so%e countries"
Accounting for Po%itica% and !cono.ic Ris3
Co%panies that locate operations in foreign countries face a set of unavoidable risks, chief a%ong !hich are
political and econo%ic risks" Colitical risks arise fro% decisions that foreign govern%ents %ake, including
changes in govern%ent that result fro% !ars and coups" 3cono%ic risks are often paired !ith political risks
but can also arise fro% international %oney %arkets" *oth risks are exacerbated by increased volatility and
changes in la!s"
Increased ,o%ati%it/
In the <F;F AcKinsey )lobal 6ur'ey of ;,>;G executives fro% around the !orld, G= percent of respondents
6expect increased overall volatility to beco%e a per%anent feature of the global econo%y"7 J;K For exa%ple,
the %ost i%portant gro!ing econo%y in the !orld, China, is a force that %ust be reckoned !ith" The volatility
arises because this %a5or econo%y isnt a developed state !ith co%%it%ent to the rule of la! and strong
institutions" 2ather, its an e%erging %arket !here political insecurities are the ulti%ate driver, according to
Ian *re%%er, president of the 3urasia @roup and author ofTe End of te !ree Aar,et" J<K
To prepare for volatility, %ultinational co%panies %ay !ant to plan contingencies or at least think through
ho! they %ight react to events that are currently 6unthinkable,7 such as significant, rapid shifts in currency
values +e"g", a =F percent decline of the dollar versus an e%erging'%arket currency,B an exit fro% the euro by
so%e nationsB dra%atic, rapid changes in co%%odity prices +e"g", oil prices spiking to T<FF a barrel,B or
defaults on debt by %a5or nations" J=K These events see% highly i%probable no!, but, if they co%e to pass,
executives !ho have thought about ho! to respond to the% !ill be better positioned to react effectively"
Iegal Infrastructure9 Challenges of 4ascent Ia!s
Pariations in contract la!, bankruptcy la!, real estate la!, intellectual property rights, and liability are 5ust
so%e of the legal issues that co%panies face !hen operating or %aking invest%ents in e%erging'%arket
countries" 1lo! civil 5udicial processes, corrupt 5udges, and potential biases against foreigners can affect a
co%panys ability to operate effectively, recover losses, or collect bad debts" For exa%ple, @eneral .otors
+@., often uses a contractual structure !ith suppliers in !hich @. o!ns the proprietary tooling used in their
suppliers factory" In %ost countries, if the supplier goes bankrupt, @. can easily take the tooling back" *ut
@. noted that this isnt possible in China due to the nascent state of the countrys bankruptcy la!, !hich !as
created only in ;HOO" J>K $s a result, @. uses contracts to %itigate these risks"
Financia% Organizationa% Structure in Internationa% *usiness
.ultinational co%panies can choose to %anage their financial operations centrally or via a decentrali)ed
organi)ational structure"
Centra%ized Structures
The advantages of a centra%ized structure are that the co%pany can afford to hire and retain speciali)ed
staff !ith deep expertise !ho can bring savings to the co%pany through centrali)ed cash %anage%ent and
%ore efficient capital invest%ent" Centrali)ation can i%prove control and co%pliance !ith corporate policies"
This structure enables the fir% to gain econo%ies of scale for invest%ent and borro!ing activities that can
reduce transaction costs and provide the fir% !ith the %ost co%petitive pricing"
Decentrali)ed 1tructures
$lternatively, %ultinational fir%s %ay choose adecentra%ized financia% organization structure due to
variations in language, consu%ers, cultures, business practices, and govern%ent rules, la!s, and regulations
a%ong different countries" $ decentrali)ed structure lets %ultinational fir%s exploit local kno!ledge and
business conditions to deal !ith uncertainty" The do!nsides of a decentrali)ed approach are higher costs
+due to having to hire %ore e%ployees,, so%e unavoidable duplication of effort, and a di%inish%ent of
control"
Co%%unication !ith Eead&uarters
If a co%pany uses a decentrali)ed financial structure, its vital for regional chief financial officers +CF(s, in
the different countries to keep regular contact !ith their superiors at head&uarters" 2ebecca 4orton, vice
president of finance, $sia'Cacific, at *usiness (b5ects +a unit of 1$C,, %akes it a point to participate in global
conference calls as often as possible, in order to 6!ave the $sia'Cacific flag"7 1he notes that this is
necessary to ensure that her overseas colleagues understand the conditions under !hich the $sian business
operates" J?K The reason for the fre&uent co%%unication is to help the ho%e office better understand the
opportunities and risks of the foreign country" For exa%ple, if head&uarters is focused on short'ter%
perfor%ance indicators, the head office is %ore likely to allocate funds to developed %arkets !here returns
are &uick" *ut this approach neglects e%erging %arkets, !hich have %ore future potential"
$ccording to a <F;F .cinsey study, global econo%ic activity is shifting fro% developed to developing
nations !ith populations that are young and gro!ing"JGK The gro!th in the nu%ber of consu%ers in these
e%erging %arkets %ake the% not only a focus for rising consu%ption and production but also %a5or
providers of talent, capital, and innovation" This %akes it vital for 81 co%panies to succeed in these
e%erging %arkets" Despite identifying this trend as the %ost i%portant trend for business in the next five
years, only >F percent of executives are taking action and fully <F percent are taking no action at all to
capture e%erging'%arket gro!th" JRK This is !here co%%unication !ith head&uarters beco%es i%perative"
2egional CF(s %ust spur actions, such as developing partnerships or 5oint ventures !ith local co%panies,
recruiting talent fro% e%erging %arkets, and developing ne! business %odels"
(ne co%pany taking action is the Iuxottica @roup, a TG"G billon eye!ear co%pany based in Italy" $lthough
Iuxottica sells its products online, it re%ains solidly co%%itted to brick'and'%ortar retail stores and is rapidly
expanding its retail presence in China" Describing the role of retail stores, Chris *eer, C3( of $sia Cacific,
greater China, and 1outh $frica for Iuxoticca, said, 6:ou need to create a connection, create a personal
experience, and thats !hat !eve done"7JOK (n the finance side, evin [hou, retail CF( for Iuxottica, closely
follo!s the regulatory environ%ent in China and actively co%%unicates !ith head&uarters to explain evolving
legislation and help the% understand local financial issues" 6:ou have to al!ays tell the% the truth about
!hats happening in China, and keep updating the%,7 he says" 6eep explaining, and before long, people at
head&uarters !ill really understand !hats going on in this %arket"7 JHK
Eybrid Financial (rgani)ation 1tructures
Finally, %ultinational co%panies follo! a hybrid of centrali)ed financial operations for so%e tasks and
regional operations for others" *efore it !as ac&uired by Ee!lett'Cackard +EC, in $pril <F;F, net!ork
s!itching and routing solutions co%pany =Co% had centrali)ed specific operations in its 4orth $%erica
shared service center +11C," The 4orth $%erica 11C provided a nu%ber of accounting services globally"
$lthough the 81'based 11C had a %uch higher cost of labor than 1ingapore +!here =Co% offshored
transaction'based processes,, =Co% decided to keep higher'value services in the 4orth $%erica 11C due to
=Co%s assess%ent of the risk and co%plexity in co%parison to the anticipated benefit of %oving these fro%
one global center to another" 1o%e of the tasks retained by the 4orth $%erican 11C !ere !orld!ide
consolidation, !orld!ide interco%pany accounting, and external reporting"
The follo!ing processes have been perfor%ed in each region +i"e", 3urope, the .iddle 3ast, and $frica
J3.3$KB 4orth $%ericaB Iatin $%ericaB and $sia'Cacific, due to language and local kno!ledge issues9
2egional general ledger
2egional revenue accounting
Iocal field finance accounting
2egional and local payroll
2egional and local value'added tax +P$T, and good'and'services tax +@1T, co%pliance and reporting J;FK
=Co% also assigned local field finance %anagers to be key shared accounting services tea% %e%bers
located in the co%panys higher'risk countries to help ensure co%pliance !ith local legal, statutory, tax, and
reporting re&uire%ents and to help !ith enforce%ent and co%%unication of corporate policies locally" Their
responsibilities include the follo!ing9
3nsuring all statutory and tax +direct and indirect, filings are co%pleted in accordance !ith local country
re&uire%ents
Iiaising !ith local external auditors, tax authorities, and outsource agencies to ensure the proper execution
of payroll and e%ployee disburse%ents
Co%%unicating and enforcing corporate accounting policies to local e%ployees
3nsuring appropriate accounting for local accruals by liaising !ith local %arketing and sales tea%s to
deter%ine if services related to outstanding purchase orders have been provided J;;K
8id 6ou 5no2"
What does the 5ob description for a treasury operations %anager look like# The tasks of a %anager
overseeing international'unit financial %anage%ent include
%anaging foreign exchange exposures, hedging, accounting co%pliance, %ultilateral netting, and %ultilateral
cash poolB
driving collection, disburse%ent, concentration and cash accounting, and do%estic debt'portfolio
%anage%entB
perfor%ing cost revie! and analysis of %onthly cash %anage%entB
assisting the treasurer in bank coordination, agree%ent negotiations, and rene!alsB
%odeling financial transaction scenarios for capital budgeting and planning analysis +i"e", debt, e&uity, and
other capital %arket transactions,B
preparing, revie!ing, and %aintaining 1arbanes'(xley controlsB and
delivering and coordinating cash forecasts !ith bank'funding needs and regulatory capital re&uire%ents"
The I.pact of Re%igion# Is%a.ic Finance
Co%panies operating in countries !here Isla% is the official religion, such as .alaysia, 1audi $rabia, u!ait,
*ahrain, and :e%en, %ust adhere to Isla%ic finance la!s" Isla%ic la! prohibits certain financial practices
that are co%%on in other countries" For exa%ple, Isla%ic la! +called Sharia, prohibits charging interest on
%oney" 4o interest can be charged, including fixed'rate, floating, si%ple, or co%pounded interest, at
!hatever rate" The 1haria also prohibits financial practices like speculation, conventional insurance, and
derivatives, because theyre considered ga%bling in the Isla%ic tradition" 1haria also prohibits garar, !hich
%eans 6uncertainty7 and includes conventional practices like short selling"
To overco%e these prohibitions, financial products %ust be 1haria co%pliant" There are approved
alternatives to interest and speculative invest%ents" For exa%ple, instead of lending %oney and charging
interest, banks can lend %oney and earn profits by charging rentals on the asset leased to the custo%er"
(ne alternative invest%ent strategy, musara,a, allo!s profit and loss sharing" Its a partnership !herein
profits are shared per an agreed'on ratio and losses are shared in proportion to the capital or invest%ent of
each partner" $mudaraba is an invest%ent partnership, !hereby the investor provides capital to another
party or entrepreneur in order to undertake a business or invest%ent activity" While profits are shared on an
agreed'on ratio, loss of invest%ent is born only by the investor" The entrepreneurs only lose their share of
the expected inco%e" J;<K
These invest%ent arrange%ents de%onstrate the 1harias risk'sharing philosophy-the lender %ust share in
the borro!ers risk" 1ince fixed, predeter%ined interest rates guarantee a return to the lender and fall
disproportionately on the borro!er, they are seen as exploitative, socially unproductive, and econo%ically
!asteful" The preferred %ode of financing is profit and loss sharing"
Isla%ic finance la! extends to %utual funds, securities fir%s, insurance co%panies, and other nonbanks" $
gro!ing nu%ber of conventional financial institutions, both inside and outside the Isla%ic !orld, have in
recent years created Isla%ic subsidiaries or have been offering Isla%ic 6!indo!s7 or products in addition to
conventional ones" J;=K
5!6 TA5!AWA6S
Colitical and econo%ic risks arise !hen a country lacks a long history or co%%it%ent to the rule of la!"
Co%panies can prepare for volatility by thinking through 6unthinkable7 scenarios and planning ho!
they !ould respond if such situations occurred"
.ultinational fir%s can organi)e their financial operations in a centrali)ed, decentrali)ed, or hybrid
organi)ation structure" The advantages of a centrali)ed structure are that the co%pany can afford to
hire and retain speciali)ed staff !ho have deep expertise and can bring savings to the co%pany
through centrali)ed cash %anage%ent and %ore efficient capital invest%ent" Centrali)ation also
enables the fir% to gain econo%ies of scale for invest%ent and borro!ing activities that !ill reduce
transaction costs and get the fir% the %ost co%petitive pricing" (n the other hand, a decentrali)ed
financial organi)ation structure allo!s the fir% to recogni)e the variations in language, custo%s,
cultures, business practices, rules, la!s, and regulations a%ong different countries" $ decentrali)ed
structure lets %ultinational fir%s exploit local kno!ledge and business conditions to deal !ith
uncertainty"
Its i%portant for regional CF(s to stay in regular contact !ith corporate head&uarters to alert
head&uarters to opportunities +or !arn the% of dangers, in their countries"
Isla%ic countries practice 1haria-the prohibition of charging interest on %oney" There are approved,
1haria'co%pliant alternatives to interest and speculative invest%ents" For exa%ple, instead of lending
%oney and charging interest, banks can lend %oney and earn profits by charging rentals on the asset
leased to the custo%er" (ne alternative invest%ent strategy,musara,a, allo!s profit and loss
sharing" Its a partnership !herein profits are shared per an agreed'on ratio and losses are shared in
proportion to the capital or invest%ent of each partner"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" 4a%e t!o !ays that co%panies can prepare or deal !ith political risk or volatility in a country"
<" What advantages does a decentrali)ed financial organi)ation structure bring to a %ultinational fir%#
=" What advantages does a centrali)ed financial organi)ation structure bring#
>" Why are fre&uent co%%unications bet!een a regional CF( and head&uarters i%portant#
?" Eo! %ight religion i%pact financing operations#
>): $%o-a% one/ anage.ent# o'ing one/ across *orders

&!ARNIN$ O*+!CTI,!S
;" 8nderstand the role of global %oney %anage%ent in a %ultinational fir%"
<" no! ho! transfer pricing can be used to %ini%i)e transaction costs and taxes for the fir%"
=" $ppreciate the efficiencies and savings that result fro% centrali)ed depositories"
$%o-a% one/ anage.ent and Centra%ized 8epositories
@lobal %oney %anage%ent involves %oving %oney across borders and %anaging the fir%s financial
resources in a !ay that %ini%i)es taxes and transaction fees !hile %axi%i)ing the fir%s returns"
$ %ultinational co%pany can %ake the %ost of its cash reserves by holding cash balances at a central
location, called a centra%ized depositor/" There are t!o %ain advantages of centrali)ed depositories9
;" The co%pany earns a higher interest on higher a%ounts of cash, because cash fro% across the co%pany is
pooled"
<" Cooling cash reserves reduces the total a%ount of cash that the co%pany needs to hold, because the
a%ount of cash held on hand as a precautionary %easure against the unexpected can be pooled and thus
reduced-its unlikely that all the !orst cases !ill happen si%ultaneously"
Centrali)ed %oney %anage%ent also lets a co%pany trade currencies bet!een its subsidiaries and thereby
eli%inate inter%ediaries like banks" This practice saves the fir% transaction costs" Centrali)ation also %eans
that the co%pany can buy currencies in larger lot si)es, !hich gives it a better price"
T!o facts are i%portant to keep in %ind !hen using the centrali)ed depository techni&ue for global cash
%anage%ent" First, a govern%ent can restrict ho! %uch capital can flo! out of the country +govern%ents do
this to preserve foreign exchange reserves," 1econd, there are transaction costs associated !ith %oving
%oney across borders, and these costs are incurred each ti%e the %oney is %oved"

S3ip to OTransfer PricingO

S3ip the P8id 6ou 5no2P -e%o2
8id 6ou 5no2"
$ccording to a survey of al%ost five hundred CF(s and controllers fro% 81'based co%panies, the follo!ing
are the top concerns regarding international taxes9
Cost of co%plying !ith international taxes +=; percent of respondents,
Transfer pricing +<O percent,
2epatriation of offshore earnings +<; percent,
2isk %anage%ent in developing countries +;> percent,
.ergers and ac&uisitions transactions +? percent, J;K

Transfer Pricing
Transfer Pricing
.ultinational fir%s that conduct business a%ong their cross'border subsidiaries can use tax'advantageous
transfer pricing" Transfers occur !hen a co%pany transfers goods or services bet!een its subsidiaries in
different countries" For exa%ple, a fir% %ight design a product in one country, %anufacture it in a second
country, asse%ble it in a third country, and then sell it around the !orld" 3ach ti%e the good or service is
transferred bet!een subsidiaries, one subsidiary sells it to the other" The &uestion is, !hat price should be
paid# The transfer price is the price that one subsidiary +or subunit of the co%pany, charges another
subsidiary +or subunit, for a product or service supplied to that subsidiary"
1ince the pricing taking place is bet!een entities o!ned by the sa%e parent fir%, theres an opportunity for
pricing an ite% or service at significantly above or belo! cost in order to gain advantages for the fir% overall"
For exa%ple, transfer pricing can be a !ay to bring profits back to the ho%e country fro% countries that
restrict the a%ount of earnings that %ultinational fir%s can take out of the country" In this case, the fir% %ay
charge its foreign subsidiary a high price, thus extracting %ore %oney out of the country" The fir% !ould use
a cost'plus %arkup %ethod for arriving at the transfer price, rather than using %arket prices"
$lthough this practice opti%i)es results for the co%pany as a !hole, it %ay bring %orale proble%s for the
subsidiaries !hose profits are i%pacted negatively fro% such %anipulation" In addition, the pricing %akes it
harder to deter%ine the actual profit !hich the favored subsidiary !ould bring to the co%pany witout such
favored treat%ent" Finally, all the price %anipulations need to re%ain co%pliant !ith local regulations" In fact,
to co%bat such potential losses of inco%e tax revenue, %ore than forty countries have adopted transfer'
pricing rules and re&uire%ents" J<K
@enerally, co%pliance !ith local tax regulations %eans setting prices such that they satisfy the 6ar%s length
principle"7 That is, the prices %ust be consistent !ith third'party %arket results" The test of fairness is, 6What
!ould an independent co%pany, operating in a co%petitive %arket, charge for perfor%ing co%parable
services or selling si%ilar products#7 J=K
4onetheless, even !ithin these guidelines, %ultinational fir%s can ad5ust prices to shift inco%e fro% a
higher'tax country to a lo!er'tax one" @overn%ents, of course, are instituting or revising legislation to ensure
%axi%u% taxes are collected in their o!n countries" $s a result, %ultinational fir%s %ust %onitor co%pliance
!ith local transfer'pricing regulations" J>K
Indirect Ta(es
(ne !ay that govern%ents respond to budget shortfalls is by i%posing or increasing indirect ta(es like the
value'added tax +P$T, and goods'and'services tax +@1T," The reach of these indirect taxes is extending into
ne! areas of the global econo%y" 6The slo! econo%y and falling direct'tax rates are causing %any
govern%ents !orld!ide to tighten their existing indirect'tax regi%es or introduce ne! ones,7 said Frank
1angster, a principal in C.@s 81 Indirect Tax practice" 6Finance and tax directors %ust be proactive in
considering ho! their organi)ations are responding to the global P$T changes, !hich are already affecting
their %arkets, operations and internal syste%s"7 J?K
.ore countries are co%ing to rely on P$T as a significant and stable source of tax revenue, so these taxes
are unlikely to di%inish" China and India are considering introducing national P$T syste%s for the first ti%e,
!hile 3uropean 8nion +38, countries %ight be looking at !ays to raise %ore revenue through P$T"
International co%panies can assess and %anage the risks and opportunities of ne! P$T syste%s by using
%erging technologies to increase auto%ation of the indirect tax process, deciding !hether to insource or
outsource ne! co%pliance obligations, and using %odeling techni&ues to assess the i%pact of local P$T
changes" JGK
.anufacturing shoes in China for the Chinese %arket is sub5ect to a ;R percent P$T, for exa%ple, but shoes
for export arent sub5ect to this tax" In so%e cases, it %ay be cheaper to %ake the shoes in China, export
the% to Eong ong, rei%port the% into China, and pay i%port duties instead of P$T" Iocal i%portSexport
regulations can also i%pact !here co%panies decide to locate specific functions of the supply chain, such as
distribution centers or !arehouses" In Fu5ian province, one can i%port %aterials one day and export the
output the next day" In @uangdong province, in contrast, the local authorities insist on thirty days notice for
reexported %aterials" The point is that each e%erging'%arket country and even each region in an e%erging'
%arket country can have its o!n interplay of taxes, duties, and regulatory delays that affect ho! co%panies
design their operations and the %argins theyre able achieve"
8id 6ou 5no2"
Colo%bia and Indirect Taxes
To attract business process outsourcing +*C(, vendors to Colo%bia, the country eli%inated the P$T tax on
*C( service exports" This %akes it %ore attractive to locate offshoring services in Colo%bia" Iocal
govern%ents also created t!o free'trade )ones in *ogotb and .edellXn specifically for *C(, providing state'
of'the'art infrastructure and services to co%panies that settle there" JRK

5!6 TA5!AWA6S
@lobal %oney %anage%ent involves %oving %oney across borders and %anaging the fir%s financial
resources in a !ay that %ini%i)es taxes and transaction fees !hile %axi%i)ing the fir%s returns"
The transfer price is the prices at !hich subsidiaries or affiliates of the sa%e fir% sell goods or services
to each other" When subsidiaries are located in countries !ith different tax rates, opportunities exist to
%ove inco%e to a lo!er'taxing 5urisdiction" Fir%s can %anipulate transfer prices to reduce global tax
liabilities
$ %ultinational co%pany can %ake the %ost of its cash reserves by holding cash balances at a central
location, called a centrali)ed depository, thus earning higher interest and being able to reduce the total
a%ount of cash reserves held on hand" Eo!ever, the t!o do!nsides of centrali)ed depositories are
that govern%ents can restrict ho! %uch capital flo!s out of their country and transaction costs are
incurred each ti%e %oney is %oved across borders"
3U32CI131
+$$C1*9 2eflective Thinking, $nalytical 1kills,
;" Eo! can local cash practices in a country affect a subsidiarys cash flo!#
<" What are so%e advantages that %ultinational fir%s gain fro% centrali)ed depositories#
=" 3xplain %ultilateral netting and ho! it can reduce transaction costs"
>" Why !ould a co%pany choose to do a fronting loan#
?" What are the challenges of transfer pricing#