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International Business Challenges in a Globalised World
The globalisation of business and commerce has become an increasingly significant reality worldwide: in 2000, the global trade in goods and services reached 25% of world GDP (Govidarajan & Gupta 2000), while in terms of manufactured goods, international trade has multiplied by more than 100 times since 1955 (Schifferes 2007). The rise of globalisation posits a number of important challenges to a business seeking international presence. Numerous strategic aspects must be taken into account prior to commitment at an international level, and afterwards. Constant flexibility is required to adapt to changing patterns at local, regional and international levels. This research paper seeks to identify the main issues affecting international businesses, including accounting practices, cultural issues, strategic choices and political risk.
1. Globalisation in the International Business Environment
Definitions of globalisation refer to it as “growing economic interdependence among countries as reflected in increasing cross-border flows of three types of commodities: goods and services, capital, and knowhow” (Govidarajan & Gupta 2000, p.275), or as
“the closer integration of the countries and peoples of the world …brought about by the enormous reduction of costs of transportation and communication, and the breaking down of artificial barriers to the flows of goods, services, capital, knowledge, and people across borders” (Stiglitz 2002, p. 9).
Globalisation is usually divided into globalisation of markets and globalisation of production (Hill 2005). According to Levitt (1983), market globalisation implies a standardisation of products across the world as national barriers become less and less relevant. Nevertheless, this type of globalisation appears less of a reality as national markets still present significant differences, marketing strategies continue to have country-specific traits and customer needs differ across countries (Douglas & Wind 1987). Instead, production globalisation appears more of a reality. Globalisation of production refers to the sourcing of goods and services to take advantage of a difference in the factors of production (land, labour, capital). Globalisation of production continues to suffer from trade barriers, costs of transportation, economic, social and political risks and others (Hill 2005). While trade barriers have been significantly lowered since World War II, formal and informal barriers continue to survive.
Globalisation has significantly impacted on the business environment, prompting the development of the multi-national enterprise (MNE). The governance of the MNE is recognised as being different than that of a national company. For instance, Bartlett and Ghoshal (1998) have introduced the influential concept of the transnational model, which allows the transfer of knowledge developed and jointly shared on a worldwide basis. In order to create a successful global business, Bengley and Boyd (2003) have underlined the importance of a global mindset, defined as the ability to develop and interpret criteria for business performance that are not dependent on the assumptions of a single country, culture or context. Corporate management must not automatically assume that the culture of the home office is equally applicable elsewhere (Bradley 2005). An important new development in the international business arena has been the rise of ‘mini-multinationals’ – small and medium size enterprises that do business on a global basis (Hill 2005).
2. Strategic Choices for International Business
Beginning with the pioneering work of Perlmutter (1969), numerous scholars have emphasised the importance of adopting a global strategic approach to business (i.e. Hamel and Prahalad 1985, Yip 1989). However, the optimal strategy for tackling global markets has been a matter of dispute. Often scholars propose an evolutionary view of strategy, which goes from a simple international strategy to sophisticated transnational solutions (Hill 2005).
Under the international strategy framework, international business is not a core interest of the firm. The company simply decides to “go international” and often sets up an international division that deals with the non-domestic business of the company. As the international business develops, the company may decide to source some components from overseas, and to standardise some of its products. As Briscoe and Schuler (2004) point out, when a certain critical mass develops, the company must choose other, more complex strategies of tackling the international market.
As a company’s international presence increases, often a multi-domestic or localisation strategy develops. Under this strategy, the company sets up subsidiaries in several countries, which tend to operate independently from each other and often relatively independently from the headquarters (Briscoe & Schuler 2004). This type of strategy emphasises local responsiveness, but this is often achieved at the expense of costs and possibly quality.
When MNEs grow in size, they could reach a level where ‘global standardisation strategy’ may be a strategic choice. The global strategy was promoted by Levitt (1983), who considered that globalisation naturally results in uniformity of consumer taste. In this framework, a company could achieve significant economies of scale by producing the same standard product at a global level.
In addition to the global strategy solution, many large MNEs with significant international presence may choose the transnational strategy approach. This was first introduced by Bartlett and Ghoshal (1998) and differs from the global strategy in that transnational companies tend to produce localised products that employ global expertise, technology and resources.
In addition to overall strategic choices, a company seeking international business must consider the method of accessing international markets. At a very simple level, a company may choose to invest in foreign firms (Briscoe & Schuler 2004). A company could restrict itself to exportation of goods or to franchising, which is type of quality or brand export. In more involved strategies, a MNE may choose to establish an equity joint venture with a local or global company, or to create a whole-owned subsidiary.
3. Culture and the Costs of Doing Business
Culture is an elusive term that has received hundreds of definitions. Hofstede’s (1984, p. 21) influential definition is that culture is “the collective programming of the mind which distinguishes the members of one human group from another” Hofstede (1984) identified the main dimensions of culture that affect work practices in different countries: Power distance, uncertainty avoidance, individualism vs. collectivism, masculinity vs. femininity, long vs. short-term orientation.
In a national culture framework, large power distance can translate into potential corruptive practices. Takyi-Asiedu (1993) associated power distance to corruption in sub-Saharan Africa. Cohen, Pant and Sharp (1996) also found that high power-distance culture people tend to view unethical practices as acceptable. On the other hand, Gray (1988) correlated high power distance with uniformity of financial and accounting practices, which may be more or less costly to a company depending on its manner of doing business.
Uncertainty avoiding countries tend to have solid legal frameworks and strict rules of doing business (Pagell & Halperin 2001). In such countries, thorough auditing tends to be carried out to ascertain compliance with rules (Hill 2004). These countries tend to have uniform accounting procedures and low disclosure levels (Gray 1988). Coming from a different cultural perspective, an international business may find it costly to adapt to the national standards and rules of the country it wishes to do business in. Paradoxically, uncertainty avoidance can also translate into unethical practices as persons seek to secure a more certain result through corruption (Husted 1999). In terms of entry modes into the country, businesses may find that uncertainty avoidant countries favour solid frameworks such as established subsidiaries or local ownership, which are more costly and risky.
Individualism vs. collectivism is an important aspect that influences the costs of business. For instance, Husted (1999) has found an important correlation between software piracy and individualism criterion. Collectivism has been associated with unethical behaviour and corruption (Hooper 1995).
Masculinity vs. femininity also tends to influence business costs. For instance, high masculine cultures have been associated with unethical practices (Vitell et al 1993). Feminine cultures could result in higher secrecy and conservatism in accounting and finance (Salter & Niswander 1995).
Apart from Hofstede’s aspects, religion has an important impact on doing business. For instance, Hill (2005) noted that Islamic culture encourages private enterprise and the right to private property. This implies that doing business in Islamic culture may have reduced political risks, whose prevention can become costly.
4. The Impact of Political Risk
Political risk was defined by Wells (1998) as the challenges faced by investors that result from some sort of government action, and sometimes inaction. Political risk implies negative business consequences due to the behaviour of governments and public sector organisations (Suder 2004).
The most important political risk has been the threat of nationalisation (Brooks et al 2004). The extreme threat of nationalisation sometimes takes milder forms as when, in times of crisis, some governments resort to exchange rate controls. Another source of political risk are wars or civil strife. However, Jones (2001) observes that dramatic events such as wars, assassinations and sequestrations are rare in the international business arena.
Another important political risk is represented by corruption practices (Hill 2005). For instance, a company may lose a contract because of a government’s unethical dealings (Madura 2006). To mitigate this risk, Transparency International has created a corruption index that can be available to all interested (Jones 2001).
Political risk can also translate in the change in tariff barriers, which make a company more or less competitive globally. Other political risks are more mundane and include, as Jones (2001) points out, government procurement policies, health and safety, environmental regulations, new standards, consumer protection policies or technology transfer. Hill (2005) also adds intellectual property rights as a political risk, since the legal framework varies from country to country.
Customarily, the management of political risks has been divided into integrative and protective techniques (Brink 2004). Integrative techniques seek to integrate the company within the host society. Such measures include local sourcing and employment, ownership sharing with government or local firms; training of managers to ensure cultural sensitivity; cultivation of close ties to the government. The downside of integrative techniques is the risk of a MNE embedding itself too much into local culture and losing its worldwide optimisation (Gregory 1988)
Protective techniques attempt to discourage government interference or to minimise the losses in case interference happens. A typical protective measure is political risk insurance (Brink 2004). Too many protective techniques can adversely affect companies as the government may identify it as a hostile entity (Gregory 1988).
Generally, to minimise political risk, companies can respond through political behaviour such as lobbying the central government (Suder 2004). Another solution is to negotiate a better deal with the government; for instance, an investor can seek a reduction of tax levels in exchange for accommodating the government (Brink 2004).
5. International Trade Theory
International Trade Theory dates back to Adam Smith’s famous Wealth of Nations and David Ricardo’s comparative advantage model. In the early 20th century, trade theory has achieved its classical form through the Heckscher-Ohlin (H-O) theory (Leamer 1995). According to the H-O model, relative factor endowments determine a country’s comparative advantage. Leontief (1956) found that empirically the H-O theory did not work in the case of the US, which imported capital-intensive products, even though it was a capital-rich country. This generated a long line of controversy as further researchers found arguments for and against the Leontief paradox.
Empirical trade analysis has concluded that the traditional trade models must be adjusted to fit the trade data (Rivera-Batiz & Oliva 2003). Such modifications should include technology differentials, home biases in consumption, trade costs and distance and intermediate outputs. Trefler (1993) created a modified H-O model that accounted for a difference in technologies and home bias. Rivera-Batiz and Oliva (2003) maintain that, once such model modifications are introduced, the H-O model appears to hold fairly well. Davis and Weinstein (2001) and Trefler and Zhu (2000) have achieved up to 74% correlation between predictions and measurements under the modified H-O model. Despite this, the H-O model continues to fail to account for intra-industry trade and increasing returns to scale in major industries (Rivera-Batiz & Oliva 2003, Dunning 2009).
The Product Cycle model introduced by Vernon (1966) creates a theory of product development, exports and imports. Poh (1987) considered the model valid, although some refinement was needed. Later on, Feenstra et al (2001) showed empirically that, as Vernon predicted, more advanced countries do tend to grow faster and display higher levels of economic activity than the less advanced ones.
Another assumption of international trade, the gravity theory, fares quite well in terms of empirical testing. According to gravity model, the volume of trade between two countries is related to the size of each country and the distance between the trading partners (Anderson 1979, Deardorff 1998). Evidence confirms that the larger and richer countries trade more with each other than with smaller countries. However, the theory fails to explain the imbalanced trade flows between US and Japan or China, or the large home bias observed in empirical analyses by McCallum (1995), Eaton and Kortum (2002).
Generally, it must be noted that the empirical analysis of international trade is currently experiencing a revival. The adjusted H-O and the gravity theory are now fitting the real world trade much better than earlier models.
6. National and International Accounting
Business accounting has historically developed on a national basis (Walton & al 2003). As Walton et al point out, the national differences are a reflection of the culture of the country where businesses operated. Moreover, the national accounting principles seek to capture the respective economic circumstances of the country. The ‘contingent’ model of accounting evolution considers that accounting principles or laws are built in response to a major national crisis, or pressure (i.e. Anderson & lanen 1997).
In addition to culture, another variable of national accounting principles is represented by influences from one’s neighbours, major trading partners or culturally tied countries (Walton et al 2003). Recently, the cross-border ties have been a driver of accounting harmonisation, as countries become regionally integrated (i.e. European Union, NAFTA).
Similarly, accounting practices differ in accordance with the relationship between the business and its shareholders. There are three established sources of capital: individual investors, banks and government (Hill 2005). For instance, the tradition of family-owned companies in Germany has created an environment of professional secrecy which does not require high transparency (Walton et al 2003). By comparison, the US has a tradition of transparency due to the relatively large amount of shareholders.
Inflation accounting also differs amongst different countries. For instance, current cost accounting was used in the UK until the inflation rate decreased (Hill 2005). By comparison, the pervasive inflation has motivated several South American countries to use general price-level adjustment (Tweedle and Whittington 1984).
As the world is becoming more and more globalised, there have been increasing efforts toward harmonisation of accounting. Currently, the idea of convergence rather than standardisation of accounting has become the most popular (Walton et al 2003). The drive toward harmonisation is given by the need for efficient cross-border transactions, as well as reduction of burden for multinational companies.
Harmonisation has been led by two main organisations: the International Accounting Standards Board (IASB) and the European Union. The European Union’s accounting principles are being developed regionally and are enforced through Directives. By comparison, the IASB attempts to set global accounting principles through voluntary compliance. The IASB has issued the IAS (international accounting standards), which are now embraced by many multi-nationals. IAS has encountered several difficulties, including the disagreements between the different participants, and particularly because of the opposition of the US GAAP (Walton et al 2003). However, the IAS is now emerging as a de-facto international standard.
As this paper has endeavoured to show, doing business internationally presents far greater challenges to local activity. The complexity of playing at the global level presents companies with different conundrums and choices, many of which are not straightforward. However, the way forward implies a careful strategic analysis and a strong cultural sensitivity in order to take advantage of global opportunities.
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