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Aid in the formulation of the internationalisation strategy of a subsidiary company to a hypothetic CEO

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Cisium is looking for to extent its capabilities in R&D by establishing a subsidiary in EU. This report explores 3 EU countries: France, Germany and UK.A systematic analysis is conducted using Porter’s diamonds framework with 5 categories and 15 criterions, the result gives to Germany the highest score. This study stresses the importance of institutional and cultural factors for a successful FDI. It is discussed institutional factors such as political systems, legal systems, property rights, and economical systems. The analysis identifies IP and corruption as critical issues.

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  • Date: 2017-04-17
  • Author: Raúl Bartolomé Castro
  • Program: Distance Learning MBA
  • Module: International Business Strategy
Categories: , , Tags: , ,

Description

Executive Summary

Cisium is looking for to extent its capabilities in R&D by stablishing a subsidiary in EU. This report explores 3 EU countries: France, Germany and UK.

A systematic analysis is conducted using Porter’s diamonds framework with 5 categories and 15 criterions, the result gives to Germany the highest score.

This study stresses the importance of institutional and cultural factors for a successful FDI. It is discussed institutional factors such as political systems, legal systems, property rights, and economical systems. The analysis identifies IP and corruption as critical issues.

Hofstede provides a 6 dimension cultural framework to identify cultural gaps between Philippines and Germany. It is evaluated individualism, masculinity, uncertainty avoidance and indulgence. For biggest cultural gaps, power distance and long term orientation it is provided focused advice to minimize risk.

From the constellation of entry modes for FDIs, it is analysed the most appropriated for the firm: R&D contracts, IJV, green-fields and M&A. After a systematic analysis, it is suggested IJV, however based on company’s strategy might be better green-fields or M&A.

The best organization structure is a matrix organization derived from transnational strategy and the nature of engineering projects operations. This is a challenging organization that brings the maximum flexibility.

Formal control mechanisms are suggested divided in 2 tiers: line organization and project level. These increases the chances of a successful FDI.

Finally, it is provided advice to improve CSR. Especial emphasis is given to code of ethics, training for business ethical, realistic KPIs and monitoring.

Table of Contents

1 Executive Summary 2

2 Introduction 5

3 Internationalisation Strategy 5

3.1 Advice on Selecting an EU Country 5

3.2 Advice on Dealing with Institutional and Cultural Differences 8

3.2.1 Institutional Factors 8

3.2.2 Cultural Factors 10

3.3 Advice on the Entry Mode 13

3.4 Other Advice 14

3.4.1 On the Best Organisational Structures 14

3.4.2 On Control Strategies for the Subsidiary 15

3.4.3 On Managing Key CSR Issues 16

4 Conclusion 16

5 Reflective Account 17

6 References 18

7 Acronyms 20

8 Appendices 21

8.1 Advice on Selecting an EU Country 21

List of Figures

Figure 1 Porter’s diamond of countries competitive advantage 5

Figure 2 Evaluation of Countries 6

Figure 3 Hofstede’s cultural dimension for Philippines and Germany. Source: Hofstede (2017) 10

Figure 4 Cultural gap between Philippines and Germany. Source: derived from Hofstede (2017). 11

Figure 5 Matrix organization of Cisium 14

Figure 6 Integration-responsiveness model 14

Figure 7 Best organization structure after FDI 15

List of Tables

Table 1 Evaluation of countries 6

Table 2 Institutional factors for Philippines and Germany 8

Table 3 Hofstede’s cultural dimensions (Geert Hofstede, 2017). 10

Table 4 Entry mode analysis 13

Table 5 Evaluation of countries in detail 21

Table 6 Evaluation of countries – remarks 22

Introduction

Cisum is a low-cost engineering services provider specialized in fields of electrical / electronic (E/E) and software. The company’s headquarters (HQ) and only location is in Cebu, Philippines. Its primary market is automotive targeting car makers (OEM) and tier-1 suppliers.

The company was born global, since inception the contribution in sales from foreign markets is very high; today presents balanced sales of 20% in USA, 20% in EU and 60% in Philippines.

The firm wishes to have physical presence in EU to improve its capabilities in research & development (R&D). This is a very natural expansion since the EU is the home of many OEMs and tier-1 suppliers and has highly qualified engineering workforce.

Internationalisation Strategy

Advice on Selecting an EU Country

From the 28 members of the EU, this report evaluates France, Germany and United Kingdom (UK). Porter’s Diamond framework helps to conduct a systematic analysis of the national competitive advantage.

Figure 1 Porter’s diamond of countries competitive advantage

Countries present competitive advantage when the four categories of Figure 1 are favourable. This report focuses in those factors that are more significant to Cisium’s objective.

Table 1 summarizes criterions used for the selection and Figure 2 presents the 5 categories and 15 criterions in a chart style. The results are weighed values where Germany is the best option with a total score of 2,19, second UK with 1,02 and last France with 0,65 (see appendix 8.1 for details).

Table 1 Evaluation of countries

Figure 2 Evaluation of Countries

A short discussion:

Demand conditions cover the influence of home demand, significant are absolute number of passenger cars and number of cars per inhabitant.

Factors endowments are production factors such as labour and infrastructure, considered direct automotive manufacturing employment, internet speed, population, researchers in R&D and employment in technology with tertiary education (level 5-8).

Frim strategy, structure and rivalry are conditions that affect firms, remarkable are country brand index, number of top 100 global OEM suppliers, absolute number of patents and patents per millions of inhabitants.

Related and supporting industries refer to suppliers’ clusters that help the firms, evaluated enterprises in high-tech sectors and number of European software vendors in Truffle 100 ranking.

Finally, Porter believes that luck and government as factors that affects the competitive advantage of the country. Here is considered ease of doing business and R&D expenditure.

Advice on Dealing with Institutional and Cultural Differences

Institutional and cultural factors are key for a successful expansion to new countries, ignoring them brings uncontrolled risk to the foreign direct investment (FDI) (Xu & White, 2010).

Institutional Factors

Formal institutions are the social and economic framework that involves the business activity. Table 2 presents key institutional factors.

Table 2 Institutional factors for Philippines and Germany

Category Germany Philippines
Political systems, government Democratic republic with federal parliament and federal legislative power. Separation of power and multi-party system (Bundespräsidialamt, 2017). Presidential democratic republic with centralist government. Separation of power and multi-party system (Philippine Government, 2017).
Legal systems Civil law with influence of Roman law and German culture (Bundesministerium der Justiz und fur Verbraucherschutz, 2017). Civil law and common law based on Spanish law and influenced by US common law (Chan Robles, 2017).
Property rights, real property Foreign ownerships is fully protected by law (The International Trade Administration, 2017). Property rights is waekly implemented, with redundadnd administration and corruption (The International Trade Administration, 2017).
Property rights, intellectual property (IP) German IP law is strong, availability of copyrights, trademarks and patents (The International Trade Administration, 2017). The country has law for copyrights, trademarks and patents but needs enforcement. IP infraction is a minor fault (The International Trade Administration, 2017).
Corruption Corruption is low, corruption perceptions index (CPI) was 10 in 2016. Corruptions occurs in a small scale in political and business environment (Transparency International, 2017). Corruption is high with CPI = 101 in 2016 but improving (CPI = 129 in 2011).
Corruption is widespread in the society. Present bribery, embezzlement, and political nepotism among other corruption practises (Transparency International, 2017).
Economic systems, GPD $3.5 trillion gross domestic product (GDP) in 2016 (International Monetary Fund , 2017). $0.3 trillion GDP in 2016 (International Monetary Fund , 2017).
Economic systems, ease of doing business rank 17 (Michigan State University, 2017). 99 (Michigan State University., 2017).

Short discussion and advice:

Political systems are similar in Germany and Philippines, both are a democratic republic, however Germany is more federal and Philippines more presidential and centralist. Cisium will not have a significant challenge here.

Legal systems, both countries use civil law as foundation, additionally Philippines is influenced by US common law. The firm will feel familiar with German civil law.

Property systems, the subsidiary will enjoy a stronger property framework than the HQ. Cisium will have to be careful with IP in Germany, since breaching it is severely persecuted, something unusual in Philippines.

Corruption, the gap between Germany and Philippines is big. Philippines presents higher CPI than Germany. The company will have to refrain of any corrupted behaviour in Germany, otherwise it might be persecuted.

Economy systems, both are free open market system and Germany presents very good ranking in ease of doing business. The HQ will find easy to stablish the subsidiary compared with current business in Philippines.

Cultural Factors

Geert Hofstede provides a 6 dimension framework to evaluate the cultural differences between countries. Figure 3 shows the result.

Figure 3 Hofstede’s cultural dimension for Philippines and Germany. Source: Hofstede (2017)

Table 3 summarizes the definition of the dimensions and explains the differences.

Table 3 Hofstede’s cultural dimensions (Geert Hofstede, 2017).

Dimension Definition Comparison
Power distance Represents up to what extend less powerful social members tolerate differences with more powerful members. Philippines scores very high value (94) implies high hierarchical society without justification, however Germany scores low (35) reflecting strong middle class and a participative and communicative society.
Individualism Is the degree of which individuals remain independent with respect the society. Philippines presents low individualism (32) that reflects a collectivist society, consequently contracts and promotions have moral connotation and managers care more about groups than individual members. Germany is an individual society (67), they believe in the individual pursuing the full potential and direct communication between management and employee.
Masculinity Means the society is driven by competition in contraposition with feminine society where values are taking care of others and pursuit of quality of life. Philippines and Germany score high in this feature (64 and 66), both societies consider “live in order to work”, where decisive management focused in competition, performance and direct conflict solving.
Uncertainty avoidance Is the extent to which society feel threaten by uncertainty. Philippines presents certain tolerance to uncertainty (44) therefore more relaxed to norms, schedule and ambiguity, on the other hand, Germany avoid uncertainty (65) consequently interest in planning, details and systematic approaches.
Long term orientation Long term orientation of social goals that reflect pragmatic societies is opposite to short term orientation that resolute in normative societies. Philippines scores very low (27) presenting normative thinking, high respect for traditions and focus in quick results. Germany scores high (83) translated in pragmatism, adaptive culture and perseverance.
Indulgence Is “the extent to which people try to control their desires and impulses”, the opposite concept is restraining. Both countries score a low value (42 and 40) that reflect restrain societies and therefore tendency to cynicism, pessimism, reduced leisure time and control of desire.

Figure 4 presents the cultural gab of both countries.

Figure 4 Cultural gap between Philippines and Germany. Source: derived from Hofstede (2017).

This is the advice:

Power distance is the highest cultural gap (59) and will bring conflict unless it is properly managed. Some advises are: explain management decisions to German employees, make the subsidiary co-participate of the decisions, delegate power to senior engineers and intermediate managers in Germany and perform trainings to increase the awareness of this gap.

Individualism trait presents a significant cultural gap (35) that will produce conflict if it is not well managed; Cisium’s management should tolerate German’s individualism and direct communication and schedule some trainings in both sides to understand each other approach to individualism/collectivism.

Masculinity does not present a significant gab (2). No issue with this dimension.

Uncertainty avoidance trait is not too big (21), so probably the differences are easy to mitigate. Considering the business nature of Cisium, embracing uncertainty avoidance is a good practice; projects will have bigger chance of success with proper planning, requirement management and extensive documentation.

Long term orientation is the second highest cultural gab (56), therefore management attention is necessary. In the subsidiary, the management together with the employee could tailor a career path that engages the long term orientation; Cisium’s top management can get closer to a long term orientation, since it is synonymous of sustainability (Crane & Matten, 2016, p. 431) and perform trainings to understand the cultural gap of each other.

Indulgence is not a significant gab (2), consequently no special measures are necessary, however other sources present Philippines as the most emotional society in the word (Bradberry, 2013)[1], a similar concept to indulgence.

Advice on the Entry Mode

From the variety of FDI, it is analysed the most interesting options for Cisium:

R&D contracts. Cisium could engage a long term engineering services contract with well stablished provider, however due to the high cost is not an advisable option. This FDI could be helpful for market exploration.

International joint venture (IJV). This mode allows market presence without full investment. It provides an immediate access to know-how and shares the business expenses. This mode could be appropriated for development of a specific project, however with a JV failure of 24-67% (Peng & Shenkar, 2002), this mode might not be the best solution in the long run.

Green-fields by wholly owned subsidiary (WOS). This mode present highest initial investment. Hiring engineers and mangers from top competitors and clients will give fast access to know how, however the setup time to be operative will be long. This approach might bring some conflict with potential customers, but this is a small risk due to the extension of engineering market in Germany.

Merge & Acquisition (M&A) by WOS. This mode present the highest initial investment, but provides the shortest access to know-how. M&A presents the challenge to integrate the existing culture to Cisium’s culture, that might be an issue.

The acquisition of a small engineering firm is an effective way to avoid the initial steps of building a company (legal, administrative, etc.) with a controlled investment.

The M&A also gives the chance to expand easily the engineering services provided by horizontal integration, harder to achieve with other entry modes.

Table 4 summarizes the discussion and provides colour code for easy overview. Based on the heat map IJV is the most appealing however based on Cisium’s strategy green-filed or M&A might be better options.

Table 4 Entry mode analysis

FDI Mode Category Engineering know-how Long term sustainability Set up time Initial Investment Operational cost
R&D Contract Non-equity mode Contract agreement mid/low very low low low very high
Majority, 50/50 or majority JV Equity mode IJV high mid low mid very low
Green-fields Equity mode WOS mid high high High/mid low
M&A Equity mode WOS high mid/high low high/very hig mid

Other Advice

On the Best Organisational Structures

Engineering services is a business where operations are performed by projects[2]. Figure 5 presents current organization, a matrix of functional departments and projects managers (PM).

Figure 5 Matrix organization of Cisium

With the creation of a new subsidiary, it is necessary to consider the most appropriate integrative structure in the existing organization. Figure 6 presents the integration-responsiveness (IR) model.

Figure 6 Integration-responsiveness model

Engineering services has a little opportunity to standardize processes and services, each project and customer is different, however the pressure for local responsiveness is very high. Multi-domestic strategy might be appropriate due to the local focus, but it is not efficient in the utilization of global resources, consequently a transnational strategy is better choice. Figure 7 presents the most appropriate organizational structure.

Figure 7 Best organization structure after FDI

The team is located either in Philippines or Germany. First level of management is the area PM that manages a distributed functional team allocated to one or more projects. The area PM reports to a global PM and global functional area manager, this is a challenge but provides maximum flexibility.

On Control Strategies for the Subsidiary

Control mechanisms are advisable for a successful integration. At line organization level:

  • The HQ needs to deploy procedures, templates, code of conduct and other bureaucratic controls.
  • HQ top management should set up key performance indicators (KPI) controls based on roles such as, area manager, PM, group leader, etc.
  • At least twice per year face-to-face meeting between manager and subordinates for open discussion, performance appraisal and feedback.
  • Managers receive an economical incentive proportionally to profit & loose (P&L) of their responsibility/performance.

At project level:

  • Meetings are the key personal control mechanisms, done at least once per week in each functional domain and each project.
  • Projects should set up a specific project hand book with all necessary bureaucratic controls.
  • Each project shall define KPI for time, quality and cost, then assigned them to team members accordingly.
  • PM are accountable for project P&L, and they are rewarded proportionally.

On Managing Key CSR Issues

The subsidiary shall follow German laws, property rights and pay special attention to corruption as mentioned in chapter 3.2.1 to avoid legal issues and hold reputable CSR.

Philippines presents worst level in human rights than Germany, in 2016 was remarkable the extra judiciary killings since Duterte took office, child labour in gold mines (Human Rights Watch, 2017) and low press freedom in position 138th over 180 countries (Reporters without borders, 2016). This FDI is a good change to improve the company’s CSR.

Key pillars to improve CSR can be a comprehensive code of ethics present in visible areas and constant training to promote business and personal ethics. Management should set realistic KPIs to avoid unethical behaviour. Especial ethic training and monitoring for leaders and managers, as they should be an ethical example.

Conclusion

This report evaluates France, Germany and UK as potential host for FDI, a systematic analysis suggests Germany as best option.

From institutional factors, Cisium needs to pay attention to IP and corruption. Power distance and long term orientation are the bigger cultural gaps that Cisium should manage. The most advisable entry mode is IJV, however maybe is more strategic green-fields or M&A by WOS.

The best organization structure is matrix organization derived from transnational strategy and engineering projects operations nature.

Finally, it is provided advice in control strategies and mechanisms to improve CSR.

Reflective Account

References

Chan Robles, 2017. PHILIPPINE LAWS. [Online]
Available at: http://www.chanrobles.com/index1.htm

Crane, A. & Matten, D., 2016. Business Ethics. 4th Edition ed. Oxford: Oxford University Press.

Akamai Technologies , 2017. Internet connection speeds and adoption rates by geography. [Online]
Available at: https://www.akamai.com/us/en/about/our-thinking/state-of-the-internet-report/state-of-the-internet-connectivity-visualization.jsp

Automotive News, 2017. [Online]
Available at: https://www.autonews.com/

Bradberry, T., 2013. The Most And Least Emotionally Aware Countries. [Online]
Available at: https://www.forbes.com/sites/travisbradberry/2013/08/17/the-most-and-least-emotionally-aware-countries/#11ea5f173596
[Accessed 16 April 2017].

Bundesministerium der Justiz und fur Verbraucherschutz, 2017. Statutes/Ordinances. [Online]
Available at: http://www.gesetze-im-internet.de/Teilliste_translations.html

Bundespräsidialamt, 2017. [Online]
Available at: http://www.bundespraesident.de/EN/Role-and-Functions/role-and-functions-node.html

European Automobile Manufacturers Association, 2017. [Online]
Available at: http://www.acea.be/

Eurostat, 2017. [Online]
Available at: http://ec.europa.eu/eurostat

Future Brand, 2017. [Online]
Available at: http://www.futurebrand.com/

Geert Hofstede, 2017. Country comparison. [Online]
Available at: https://geert-hofstede.com/countries.html

Human Rights Watch, 2017. Philippines Events 2016. [Online]
Available at: https://www.hrw.org/world-report/2017/country-chapters/philippines
[Accessed 17 April 2017].

International Monetary Fund , 2017. World Economic Outlook Database. [Online]
Available at: http://www.imf.org/external/pubs/ft/weo/2016/02/weodata/index.aspx

Michigan State University., 2017. Philippines. [Online]
Available at: https://globaledge.msu.edu/countries/philippines

Michigan State University, 2017. Germany. [Online]
Available at: https://globaledge.msu.edu/countries/germany

Peng, M. W. & Shenkar, O., 2002. Joint Venture Dissolution as Corporate Divorce. The Academy of Management Executive, 16(2), pp. 92-105.

Philippine Government, 2017. [Online]
Available at: http://www.gov.ph/about/gov/

Reporters without borders, 2016. 2016 World Press Freedom Index. [Online]
Available at: https://rsf.org/en/ranking
[Accessed 17 April 2017].

The International Trade Administration, 2017. Germany – Protection of Property Rights. [Online]
Available at: https://www.export.gov/article?id=Germany-Protection-of-Property-Rights

The International Trade Administration, 2017. Philippines Country Commercial Guide. [Online]
Available at: https://www.export.gov/article?id=Philippines-Protection-of-Property-Rights

The World Bank Group, 2017. [Online]
Available at: https://www.worldbank.org/

The World Bank Group, 2017. [Online]
Available at: http://www.doingbusiness.org/

Transparency International, 2017. Germany. [Online]
Available at: http://www.transparency.org/country/DEU

Transparency International, 2017. Philippines. [Online]
Available at: http://www.transparency.org/country/PHL

Truffle 100 , 2017. [Online]
Available at: http://www.truffle100.com/

US Patent and Trademark Office, 2017. [Online]
Available at: https://www.uspto.gov/

Xu, L. & White, S., 2010. Shanghai Automotive and Ssangyong Motor. A Tale of Two Dragons, Shanghai: CEIBS (China Europe International Business School).

Acronyms

CPI. corruption perception index

E/E. electrical / electronic

FDI. foreign direct investment

GDP. gross domestic product

HQ. headquarters

IJV. international joint venture

IP. intellectual property

IR. integration-responsiveness

KPI. key performance indicator

M&A. merges & acquisitions

OEM. original equipment manufacturer

P&L. profit & loose

PM. project manager

R&D. research & development

UK. United Kingdom

WOS. wholly owned subsidiary

Appendices

Advice on Selecting an EU Country

Detail of categories and criterions used to advice on sleeting an EU Country:

Table 5 Evaluation of countries in detail

Remarks for criterions used in selecting EU country:

Table 6 Evaluation of countries – remarks

Criterion Remarks Date Reference
Number of cars per inhabitant   2015 The World Bank Group (2017), Eurostat (2017)
Number of passenger’s cars Values in millions 2015 Eurostat (2017)
Direct automotive manufacturing employment   2013 European Automobile Manufacturers Association (2017)
Employment in technology Employment in technology and knowledge-intensive sectors with tertiary education (level 5-8) 2015 Eurostat (2017)
Internet speed Values in kbps 2016 Akamai Technologies (2017)
Population Values in Millions 2015 The World Bank Group (2017)
Researchers in R&D Values in Millions 2014 The World Bank Group (2017)
Country brand index In the calculation is used the inverse (1/x) 2015 Future Brand (2017)
Number of top 100 global OEM Suppliers   2016 Automotive News (2017)
Patent per million inhabitants   2015 The World Bank Group (2017) and US Patent and Trademark Office (2017)
Patents   2015 US Patent and Trademark Office (2017)
Ease of doing business rank In the calculation is used the inverse (1/x) 2016 The World Bank Group (2017)
Enterprises in high-tech sectors   2014 Eurostat (2017)
European software vendors in Truffle 100 ranking   2014 Truffle 100 (2017)
    1. The author of this report was living 5 years in Philippines, he believes Philippines’ society is indulgence, contradicting the Hofstede’s result.

 

  1. Engineering projects are unique, limited in time, with specific budget, executed by a team of engineers and project managers among other characteristics.

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