International Business

International business is defined as business transactions that take place across national borders. This broad definition includes the very small firm that exports (or imports) a small quantity to only one country, as well as the very large global firm with integrated operations and strategic alliances around the world. Within this broad array, distinctions are often made among different types of international firms, and these distinctions are helpful in understanding a firm's strategy, organization, and functional decisions (for example, its financial, administrative, marketing, human resource, or operations decisions). One distinction that can be helpful is the distinction between multidomestic operations, with independent subsidiaries that act essentially as domestic firms, and global operations, with integrated subsidiaries that are closely related and interconnected. These may be thought of as the two ends of a continuum, with many possibilities in between. Firms are unlikely to be at one end of the continuum, though, as they often combine aspects of multi-domestic operations with aspects of global operations.

International business grew over the last half of the twentieth century and the early twenty-first century partly because of liberalization of both trade and investment, and partly because doing business internationally had become easier. In terms of liberalization, the General Agreement on Tariffs and Trade (GATT) negotiation rounds resulted in trade liberalization, and this was continued with the formation of the World Trade Organization (WTO) in 1995, which is responsible for the regulation of trade on the global level. Other regional trade agreements include the North Atlantic Free Trade Agreement (NAFTA) between The United States, Canada and Mexico and the MERCOSUR between South American Countries. At the same time, most governments liberalized worldwide capital movements, particularly with the advent of electronic funds transfers. In addition, the introduction of a new European monetary unit, the euro, into circulation in January 2002 has impacted international business economically. The euro is the currency of the European Union, and it has replaced the national currency of many European countries. As of early 2005, the United States dollar continues to struggle against the euro and the impacts are being felt across industries worldwide.

In terms of ease of doing business internationally, two major forces are important: technological developments that make global communication and transportation relatively quick and convenient, and the disappearance of a substantial part of the communist world, opening many of the world's economies to private business.

DOMESTIC VS. INTERNATIONAL BUSINESS

Domestic and international enterprises, in both the public and private sectors, share the business objectives of functioning successfully to continue operations. Private enterprises seek to function profitably as well. Why, then, is international business different from domestic? The answer lies in the differences across borders. Nation-states generally have unique government systems, laws and regulations, currencies, taxes and duties, and so on, as well as different cultures and practices. An individual traveling from his home country to a foreign country needs to have the proper documents, to carry foreign currency, to be able to communicate in the foreign country, to be dressed appropriately, and so on. Doing business in a foreign country involves similar issues and is thus more complex than doing business at home. The following sections will explore some of these issues. Specifically, comparative advantage is introduced, the international business environment is explored, and forms of international entry are outlined.

THEORIES OF INTERNATIONAL TRADE AND INVESTMENT

In order to understand international business, it is necessary to have a broad conceptual understanding of why trade and investment across national borders take place. Trade and investment can be examined in terms of the comparative advantage of nations.

Comparative advantage suggests that each nation is relatively good at producing certain products or services. This comparative advantage is based on the nation's abundant factors of production—land, labor, and capital—and a country will export those products/services that use its abundant factors of production intensively. Simply, consider only two factors of production, labor and capital, and two countries, X and Y. If country X has a relative abundance of labor and country Y a relative abundance of capital, country X should export products/services that use labor intensively, and country Y should export products/services that use capital intensively.

This is a very simplistic explanation, of course. There are many more factors of production, of varying qualities, and there are many additional influences on trade such as government regulations. Nevertheless, it is a starting point for understanding what nations are likely to export or import. The concept of comparative advantage can also

help explain investment flows. Generally, capital is the most mobile of the factors of production and can move relatively easily from one country to another. Other factors of production, such as land and labor, either do not move or are less mobile. The result is that where capital is available in one country it may be used to invest in other countries to take advantage of their abundant land or labor. Firms may develop expertise and firm-specific advantages based initially on abundant resources at home, but as resource needs change, the stage of the product life cycle matures, and home markets become saturated, these firms find it advantageous to invest internationally.

THE INTERNATIONAL BUSINESS ENVIRONMENT

International business is different from domestic business because the environment changes when a firm crosses international borders. Typically, a firm understands its domestic environment quite well, but is less familiar with the environment in other countries and must invest more time and resources into understanding the new environment. The following considers some of the important aspects of the environment that change internationally.

The economic environment can be very different from one nation to another. Countries are often divided into three main categories: the developed countries, the least developed countries, and developing or emerging economies. Within each category there are major variations, but overall the more developed countries are the rich countries, the less developed the poor ones, and the newly industrializing those moving from poorer to richer. These distinctions are usually made on the basis of gross domestic product per capita (GDP/capita). Better education, infrastructure, technology, health care, and so on are also often associated with higher levels of economic development.

When discussing emerging economies, the “BRIC” nations hold a prominent place. The BRIC countries refer to the emerging economies in Brazil, Russia, India and China. The term was used first by Goldman Sachs investment bank in 2003 in a paper that argued that these rapidly developing nations would surpass the richest countries in the world by 2050. Jim O'Neill, head of global economic research at Goldman Sachs, claims that the BRIC countries are moving toward the creation of an economic bloc similar to the European Union. The BRIC Summit that took place in 2008 indicates that these countries are beginning to formalize their association.

In addition to level of economic development, countries can be classified as free-market, centrally planned, or mixed. Free-market economies are those where government intervenes minimally in business activities, and market forces of supply and demand are allowed to determine production and prices. Centrally planned economies are those where the government determines production and prices based on forecasts of demand and desired levels of supply. Mixed economies are those where some activities are left to market forces and some, for national and individual welfare reasons, are government controlled. In the late twentieth century and early twenty-first century there has been a substantial move to free-market economies but most countries maintain some government control of business activities. The People's Republic of China (PRC) has implemented market-based economic reforms since the death of Chairman Mao in 1976, after which the Communist Party's control over citizens was diminished. Now the PRC has a mixed economy that incorporates many aspects of a free-market environment while retaining government control over industries that are considered to be of vital strategic importance to the state.

Clearly the level of economic activity combined with education, infrastructure, and so on, as well as the degree of government control of the economy, affect virtually all facets of doing business, and a firm needs to understand this environment if it is to operate successfully internationally.

The political environment refers to the type of government, the government relationship with business, and the political risk in a country. Doing business internationally thus implies dealing with different types of governments, relationships, and levels of risk.

There are many different types of political systems, for example, multi-party democracies, one-party states, constitutional monarchies, and dictatorships (military and nonmilitary). Also, governments change in different ways, for example, by regular elections, occasional elections, death, coups, and war. Government-business relationships also differ from country to country. Business may be viewed positively as the engine of growth, it may be viewed negatively as the exploiter of the workers, or somewhere in between as providing both benefits and drawbacks. Specific government-business relationships can also vary from positive to negative depending on the type of business operations involved and the relationship between the people of the host country and the people of the home country. To be effective in a foreign location an international firm relies on the goodwill of the foreign government and needs to have a good understanding of all of these aspects of the political environment.

A particular concern of international firms is the degree of political risk in a foreign location. Political risk refers to the likelihood of government activity that has unwanted consequences for the firm. These consequences can be dramatic as in forced divestment, where a government requires the firm to give up its assets, or more moderate, as in unwelcome regulations or interference in operations. In any case the risk occurs because of uncertainty about the likelihood of government activity

occurring. Generally, risk is associated with instability, and a country is thus seen as more risky if the government is likely to change unexpectedly, if there is social unrest, if there are riots, revolutions, war, terrorism, and so on. Firms naturally prefer countries that are stable and that present little political risk, but the returns need to be weighed against the risks, and firms often do business in countries where the risk is relatively high. In these situations, firms seek to manage the perceived risk through insurance, ownership and management choices, supply and market control, financing arrangements, and so on. In addition, the degree of political risk is not solely a function of the country, but depends on the company and its activities as well—a risky country for one company may be relatively safe for another. Additionally, countries that can be said to have little political risk may have a strict regulatory environment. In the United States, regulations make for a stable business environment, but the compliance burden—particularly since the Sarbanes-Oxley code was introduced in 2002—can be so expensive as to deter foreign companies from doing business in the United States.

The cultural environment is one of the critical components of the international business environment and one of the most difficult to understand. This is because the cultural environment is essentially unseen; According to Kluckhohn and Strodtbeck, it can be described as a shared, commonly held body of general beliefs and values that determine what is right for one group. National culture is described as the body of general beliefs and values that are shared by a nation. Beliefs and values are generally seen as formed by factors such as history, language, religion, geographic location, government, and education; thus firms begin a cultural analysis by seeking to understand these factors.

Firms want to understand what beliefs and values they may find in countries where they do business, and a number of models of cultural values have been proposed by scholars. The most well known is that developed by Hofstede in 1980. This model proposes four dimensions of cultural values including individualism, uncertainty avoidance, power distance, and masculinity. Individualism is the degree to which a nation values and encourages individual action and decision making. Uncertainty avoidance is the degree to which a nation is willing to accept and deal with uncertainty. Power distance is the degree to which a nation accepts and sanctions differences in power. And masculinity is the degree to which a nation accepts traditional male values or traditional female values. This model of cultural values has been used extensively because it provides data for a wide array of countries. Many academics and managers found this model helpful in exploring management approaches that would be appropriate in different cultures. For example, in a nation that is high on individualism one expects individual goals, individual tasks, and individual reward systems to be effective, whereas the reverse would be the case in a nation that is low on individualism. While this model is popular, there have been many attempts to develop more complex and inclusive models of culture.

The competitive environment can also change from country to country. This is partly because of the economic, political, and cultural environments; these environmental factors help determine the type and degree of competition that exists in a given country. Competition can come from a variety of sources. It can be public or private sector, come from large or small organizations, be domestic or global, and stem from traditional or new competitors. For the domestic firm the most likely sources of competition may be well understood. The same is not the case when one moves to compete in a new environment. For example, in the United States most business is privately owned and competition is among private sector companies, while in the People's Republic of China some businesses remain under the direction of the state. Thus, a U.S. company in the PRC could find itself competing with organizations owned by state entities. This could change the nature of competition dramatically.

The nature of competition can also change from place to place as the following illustrate: competition may be encouraged and accepted or discouraged in favor of cooperation; relations between buyers and sellers may be friendly or hostile; barriers to entry and exit may be low or high; regulations may permit or prohibit certain activities. To be effective internationally, firms need to understand these competitive issues and assess their impact. In addition to trade liberalization, there has been an effort to negotiate trade facilitation, which focuses on the cost of trade and customs procedures.

An important aspect of the competitive environment is the level, and acceptance, of technological innovation in different countries. The last decades of the twentieth century saw major advances in technology, and this is continuing in the twenty-first century. Technology often is seen as giving firms a competitive advantage; hence, firms compete for access to the newest in technology, and international firms transfer technology to be globally competitive. It is easier than ever for even small businesses to have a global presence thanks to the Internet, which greatly expands their exposure, their market, and their potential customer base. For economic, political, and cultural reasons, some countries are more accepting of technological innovations, others less accepting.

INTERNATIONAL ENTRY CHOICES

International firms may choose to do business in a variety of ways. Some of the most common include exports, licenses, contracts and turnkey operations, franchises, joint ventures, wholly owned subsidiaries, and strategic alliances.

Exporting is often the first international choice for firms, and many firms rely substantially on exports throughout their history. Exports are seen as relatively simple because the firm is relying on domestic production, can use a variety of intermediaries to assist in the process, and expects its foreign customers to deal with the marketing and sales issues. Many firms begin by exporting reactively; then become proactive when they realize the potential benefits of addressing a market that is much larger than the domestic one. Effective exporting requires attention to detail if the process is to be successful; for example, the exporter needs to decide if and when to use different intermediaries, select an appropriate transportation method, prepare export documentation, prepare the product, arrange acceptable payment terms, and so on. Most importantly, the exporter usually leaves marketing and sales to the foreign customers, and these may not receive the same attention as if the firm itself undertook these activities. Larger exporters often undertake their own marketing and establish sales subsidiaries in important foreign markets.

Licenses are granted from a licensor to a licensee for the rights to some intangible property (e.g. patents, processes, copyrights, trademarks) for agreed on compensation (a royalty payment). Many companies feel that production in a foreign country is desirable but they do not want to undertake this production themselves. In this situation the firm can grant a license to a foreign firm to undertake the production. The licensing agreement gives access to foreign markets through foreign production without the necessity of investing in the foreign location. This is particularly attractive for a company that does not have the financial or managerial capacity to invest and undertake foreign production. The major disadvantage to a licensing agreement is the dependence on the foreign producer for quality, efficiency, and promotion of the product—if the licensee is not effective, this reflects on the licensor. In addition, the licensor risks losing some of its technology and creating a potential competitor. This means the licensor should choose a licensee carefully to be sure the licensee will perform at an acceptable level and is trustworthy. The agreement is important to both parties and should ensure that both parties benefit equitably.

Outsourcing is where a business subcontracts one aspect of its business operations, such as payroll or advertising. Offshoring refers to when a company outsources a business process to a company in another country. Often companies outsource in order to take advantage of lower labor costs. Other motivations for outsourcing include the transfer of risk to a third party.

Contracts are used frequently by firms that provide specialized services, such as management, technical knowledge, engineering, information technology, education, and so on, in a foreign location for a specified time period and fee. Contracts are attractive for firms that have talents not being fully utilized at home and in demand in foreign locations. They are relatively short-term, allowing for flexibility, and the fee is usually fixed so that revenues are known in advance. The major drawback is their short-term nature, which means that the contracting firm needs to develop new business constantly and negotiate new contracts. This negotiation is time consuming, costly, and requires skill at cross-cultural negotiations. Revenues are likely to be uneven and the firm must be able to weather periods when no new contracts materialize.

Turnkey contracts are a specific kind of contract where a firm constructs a facility, starts operations, trains local personnel, then transfers the facility (turns over the keys) to the foreign owner. These contracts are usually for very large infrastructure projects, such as dams, railways, and airports, and involve substantial financing; thus international financial institutions such as the World Bank often finance them. Companies that specialize in these projects can be very profitable, but they require specialized expertise. Further, the investment in obtaining these projects is very high, so only a relatively small number of large firms are involved in these projects, and often they involve a syndicate or collaboration of firms.

Similar to licensing agreements, franchises involve the sale of the right to operate a complete business operation. Well-known examples include independently owned fast-food restaurants like McDonald's and Pizza Hut. A successful franchise requires control over something that others are willing to pay for, such as a name, set of products, or a way of doing things, and the availability of willing and able franchisees. Finding franchisees and maintaining control over franchisable assets in foreign countries can be difficult; to be successful at international franchising, firms need to ensure they can accomplish both of these.

Joint ventures involve shared ownership in a subsidiary company. A joint venture allows a firm to take an investment position in a foreign location without taking on the complete responsibility for the foreign investment. Joint ventures can take many forms. For example, there can be two partners or more, partners can share equally or have varying stakes, partners can come from the private sector or the public, partners can be silent or active, partners can be local or international. The decisions on what to share, how much to share, with whom to share, and how long to share are all important to the success of a joint venture. Joint ventures have been likened to marriages, with the suggestion that the choice of partner is critically important. Many joint ventures fail because partners have not agreed on their objectives and find it difficult to work out conflicts. Joint ventures provide an

effective international entry when partners are complementary, but firms need to be thorough in their preparation for a joint venture.

Wholly owned subsidiaries involve the establishment of businesses in foreign locations which are owned entirely by the investing firm. This entry choice puts the investor parent in full control of operations but also requires the ability to provide the needed capital and management, and to take on all of the risk. Where control is important and the firm is capable of the investment, it is often the preferred choice. Other firms feel the need for local input from local partners, or specialized input from international partners, and opt for joint ventures or strategic alliances, even where they are financially capable of 100 percent ownership.

Strategic alliances are arrangements among companies to cooperate for strategic purposes. Licenses and joint ventures are forms of strategic alliances, but are often differentiated from them. Strategic alliances can involve no joint ownership or specific license agreement, but rather two companies working together to develop a synergy. Firms form strategic alliances for a variety of reasons. Ideally, each partner can bring complementary assets to the table, resulting in a competitive advantage for the participants collectively. Businesses in a strategic alliance can benefit from many aspects of a cooperative relationship: access to unfamiliar or untapped markets, risk sharing, economies of scale, shared technology, and decreased costs. Joint advertising programs are a form of strategic alliance, as are joint research and development programs. Strategic alliances seem to make some firms vulnerable to loss of competitive advantage, especially where small firms ally with larger firms. In spite of this, many smaller firms find that strategic alliances allow them to enter the international arena when they could not do so alone.

International business grew substantially in the second half of the twentieth century, and this growth is likely to continue. The international environment is complex and it is very important for firms to understand this environment and make effective choices in this complex environment. The previous discussion introduced the concept of comparative advantage, explored some of the important aspects of the international business environment, and outlined the major international entry choices available to firms. The topic of international business is itself complex, and this short discussion serves only to introduce a few ideas on international business issues.

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INTERNATIONAL BUSINESS

International business consists of transactions that are developed and carried out across two or more international borders to satisfy the business objectives of individuals and organizations. Technology has created opportunities for business internationally in ways that make boundaries of countries seamless in transacting business at the click of a computer.

MAJOR FACTORS AFFECTING THE GROWTH OF INTERNATIONAL BUSINESS

International business has experienced an unusually strong growth pattern since 2004. Several major factors are involved in this growth. One major factor deals with the surge in oil prices, a commodity in great demand by many nations.

Another major factor affecting the growth of international business has been the expansion of technology. Computers and all their applications have deeply penetrated international business, and using the Internet as an integral tool of communication has been paramount in promoting diversified international business opportunities.

A third major factor has been the decline in the value of the U.S. dollar. When prices are lower for U.S. goods, other nations rush to take advantage of the bargain prices.

EXPORTING AND IMPORTING

The primary activities that take place in international business transactions are exporting and importing. Exporting is the act of an individual or business in one country selling goods and services to a buyer in another country. Importing is the act of a buyer in one country buying goods and services from an exporting organization in another country.

For example, when an individual organization in Country A sells goods to a buyer in Country B, the Country A seller would receive the proceeds from the sale to Company B, just as in a domestic sale between two companies within the same borders.

The amount of the proceeds from the sale would be the amount agreed upon by the two companies, less any expenses incurred by Country A, the exporter. To calculate the annual income, however, it is necessary to calculate the balance of payments for a stipulated time, such as a month or years. The balance of payments may include gold, merchandise costs, services costs, interest and dividend payments, travelers' expenditures, and loan repayments.

Usually, trade between two countries does not involve ownership interest in the other nation's business firm. Occasionally, however, one of the trading nations makes a foreign direct investment in the other nation's trading firm with whom they are doing business.

A list of the items typically imported by the United States would include machinery, transport equipment, manufactured articles, crude materials, chemicals, food and live animals, minerals and lubricants, beverages, and tobacco.

In addition, almost all countries appear to have a need for engaging in international business. The major reason lies in the need to acquire sufficient quantities of needed commodities in order to have a healthy balance of needed items available. Virtually no country can produce enough of every kind of material it needs by itself. So, if Country A has plenty of a certain kind of raw material, it can trade it to Country B in exchange for Country B's manufacturing capacity and know-how, which Country B can trade to Country A, sometimes at lower prices.

Shortly after the 2004 U.S. presidential election, the value of the U.S. dollar went down. The reduced value, however, made U.S. prices abroad more attractive to buyers throughout the world. The United States began experiencing a serious trade deficit. It is worthy of taking note that capital-intensive products (such as cars, trucks, construction equipment, and industrial machinery) are manufactured by countries with a strong industrial base.

Labor-intensive products (such as shoes and clothing) are made in countries with low labor costs and relatively modern productive plants, often found in Asian countries.

GOVERNMENTAL INTERNATIONAL TRADE POLICIES

Domestic sales are those made where both seller and buyer are conducting business within the same borders. Domestic business organizations of all types—such as retail, wholesale, manufacturing, and agriculture—look to their government to protect them against firms from other nations taking away their customers and their sales.

A tariff is an example the kind of protective legislation used by governments that seek to provide this kind of protection. Suppose, for example, that $500 is the typical price of an item imported by Country A. When the residents of Country A learn they can buy the item from within the bounds of Country A from a foreign source for $500, they will tend to buy the lower-cost item, even if the item must be purchased from a foreign source. Imposition of a tariff by Country A would have the effect of a tax on the items. It would raise the real cost to a figure higher than the domestic cost.

Sometimes a country suffering from a protective tariff will enact a tariff of its own on a product. In 1930, for example, the U.S. Congress passed the Hawley-Smoot Tariff Act. This placed protective tariffs on some of imports. The legislation was popular among U.S. voters. The legislative analysts determined it was a large mistake. To correct the error, Congress reduced the price of affected products by 50 percent.

CULTURAL DIFFERENCES

With most foreign countries, there are cultural differences about which it is essential to question and to learn:

• Do men and women shake hands with each other?
• In business meetings, do participants "get right down to business" or would that be considered impolite?
• Should the American visitors' clothing be approximately the same as the foreign hosts?
• If the Americans bring their families, are there any special rules about associating with the children in that country?
• What sort of medical facilities are available for Americans?
• What languages are used?
• What holidays are observed in the country?
• What special rules about traffic accidents exist?
• What is the situation regarding religious observances?

INTERNATIONAL TRADE COMMISSION

The International Trade Commission is not technically a part of the U.S. government but rather an independent agency. Its principal task is to determine whether imports are injuring any domestic industry. The commission analyzes the manner in which the domestic industry relates to the international industry. It also investigates and reports on tariff and foreign trade matters. Upon request, it reports to Congress and/or the president.

It studies the methods by which the international laws operate. It investigates claims that are submitted regarding conflicts of opinions within the dependent trade's areas.

The commission was organized in 1916. Its original title was the U.S. Tariff Commission; it received its current title in 1975. The commission is headed by six commissioners who are appointed by the president with the approval of the U.S. Senate.

see also International Investment; International Marketing; International Trade

bibliography

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Hill, Charles W. L. (2007). International Business: Competing in the Global Marketplace (6th ed.). Boston: McGraw-Hill/Irwin.

Morrison, Janet (2006). The International Business Environment: global and local marketplaces in a changing world (2nd ed.). New York: Palgrave Macmillan.

Dorothy A. Maxwell