Foreign market entry and culture

Term Paper 2008 18 Pages

Business economics - Miscellaneous


Table of contents

1. Introduction
1.2 Structure of the paper
1.3 Definition of culture
1.3.1 Layers of culture

2. Internationalization process and the role of culture
2.1 Entry modes
2.2 Factors influencing the entry mode decision
2.3 Entry modes and culture
2.4 Culture`s impact on market entry
2.5 The learning perspective

3. Negotiating styles

4. Market entry in China – the case of German firms
4.1 General facts
4.2 Cultural differences
4.3 Problems when negotiating with the Chinese
4.4 Obstacles for market entry
4.5 German firms in China – what ist the preferred entry mode?

5. Conclusion


1. Introduction

Internationalization processes of firms are a phenonemon of our time and take place in almost all parts of the world. For some years the star of China is rising and western firms seek for opportunities to get in this new promising market. Thereby the expanding firms are not only challenged by overcoming great physical distance but also huge cultural distance which exist between China and Western countries. But overcoming cultural distance is also a challenge in the middle of Europe. The fall of the Berlin wall in 1989 made it possible for Western firms to invest in former sovietic countries. In the so called transition economies (Poland, Czech Republic, Slowenia, etc.) European firms can exploit cost advantages right in front of their door. There is no doubt that also here cultural differences between the countries affected by Russia and the rest of Europe are substantial. These two examples show that the question if and how culture influences market entry is a very actual one.

Going abroad is nowadays much more easy due to the continuous globalization process with lower transportation costs and immediate information exchange. Especialy during the last decades firms have increasingly committed themselves to global markets in order to exploit cost advantages through lower labour costs or in order to follow the demand for their products (Barkema et al. 1996:164). A firm seeking to perform in a foreign market by establishing a business function (e.g. production management, distribution) has to choose the best mode of entry which is very relevant for the success of foreign operations and therefor an important issue. But foreign market entry does not come along without any costs especialy in cultural distant countries. The impact of differences in national culture, measured as cultural distance between the home country of Multinational Enterprises (MNEs) and the country of operation is a very important issue and therefor worth to examine.

The main questions the paper tries to answer is: In which ways does culture matter in the internationalization process of a firm? How does culture affect the choice of market entry and which problems arise due to cultural differneces? Which impediments regarding culture have firms to deal with when going to China?

1.2 Structure of the paper

At first the term “culture” is defined and various layers of culture are presented. After that the role of culture in the internationalization process is highlighted. Thereby diverse entry modes and factors which influence the entry mode decision are specified. Furthermore implications of culture on each entry mode are described. The following chapter discusses if and why entry mode patterns exist due to culture. The presentation of an internationalization theory and of different negotiation styles follows.

The last part of this paper gives an example about two cultural distant countries. It examines market entry of German firms to China and reveals cultural differences between these two countries by using Hofstede`s five cultural dimensions. After that obstacles for the market entry and typical problems when negotiating with the Chinese are presented. Finally it is examined how German decide which entry mode to choose.

1.3 Definition of culture

“Culture is the collective programming of the human mind that distinguishes the members of one human group from those of another” (Hofstede 1980:21).

Differences regarding culture mean cultures have different values they believe in. Also the symbols (e.g. language) which express the values differ. Furthermore norms which regulate behaviour and institutions resulting from norms vary between the cultures. Culture is present in every (social) act and affects hence levels of education, business and industrial practices, and language. Distinctions in these areas are defined as sociocultural distance (Hollensen 2007:300).

1.3.1 Layers of culture

Figure 1: The different layers of culture

illustration not visible in this excerpt

Most of the people who hear the term “culture” may only think about culture of different nations. But it isn`t that easy. National culture is only the base layer and more or less an overall framework for other cultural layers. Thus it influences other layers like e.g. the business culture. Every company has to deal with a specific environment (i.e. competition) within its industry. Industry branches have mostly their own industry culture meaning a certain culture of business behaviour and ethics whereby national borders are irrelevant. Similar characteristics within industry branches can be found for example in shipping or oil business. Company culture, the third layer, refers to members in a function within a company who are sharing values, behaviours etc.. Individual behavior as the last layer has its roots in the three above mentioned layers. Every person has his own perception of the world which is the result of a long learning process. Individuals are not similar because of their different charateristics and different environments they grew up (Hollensen 2007:219f). It is obvious that it is hard to draw a line between the layers and that the layers are dependent on each other. The main focus of the following pages lies on the influence national culture has on foreign market entry. Nevertheless it is useful to have the picture of the different four layers in mind.

2. Internationalization process and the role of culture

The central question to be answered in this chapter is if there exists a general pattern which shows that various cultural distances are leading to different entry modes. Is culture a factor which has great influence on the entry mode or is its impact rather marginal? After giving an overview over entry modes anf factors which influence the entry mode decision it will be discussed which impact culture has on the various entry modes. After that a internationalization theory is presented which considers cultural distance as an explanatory variable.

2.1 Entry modes

An entry mode is “an institutional arrangement that makes possible the entry of a company’s products, technology, human skills, management, or other resources into a foreign country” (Root 1987).

In majority of the cases the decision to enter a market is a long-term strategic decision and therefor a very important and crucial step for companies. The success of a company`s international operations depends heavily on the choice of entry mode into a foreign market. Some scholars hold the view that the choice of entry mode does not affect returns on sales and assets. By contrast many studies found out that the survival and performance of foreign subsidiaries deeply depend on the choice of entry mode.

Figure 2: The range of entry modes

illustration not visible in this excerpt

Figure 2 shows the range of entry modes a company can choose. Each of the modes has different implications for the degree of ressources a Multinational Corporation (MNC) must commit, the control it can exercise over the foreign operation and the risk it faces when expanding into new foreign markets. As a consequence the modes differ in their mix of drawbacks and opportunities.

Export modes represent a way to serve a market with low risk, high flexibility but also low control whereby it can be distinguished between direct and indirect modes. Contract manufacturing, licensing, franchising and joint ventures (JV) are part of the contractual entry mode. This intermediate mode has as characteristic features shared control and risk and and furthermore split ownership. Dissemination risk (risk to share know-how) is considered as medium. Foreign direct investments (FDI) are entry modes which are fully internalized by the firm. It implicates that dissemination risk is at a low level whereas control and ressource commitment are high. Examples are sales representatives and wholly owned production or wholly owned sales subsidiaries (WOS).

The order as proposed in figure 2 can also be seen as a evolution of a firm`s commitment in a new foreign market. Furthermore it must be considered that entry modes can change after a certain time. Ressource commiting entry modes increase as a firm develops experiental knowledge. Through accumulation of knowledge throughout the years uncertainty is reduced. Consequently companies may have the tendency to switch from their initial less ressource demanding entry mode to other intermediaries or operate with own sales organizations (Benito et al. 2005)[1]

2.2 Factors influencing the entry mode decision

Figure 3: Factors affecting foreign market entry mode decision

illustration not visible in this excerpt

There are a plethora of factors that affect the foreign market entry decision. Risk averse, control and flexibility (desired mode characteristics) as well as tacit nature of know-how and opportunistic behaviour (transaction specific factors) have influence on the entry mode decision. Furthermore both internal factors (firm size and international experience) and external factors contribute to the choice of market entry whereby the latter exists of factors like intensity of competition, direct and indirect trade barriers, market size and growth, demand uncertainty and sociocultural distance between home – and host country (Hollensen 2007: 298). The latter is the factor this paper concentrates on.

The huge number of variables shows the complexity of the entry mode decision. Harzing (2002) tested various variables like R & D intensity, relative size, year of investment, strategy, level of foreign experience and cultural distance regarding their impact on the firm`s entry choice. The result is that all of these factors have significant influence on the market entry mode. Regarding cultural distance many other studies support the idea it has explanatory power to the market entry mode (Harzing 2002: 218).

As figure 3 shows sociocultural distance has a negative impact on entry mode decisions with increased internalization. The sociocultural distance includes beside cultural characteristics also factors like levels of education, business and industrial practices, and language. The more similar these factors are the more marginal is the sociocultural distance and the more effective is the decision making process in inernational operations. Differences regarding these features between the company`s home country and host country create an internal uncertainty for the firm which afffects the mode of entry. Hollensen (2007) suggests that “the greater the perceived distance (...), the more likely is that the firm will shy away from direct investment in favour of joint venture agreements” (Hollensen 2007:300).

Empirical evidence regarding the relationship between culture and the way firms enter new markets can be found in many academical papers. Hence culture is playing a not to be sneezed at role. But scholars are not consistent in their opinion about the influence of cultural distance. Some claim that in is the other way around as Hollensen proposes which means that cultural distance has a positive impact on high commitment entry modes. Among others Anand and Delios (1997) found empirical support for this view. They argue that ownership is more efficient and advantageous because it is possible for firmsto make things done in its own way. Nevertheless the most empirical support was found for the view that cultural distance discourages the ownership involvement (Zhao 2005:27ff). But all the studies agree that culture is a crucial factor concerning the maket entry mode.

2.3 3 Entry modes and culture

Due to the multitude of factors which influnce the entry mode decision a company must trade-off between the factors and between risks and opporunities of each entry mode. Generall speaking great cultural distance increases the potential risk of failing. This section describes under which circumstances regarding cultural distance a firm should choose a specific entry mode. Also the implications of culture on the various entry modes are specified. The structure of this chapter is as figure 2 proposes, at first decribing low and later on high commitment entry modes.


[1] See also chapter 2.5


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Title: Foreign market entry and culture